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p. 40 of 77 BACK | NEXT Foreword, Acknowledgments, Acronyms and Abbreviations, Definitions I. Developing Asia and the world II. Economic trends and prospects in developing Asia East Asia Southeast Asia South Asia Afghanistan Bangladesh Bhutan India Maldives Nepal Pakistan Sri Lanka Central Asia The Pacific III. Promoting competition for long-term development Statistical appendix

Asian Development Outlook 2005 : II. Economic trends and prospects in developing Asia : South Asia

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Maldives

The tsunami of 26 December 2004 was the country’s greatest natural disaster. While loss of life, fortunately, was low, damage on many islands was great. A curtailment of peak-season tourism means that growth will plummet in 2005, but should rebound in 2006 as the tourist facilities themselves are largely intact. However, substantial aid will be required for the reconstruction of infrastructure needed to sustain the past high-growth path that had reduced poverty in previous years.

Macroeconomic assessment of 2004

In 2004 GDP grew by 8.8%, slightly faster than in 2003 (8.4%). As in the past, expansion of tourism, up by 11.4% in GDP terms, fueled growth in related sectors, including construction, transport and communications, and utilities. Tourist arrivals increased by 9.4% during the year and the average hotel occupancy rate rose to 84%, while foreign exchange earnings grew by about 19%. Tourism accounts for about one third of GDP, 70% of foreign exchange receipts, about 50% of domestic budget revenues, and almost 20% of employment. Fishing, the traditional mainstay of the economy (now about 6% of GDP), also enjoyed a good year with total exports up by about 22%.

Government expenditures grew by 7.6% during 2004, amounting to 38.3% of GDP. Although domestic revenues increased by 8.8%, a lower amount of grants caused the overall budget deficit to increase slightly to 4.4% of GDP. Nevertheless, there was no borrowing from the banking system, indeed a net repayment as in 2003, consistent with current policy intentions.

Broad money expanded rapidly in 2004, up by 32.6%, with a large buildup in net foreign assets in the banking system. Following a slow expansion in 2003, credit to the private sector surged by 57.8%, with over one half of new lending going into development of tourism facilities. CPI inflation picked up from midyear to average 6.4% for the year, compared with a 2.9% fall in 2003; however, this reflects changes in fish prices, which have a heavy weight in the CPI.

Exports and imports increased rapidly by 13.0% and 30.7% respectively, raising the traditional large trade deficit to $370 million (49.1% of GDP) in 2004. Petroleum products and intermediate and capital goods were notable in boosting imports. Despite higher tourism receipts, the current account deficit increased to $90.3 million or 12.0% of GDP from 4.6% in 2003. Sizable private capital inflows as well as larger official borrowing led to a capital account surplus of $114.8 million, bringing the overall balance to a surplus of $24.5 million. Gross international reserves rose to $205.1 million at end-2004, providing 3.8 months of import cover. The rufiyaa is pegged to the US dollar at Rf12.8/$1. External public debt increased to $289.9 million at end-2004 (Figure 2.17), equivalent to 38.5% of GDP, though the debt service ratio remains low, at 3.8%, as most debt is contracted on concessional terms.

Macroeconomic policy developments

The focus of macroeconomic policy must now be on measures to mitigate the adverse economic impact of the tsunami on the population and on the economy. Key policy measures will include: providing income support to those affected by the tsunami with special attention to the outer atolls where destruction was especially severe; helping restore livelihoods in the atolls by financing assets lost and employing local labor in rebuilding infrastructure; fostering a rebound in tourism by ensuring that the world knows that facilities such as the airport are functioning normally and resorts are open for tourists, as usual; and ensuring that the reconstruction effort is carried out consistent with macroeconomic stability, i.e., through containing the fiscal deficit and keeping monetary policy on a course to preserve relative price stability and to maintain the fixed exchange rate.

Outlook for 2005-2007 and medium-term trends

The tsunami disaster was by far the greatest natural calamity experienced by the Maldives. While the loss of life was fortunately low, nonetheless it resulted in widespread damage to infrastructure facilities. About one third of the country’s population of 280,000 was directly affected. According to a joint needs assessment conducted by World Bank, ADB, and United Nations, total damage is estimated at $470 million or about 60% of GDP. Of this loss, the direct loss is $298 million or about 8% of the replacement cost of the national capital stock. Severe damage was caused to houses; some resorts; harbors; boats and other fishing equipment; schools; health facilities; transport and communications equipment; and water, sanitation, and electricity infrastructure.

Overall macroeconomic developments will be affected by the pace of restoration of tourism and fishing, as well as the amount and timeliness of external assistance that becomes available. The Government has projected a 25% decline in tourism in 2005 relative to 2004 as the peak holiday season was badly hit, though the fish catch is expected to remain largely unchanged due to more intensive use of the fleet. Despite a sharp expansion in other sectors, such as construction and government services, which will offset much of the decline in tourism, overall GDP growth is expected to decelerate sharply to about 1% in 2005, well below the pre-tsunami expectation of a 7.6% GDP expansion. Most resorts were not damaged and nearly all were operating normally by March. Since the country is a unique destination with well-established source markets for tourism, it is expected that arrivals will quickly rebound to near normal levels to push GDP growth to 9% in 2006.

The impact of the disaster on the budget is expected to be substantial, as needed spending has been boosted while domestic revenue sources are expected to be under downward pressure. The 2005 budget had projected expenditures to rise by about 25%, reflecting a public service pay increase and greater capital spending. Despite efforts to contain such spending, the amounts required for relief, cleaning up, and reconstruction will cause an even more rapid growth in outlays. Reflecting these developments, the overall budget deficit, including grants, is now projected to widen to over 10% of GDP in 2005. Moreover, preliminary projections indicate that a budget financing gap of about this size is likely in 2006 as well.

The current account deficit is now expected to widen substantially to about 23% of GDP in 2005. Apart from the major loss of tourism revenues, this unusually large deficit is due to an enlarged import bill as a lower import requirement of supplies for the tourist industry is offset by large imports of material needed for reconstruction. The current account deficit should fall in 2006 but remain high. It is important to recognize that unless adequate foreign assistance is received to cover most of the 2005 financing gap--estimated at about $70 million--official foreign exchange reserves will come under severe pressure or the reconstruction effort will need to be scaled back sharply.

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