IMF Ends 2023 Article IV Talks With Timor-Leste

Washington, DC: The Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation[1]with Timor-Leste.

Non-oil real GDP growth reached 4 percent in 2022, driven by the post-pandemic re-opening and a strong fiscal expansion. Growth is estimated to have slowed to 1½ percent in 2023 as difficulties in executing the budget surrounding the elections last May restrained public spending. Inflation surged to above 8 percent in 2023 driven by food prices and transport costs, but fell to 4.3 percent (y/y) in January 2024.

Growth is expected to recover to 3½ percent in 2024, supported by the government's prioritization of public capital expenditure. Inflation is expected to moderate further to 2½ percent by the end of this year given projected easing of global commodity prices. Growth is expected to remain around the pre-pandemic average of 3 percent in the long term, but policy actions could accelerate it.

Risks to the outlook are tilted to the downside. Near-term downside risks to growth include an abrupt onset of a global recession and heightened commodity price volatility. These could require a fiscal response, posing obstacles to expenditure restraint and adversely affecting the balance of the Petroleum Fund. Achieving the political commitment to rationalize public expenditure would reduce uncertainty surrounding the medium-term outlook. Developing the Greater Sunrise oil field presents a large upside risk in the medium term.

Executive Board Assessment[2]

Executive Directors noted that the near‑term outlook has improved, with growth recovering and inflation easing in 2024. Despite impressive progress since independence in 2002, Timor‑Leste remains a fragile post‑conflict state. Modest growth is expected over the medium term, however, risks to the outlook are tilted to the downside. Directors emphasized the need to ensure fiscal sustainability and support higher growth and development, while diversifying the economy.

Directors called for gradual fiscal consolidation to avoid a depletion of the Petroleum Fund and secure fiscal sustainability. They welcomed the prioritization of capital expenditure in the 2024 budget and highlighted that further improving the quality of expenditure would support higher growth and protect the vulnerable. Directors recommended gradual revenue mobilization and welcomed the authorities' commitment to introduce a VAT. This should be complemented by measures to strengthen tax administration. Directors also encouraged the adoption of a fiscal responsibility law and the formulation of a medium‑term fiscal framework to put fiscal policy on a more sustainable path and help address external imbalances.

Directors noted that systemic risks to the financial system are low, and that banking sector capital and liquidity levels remain sound. They encouraged the authorities to promote financial deepening and inclusion by removing structural impediments to lending and developing digital financial services. Advancing the adoption of IFRS 9 and Basel III regulatory principles and addressing AML/CFT deficiencies are important measures.

Directors emphasized the need for structural reforms to promote private sector development, diversify the economy, and support sustainable growth. Measures to address bottlenecks in the agriculture and tourism sectors and to foster digitalization would help to boost growth. Directors encouraged the authorities to continue ongoing efforts to strengthen governance and the rule of law. Prioritizing human capital development, including by improving education quality and strengthening vocational education and training would help Timor‑Leste to unlock its large demographic dividend. Noting Timor‑Leste's vulnerability to climate change and natural disasters, Directors encouraged investment in climate‑resilient infrastructure.

Directors welcomed ongoing capacity development projects and concurred that continued engagement with the Fund, in the context of the Country Engagement Strategy, would help to address the root causes of fragility. They also underscored the importance of enhancing coordination across development partners.