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Zim’s Letter of Intent to the IMF

THE following article is an edited version of a Letter of Intent to the International Monetary Fund (IMF)co-signed by Finance minister Patrick Chinamasa and Reserve Bank of Zimbabwe (RBZ) governor John Mangudya.

It describes the policies that the country is implementing in the framework of a Staff Monitored Programme (SMP) — an informal and flexible instrument for dialogue between IMF staff and a member on its economic policies.

We would like to take this opportunity to inform you of our progress in implementing Zimbabwe’s SMP that was approved by the Fund’s management in June 2013.

You will recall that this is Zimbabwe’s first programme engagement with IMF staff in more than a decade.

The SMP focuses on putting our public finances on a sustainable course (while protecting infrastructure investment and priority social spending), strengthening public financial management, enhancing diamond revenue transparency, and reducing financial sector vulnerabilities, including by restructuring the balance sheet of the RBZ.

To this end, the programme is based on ambitious quantitative targets and structural reform measures.

The first review under the SMP could not be completed last year. Consequently, in December 2013 the Government of Zimbabwe requested, and you approved, a six-month extension of the SMP until June 2014, as well as modified quantitative targets for end-December 2013.

The additional six months allow us time to strengthen our policies and deliver on outstanding commitments under the programme.

Following a constitutional referendum in March 2013, the July 2013 harmonised elections delivered a victory for President Robert Mugabe and Zanu PF, which secured a more than two-thirds majority in the National Assembly.

Our new cabinet, which was appointed in September 2013, is a more cohesive body than its predecessor. We are confident that this cohesiveness will translate into strengthened policy formulation and implementation.

This will enhance our ability to vigorously pursue our reform agenda.

The government’s new economic blueprint for the next five years, the Zimbabwe Agenda for Sustainable Socio-Economic Transformation (ZimAsset) October 2013 to December 2018, aims to achieve sustainable development and social equity, propelled by the judicious exploitation of the country’s abundant human and natural resources.

As part of ZimAsset, we also intend to accelerate our re-engagement on debt resolution with international financial institutions (IFIs) and with other creditors. Zimbabwe urgently requires a substantial amount of inflows of fresh capital to help jump-start the recovery of the economy.

Against the background of uncertainty typical of an election year, GDP growth in 2013 is estimated to have slowed down significantly to 3% from 10,6 % in 2012.

In particular, we faced a disappointing maize harvest for the 2012/2013 agricultural season due to late, unevenly distributed and erratic rains. This poor 2012/2013 harvest threatened food security for an estimated 2,2 million of our people during the lean period from January to March 2014, underscoring the need for us to come up with strategies for mitigating the effects of droughts and to support agriculture going forward.

The electoral process also induced a wait-and-see attitude among many economic agents, further contributing to the economic slowdown.

A baseline projection for real GDP growth for 2014 is 3,1%, reflecting, among other factors, continuing low business and investment confidence, scarce liquidity and subdued international prices for our major exports. However, the timely and full implementation of ZimAsset could accelerate growth to an average of 6% over the medium-term.

Inflation continues to be very low and has recently dipped into negative territory, recording -0,3% year-on-year in April 2014, reflecting weak domestic demand, tight liquidity conditions and the appreciation of the US dollar against the South African rand, the currency of our main trading partner.

We anticipate that inflation will average around 0,8% in 2014.

The SMP provided a useful anchor for the economy in an election year. However, the constitution-making and electoral processes created spending pressures and, together with the transition to a new government, slowed the pace of implementation of our structural reforms.

The elections caused a more general delay in a variety of processes, including the preparation of the 2014 budget. That is why our performance on the end-June 2013 and the modified end-December 2013 quantitative targets and the structural benchmarks for the first and second reviews was not as strong as we would have liked.

For the end-June 2013 test date, we met two of the six quantitative targets: the floor on protected social spending and the floor on payments to the Poverty Reduction and Growth Trust (PRGT).

We nearly met the floor on the stock of usable international reserves.

We missed the continuous ceiling on new non-concessional external debt by a small margin, due to the signing of a US$319 million loan with the Export-Import Bank of China in November 2013 to finance a critically important power generation project. We missed the target for the primary fiscal balance on a cash basis by about 1,3% of GDP, mostly due to spending overruns, some of which can be attributed to our efforts to advance the clearance of old domestic arrears.

Although the continuous zero ceiling on new domestic arrears was missed, we believe that we made significant progress on this issue than envisioned under the SMP.

In fact, although we accumulated some new domestic arrears in 2013, we also prioritised the clearance of pre-2013 arrears, and on balance, the overall stock of arrears declined by US$54 million (about 0,4% of GDP) in 2013, which compares favourably with the reduction of US$23 million envisaged under the original programme.

For the end-December 2013 test date, we met three of the six revised quantitative targets: the floor on usable international reserves, the floor on payments to the PRGT, and the continuous ceiling on new non-concessional borrowing. We missed the modified target for the cumulative primary fiscal balance on a cash basis by about 1,7% of GDP, mostly due to substantial weakness in tax revenues in the last two months of 2013.

Owing mostly to the weakness in revenue in Q4, we missed the floor on protected social spending by about 0,3% of GDP and our stock of domestic arrears overshot its ceiling by about 0,3% of GDP.

We made progress on the structural reform front by attaining three of the five structural benchmarks for the first review and one of the five structural benchmarks for the second review.

In particular:
we submitted the new Income Tax Bill to parliament in May 2013;
the time-bound action plan by the Civil Service Commission (formerly the Public Service Commission) on measures to modernise human resource and payroll systems was submitted to the Ministry of Finance and Economic Development (MoFED) in December 2013;

the new framework for contingency planning and systemic risk management was submitted to and approved by the RBZ board in October 2013;

finally, the RBZ Debt Assumption Bill (formerly the RBZ Debt Relief Bill) was approved by cabinet in November 2013 and submitted to parliament on April 10, 2014.

Given the complexities of drafting a new Mines and Minerals Act, after some consideration the new government decided to accomplish its objectives through amendments to the Act.

A series of workshops were held between March and May to discuss the amendments, involving the Ministry of Mines and Mining Development (MoMMD), MoFED, the Zimbabwe Revenue Authority (Zimra), the Attorney-General’s Office, the RBZ and mining companies.

The principles of the mining legislation amendments (structural benchmark for the third review) were approved by cabinet on July 1, 2014. Given the importance of these proposed amendments, they are receiving priority from MoMMD. This will push back the completion of the work on the amendments to the Precious Stones Trade Act into the second half of 2014.

The Statutory Instrument establishing a formula for calculating dividends from entities in which the government is a shareholder was not issued, owing to the absence of enabling legislation. However, we undertook other policy measures to attain the objective of mobilising diamond revenue.

The Finance Act gazetted in April 2014 gave legal effect to the tax measures pronounced in the 2014 budget statement, including the withholding by the Mineral Marketing Corporation of Zimbabwe (MMCZ) and the Zimbabwe Mining Development Corporation (ZMDC) of a special dividend equal to 15% of the gross proceeds of diamond sales and collecting depletion fees for direct payment to Treasury.

The enforcement of this special dividend has been held in abeyance pending the completion of the review of the mining fiscal regime.

More fundamentally, with technical support from the World Bank, we are in the process of reviewing the fiscal regime for the mining sector to ensure that Zimbabwe maximises its benefits from its mineral resources, while at the same time encouraging investment in the sector.

Furthermore, we have constituted a joint task force composed of technical staff from MoFED, MoMMD and Zimra to forecast and monitor diamond-related revenue flows covering taxes, royalties, dividends, depletion fees and management fees. Finally, in December 2013, we dissolved the management boards of the three state-owned enterprises involved in the diamond sector: ZMDC, MMCZ and Marange Resources because of their failure to exercise proper oversight over the management of these public enterprises.

More critically, we are undertaking a review of the structure of the diamond sector, with a view to streamlining the number of companies operating in the sector.

Going forward, it is our intention that all diamond sales must take place in a competitive environment at international trading centres. In fact, our first two diamond tenders, undertaken as test runs, took place in Antwerp in December 2013 and February 2014. In view of their positive outcome, we held another successful auction in Dubai in late March 2014, and additional auctions are planned in the coming months.

The 2014 budget was submitted to parliament in December 2013 and approved in January 2014. It targeted a zero overall balance on a cash basis and was anchored on a revenue envelope of US$4,12 billion (30,6% of GDP).

To enhance revenue, the government maintained the measures on excise duty introduced in early 2013 to help fund the constitutional referendum and harmonised elections. These measures had originally been slated to expire at end-2013.

In addition, other tax policy measures were introduced, such as the removal of the deductibility of royalties for profit tax calculations by mining houses, and a new excise on ethanol.
The 2014 budget provided for an 8% increase to the overall wage bill. Following the conclusion of negotiations in the National Joint Negotiating Council in January 2014, the overall wage bill is now projected to increase by 14% this year.

The larger increase resulted from the need to make good on government’s election commitments. We have already identified cuts in non-wage non-interest spending, relative to the 2014 national budget statement, in order to completely offset these wage increases.

The wage increase significantly exceeds projected inflation for 2014. However, we remain committed to our objective of keeping the overall wage bill on a downward trend relative to government revenues and expenditures in the medium-term, while preserving the real value of salaries of the civil service. Like we did in 2013, we commit to granting only one salary adjustment in 2014.

In addition, we will maintain the hiring freeze in government which started in July 2012, while allowing some limited flexibility in filling critical vacancies that cannot be filled through internal mobility.

Given the downward revision to the economic outlook for 2014, there are significant risks to the revenue side of the budget. In addition, our financing space is quite constrained, as we are facing large maturities on domestic Treasury bills and loans in 2014. To address these challenges, the Finance minister presented a package of additional revenue and expenditure measures to cabinet in early June 2014. The package amounts to about US$933 million.

In addition, we will refrain from making any draw-downs of our SDR holdings in 2014, as these constitute the core of our international reserves. We will avoid selective debt servicing as this would complicate reaching an agreement with creditors on a debt resolution strategy. However, we will continue to make repayments to creditors that are providing us with positive net new financing.

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