World Bank, Finance Ministry officials participate in panel discussion after release of country's development update: Important steps have been sought to reduce costs. Photo/World Bank

Despite looming cost hikes, subsidy reforms take back seat

Local experts say it was not possible for any government to reform subsidies

8 May 2023

By Ahmed Naif

In its Maldives Development Update report released on Sunday, the World Bank has asked for tightening of fiscal policy to reduce state expenditure. If government spending is not reduced, the consequences could be disastrous, the World Bank warns.

At a panel discussion based on the report, senior finance ministry officials seemed convinced that the government's expenditure and revenue policy needs to be streamlined. However, the challenge they face is finding the right time and opportunity to implement those changes.

Election year; not the right time

Saruvash Adam, Chief Financial Budget Executive at the finance ministry, acknowledged the concerns raised in the World Bank report and said reforms equivalent to 6% of GDP were needed to bring the economy back on track. He said the government intends to implement reform measures related to 3% of revenue and 3% of the expenditure part. 

"The increase in GST, TGST is the 3% that we wanted to bring in on the revenue side. Though the 3% in expenditure side is yet to be implemented, efforts are on in full swing to bring about the changes," Saruvash said.

The World Bank report, which analyses the state of the country's economy, stressed the need to tighten the government's expenditure and fiscal policy. The report urged the Maldives to enact subsidy reforms by doing away with existing blanket subsidies and bringing in targeting mechanisms, and to suspend large scale infrastructure projects that are not critical for the time.

Saruvash then raised the big question; the reason why proposed subsidy reforms are being delayed.

Saruvash said as changes to revenue measures have an impact on the people, any subsidy reforms will compound the impact. He wondered if it was best to bring about changes that would affect the people in the near future.

"Subsidies have also reduced the proportion of the poor to the level it was in 2019. It is a matter of concern that the change in subsidy will once again push back the post-Covid gains. So, we have to think about giving the public a chance to stretch their legs," Saruvash said.

"Will the people be able to bear this burden again? How much will it have an impact on the economy? These are the things we think about." 

The government's intention is not to speed up and reform subsidies, he said. On the contrary, the government's intentions are more burdensome, he said, adding that instead of putting a burden on the people right now, the government should bear the burden. 

Although Saruvash did not say it directly, one thing was certain. Since it is an election year, it is not politically easy to cut off the government's aid to the people, given the time and circumstance. That's what happens in any government. 

Elaborating on the finance ministry's vision, deputy minister Mariyam Manarath Muneer said that government's intention is cut expenditure while protecting vulnerable people in the society. The idea is to implement reforms in such a way that the people are least affected, she said. 

"We also believe that there is a need to cut costs, but it has to be done in a proper manner, so that the impact is minimised," Manarath said.

When the 2023 budget was presented in parliament, the government had decided to target power subsidies to those who need it the most and implement it in January at the earliest. MVR 169 million has also been allocated in the budget to reduce power tariff for the poorest households. With this change, the fuel subsidy budget has been reduced to MVR 788 million. 

However, if the power subsidy is not revised, fuel subsidies will reach close to MVR 2 billion this year.

Last year's budget included MVR 300 million for fuel subsidies, but the government had to spend MVR 2.3 billion at the end of the year due to rising oil prices following the Russia\-Ukraine war. The government's fiscal burden and its cost are high when subsidies are not reduced. 

The cost of subsidies increased last year and a supplementary budget of MVR 5.8 billion had to be presented last year as well. This is equivalent to 15.7% of the budget first approved by parliament last year. 

While the burden of blanket subsidies is significant, former finance minister Ahmed Inaz, who was on the panel, agreed with Saruvash. He, too, believes that it is important to consider whether subsidies will be revised at this point of time. While he agreed as a rule to target some subsidies to those in need, Inaz spoke from experience and said that he believed that cutting subsidies is more likely than not to happen.

"This is not the right time to remove subsidies, but it can be targeted. If you remove it, the impact will be much greater. In my experience, removing subsidies is not possible," Inaz said.

Poor paying more for subsidies

The World Bank is also not in favour of removing subsidies altogether. The development bank's proposal is also to do away with blanket subsidies and introduced targeting mechanisms.

Erdem Atas, the World Bank's country economist based in Maldives, said the existing subsidy model does not really serve its purpose. Citing an example, he said a large part of the subsidy to reduce power tariff is being spent on rich households. In explanation he said, most of the electricity is consumed by households with more appliances, and better quality of life.

Saruvash said that while efforts are not being made to reform subsidies, other ways to cut costs will be explored in this year. The most important task that can be done now is to introduce bulk procurement for medical supplies. It will save a lot of money, Saruvash said. The government will also look at ways to cut Aasandha health insurance costs, he said. 

"The problem with this is the challenges in implementation, lack of systems in place in institutions. This is what happens when we reduce the cost of subsidies. There is a delay in introducing Maximum Retail Price (MRP) of medicines as there are no administrative mechanisms in place," Saruvash said. 

Despite these constraints, Saruvash assured that state expenditure would be reduced by 3%. He further assured that there will be no increase in expenditure in any sector beyond the budgeted amount unless it is essential.

Economic expansion via projects essential

Another suggestion from the World Bank in the report is to put on hold for the time being non-essential projects that are funded by foreign borrowing. According to the World Bank report, the burden of borrowing projects due to the volatility in global financial markets will only make the country's debt situation more fragile. 

The World Bank's recommendation is to formulate a robust policy for infrastructure projects and implement projects as part of that policy. 

The government's approach is different. 

Deputy minister Manarath said the government's intention was to go ahead with important infrastructure projects in the country. She highlighted the port at Ihavandhipolhu and the Hankede tourism project in Addu. Manarath believes that these projects will help expand the economy.

"The growth of the economy will be doubled by the ongoing projects. Once the economy expands, it will also lead to higher incomes," Manarath said. 

Inaz said some of the investments in the development of atolls were good. He described infrastructure projects such as water supply and sanitation projects in outer atolls as essential for economic activities.

"Projects that will reduce the dependence on Male will be beneficial in their own right. It's better to keep things going," Inaz said.

This year, some state-run companies are expected to try to reduce their dependence on the budget, but the government has now put that on hold as the global economic situation could lead to losses if companies are privatised.

The World Bank's recommendation is to strengthen state-owned firms and reduce their dependence on state budgets. However, it is impossible for them to be implemented this year. 

If cost-cutting measures continue to be delayed, there is a possibility that the debt situation, which is already at 106% of GDP, could worsen. The country already has two or three difficult years ahead. The fact is that in 2026 alone, the Maldives will have to pay USD 1 billion to creditors. Are we ready for that?