Malawi - iuj.ac.jp€¦ · Malawi October 2005 The Economist Intelligence Unit 15 Regent St, London SW1Y 4LR United Kingdom Malawi at a glance: 2006-07 OVERVIEW Although the president,

Country Report

Malawi

October 2005

The Economist Intelligence Unit 15 Regent St, London SW1Y 4LR United Kingdom

Malawi at a glance: 2006-07

OVERVIEW Although the president, Bingu wa Mutharikas, is expected to remain in office over the forecast period, his grip on power will be severely tested. Malawi!s economic policy is expected to remain on track with the newly agreed poverty reduction and growth facility (PRGF) with the IMF. Reduced pressure on food supplies and lower international oil prices are expected to help ease the average rate of inflation from 15.4% in 2005 to 9.5% in 2006 and 7.5% in 2007. Given the high level of demand for imports against a background of limited foreign-exchange reserves, the exchange rate is forecast to depreciate from MK120:US$1 in 2005 to MK141:US$1 in 2006 and to MK151:US$1 in 2007.

Key changes from last month

Political outlook • Mr Mutharika is likely to survive attempts to impeach him by the United

Democratic Front, but will continue to experience considerable resistance in parliament from the two main opposition parties.

Economic policy outlook • There are already indications that Malawi!s newly agreed PRGF may not run

smoothly, as the president has suspended the privatisation of the telecommunications company and increased the size of the cabinet. While neither of these actions directly contravenes the wording of the PRGF, they are not in the spirit of the agreement and may cause tensions with donors.

Economic forecast • Real GDP growth for 2005 is estimated to rise by 1%, reflecting the

contraction in agriculture and lower manufacturing activity. Assuming normal weather, we expect recovery-driven growth of 2.7% in 2006 and 4.2% in 2007. This pick-up in growth is expected to stimulate demand for imports, outweighing the effects of forecast lower international oil prices and reduced emergency food imports, resulting in a narrowing of the current-account deficit from 11.6% of GDP in 2005 to 9.8% of GDP in 2006 and 7.6% of GDP in 2007.

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Malawi 1

Country Report October 2005 www.eiu.com © The Economist Intelligence Unit Limited 2005

Contents

Malawi

3 Summary

4 Political structure

5 Economic structure 5 Annual indicators 6 Quarterly indicators

7 Outlook for 2006-07 7 Political outlook 8 Economic policy outlook 10 Economic forecast

13 The political scene

18 Economic policy

22 The domestic economy 24 Agriculture 27 Financial and other services 27 Tourism

27 Foreign trade and payment

List of tables 10 International assumptions summary 12 Forecast summary 22 Business environment 22 Inflation 24 IMF projections 24 Human Development Index, 2005 26 Tobacco sales 28 External debt sustainability framework: baseline scenario 2002-25 29 Foreign direct investment inflow

List of figures 12 Gross domestic product 12 Consumer price inflation

Malawi 3


Malawi October 2005

Summary

The president, Bingu wa Mutharikas, is expected to remain in office over the forecast period, but his grip on power will be severely tested. Economic policy is expected to stay on track with the newly agreed poverty reduction and growth facility (PRGF). Assuming normal weather, real GDP growth is forecast to recover from a modest 1% in 2005 to 2.7% in 2006 and 4.2% in 2007. Reduced pressure on food supplies and lower international oil prices are expected to help ease the average rate of inflation from 15.4% in 2005 to 9.5% in 2006 and 7.5% in 2007. Recovery in tobacco production will allow exports to accelerate, but import levels will be stimulated by a pick-up in domestic demand, allowing only a modest reduction in the current-account deficit, from an estimated 11.6% of GDP in 2005 to 9.8% of GDP in 2006 and 7.6% of GDP in 2007.

Political activity in Malawi has continued to focus on the upcoming parliamentary debate on impeachment proceedings against the president. However, the grounds for impeachment put forward by the opposition has been weak. Mr Mutharika has succeeded in getting the opposition�s co-operation in passing the budget for fiscal year 2005/06 (July-June). Anti-corruption investigations into senior opposition politicians have continued to make progress. Mr Mutharika has once again reshuffled his cabinet and added four new posts, in a bid to consolidate his political support further.

A new three-year PRGF has been agreed with the IMF, worth US$56m, which commenced in July 2005. The main aim of the PRGF is to restore fiscal discipline, with the priority on reducing domestic debt. The passage of the 2005/06 budget paved the way for the IMF�s new lending arrangement. The suspension of the privatisation of Malawi Telecommunications Limited, however, will sit uncomfortably with donors.

According to recent data year-on-year inflation fell marginally from 15.9% in June to 15.6% in July, as the harvest increased food availability, but inflationary pressure for the year will remain high. The kwacha has stabilised since July, reflecting a pick-up in tobacco export earnings and donor inflows. Recent official estimates confirm that maize crops in 2005 will be the lowest in a decade, and tobacco volumes at auctions have also been down.

Donors have resumed financial assistance to Malawi following the recent IMF deal, with the UK Department of International Development the first to resume funding of £20m (US$37m) for budgetary support.

Editors: Nicola Prins (editor); Pratibha Thaker (consulting editor) Editorial closing date: October 17th 2005 All queries: Tel: (44.20) 7830 1007 E-mail: [email protected] Next report: Full schedule on www.eiu.com/schedule

Outlook for 2006-07

The political scene

Economic policy

The domestic economy

Foreign trade and payments

4 Malawi


Political structure

Republic of Malawi

Unitary republic

Based on English common law; constitution promulgated in May 1995

National Assembly of 193 seats, elected by direct universal suffrage for a five-year term

May 2004 (presidential and legislative); next elections due by May 2009 (presidential and legislative)

President, elected by direct universal suffrage for a term of five years; Bingu wa Mutharika was elected in May 2004

Cabinet, chaired by the president; a new cabinet was named in June 2004 following the May election

Until February 5th the ruling United Democratic Front (UDF) held an alliance with the Republican Party, the Alliance for Democracy (Aford), the National Democratic Alliance (NDA) and the Movement for Genuine Democratic Change (Mgode), creating a majority as a bloc; since Mr Mutharika�s resignation from the UDF on February 5th a considerable realignment of parties has taken place, and it is not yet clear who the majority coalition will be; the Malawi Congress Party (MCP) remains the largest single party in the National Assembly; smaller parties include the People�s Progressive Movement; the Congress for National Unity; and the People�s Transformation Party; independent members of parliament currently form the third largest bloc in the legislature; Mr Mutharika has formed the Democratic Progressive Party (DPP), which has not yet been officially launched

President & commander-in-chief of the armed forces, minister of defence & civil service Bingu wa Mutharika Vice-president Cassim Chilumpha

Agriculture & food security Uladi Mussa Economic planning & development David Faiti Education & human resources Kate Kainja Finance Goodall Gondwe Foreign affairs & international co-operation David Katsonga Gender, child welfare & community services Joyce Banda Health & population Hetherwick Ntaba Home affairs & internal security Anna Kachiko Industry, science & technology Khumbo Chirwa Information, communications & tourism Patricia Kaliati Irrigation & water development Sidik Mia Justice & constitutional affairs Henry Phoya Labour & vocational training Kenneth Lipenga Lands, housing & service Bazuka Mhango Local government & rural development George Chapanda Mines, natural resources & environment Henry Chimunthu Banda Social development & persons with disabilities Clement Chiwaya Sports, youth & culture Jaffalie Mussa Trade & private sector development Martin Konsichi Transport & public works Henry Mussa

Victor Mbewe

Official name

Form of state

Legal system

National legislature

National elections

Head of state

National government

Political parties

Central bank governor

Key ministers

Malawi 5


Economic structure

Annual indicators

2001a 2002a 2003a 2004b 2005b

GDP at market prices (MK bn) 123.1 144.2 167.4 193.4 225.4

GDP (US$ bn) 1.7 1.9 1.7 1.8 1.9

Real GDP growth (%) -4.9 1.8 4.4 4.2c 1.0

Consumer price inflation (av; %) 22.7 14.7 9.6 11.2a 15.4

Population (m) 11.80 12.07 12.34 12.61a 12.91

Exports of goods fob (US$ m) 427.9 422.4 402.0 476.4 364.1

Imports of goods fob (US$ m) 472.2 573.2 539.5 613.0 645.0

Current-account balance (US$ m) -59.9 -200.7 -145.4 -148.1 -216.8

Foreign-exchange reserves excl gold (US$ m) 206.7 165.2 126.5 133.4a 145.0

Total external debt (US$ bn) 2.6 2.9 3.1 3.2 3.3

Debt-service ratio, paid (%) 8.0 6.3 7.7 12.6 16.5

Exchange rate (av) MK:US$ 72.20 76.69 97.43 108.89a 120.21

a Actual. b Economist Intelligence Unit estimates. c IMF estimate.

Origins of gross domestic product 2003a % of total Components of gross domestic product 2003a % of total

Agriculture 38.4 Private consumption 84.9

Industry 14.9 Government consumption 20.1

Manufacturing 9.5 Gross fixed capital formation 9.8

Services 46.7 Change in stocks -1.7

Net exports of goods & services -13.1

Principal exports fob 2003b US$ m Imports fob 2002d US$ m

Tobaccoc 206 Intermediate goods 435

Sugar 47 Fuel oils 76

Apparel & fabrics 35 Capital goods 73

Tea 26 Consumer goods 66

Main destinations of exports 2004e % of total Main origins of imports 2004e % of total

South Africa 13.8 South Africa 40.4

US 12.9 India 7.9

Germany 11.2 Tanzania 4.9

Egypt 8.6 Zambia 4.4

a Actual. b IMF estimates. c Production marketed at auction. d Economist Intelligence Unit estimates. e Based on partners� trade returns; subject to wide margins of error.

6 Malawi


Quarterly indicators 2003 2004 2005 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 QtrCentral government finance (MK m) Revenue and grants 12,811.7 17,996.0 19,161.5 13,822.6 14,003.7 22,052.6 20,166.3 21,790.2Revenue 9,931.6 10,315.6 10,936.3 11,393.2 12,772.4 13,150.9 15,071.7 15,756.4Grants 2,880.0 7,680.4 8,225.2 2,429.4 1,231.4 8,901.7 5,094.6 6,033.8Expenditure 16,852.6 19,581.1 19,604.2 20,506.6 16,956.0 22,148.6 25,601.2 22,499.6Balance before grants -6,921.0 -9,265.5 -8,667.9 -9,113.4 -4,183.6 -8,997.7 -10,529.5 -6,743.2Balance after grants -4,040.9 -1,585.1 -442.7 -6,684.0 -2,952.3 -96.0 -5,434.9 -709.4Output trends Industrial production index (1984=100) 93.5 102.6 113.3 101.1 106.1 113.1 120.0 n/aIndustrial production index (% change,

year on year) -8.4 -0.1 3.8 10.1 13.5 10.2 5.9 n/aPrices National composite consumer prices (2000=100) 149.8 159.1 173.6 168.0 166.6 179.7 198.5 194.1National composite consumer prices (% change,

year on year) 8.9 9.6 10.4 11.3 11.2 12.9 14.3 15.5Financial indicators Exchange rate: MK:US$ (av) 100.866 107.938 108.791 108.897 108.956 108.947 109.288 117.203Exchange rate: MK:US$ (end-period) 108.094 108.566 108.927 108.908 108.946 108.943 111.500 122.985Exchange rate:nominal effective rate (2000=100) 63.4 56.5 58.6 60.8 60.8 59.3 58.2 n/aExchange rate: real effective rate (2000=100) 79.7 68.8 71.6 75.4 76.3 75.4 76.0 n/aDeposit rate (av; %) 28.00 23.17 18.50 15.75 10.25 10.42 10.67 11.00Discount rate (end-period; %) 45.00 35.00 35.00 25.00 25.00 25.00 25.00 25.00Lending rate (av; %) 52.00 47.17 42.00 39.00 33.00 33.33 33.33 33.00Treasury bill rate (av; %) 43.82 36.86 34.28 30.97 24.32 24.72 24.50 24.38M1 (end-period; MK m) 18,343.7 17,763.4 17,294.2 23,926.5 24,988.6 25,723.0 24,953.3 29,579.2M1 (% change, year on year) 32.3 27.1 20.4 36.8 36.2 44.8 44.3 23.6M2 (end-period; MK m) 34,333 35,812 36,392 43,713 44,483 46,448 45,502 51,749M2 (% change, year on year) 30.2 27.5 30.1 35.0 29.6 29.7 25.0 18.4Debt-service payments (MK m) 2,357.2 3,056.0 2,914.3 3,131.7 2,371.5 4,314.4 2,649.6 3,537.7Principal 1,781.6 2,296.0 2,213.0 2,326.6 1,713.1 3,648.6 2,031.7 2,637.3Interest payments 575.2 753.4 669.1 788.2 650.7 963.5 604.1 897.7Sectoral trends Building plans passed (MK '000)a 431.6 482.5 313.2 940.5 1,124.4 857.0 168.6 n/aElectricity production (m kwh) 326.8 305.8 298.4 321.0 348.4 338.6 332.7 n/aTea production (�000 tonnes) 4.7 3.6 19.5 11.1 7.2 12.1 21.0 7.0Tobacco auction sales (�000 tonnes) 39.6 0.0 6.8 72.7 69.0 31.5 1.9 77.6Tobacco auction sales (MK m) 4,634.6 0.0 798.8 9,803.1 8,690.1 3,081.4 209.6 10,528.8Sugar production ('000 tonnes) 119.9 66.4 0.0 67.2 117.7 67.7 0.0 0.0

Foreign trade & reserves Exports fob (MK m) 20,298 12,623 9,452 10,807 23,520 8,848 13,706 n/aTobacco 10,052 6,462 3,099 3,142 12,985 3,078 7,224 n/aImports cif (MK m) -22,287 -19,516 -21,493 -25,905 -30,654 -23,503 -27,048 n/aTrade balance -1,989 -6,893 -12,041 -15,098 -7,134 -14,655 -13,342 n/aReserves excl gold (end-period; US$ m) 104.4 126.5 118.9 100.5 138.0 133.4 106.1 122.9

a Blantyre, Lilongwe & Mzuzu.

Sources: National Statistical Office, Quarterly Statistical Bulletin; Reserve Bank of Malawi, Financial & Economic Review; Monthly Economic Review; IMF, International Financial Statistics.

Malawi 7


Outlook for 2006-07

Political outlook

Although the president, Bingu wa Mutharikas, is expected to remain in office over the forecast period, his grip on power will be severely tested. He faces the threat of impeachment, considerable parliamentary opposition, and possible further defections from the government to the opposition. It is vital for the president to retain the support of the public if he is to hang on to office. After being elected with only 29% of the vote, an early clampdown against corruption has bolstered the president�s standing significantly. While donors remain supportive of Mr Mutharika�s administration, the population is becoming impatient for the anti-corruption campaign to produce high-profile convictions and to see an improvement in standards of living. However, the public is at this stage more disillusioned with opposition politicians, who appear to pursue a self-serving agenda and have devoted more time to dealing with issues such as the impeachment, rather than the current famine. Moreover, public support for opposition politicians is generally even lower than it is for the president, reflecting the authority the leadership position commands.

The main reason that Mr Mutharika finds himself in this precarious position is his decision to turn against the wishes of his predecessor, Bakili Muluzi, who is the chairman of the United Democratic Front (UDF). Mr Muluzi is clearly intent on removing Mr Mutharika from power. The current strategy for achieving this is to try to have Mr Mutharika impeached, but this is unlikely to be successful: the Economist Intelligence Unit believes that the grounds for impeachment are weak and that the two-thirds majority in parliament needed for the motion to be passed is unlikely to materialise.

A greater threat to the president will be attempts by the opposition to block his reform agenda and related legislation in parliament. It was only the threat of the IMF not resuming funding that convinced parliament to pass the budget in July (the IMF had imposed a deadline of July 18th by which the budget had to be approved if the Fund was to agree to a new lending arrangement). Although the president still commands a sizeable support base in parliament, including many UDF members, a number of independent deputies and most of the small opposition parties, this is not sufficient to constitute to majority. The defection of two small parties to the opposition in recent months has slightly weakened the president�s position in parliament, but at the same time it is likely that occasionally a member of the opposition will cross over to the government�s side.

Key to the president�s success in gaining full control over parliament is the Malawi Congress Party (MCP), which has the largest representation in parliament. However, the MCP leader, John Tembo, is ambitious to become president and is backing the case for having the 2004 presidential election results annulled, as he came second in that poll and expects to be made president if the vote is reassessed. However, the legal proceedings appear to have made little headway. Meanwhile, Mr Tembo has refused a recent offer

Domestic politics

8 Malawi


from Mr Mutharika of the post of second vice-president, which has been vacant since the 2004 election. Beyond Mr Tembo�s political ambitions, the MCP�s motivation for backing the UDF�s campaign against Mr Mutharika is not clear-cut, and the currently very fluid political situation could change quite suddenly.

There will be no external threats to Malawi over the forecast period, and relations with its main trading partners, South Africa and the EU, will remain good. Relations with the IMF remain positive, and the Fund has now granted a new poverty reduction and growth facility (PRGF) for Malawi. This has been followed by a resumption of funding by a number of other donors. However, donors have warned that Malawi must continue to make progress with economic reforms, particularly good governance, if their financial support is to continue. Indeed, the IMF and donors are likely to prove to be a useful ally for the president in this regard, as the opposition is keen to avoid provoking a suspension of donor funding, which could ensue if reform bills are not passed.

Economic policy outlook

The IMF has agreed a new PRGF for Malawi worth US$55.9m, which will run to June 2008, following the successful completion of the 12-month staff-monitored programme (SMP) in June 2005. The PRGF will guide the overall direction of economic policy during the forecast period, as the government is well aware of the necessity of continued donor support. The programme is strongly focused on improving expenditure control as the key to restoring macroeconomic stability. Greater fiscal discipline should also help reduce the domestic debt burden. This, in turn, is expected to free up resources for additional spending on education, healthcare and infrastructure and boost the private sector, with lower fiscal borrowing expected to help to reduce high real interest rates. There is also a strong emphasis on developing rural areas, by promoting export diversification and developing rural road networks. The programme�s ultimate aim is to boost economic growth to higher levels than in the past by making the private sector a strong engine of growth.

After the previous PRGF went well off track, Mr Mutharika�s government has demonstrated a stronger political will to adhere to the Fund�s performance targets. However, the IMF has emphasised that the conditions of the new programme have been kept well within realistic bounds and is unlikely to be sympathetic to policy slippages. There are already indications that the implementation of the PRGF will not run smoothly. Since it was agreed, the government has suspended the privatisation of Malawi Telecommunications and increased the size of the cabinet. While neither of these actions directly contravenes the wording of the PRGF, they are not in the spirit of the agreement and will cause some tension with donors. Further problems are likely as a result of Mr Mutharika�s weak support base in parliament, which could prevent the passage of controversial reforms. In addition, weak institutional capacity and corruption will continue to constitute significant obstacles to policy implementation throughout the forecast period.

Even if the PRGF policies can be successfully implemented, private-sector growth will be constrained by Malawi�s poor infrastructure and limited access

International relations

Policy trends

Malawi 9


to funding"commercial banks are likely to be reluctant to increase lending to the private sector. Nevertheless, assuming that the government�s reforms remain largely on track with the main PRGF targets, Malawi is expected to reach completion point under the IMF-World Bank�s heavily indebted poor countries (HIPC) debt-relief initiative around the middle of 2006.

In the 2005/06 (July-June) budget, which was passed by parliament in July 2005, total revenue (including external support) is forecast to rise by 45%, to MK116.2bn (US$967m), whereas total expenditure is forecast to rise by 36%, to MK119.5bn (up from MK118.8bn in the proposed 2005/06 budget, owing to an amendment to provide universal rather than targeted fertiliser subsidies). Although the resumption of donor financial assistance and increased efficiencies in domestic revenue collection are expected to lift revenue substantially, the increase is unlikely to be as great as 45%. Not all projected donor funding is expected to be disbursed, and the scope for increasing domestic revenue collection is limited by the small size of Malawi�s formal economy and the effect of the drought on the mainly agriculture-dependent business sector. Although expenditure on donor-funded projects may be lower than projected, the cost of maize imports and fertiliser subsidies is likely to be higher than budgeted, owing to the need for additional maize to offset the negative impact of the drought. As a result, we expect a budget deficit of 3.4% of GDP in 2005/06, compared with the budgeted projection of 1% of GDP and our estimate for 2004/05 of 4.2% of GDP. This will limit the scope for the reduction in net domestic debt and arrears payments to domestic creditors predicted in the budget.

In 2006/07, provided the government continues to meet donor expectations, external financial assistance will provide a substantial share of total revenue, while domestic revenue inflows should benefit from a pick-up in economic activity if, as expected, the current drought ends. However, strong spending pressures will remain, as there are many competing needs in Malawi that require funding. It is possible that further maize imports and fertiliser subsidies will be required as the agricultural sector begins to recover from drought, the domestic debt burden is expected to remain high, and pressure to increase social spending continues. We therefore expect the fiscal deficit to increase to 4% of GDP. Trends in 2007/08 will be influenced by greater fiscal discipline, as the expenditure control mechanisms are implemented, and we forecast that the fiscal deficit will fall marginally to 3.8% of GDP. Over the forecast period the deficit will be financed mainly through donor funding.

The Reserve Bank of Malawi (RBM, the central bank) is expected to keep monetary policy relatively tight over the forecast period to try to bring down inflation. It will attempt to achieve this primarily through the use of open-market operations to control money supply growth. Concerns over inflation are likely to prevent the central bank from moving rapidly in reducing the bank rate, even though, at 25%, it hinders private-sector credit growth. Should the government maintain its fiscal discipline, the outlook for interest-rate cuts is more positive over 2006 and 2007. The bank will also weigh up the relative benefits of interest-rate cuts and reductions in the liquid reserve requirement.

Monetary policy

Fiscal policy

10 Malawi


The latter is on the central bank�s agenda, as it will allow banks to lend more funds, but it will have a short-term negative impact on inflation.

Economic forecast

International assumptions summary (% unless otherwise indicated)

2004 2005 2006 2007

Real GDP growth World 5.1 4.3 4.0 4.0

OECD 3.3 2.4 2.3 2.4

EU25 2.4 1.6 1.9 2.2

Exchange rates ¥:US$ 108.1 107.8 103.0 96.3

US$:� 1.244 1.257 1.293 1.343

SDR:US$ 0.675 0.672 0.661 0.643

Financial indicators ¥ 2-month private bill rate 0.00 0.00 0.18 0.51

US$ 3-month commercial paper rate 1.48 3.46 4.79 5.00

Commodity prices Oil (Brent; US$/b) 38.5 57.0 56.3 46.8

Tobacco (US$/tonne) 2,740 2,700 2,720 2,740

Tea (US$/kg) 1.7 1.7 1.6 1.6

Sugar (US cents/lb) 7.2 9.0 9.4 9.3

Note. Regional GDP growth rates weighted using purchasing power parity exchange rates.

Although global economic growth on a purchasing power parity basis is expected to slow during the forecast period, it will remain robust, at 4% in 2006 and 2007. The prospects for Malawi�s main trading partners are mixed. The pace of economic growth in the EU25 is expected to remain subdued, whereas South Africa�s economic growth is expected to be more robust. The prospects for Malawi�s main commodity exports will be mixed in 2006-07. Auction prices of burley tobacco, the main tobacco export, are likely to recover from their current slump, as government subsidies of fertiliser help to improve quality somewhat and demand for the crop increases. Tea prices will remain relatively static, at an average of US$1.6/kg in 2006 and 2007, as both global production and demand are relatively static. Slower growth of global sugar stocks and growing demand are expected to keep sugar prices above recent levels at 9.4 US cents/lb in 2006 and 9.3 US cents/lb in 2007.

Economic growth in Malawi will continue to be strongly influenced by the performance of the agricultural sector, given the lack of economic diversification and exploitable natural resources. After a significant drought-induced fall in production in 2005, the agricultural sector should begin to recover in 2006, assuming normal weather conditions and increased use of fertiliser, and to make a further recovery in 2007. However, the accumulated affect of recent years of drought in impoverishing many farmers, in addition to the high prevalence of HIV/AIDS, may slow the rate of recovery, and agricultural production may not return to long-run average production levels in the forecast period. The manufacturing sector will continue to track developments in the agricultural sector, as food processing forms a large

Economic growth

International assumptions

Malawi 11


component of this sector. Growth in mining output"mainly based on coal"is expected to pick up significantly following the opening of several mines, but as this rise will be from a very low base it will have little impact on headline growth over the forecast period. Services will benefit from an expansion in government spending owing to the resumption of donor financial assistance. Donor support will also keep growth in the construction sector healthy. We therefore forecast real GDP growth to recover from an estimated 1% in 2005 to 2.7% in 2006, before accelerating to 4.2% in 2007. Although an improved macroeconomic performance has the potential to lift private-sector and foreign investor confidence, and to raise growth further, we anticipate that political uncertainty will keep overall confidence levels subdued.

The drought in 2005 is expected to result in high annual average inflation of 15.4%. The onset of a recovery in agriculture will help to lower food inflation, the main driver of the overall inflation rate, although a sizeable maize shortfall is still expected, which will keep the inflation rate high. At the same time, continued currency depreciation will ensure that imported inflation remains substantial. However, improved fiscal discipline will allow a further slow decline in non-food inflation. Overall, inflation is forecast to average a lower 9.5% in 2006 and 7.5% in 2007.

The kwacha has depreciated in 2005, driven by low levels of foreign-exchange reserves as well as lower inflows from tobacco auctions and higher demand for imports caused by the drought. Over the remainder of the forecast period the kwacha is expected to follow its usual season pattern, whereby it depreciates in the first quarter of the year ahead of the tobacco auctions and again over the final quarter of the year, after the tobacco auctions have closed. In between these periods the kwacha will stabilise and may occasionally even appreciate, especially if this coincides with the timing of donor disbursements. But overall, given the high demand for imports against a background of limited foreign-exchange reserves, the kwacha is forecast to depreciate from an estimated MK132:US$1 at the end of 2005 to MK146:US$1 at end-2006 and MK155:US$1 at end-2007. The kwacha is expected to remain vulnerable to sharp falls: potential triggers could be a suspension of donor funding, a further downturn in tobacco prices, or a serious deterioration in political stability.

The drought in 2005 is estimated to have a considerable negative impact on the current account, by reducing key tobacco exports, necessitating higher levels of food imports and raising trade-related costs. We estimate a higher overall current deficit of 11.6% of GDP for the year. Assuming a recovery in the agri-cultural sector over the forecast period, exports are forecast to recover from this year�s estimated total of US$364m, rising to US$391m in 2006 and US$437m in 2007. A pick-up in economic growth over the forecast period will also stimulate demand for imports, although the effect will be somewhat moderated by a forecast fall in emergency food imports and international oil prices, as well as low levels of business confidence in Malawi. Imports are expected to rise from US$645m in 2005 to US$655m in 2006 and US$674m in 2007, resulting in a trade deficit of US$263m and US$237m respectively.

External sector

Inflation

Exchange rates

12 Malawi


Tourism receipts, the main source of services credits, are expected to rise slightly over the forecast period, as travel to Malawi, particularly from Southern African countries, shows continued growth. However, services debits will remain high on account of trade-related costs, keeping the services account firmly in deficit. Although interest payments on medium- and long-term external debt will be reduced under the IMF-World Bank�s HIPC initiative, the fall-off in debt repayments will initially be only modest. Inflows of donor funding are expected to rise over the forecast period, provided the government continues to make progress with donor-guided reforms, and this will keep the current transfers account in surplus. Overall, the current-account deficit is expected to narrow from a high 11.6% of GDP in 2005 to 9.8% of GDP in 2006 and to 7.6% of GDP in 2007.

Forecast summary (% unless otherwise indicated)

2004 a 2005 a 2006 b 2007 b

Real GDP growth 4.2 c 1.0 2.7 4.2

Gross industrial growth 4.5 -2.0 2.6 4.5

Gross agricultural production growth 2.6 -5.0 2.0 3.5

Consumer price inflation (av) 11.2 d 15.4 9.5 7.5

Consumer price inflation (year-end) 13.7 d 16.0 7.9 7.5

Short-term interbank rate 36.8 d 35.0 a 30.0 28.0

Government balance (% of GDP) -4.2 -3.4 -4.0 -3.8

Exports of goods fob (US$ m) 476.4 364.1 391.4 437.0

Imports of goods fob (US$ m) 613.0 645.0 654.7 674.3

Current-account balance (US$ m) -148.1 -216.8 -176.9 -141.2

Current-account balance (% of GDP) -8.3 -11.6 -9.8 -7.6

External debt (year-end; US$ bn) 3.2 3.3 3.0 2.7

Exchange rate MK:US$ (av) 108.89 d 120.21 140.64 151.08

Exchange rate MK:¥100 (av) 100.71 d 111.53 136.54 156.97

Exchange rate MK:� (av) 135.44 d 151.13 181.78 202.83

Exchange rate MK:SDR (av) 161.29 d 178.90 212.77 234.93

a Economist Intelligence Unit estimates. b Economist Intelligence Unit forecasts. c IMF estimate. d Actual.

Malawi Sub-Saharan Africa

Gross domestic product(% change, year on year)

Malawi Sub-Saharan Africa

Consumer price inflation(av; %)

-6.0

-4.0

-2.0

0.0

2.0

4.0

6.0

2000 01 02 03 04 05 06

5

10

15

20

25

30

2000 01 02 03 04 05 06

Malawi 13


The political scene

The campaign of the United Democratic Front (UDF) to impeach the president, Bingu wa Mutharika, after he left the party earlier this year, despite the fact that he came to power as the UDF�s candidate in last year�s presidential election, has gathered pace (July 2005, The political scene). There is no precedent in Malawi for such a course of action, and so debate in parliament has focused on the mechanisms that need to be put in place to conduct impeachment proceedings, as well who should succeed an impeached president. In June, when the UDF put forward the suggestion to amend the constitution to allow for the impeachment of the president, a heated parliamentary debate developed. This was cut short when the speaker of the house, Rodwell Munyenyembe, collapsed and died of heart failure a few days later. Louis Chimango of the Malawi Congress Party (MCP), which holds the largest number of seats in parliament, was appointed unopposed as the new speaker. Mr Chimango then ruled that the debate on impeachment procedures would take place in September, but it was later put back to mid-October.

It is not clear on what grounds the president can actually be impeached, as it normally requires a case where there has been a serious violation of the constitution. So far, the opposition has highlighted four areas where it claims the president has violated the constitution:

• resigning from the political party that sponsored his candidacy for the presidential elections;

• dismissing government officials without following proper procedure;

• misuse of public funds for the purchase of a car for personal use; and

• misuse of public funds for the payment of school fees for members of his family.

The constitutional position of the president leaving the UDF is unclear. However, it is clear that the president did violate the constitution when he dismissed the director of public prosecutions in late 2004, although this does not necessarily constitute a serious violation (October 2004, The political scene). As to the arguments about the misuse of funds, it is impossible to reach any firm conclusions, as the evidence is insufficient and conflicting, but the sums involved are fairly insignificant compared with instances of misuse of funds under the previous regime. Generally speaking, these arguments do not appear to be sufficient grounds for impeachment. In addition, impeachment proceedings would require the support of more than two-thirds of parliament, which at present looks highly unlikely, especially as the president commands the outright support of at least 80 out of the 193 members of parliament (MPs), and even more are likely to support him should a secret ballot take place. However, the impeachment issue is unlikely to go away in the near term, and significant parliamentary time has been taken up by the issue, to the detriment of the food security crisis and other serious matters.

Impeachment procedures to be debated in parliament

The grounds for impeachment are weak

14 Malawi


The impeachment debate and the death of the speaker of the house delayed the discussion of the budget for fiscal year 2005/06 (July-June). Gaining parliamentary approval for the budget was seen as a key test of strength between Mr Mutharika and his opponents, but the threat that the IMF might not resume funding (the IMF had set the deadline of July 18th by which the budget had to be approved if it was to approve a new lending agreement), combined with a temporary easing of political tensions following the death of Mr Munyenyembe, was sufficient to break the impasse. Considerable pressure had been applied on MPs to pass the budget from many civil society groups, and the UN"through its resident co-ordinator in Lilongwe, Michael Keating"became involved in urging MPs to put aside politics and pass the budget to avoid the negative consequences that would result for the economy.

The budget was eventually passed on July 15th, with only modest concessions to the opposition. However, the breaking of the impasse over the budget does not signal the end of parliamentary resistance to Mr Mutharika, and difficulties can be expected in passing future legislation. Mr Mutharika may have to rely on continuing support from the international community and from civil society groups to get his key reform agenda passed, but it is also clear that, without finding a resolution to the current political impasse, his attention will continue to be sidetracked from dealing with more important and pressing issues, such as the current famine, economic reform, and tackling HIV/AIDS.

One strategy the president has pursued in attempting to break down the opposition�s resistance is through supporting anti-corruption investigations into senior UDF politicians, particularly those who held important positions in the previous government. In recent months Mr Mutharika has made a number of public appearances, in which he has called for a reinvigorated approach to anti-corruption investigations. The Anti-Corruption Bureau (ACB) is conducting a number of investigations into alleged wrongdoings by members of the previous administration, although the cases have been quite drawn-out and have so far not resulted in any convictions (July 2005, The political scene).

In the most recent development, the corruption case against the former UDF treasurer, Humphrey Mvula, was dropped by the director of public prosecutions on July 26th. The case related to the misuse of public funds while Mr Mvula was chief executive of the state-owned company, Shire Bus Lines (October 2004, The political scene). Mr Mvula was the first person arrested over corruption allegations in the crackdown against senior members of the previous government. It may well be that his release was on technical grounds and related to possible flaws in the charges brought against Mr Mvula, especially given his almost immediate re-arrest on July 28th on the same charges as those in the original arrest. However, a plausible public explanation for Mr Mvula�s release and subsequent re-arrest has yet to be given. Meanwhile, cases against the former finance minister, Friday Jumbe, and Yusuf Mwawa, the minister of health under the former president, Bakili Muluzi, are ongoing (July 2005, The political scene).

Opposition�s resistance to budget is broken

Mr Mutharika urges on anti-corruption investigations

Malawi 15


The opposition has countered allegations of corruption within its ranks by levelling accusations of corruption and malpractice against Mr Mutharika�s new party, the Democratic Progressive Party (DPP). Most of these accusations have been made by the UDF and relate to the practice of using state assets and resources for party political purposes, an activity that characterised UDF rule and that Mr Mutharika had claimed to stand against. This includes using government vehicles to transport DPP supporters and using state premises for party officers. Continued questions have also been raised over the financing of the DPP, which the UDF claims is funded by leading party members without reference to a central budget.

The president has also been criticised for extravagant spending of state resources. This criticism has recently focused on the purchase of a car and a new presidential portrait. A public outcry followed the announcement that the government would spend MK65m (US$540,000) on a customised Mercedes for the president. Mr Mutharika has countered that he was unaware that the car would cost that much and has since agreed to spend a maximum of MK10m on his new vehicle. This event draws parallels with the previous administration, when Mr Muluzi bought a fleet of new Mercedes cars for all his cabinet ministers in 2000 at a cost of US$2.5m (January 2001, The political scene). The cars were eventually sold on the open market (at a considerable loss to the government) following pressure from donors.

The problems with the presidential portrait boils down to Mr Mutharika�s insistence on replacing his current portrait, which is painted against a yellow (UDF) background, with one of him against a blue (DPP) background, to emphasise that he is no longer part of the UDF. The cost of this change (required for all government offices as well as parastatals) has been put at MK94m. While this seems a vast charge for the pictures, it emphasises the partisanship of Malawian politics. The yellow background was apparently organised by the UDF hierarchy ahead of Mr Mutharika being sworn in. Given his ideological and personal break with the UDF, Mr Mutharika does not want to be associated with that party, hence the change, which the Economist Intelligence Unit expects will go ahead despite the cost.

In his bid to counter the opposition by consolidating his support at cabinet level, Mr Mutharika has also made frequent use of cabinet reshuffles, with the most recent series of changes taking place in July and September (April 2005, The political scene). The largest reshuffle occurred on July 31st and included the following changes.

• Eunice Kazembe was dismissed as minister of natural resources after becoming embroiled in a corruption scandal over her time as the general manager of the Malawi Development Corporation (July 2005, The political scene). Mrs Kazembe was replaced by Henry Banda.

• The vice-president, Cassim Chilumpha, lost the position of minister of water. Relations between Mr Mutharika and Mr Chilumpha, who is seen as closer to Mr Muluzi than he is to the current president, are tense, and the vice-president has been conspicuous by his absence at recent government functions.

DPP financial arrangements questioned

A series of cabinet reshuffles

16 Malawi


• Gwanda Chakuamba was made minister for water and irrigation (formerly minister of agriculture, irrigation and food security).

• The Ministry of Agriculture and Food Security is now headed by Uladi Mussa (formerly minister of home affairs and internal security), replacing Mr Chakuamba.

• The ministerial portfolio of Kenneth Lipenga was moved from information and tourism to labour and vocational training.

The July reshuffle also saw the number of cabinet posts increase by four. While the number of ministers remains unchanged at 20, the number of vice ministers was increased from eight to 12. On taking office Mr Mutharika had slashed the size of the cabinet from 46 to 28 (July 2004, The political scene). This had been a key demand of donors, who had complained at the substantial cost (both direct and in terms of ministerial allowances and other perks) of having such a large cabinet. Mr Muluzi had used the lure of cabinet office to reward supporters and entice opposition members into his government. Given Mr Mutharika�s weak support base, there is a risk that he will revert to the same tactics. In its letter of intent to the IMF the government stated that it was reviewing the structure of ministries and that it anticipated a consolidation of departments in the ministries which the president had combined after his election. There is no mention of increasing the number of cabinet posts.

In early September the president dismissed Mr Chakuamba from the cabinet in a row over the misuse of donor funds to buy a car. Shortly after his dismissal Mr Chakuamba was arrested for alleged public incitement, after he apparently claimed that the president �would not reach this Christmas (in office)�. Mr Chakuamba was replaced by the former deputy minister of transport and public works, Sidik Mia. Two days after leaving the cabinet Mr Chakuamba resigned from the DPP, where he had held the post of vice-president, and began reforming his Republican Party (RP), which he had earlier dissolved into the DPP (July 2004, The political scene). The loss of the RP�s 15 MPs is a blow to Mr Mutharika at a time when he is trying to consolidate his position against the opposition.

Mr Chakuamba�s departure from the DPP came shortly after Chakufwa Chihana, who had been reinstated as the leader of the Alliance for Democracy (Aford), announced that his party would no longer align itself with the government and would position itself with the opposition. Aford used to be the country�s third party until Mr Chihana alienated most of the membership by backing the UDF ahead of the last election (in exchange for a number of ministerial positions). The party was decimated at the polls, with its number of MPs falling from 28 to just six, who then decided to back Mr Mutharika. While the loss of Aford�s support is not, by itself, a major blow for the president, Mr Chihana is a wily political operator, who tends to align himself with whoever he feels is in the ascendancy. The move is therefore not without significance. Indeed, the defection of these two high-profile figures makes the president�s position seem more precarious, at a time when he is trying to consolidate his support base.

Mr Chakuamba is dismissed from cabinet

Aford realigns itself with the opposition

Malawi 17


The vice-president, Cassim Chilumpha, indicated in a speech on September 25th"his first public comments for some time"that he expected to be sacked. Mr Chilumpha has been careful not to align himself too closely with Mr Mutharika or Mr Muluzi in their ongoing power struggle since assuming the vice-presidency, but his latest speech makes clear that he still favours the former president, especially as he has also offered his loyalty to those who chose him as vice-president. Mr Chilumpha was selected by Mr Muluzi to be Mr Mutharika�s running mate in last year�s presidential election. Before the election he had been considered close to the former president. His ability to present a neutral front as vice-president has increasingly been tested, especially as Mr Mutharika has sought to reopen an investigation into the scandal surrounding the Ministry of Education that broke in 2001, when Mr Chilumpha was education minister (January 2001, The political scene).

Mr Chilumpha continued to be tested after Mr Mutharika broke away from the UDF to form his own party, taking many cabinet ministers with him. However, Mr Chilumpha chose to remain within the UDF after the formation of the DPP and has since been conspicuous by his absence from a number of public events he would have been expected to attend with the president. His absence was particularly noted at the groundbreaking ceremony for the construction of the new parliament building on August 1st, which was attended by leaders of all the main opposition parties (including the UDF and the MCP). His attendance record at cabinet meetings is also reported to have deteriorated significantly. With the impeachment debate sharpening the tensions between the UDF and Mr Mutharika, Mr Chilumpha may be indicating that his working relationship with the president is becoming completely untenable, particularly after he had the portfolio for water taken away from him.

The MCP leader, John Tembo, has claimed that he was offered (and rejected) the position of second vice-president in return for backing the budget. There is a logical reason for Mr Mutharika offering this position, and an equally good one for Mr Tembo rejecting it, as the MCP leader in effect holds the balance of power in parliament. By offering Mr Tembo a key position in government, Mr Mutharika was hoping to co-opt him and his party into supporting the government, but Mr Tembo has a very long-standing ambition to be the president of Malawi. He is also very defensive of his party�s independence of the government, as his strategy appears to be geared towards winning the next presidential and parliamentary elections in May 2009. Having served as vice-president to the former president, Hastings Banda, for many years, he was aggrieved to have been passed over as leader of the MCP when Mr Banda died in 1997, only assuming the leadership of the party in 2003 (July 2003, The political scene). A wily politician, Mr Tembo has been able to maintain strong links with Mr Muluzi (whom he knows from the Banda administration), while working with Mr Mutharika as it suits him. This strategy looks likely to continue, as it gives Mr Tembo considerable power in Malawi politics at present, without compromising his strategy to run as MCP presidential candidate in 2009.

Mr Tembo claims to reject second vice presidency

Vice-president says that he expects to be sacked

18 Malawi


The political battle between Mr Mutharika�s administration and Mr Muluzi extends even into the business sector, where Mr Muluzi has built up considerable interests during his time in office. Most recently, the government has removed the concession to manage sugar distribution in the country from the Ntaja Trading Company, which is controlled by Mr Muluzi. Distribution is now in the hands of the South African company, Illovo Sugar. The system in place when Mr Muluzi took power consisted of the sugar manufacturer, Lohnro, together with the government appointing distributors who were awarded zones and quotas of the commodity to trade. Through this system Mr Muluzi and Ntaja managed to gain virtual control over the distribution process, particularly after Lohnro left the country. The government has said that the introduction of Illovo is an economic issue, and that it does not believe that the Ntaja monopoly was a healthy state of affairs. While this may be true, the monopoly structure is nevertheless still in place, suggesting that more than just economic issues are at stake. Mr Muluzi, through his spokesman, has said that the government should not be involved in private-sector business activity. Both sides have a point, but it was arguably political reasons that allowed Mr Muluzi to attain this position, and it is again for political reasons that he is now being deprived of it.

Mr Mutharika�s government faced further problems in mid-September, when the civil servants who operate in Capitol Hill, the seat of government, held a six-day strike in a row over benefits. The government had promised a 400% rise in pension benefits for government workers last year, but under pressure from donors for expenditure restraint it has instead proposed a new formula to calculate pension contributions. This is based on a five-year average salary method and not on a consolidated salary scheme, which the unions say would cut workers� benefits substantially. While the workers demanded the resignation of the finance minister, Goodall Gondwe, the strike put additional pressure on Mr Mutharika, who is also in charge of the civil service. The strike was eventually called off amid promises of further negotiations on the issue, but the unions reserved the right to take further action. Most government offices elsewhere in the country functioned normally throughout the strike.

Economic policy

The IMF has agreed a new lending programme with the government of Malawi. Under the poverty reduction and growth facility (PRGF), SDR38.1m (US$56m) will be disbursed over a three-year period that commenced in July. This assistance is to be frontloaded, with two further disbursements scheduled for the subsequent 12 months (provided the government adheres to the required performance criteria), which amount to a total of SDR15.2m and include SDR7m to address the current food security crisis. In itself this sum is not all that significant, given the external financing requirement over the period. However, having a programme in place is a key criterion for disbursements by other donors, and several have already issued new disburse-ments (see Foreign trade and payments). The agreement on the PRGF was reached after the Fund approved performance under a one-year staff-monitored

Civil service strike adds to president�s woes

A new lending agreement has been concluded with the IMF

Mr Muluzi�s monopoly in sugar distribution terminated

Malawi 19


programme (SMP) that had been in place since July 2004, and the annual budget had been passed on July 15th. This was no surprise, as each of the quarterly reviews of the SMP had met with the Fund�s approval (July 2005, Economic policy).

The main aim of the PRGF, as has been the case with Malawi�s previous IMF programmes, is to improve fiscal management, with the priority on reducing domestic debt. This in turn will cut debt-servicing costs and free up funds for spending in more productive areas. The programme is also concerned with developing new fiscal management systems and ensuring greater compliance with those already in existence. On the monetary policy side, the main goal over the period will be to bring down inflation to a range of 5-8%. The approach of targeting broad money (M2) through open-market operations will be maintained. The authorities are also aiming to rebuild foreign-exchange reserves to the equivalent of two months� of import cover, which, although below the IMF�s internationally recommended minimum of three months, would present an improvement on the levels of recent years of just one month�s import cover. Meanwhile, the Reserve Bank of Malawi (RBM, the central bank) is expected to continue to intervene in the foreign-exchange market by purchasing foreign exchange during the tobacco season (the main period of inflows) and selling at other times to support exchange-rate stability.

As usual, steps will be taken to attempt to diversify the economy�s heavy dependence on tobacco (which provides just over half of export receipts), although previous steps in this direction have been unsuccessful. Efforts to promote the private sector by introducing commercial courts, streamlining business licensing and developing road networks are also planned, as well as lower real interest rates, provided domestic borrowing decreases. The government also claims that it is looking to address persistent power supply problems (January 2005, Economic policy) caused by the clogging up of the Shire river, from which the country�s hydroelectric power"its main source of electricity"is generated. The government has mentioned plans to draw power from the Cabora Bassa hydroelectric plant in Mozambique.

Most of the policies agreed on in the PRGF are based on those contained in the Malawi Poverty Reduction Strategy Paper (MPRSP; April 2005, Economic policy), which was drawn up in 2003 with heavy donor input. The government has expressed some desire to change the MPRSP, as it was produced by the previous administration, but it will now be very difficult for this to happen, given that the newly agreed PRGF would also have to be changed to reflect those changes. In view of Malawi�s recent history of poor compliance with IMF targets, the Fund will undertake quarterly reviews over the first year of the programme, before moving to semi-annual reviews for the remaining two years of the programme.

A key condition for the agreement of the new PRGF was that parliament passed the 2005/06 budget before the IMF�s report on the SMP went to the Fund�s board. This was eventually achieved, and the budget was passed with only modest amendments. The budget targets spending to rise by 45% on 2004/05 to MK116.2bn (US$967m) and total expenditure by 36% to MK119.5bn, and projects

Reducing domestic debt is one of the key goals

2005/06 budget passed with minimal alterations

20 Malawi


a fiscal deficit of 1% of GDP (July 2005, Economic policy). The government also bowed to the principal demand of the United Democratic Front (UDF), which called for a reversal of its decision to scrap the universal fertiliser subsidy for smallholder tobacco farmers. In the original budget presented to parliament the government had planned to implement a targeted fertiliser subsidy, in accordance with donor requests. This amendment to provide a universal fertiliser subsidy is estimated to cost MK2.5bn (US$21m), part of which will be budgeted for by making a small reduction in the allocation to most ministries. The fact that the budget was passed two days ahead of the IMF-imposed deadline shows the importance the government places on restoring donor funding and the influence the IMF will have on economic policymaking.

The government may have problems in adhering to some of the requirements of the IMF programme: the president, Bingu wa Mutharika, stated in August that he was suspending the sale of Malawi Telecommunications Limited (MTL). This came only one week after a government announcement that it had agreed to sell 80% of MTL to the consortium that had won the bidding process, headed by the local conglomerate, Press Corporation (the government would hold the remaining 20%). According to a government statement, the sale was suspended pending the resolution of certain unnamed issues, although sources indicate that it was mainly because the consortium�s valuation of MTL, at around US$30m, was considered too low. The president�s decision was unexpected, given that at the opening of a privatisation strategy conference organised by the Privatisation Commission in January he had demonstrated that he was keen to reinvigorate the process (April 2004, Economic policy).

Previous administrations have also been reluctant to privatise MTL, which is Malawi�s largest and most viable parastatal (it regularly records a profit), owing to public hostility to the loss of jobs stemming from the restructuring of overstaffed public-sector enterprises. MTL�s privatisation has been long sought as an important means of opening up the economy and making it more attractive to foreign direct investment (FDI) through improvements in efficiency and technology. Under the previous Muluzi administration the largesse that could be distributed under MTL as a parastatal was considerable, and the possibilities for patronage were therefore vast, ranging from board positions with all the associated perks to lucrative supply tender opportunities.

The suspension of MTL�s sale is likely to sit uncomfortably with Malawi�s donors. It certainly runs counter to the government�s pledge in its letter of intent to the IMF, which forms the basis of the new PRGF. The letter states that the government is revising the privatisation plan and �will privatise or commercialise the remaining state enterprises�. The letter also makes clear that the government will only prefer commercialisation �where social concerns are important�, which is clearly not the case with MTL. That said, the government currently does not have the necessary expertise to commercialise MTL. The IMF is, therefore, likely to look unfavourably on the suspension of the MTL sale, although at this stage it is not a sufficiently serious matter on its own to trigger the suspension of disbursements. Donors are likely to put considerable pressure on Mr Mutharika to push ahead with the sale, and it is worth noting that on a

The president has suspended the telecoms privatisation

Donors likely to press for MTL�s privatisation

Malawi 21


previous occasion, when the Muluzi administration suspended the privatisation programme in 2003, it was revived a few months later under pressure from donors (October 2003, Economic policy). One potentially positive indicator is that Mr Mutharika dissolved the boards of all the country�s parastatals in late August. It will be important to see whether these are filled with people more capable of running such institutions or merely with another set of political appointees (most roles were previously held by associates of Mr Mutharika�s predecessor, Bakili Muluzi).

IMF and World Bank staff released their review of the government�s progress report on the PRSP�s implementation in July. The review covered the 2003/04 (July-June) fiscal year. It was the second review the government has produced and it came in for much less criticism than the first effort, partly because unlike the first report it had been made available in time to feed into the annual budget. The IMF-World Bank commended the government for the measures implemented since May 2004 to restore fiscal discipline, which resulted in an improvement in the country�s macroeconomic performance and the restoration of donor budgetary support. The IMF-World Bank also welcomed the candidness of the second report in acknowledging fiscal policy slippages that had taken place. However, it is not surprising that the new administration was prepared to be candid about this, as it is keen to divorce itself from the performance of the previous administration: slippages occurred through to an expansionary fiscal policy ahead of the last election. These slippages resulted in the implementation of the PRSP going off track, leading to higher than envisaged domestic debt, inflation and interest rates and reducing pro-poor expenditure. Meanwhile, the IMF-World Bank review acknowledged the report�s findings that improvements had been made in access to higher education and the availability of medication in hospitals and health centres, but noted that steps to reduce the reliance of tertiary education on government funding and to improve the quality of primary and secondary funding had not been discussed, and that the supply of medication was still below the minimum levels set out in the PRSP (April 2005, Economic policy).

A World Bank report, Doing Business in 2006, published in September, ranked Malawi 96th out of a total of 155 countries surveyed and tenth in Sub-Saharan Africa for overall ease of doing business. The index focuses on the micro factors that are widely believed to inhibit business development, and Malawi ranked slightly higher than average in key aspects such as starting a business (70th), protecting investors (62nd) and enforcing contracts (56th). The overall ranking was brought down by the difficulty of obtaining credit (85th), dealing with licenses (110th), trading across borders (114th) and paying taxes (138th). While Malawi�s overall business ranking is certainly not among the lowest, it does indicate the country�s relatively poor business environment, reflecting the accumulation of years of weak economic policy management and insufficient attention to the development of the private sector. The positioning of Namibia, Botswana, South Africa and even Zambia far higher up in the rankings shows how difficult it is for Malawi to compete in the region. This further highlights the importance of private-sector reforms, some of which have been targeted under the new PRGF.

IMF and World Bank review progress report on PRSP

Malawi falls to fourth place in Africa for doing business

22 Malawi


Business environment South Africa Namibia Botswana Zambia MalawiStarting a business No. of procedures 9 10 11 6 10Time (days) 38 95 108 35 35

Dealing with licences No. of procedures 18 11 42 6 10Time (days) 176 169 160 165 205

Registering property Time (days) 23 28 69 6 10Protecting investors Investor protection index (0�10) 8 7 4 7 5Paying taxes Taxation of gross profits (%) 44 44 53 39 57Trading across borders Time for export (days) 31 32 37 60 41Time for import (days) 34 25 42 62 61Overall rank Worldwide (out of 155) 28 33 40 67 96Africa (out of 36) 2 3 4 5 10

Source: World Bank, Doing Business in 2006.

The domestic economy

Recent official data indicate that year-on-year inflation moderated in July to 15.6%, from 15.9% in June. This is the first time that year-on-year inflation has dropped since August 2004. Food inflation dropped from 19.6% in June to 19.3% in July, reflecting greater availability of food as the harvests began, as well as the currency�s stabilisation in July, which will have helped to dampen imported inflation. Donors had also started distributing maize in some parts of the country, which will have contributed to lower food inflation. Non-food inflation declined only marginally, from 12.1% in June to 12% in July, largely owing to a moderation in beverage and tobacco price increases. However, the relative stability of non-food inflation masks an increase in transport costs during this period as a result of high international oil prices. Given that further increases in fuel prices and continued food shortages are expected, the Economist Intelligence Unit estimates average annual inflation at 15.4% in 2005.

Inflation (% change year on year unless otherwise stated)

2004 2005 Year Jan Feb Mar Apr May Jun Jul AugInflation (av) 11.2 14.0 14.2 14.9 15.3 15.5 15.9 15.6 15.4

Source: National Statistics Office.

The kwacha has stabilised since July 2005 at MK124:US$1, following a pick-up in tobacco exports earnings and the resumption of IMF funding, which has prompted further donor support. The stabilisation of the kwacha follows a period of rapid depreciation lasting several months, during which the currency declined from MK108.9:US$1 in February 2005 to MK124:US$1 July. The depreciation had begun in early March, as foreign-exchange reserves reached

Donor food distribution has allowed inflation to moderate

Donor inflows and tobacco earnings stabilise the kwacha

Malawi 23


low levels as a result of slow tobacco sales and also because donors withheld financial support, which restricted the Reserve Bank of Malawi (RBM, the central bank) in its efforts to inject foreign exchange into the currency market to support the kwacha. The RBM�s stricter management of foreign-exchange reserves since March has allowed levels to increase slowly from US$99.95m to US$122.90m in June (the latest data available), equivalent to 1.4 months and 1.7 months of import cover respectively. Since July the resumption of higher external inflows has helped to reinforce foreign-exchange levels and to keep the currency relatively stable. We expect the currency to remain stable until the end of the year, to average MK$120:US$1 over 2005 as a whole. However, in the event of any disruption to donor funding it will be difficult to fend off further exchange-rate depreciation.

The IMF�s PRGF contains some ambitious macroeconomic targets for the medium-term. The IMF report, Malawi: Request for a Three-Year Arrangement Under the Poverty Reduction and Growth Facility, contains a table of medium-term objectives, which are fairly optimistic and outline a far better scenario than the one we are anticipating. In particular, real GDP growth is expected to rebound from the drought-affected level of 2.1% this year to 8.2% in 2006, compared with our expectation of real GDP growth of 1% in 2005, rising to 2.7% in 2006. The scenario is in excess of recent recoveries from drought, such as the 4.4% growth experienced after the 2001-02 drought; and although in 1995 real GDP growth rebounded by 16.7%, this was after a drought-related contraction of 10.2% in 1994, which suggests that the anticipated slowdown in economic growth resulting from the 2005 drought will not be severe enough to induce a recovery of 8.2% real GDP growth in 2006.

Moreover, over 2007 and 2008 real GDP growth is projected to stabilise at just below 6% (the minimum rate of growth considered necessary to lower poverty levels), presumably as the recovery from drought tails off. However, as we forecast that the recovery from the drought will only bring growth of 2.7% in 2006, before picking up to 4.2% in 2007, the PRGF scenario again looks optimistic. Apart from years where a recovery from drought is under way, real GDP growth has rarely exceeded 5%, and far greater investment in diversifying the economy will be required to sustain growth of close to 5%.

Similarly, the IMF�s inflation targets appear to be based on the ability of the government to maintain fiscal discipline and the absence of an exchange-rate shock (the latter is a serious risk, given the shortage of foreign exchange). The fiscal targets are based on a reduction of the domestic deficit from 8.5% of GDP in 2004 to 3.8% of GDP in 2008. While fiscal management has definitely improved under the new administration, it is to be expected that fiscal discipline will slip as the 2009 elections approach, or if the government�s popularity declines. Fiscal performance could, moreover, be affected by delays in donor disbursements. Debt and fiscal projections are also boosted by the relatively high rate of growth projected for nominal GDP (the GDP deflator is projected at 10.2% in 2006, compared with a year-end inflation rate of just 3.9%).

PRGF reveals ambitious medium term growth targets

PRGF�s inflation targets are also ambitious

24 Malawi


IMF projections 2004 2005 2006 2007 2008Real GDP growth (%) 4.6 2.1 8.2 5.6 5.9GDP deflator 11.6 16.2 10.2 8.4 7.3Inflation (year-end; %) 13.7 16.9 3.9 7.0 6.9

Domestic balance (% of GDP) -8.5 -11.1 -5.1 -4.1 -3.8Domestic debt (% of GDP) 24.1 19.8 16.8 14.2 12.3

Import cover (months) 1.3 1.6 2.2 2.4 2.6

Source: IMF.

Malawi�s ranking in the Human Development Index (HDI), compiled by the UN Development Programme and published in its Human Development Report 2005, remains unchanged for this year, at 165th out of 177 countries. The HDI is compiled using a range of indicators, including life expectancy, literacy and GDP per head. Malawi�s low ranking reflects the very low life expectancy of just 39.7 years. This is largely as a result of the rapid spread of HIV/AIDS, which UNAIDS estimates had infected 14.2% of the adult population at the of 2003, which is one of the highest infection rates in the world. The disease also poses a serious risk to the economy, especially at a time when there is famine, as many workers become too weak to be productive. GDP per head (in terms of purchasing power parity) is already very low, at US$605m in 2003, reflecting the widespread poverty in the country, which is the consequence of a long history of economic mismanagement. The combination of these factors has resulted in Malawi being ranked lower than most other countries in the Southern African region, with only Zambia (165th) and Mozambique (178th) ranking lower.

Human Development Index, 2005a

HDI ranking HDI score Life

expectancyb Adult

literacyc GDP per

headd

South Africa 120 0.658 48.4 82.4 10,346

Zimbabwe 145 0.505 36.9 90.0 2,443

Malawi 165 0.404 39.7 64.1 605

Zambia 166 0.394 37.5 67.9 877

Mozambique 178 0.379 41.9 46.5 1,117

a Human development data are from 2003. b At birth in years. c Percentage of population over the age of 15 able to read. d US$ at purchasing power parity exchange rates.

Source: UN Development Programme, Human Development Report, 2005.

Agriculture

According to recent data from the Malawi Vulnerability Assessment Committee (MVAC), the maize crop for 2005 is estimated at 1.23m tonnes, the lowest level in ten years. This is down from to 1.73m tonnes in 2004 and considerably below the national requirement of around 2m tonnes of maize. As a result it is estimated that 4.2-4.6m people will be affected by food shortages. Poor weather was clearly a contributory factor to the low crop. The rains started well, but a prolonged dry spell ran through February and March. The MVAC, which consists of government and donor representatives, attributes much of the blame to the government as well. The government�s delay in organising its

Malawi is facing another serious famine

Malawi ranked 165th out of 177 in Human Development Index

Malawi 25


fertiliser subsidy policy and logistical problems when it attempted to import and distribute the fertiliser towards the end of 2004 left the private sector with insufficient time to organise the necessary imports, while the debate at the time over the subsidy discouraged private traders from making arrangements to import fertiliser. The result was that when the fertiliser was needed the quantities available were insufficient for it to be effective. It is worth noting that smallholder farmers who applied fertiliser were able to raise far better crops of maize than farmers in the same district who did not apply fertiliser.

Although the Ministry of Agriculture claims that the amount of fertiliser applied to the land actually rose during 2005, owing to an increase in supplies available under the government�s targeted input programme, it has admitted that it was applied too late to have an impact on the maize crop. The ministry estimates that the area devoted to maize was virtually unchanged on 2004, at 1.3m ha, which suggests that the entire shortfall was attributable to a decline in the yield. The government�s plans for agricultural subsidies in 2006 show that they are aimed at boosting the use of fertiliser, which should ensure that agricultural production will increase substantially, assuming favourable weather conditions. For maize it will provide a subsidy of around MK1,900 (US$16) per 50-kg bag of fertiliser, which should mean that farmers are likely to pay around MK1,000 per bag. For burley tobacco the subsidy will be around MK1,200 per bag of fertiliser, requiring farmers to pay around MK1,400 per bag. To avoid the same distribution problems that contributed to this year�s poor harvest, a maximum of two private companies will be involved in the logistics and distribution of the fertiliser.

Accompanying the MVAC report was an appeal to donors for 400,000 tonnes of food aid. The bulk of this will be required in the first few months of 2006, as stocks from the current harvest will by then have run low and the new harvest will not be ready until around March. However, the initial response to the appeal has been poor, and at the end of August the UN launched a �smart appeal� for funds to deal with the famine. This takes a two-track approach, seeking US$51m for immediate food and nutrition provision and a further US$37m to ensure that farmers have access to agricultural inputs for the 2006 harvest to prevent the reoccurrence of famine. In times of food shortage people tend to consume the maize they would previously have saved for planting. Using prevention is obviously far more cost-effective than responding only once a famine has started, but because it is not seen as an emergency, it is more difficult to raise money for it. Subsequently, in mid-September the World Bank awarded a US$30m grant for food. In late July the government also announced an export ban on maize and fertiliser, which is standard procedure in times of food shortage, but this is likely to have only a marginal impact on the situation on the ground.

Other states in the Southern Africa region are also suffering food shortages, placing great demand on countries with surpluses in the region and increasing the likelihood that much of the food requirement will have to be sourced from further afield, increasing the transport costs associated with the import bill. South Africa has a maize surplus, but Zimbabwe, which is reported to have a

Appeals for food aid launched

Help from neighbours and other food crops is limited

Details of subsidy programme for next year�s crops revealed

26 Malawi


grain shortage and needs to import 100,000 tonnes of maize per month for the next eight months, is competing for the same grain. Some maize could also be sourced from Mozambique, particularly the north, if a surplus is produced there. In addition, around 100,000 tonnes of maize was acquired last year via informal crossborder trade with Mozambique and Tanzania. Other food crops could help to fill some of the maize gap, although production of these is also down. The rice crop has been affected by poor rainfall, with production estimated by the agriculture ministry at 41,270 tonnes, 17% lower than last year. A lack of rain has also contributed to a 39% decline in the sweet potato crop, which fell to 1.08m tonnes, and a fall in the production of cassava, to 2.56m tonnes.

Outturns so far at the tobacco auctions have been disappointing. Poor weather conditions have affected the volume of the burley crop (the main variety grown by smallholder farmers) passing through the auction floors and has also caused a drop in quality, which is reflected in lower prices. The continued presence of foreign objects in the tobacco bails"principally strands from polypropylene sacks used by farmers for transporting the tobacco, contrary to best practice in the industry"has further contributed to the low prices being offered. In response, farmers have disrupted the auction floors and forced their closure on a number of occasions.

These disputes have led to a significant migration of Malawi tobacco to Mozambique, Zambia and Tanzania for sale. The impact of this is important, not least because inputs provided on loan by various sources, ranging from banks through to non-governmental organisations (NGOs) and the tobacco companies themselves, stand little chance of being repaid, and this will make organisations reluctant to continue providing such input loans. It also reduces the various taxes and levies charged by the government at the auction floor, decreasing the amount of funding available for both general expenditure and for the development of the tobacco industry.

Tobacco sales (Apr 12th-Jul 28th)

Type Weight (kg) Price (av; US cents)Burley 82,137,103 103.27Flue cureda 358,481 142.47

Flueb 19,230,266 172.47Northern Dark Fired (NDF) 163,939 147.01

Southern Dark Fired (SDF) 62,210 119.59

a Sold at auction floors. b Sold direct to buyers.

Source: Tobacco Control Commission.

The poor rains have affected the performance of other cash crops. Tea production for the first six months of the year stood at 28.1m kg, down by 8.4% on the output for the same period of 2004. Tea prices have also declined, although this was more related to lower international prices than quality issues with the local crop. Total revenue from tea sales over the first four months of 2005 was down by 15.7% on the same period of last year, at US$8.4m. Although data are not yet available, it appears that a rise in coffee prices has not been

Tobacco auctions have been disappointing

Poor rains have affected other cash crops

Malawi 27


able to offset a decline in yields brought on by the drought, and so revenue from this crop is again expected to be lower than it was last year. The sugar sector is also likely to have suffered, but the extent of the decline in yields is difficult to estimate, and the effects will not manifest themselves until later in the season.

Financial and other services

The Finance Bank of Malawi has reopened under the control of the Reserve Bank of Malawi (RBM, the central bank). The licence of the Finance Bank was revoked in May following irregularities regarding foreign-exchange dealings (July 2005, The domestic economy). The Finance Bank subsequently took the RBM to court over its decision, which prompted an outcry from the public (who possibly believed, incorrectly, that depositors would lose their money), and from some leading business figures. As a compromise to keep the bank open, which was operationally sound and solvent, the central bank put its deputy general manager for economic services, Neil Nyirongo, in charge of Finance Bank and gave other RBM managers responsibility for running certain operations inside the bank.

Tourism

The local hotel operator, Sunbird Hotels, has announced that the contract under which it managed the hotels of the Le Meridien group will not be renewed when it lapses at the end of this year. The relationship between the two has been complicated by the actions of Sunbird�s majority shareholder, the Malawi Development Corporation (MDC). The MDC has drawn heavily on Sunbird�s financial resources, which has prevented the management from investing in fixtures and fittings, resulting in substandard hotel services offered at bloated international prices. Sunbird currently provides the only significant hotel chain in the country, with other hoteliers preferring to run a few select operations in Lilongwe and Blantyre. Sunbird is expected to lose significant market share as a result of the loss of the contract. A replacement to run the Le Meridien group has not yet been announced.

Foreign trade and payments

Now that the government has agreed a new poverty reduction and growth facility (PRGF), the probability that Malawi will reach completion point around mid-2006 under the IMF-World Bank heavily indebted poor countries (HIPC) debt relief initiative"at which a reduction in debt stock will be awarded"has increased. However, various criteria need to be achieved before this can occur. First, the government needs to have its first two PRGF reviews concluded successfully, which is possible by the end of January 2006. Second, it needs to have achieved one year of successful implementation of the PRSP, which could be met by the end of this year. Third, it must complete 11 specific completion point triggers, which would take a minimum of one year. Ahead of this, members of the Paris Club of bilateral sovereign creditors have suggested that

Finance Bank of Malawi has reopened under RBM control

Agreement of PRGF paves way for HIPC completion point

Sunbird Hotels/Le Meridien management contract to expire

28 Malawi


they will consider extending the consolidation period of their last agreement with Malawi in 2001 (April 2001, Foreign trade and payments) and grant further assistance. Provided Malawi remains on track with the PRGF, the Economist Intelligence Unit believes that it is highly likely to reach completion point under the HIPC initiative by mid-2006.

Documents accompanying the PRGF agreement contain a brief debt sustainability analysis. This concludes that even on the basis of some reasonably optimistic assumptions"export volumes growing by 4% per year and foreign direct investment (FDI) at US$35m per year"the external debt to GDP ratio (in net present value terms) would only fall from 215% in 2004 to 192% in 2015. The Fund therefore concludes that external debt sustainability remains a serious concern over the medium term, even after reaching completion point. The importance of donor support and prudent macroeconomic policies to ensuring external debt sustainability is highlighted, as these factors have the biggest potential to worsen the debt statistics in the IMF�s sustainability analysis.

External debt sustainability framework: baseline scenario 2002-25 Actual Estimate Projections 2004 2005 2006 2007 2008 2009 2010 2015 2025External debt (% of GDP) 159.0 153.2 151.8 145.2 138.3 130.8 124.2 93.5 57.5Net present value of external debt (% of exports) 214.7 209.1 206.7 205.6 208.6 210.9 211.4 192.2 152.8

Debt service to exports ratio 21.2 13.3 7.7 7.0 7.0 7.1 7.3 10.3 10.9Key macroeconomic assumptions (%) Real GDP growth -6.5 -8.0 -5.0 -0.7 0.6 1.0 1.0 1.9 1.9Effective interest rate 1.0 0.7 0.5 0.5 0.5 0.5 0.5 0.6 0.7Growth of exports of goods and services 2.1 7.3 8.5 7.2 4.6 4.3 4.9 5.7 6.6Grant element of new public-sector borrowing - 51.3 47.5 48.9 50.9 52.5 52.5 53.9 55.4

Source: IMF staff estimates.

The UK Department for International Development (DFID) became the first donor to transfer money to the government after the agreement of the new IMF programme, with the disbursement of £20m (US$37m) in late July. This aid is to be used mainly to reduce domestic debt. This new lending follows an agree-ment to resume funding by the CABS (Common Approach to Budgetary Support), through which the DFID, the EU and the Norwegian and Swedish governments channel their aid. Two weeks after the DFID disbursement the Japanese government gave grants totalling US$11.2m. Donor support is crucial for Malawi and is projected to account for 44% of total revenue in the 2005/06 budget.

In September the UN Conference on Trade and Development (UNCTAD) released its World Investment Report 2005, which shows the latest trends in FDI. As was the case last year, the top recipients of FDI in Sub-Saharan Africa are Equatorial Guinea and Angola, as a result of large investments in the oil sector. Compared with its neighbours Malawi performs very poorly, receiving only US$16m of FDI in 2004, considerably below the inflows of Mozambique or Zambia. UNCTAD classifies Malawi as a country with low FDI potential and with a low FDI performance, based on the Inward FDI Performance Index,

Donors have resumed assistance following IMF deal

Debt sustainability is a concern for the medium term

Malawi receives low levels of FDI

Malawi 29


which ranks countries by the amount of FDI they receive relative to their economic size, calculated as the ratio of a country�s share of global FDI inflows to its share of global GDP. According to the index, Malawi is ranked 119th out of 140 countries, considerably below Mozambique (23rd) and Zambia (38th) and close to Zimbabwe (113th), which, despite its unfavourable economic and political situation, is still slightly better ranked than Malawi. Malawi�s weak FDI inflows reflect the relative scarcity of opportunities for investment that have been identified outside the agricultural sector, but also the poor economic policy environment.

Foreign direct investment inflows (US$ m) 2002 2003 2004a

Malawi 6 10 16

Zambia 82 172 334

Mozambique 348 337 132

Botswana 405 418 47

Tanzania 430 527 470

South Africa 757 720 585

a Estimates.

Source: UN Conference on Trade and Development, World Investment Report, 2005.