Fiscal Space for Children: an Analysis of Options in Madagascar

Fiscal Space for Children: An Analysis of Options in Madagascar

March 2018

Fiscal Space for Children: An Analysis of Options in Madagascar

March 2018

Client: UNICEF

Table of contents

List of abbreviations 7

Preface 9

Executive Summary 11

1 Introduction and methodology 13 The objective of the Fiscal Space Analysis 13 Methodology – priority expenditure 13 Methodology - the fiscal-space analysis 14 Data limitations 16 Organization of the report 17

2 Madagascar’s macroeconomic and fiscal context 19 Longer-term national economic trends 19 Real GDP growth 19 Demographic trends 19 Structure and characteristics of the national economy 19 Poverty 21 Recent macroeconomic developments 21 Real GDP growth 22 International trade (and its consequences for the fiscal accounts) 22 External and internal debt 24 Inflation and exchange rate 24 Recent fiscal performance 25 Government financial performance 25 Revenue performance 25 Current expenditure performance 26 Capital expenditure performance 26 State enterprises 26 External support 27 Government debt (external, internal) 28 Prospects 28

3 Priority expenditure trends and policy challenges 29 Priority-expenditure composition and recent evolution 29 Priority-expenditure components 29 Recent evolution of priority expenditure 31 Comparison to international benchmarks 32 Sectoral issues in priority expenditure 35 Education 35 Health 36 Nutrition 38

Social protection 39 Water, sanitation and hygiene (WASH) 40

4 The base scenario 43 Base scenario assumptions 43 Base-scenario projection results 43

5 Alternative scenarios 47 Options to increase the fiscal space 47 Alternative scenarios and projections compared with the base scenario 47 Alternative Scenario 1: increase of external grants 47 Alternative Scenario 2: enhanced value-added tax administration 49 Alternative Scenario 3: increase in mining proceeds 50 Alternative Scenario 4: higher (or lower) GDP growth 51 Alternative Scenario 5: increased current expenditure in child-relevant sectors 52 Alternative Scenario 6: increased current and non-recurrent expenditure in child- relevant sectors 54 Alternative Scenario 7: combined Scenarios 2 and 5 55 Alternative Scenario 8: favourable election consequences for growth 56 Alternative Scenario 9: lower GDP growth 57 Alternative Scenario 10: increased transfers to state enterprises 58 Alternative Scenario 11: setting floor target for priority expenditure 59 Summary of scenario results 61 Other possibilities for enhancing the fiscal space 63 Reducing non-priority expenditure 63 Reducing external-debt service through agreements with creditors 63 Increasing external-debt disbursements 63 Increasing net internal borrowing flows 64 Reducing illicit financing flows 64

6 Conclusions 67

7 References 69

Appendix 1: Fiscal space projections 73

List of abbreviations

CMBMT Cadre Macro-Budgétaire de Mayen Terme DSB Direction de la Synthèse Budgétaire FSA Fiscal Space Analysis FY Fiscal Year FID Fond d’Intervention pour le Developpement GDP Gross Domestic Product GFI Global Financial Integrity IFF Illicit financial flows IMF International Monetary Fund JIRAMA Jiro sy rano malagasy MDG Millennium Development Goals MFB Ministry of Finance and Budget ODA Official Development Assistance OECD Organisation for Economic Co-operation and Development OGT Opérations Globales du Trésor ONN Office National de la Nutrition PNNC National Community Nutrition Programme PPP Purchasing power parity PSE Plan Sectoriel de l’Education SoE State-Owned Enterprises UNICEF United Nations Children’s Fund VAT Value-added Tax WASH Water, Sanitation and Hygiene

Preface

This report, which focuses on Madagascar, is the seventh of a series of country studies to be carried out by Ecorys for UNICEF over 2016, 2017 and 2018, in various sub-Saharan African states. These studies are deliverables under Ecorys’ contract with UNICEF entitled ‘National Political Economy Analysis and Fiscal Space Profiles of countries in the Eastern and Southern Africa Region’. As per Terms of Reference, the project aims to strengthen UNICEF’s advocacy capacity through a better understanding of the role of political economy factors in processes and decisions around creation and use of fiscal space for investments in children in Eastern and Southern Africa.

Executive Summary

Despite an increase in the real GDP growth rate since the end of the political crisis in 2013, Madagascar’s recovery is still fragile and fully dependent on a few export products like nickel and vanilla. Coupled with a low revenue performance and the precarious situation of some state-owned enterprises (SoE), these elements contribute to rising fiscal deficits and thus limit Madagascar’s overall fiscal space. Government debt is still low compared to neighbouring countries, but continued budget deficits and sluggish economic growth might contribute to its rapid deterioration. Political unrest, which may be aggravated in election-time in 2018, further adds to the fragile situation and affects social and economic outcomes in Madagascar.

Among priority sectors – defined as education, health, water, sanitation and hygiene (WASH) nutrition and social protection – government spending in the years following 2013 has shown a meagre overall increase as percentage of total expenditure, with the education sector absorbing the bulk. External funding for the priority sectors also showed a positive trend over the same period, again more evident in the education sector. Priority expenditure remained about 20.5 per cent of total (non-interest) expenditure over the fiscal years 2013-2016– it made up 19.4 per cent of total expenditure in 2013, rose to 20.8 per cent in 2014, then dropped to 19.7 per cent in 2015, and finally 21.6 per cent in 2016. Education represents the biggest share, with an average 13.8 per cent of the total government expenditure. The education sector saw a clear net rise in development expenditures in 2016, worth alone about 2 per cent of the total government expenditure. Budget execution in the other priority spending categories has proven erratic and without a clear pattern, a condition imputable to the regular amendment cuts the budget suffers every summer.

In a baseline status-quo scenario where economic growth is in line with recent trends, spending on priority sectors would increase modestly, and the financing gap would be reduced. This positive result is linked to the low level of spending and growth in expenditure levels in priority sectors. In this scenario, per-child expenditure would reach US$37.38 (2016 prices) in 2021, which represents an increase of about US$2.25 compared to 2016. The fiscal gap would decline from 0.4 per cent of the GDP to 0.16, mirroring a decrease from 2.36 to 0.35 per cent of GDP in terms of fiscal deficit. If Madagascar’s expenditure on education and health were higher, all other things being the same, either the government’s deficit and net internal financing flow would be higher, or its own revenue (or aid) flows would need to be higher.

All other things being equal, any increase in donor financing would reduce the fiscal gap and the fiscal deficit. Comparable results would be obtained by strengthening the efficiency of tax administration or by increasing the magnitude of the mining proceeds, both plausible outcomes if the government manages to finalize the ongoing reform of the tax code and of the Mining Law. If it is able to increase revenue flows in this way, the government will then have to choose in what proportions to apply the increases to reducing the fiscal gap and to increasing allocations to priority sectors. Hence, the positive fiscal outcomes do not impact the level of per capita expenditures for priority sectors, which would remain at US$37.38 in 2021 – the same as the baseline scenario. However, when combining a scenario of increased tax efficiency with a scenario of increased recurrent expenditure in the priority sectors, it appears such a reform could fund an increase of priority expenditure as well as still reduce debt-GDP levels.

Higher GDP growth, reaching 6 per cent in 2021 compared to 5 per cent assumed in the baseline scenario, would also deliver a reduction of the financing gap and of the fiscal deficit. These would decrease to 0.04 and -0.24 per cent, respectively. In this case, priority expenditures would grow at a slow pace, delivering an average annual increase in per capita child- friendly expenditures of US$0.35.

Other events could impact the fiscal outlook, including the 2018 elections and financing trends to SoEs. A peaceful election process could lead to higher economic growth and higher inflow of external grants, which could increase per child priority expenditure with an annual average of US$0.35 and at the same time close the financing gap. However, political unrest could decrease both growth perspectives and aid inflows, increasing the fiscal gap to 1.78 per cent of GDP in 2021 and decreasing per child expenditure from US$34.90 in 2016 to US$34.77 in 2021. A continued increase of support to SoEs would cause the financing deficit to grow to 0.9 per cent of GDP on average (2016-2021) compared to 0.47 per cent of GDP in the base scenario. Although this scenario would not cause major fiscal harm, it would further strain the capacity of the government to invest more in the priority sectors.

Additional options to expand fiscal space for spending on priority sectors include reducing non-priority expenditures as well as external debt service. In general, these approaches seem less advisable. Reducing non-priority expenditure, especially infrastructure expenditure, could have the effect of slowing economic growth and hence revenue flows, which would widen the fiscal gap. Spending floors could encourage a Government to spend at least a minimum amount on its social sectors. However, if there is little room for additional fiscal space, this means this funding would come from a reduction in non-priority expenditure for such an increase to be fiscally neutral. Reducing external debt service is not at present a practical option for Madagascar. On the one hand, with the Multilateral Debt Relief Initiative now past, the international institutions to which Madagascar is indebted are unlikely to be willing to undertake any new debt and debt-service reduction initiatives. In any case, as a percentage of GDP, Madagascar’s external debt-service burden is relatively low, and so Madagascar would not secure a large flow of resources by reducing its debt service. Lastly, Madagascar could create additional fiscal space by capturing illicit financial flows.

Despite the challenges presented by the fragile economic recovery, an uncertain political context and existing budget constraints, including resulting from low revenue collection capacity and struggling SoEs, there are options for Madagascar to ramp up investments in children. The most plausible approaches are to maintain strong real growth and to strengthen revenue generation, including through increasing the government’s share of mining profits. Another option is to secure increased donor support, which can be justified by needs and evidence that current resources are being used effectively. The authorities could also consider whether resource flows used to sustain struggling SoEs could be redirected to priority sectors.

1 Introduction and methodology

The objective of the Fiscal Space Analysis

In its advocacy on behalf of the development and welfare of Madagascar`s children, UNICEF engages in an ongoing dialogue with the government and other stakeholders. One of its main aims is to encourage the government to maintain adequate expenditure flows in the sectors that matter for children. To this end, this report advises that UNICEF maintains a continuing quantitative analysis, not only of those expenditures flows that matter to children (labelled as “priority expenditure”), but of the other fiscal accounts as well. Taken together, the other fiscal accounts constitute the “fiscal space” that determines the government’s capacity to maintain its expenditure on children. UNICEF would then be able to discuss the assumptions and results of its analysis with the government and other stakeholders.

This report describes a methodological approach that UNICEF can use to discuss the Madagascar government’s recent and future financial capacity to carry out expenditure on which children depend for their development and general welfare. This financial capacity is, by definition, the “fiscal space” underlying such expenditure. The analysis is carried out using an Excel-based projection exercise (MgFS.xlsm). The basic point of the exercise is to project (1) development of priority expenditure and (2) the funding sources in the government budget for the priority expenditure, to determine whether the funding sources are likely to maintain pace with the expected priority expenditure.

In this chapter, Section 1.2 discusses Madagascar’s “priority expenditure,” and Section 1.3 defines the “fiscal space” from which the priority expenditure would be funded. Section 1.4 takes note of some data limitations. Section 1.5 describes the organization of the Fiscal Space Analysis (FSA) part of the report.

Methodology – priority expenditure

For present purposes, the government’s “priority expenditure” is defined as the recurrent and capital expenditure flows considered essential for children’s welfare. The expression “priority” should not be taken to mean that such expenditure should always be “prioritized” over other expenditure, neither does it mean that this is how the Government of Madagascar defines “priority”. The point is simply to categorize expenditures of priority interest to UNICEF, and as such, the composition of “priority” expenditure is selected by UNICEF and the consultants. For Madagascar, “priority” expenditure categories for children comprise the following “institutional” expenditure categories1: 1. Education; 2. Health; 3. Social protection; 4. Water, sanitation and hygiene (WASH); 5. Nutrition.

1 These incidentally are the five sectors of action of UNICEF in Madagascar.

All government expenditure not categorized as “priority” would be, by definition, “non-priority.” It is important to recognize that there is a measure of arbitrariness in the priority/non-priority distinction. Generally, some expenditure classified as priority may in fact not be directly, but rather indirectly, beneficial for children (e.g., health expenditure intended directly to benefit older people), while some expenditure classified as non-priority may in fact be highly beneficial to children (e.g. local road expenditure).2

The present discussion concerns only expenditure carried out by Madagascar’s central government within its budget. However, as in any economy, international agencies and non-government entities (including faith-based organizations and other non-governmental organizations) provide substantial resources to these sectors outside the government budget. This is typically difficult to estimate, as much support is provided in-kind or not recorded anywhere. The graph below gives an example of the percentage of health expenditure, which is public, suggesting a large share of funding is coming from other sources, e.g. private sources such as out-of-pocket expenditures.

Figure 1-1 Percentage of public health expenditure of total health expenditure

40 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Health expenditure, public (% of total health expenditure)

Source: The World Bank Data, Health expenditure, public (% of total health expenditure), World Health Organization Global Health Expenditure database, https://data.worldbank.org/indicator/SH.XPD.PUBL?locations=MG, retrieved February 2018.

Methodology - the fiscal-space analysis

The FSA report describes a quantitative examination of the government’s budget performance in recent and projection years. The analysis addresses the question of whether Madagascar`s government possesses and will continue to possess adequate “fiscal space” to fund its “priority” expenditure flow.

The analysis is constructed as follows. Any government’s budget may be said to have some version of the following accounting structure, the so-called “fiscal identity”:

2 Analysts may prefer tighter or broader priority-expenditure definitions, but the methodological approach described in Section 1.3 below would still be applicable.

Total expenditure: Total non-interest current expenditure: Priority current expenditure Non-priority current expenditure Interest payments Total capital expenditure: Priority capital expenditure Non-priority capital expenditure Less: Tax and non-tax revenue Less: External grants = Overall deficit

External debt disbursements Net internal financing flows Less: external debt repayment = Overall net financing of the deficit

By transposing appropriately, this accounting identity can be rewritten as follows:

Priority current expenditure Priority capital expenditure = Total priority expenditure Tax and non-tax revenue External grants Less: Total non-priority expenditure Less: External debt service: External debt interest External debt repayment Less: Internal interest expenditure = Total fiscal space

In other words, in any year total priority expenditure is seen to be identically equal to the total fiscal space, which comprises (1) tax and non-tax revenue, (2) external grants, and (3) net internal financing flows, less (4) non-priority expenditure, (5) external debt service, and (6) interest on the internal debt. Seen this way, the total fiscal space funds the total priority expenditure.

A retrospective fiscal-space analysis describes the evolution over recent years of the fiscal-space component accounts, showing how they added up to fund the total priority expenditure. A prospective fiscal-space analysis consists of multiannual projections of the various accounts, based on programming assumptions regarding their growth rates. The analyst sets these assumptions. The aim is to show how the projected priority expenditure flow could be funded by the various fiscal-space components.

Since priority expenditure is identically equal to the fiscal space over any period, for each projection year, one of the fiscal-space accounts is taken to be “residual” – that is, calculated not through assumptions, but to satisfy the accounting identity. For the analytical exercise this report describes, the account selected to be the residual is the net internal financing flow. That is, for all future years, assumptions are used to formulate projections for all the accounts except the net internal financing flow. The accounting identity is then used to calculate the net internal financing flow that would

“close the gap” between the projected priority expenditure and the other accounts in the fiscal space. This required net internal financing flow is the “fiscal gap”.3

In a projection exercise, for each future year, the net internal financing flow, or fiscal gap, can be used to evaluate the projection, and the assumptions on which it is based, for feasibility. If, for a given set of assumptions, the net internal financing flow is large – in particular, if it is large enough that the government’s net internal debt stock would rise over time as a percentage of GDP – then the projection, and the assumptions on which it is based, would be presumed not financially feasible. The analyst would conclude that the government must either reduce the future priority- expenditure flow, or change the programming assumptions for one or more of the accounts constituting the fiscal space.

The Madagascar fiscal-space analysis sets out from a set of projection assumptions, together constituting a “base scenario.” Chapter 4 describes the assumptions that make up this scenario and the projection results. Chapter 5 then discusses alternative scenarios, each of which is almost the same as the base scenario but with one or more specific assumptions altered, to examine the consequences for the fiscal gap. It should be emphasised these scenarios are illustrative. The purpose of the fiscal space analysis is to enable UNICEF and its partners to try out various scenarios and observe the effect of those scenarios on fiscal space and priority expenditure.

Data limitations

This analysis is based on data covering budget execution for 2013-2016. The main data source has been the Ministry of Finance and Budget (MFB) of Madagascar. Additional data sources include the World Bank, the International Monetary Fund and the Fond d’Intervention pour le Development (FID). Executed budget data from the MFB were organized at the first, institutional, level by spending ministry; at the second, mission level (programme); and at the third, economic level.

The available information is broadly sufficient to carry out an exercise of the kind described thus far. Health, Education and WASH policies could be broadly identified with the expenditures carried out by the respective ministries (Health, Education and Water). Social protection is defined as the total expenditure of the Ministry of Work and Welfare (formally Ministry of Population) and the expenditure related to social protection from the FID. The total expenditure on nutrition has been calculated by summing up relevant programmes among ministries of Agriculture, Finance, Fisheries, and the related expenditure of the primature Office National de Nutrition (ONN). Other expenditure that is already included in the other categories have been excluded to avoid double counting.

Table A-1 in the appendix gives an overview of the composition of priority expenditure and how it has been tracked from the government budget.

3 In principle, any account could be selected to be the residual for projection years. The net internal financing flow is convenient for this purpose, however, in part because this account serves this residual function in practice, “filling” any gap that emerges through the budget execution process.

Information Status Ministère/Institution Available Mission Available Programme Available Convention Unavailable Service Opérationnel d’Activité (SOA) Unavailable Compte Unavailable

Organization of the report

The remainder of the FSA part of the report is organized as follows. Chapter 2 presents a review of Madagascar’s macroeconomic and fiscal context. Chapter 3 provides a discussion of the recent evolution of Madagascar’s priority expenditure and fiscal space. Chapter 4 presents the base- scenario assumptions and results. Chapter 5 discusses alternative scenarios. Chapter 6 describes conclusions from the discussion of the preceding chapters.

2 Madagascar’s macroeconomic and fiscal context

UNICEF’s advocacy in support of government expenditure beneficial for children will be carried on in an especially difficult national context. Madagascar’s economy has failed to grow for decades, and, as a result, the Government has had limited financial resources. Over the medium term, economic policy must endeavour to place the economy on a steady growth path, while gradually increasing expenditure on children’s needs. In the short term, however, Madagascar must navigate a difficult political pass, during which government decision-making can be expected to be focused on the 2018 elections. Crucial economic decisions may not be possible until the new government takes office.

Longer-term national economic trends

Real GDP growth Madagascar’s economy has been in decline for more than half a century and remains especially poor and unproductive. The World Bank has noted that Madagascar is one of only eight countries in the world for which data are available whose per-capita income (in constant prices) was lower in 2010 than in 1960.4 Since 1960, when Madagascar became independent, political crises have repeatedly interrupted economic activity and discouraged capital formation, although Madagascar never experienced a war or conflict, which can be identified as clear reason to explain its long- running economic underperformance.5 Madagascar is a low-income country: its 2016 estimated GDP was US$9.99 billion, and its per capita GDP was just US$401.3.6

Demographic trends Madagascar’s current estimated population growth rate is approximately 2.8 per cent, a relatively high rate in view of the low real GDP growth. The population under fifteen has been growing at about 2 per cent. The population growth rate has declined gradually over time, and is likely to decline somewhat in the medium term.7

Structure and characteristics of the national economy Madagascar’s economy depends heavily on primary resources. Most of its population depends on subsistence agriculture. Farmers cope with a wide range of standing problems, including cycles of drought, soil depletion, weather variability, and exposure to Indian Ocean cyclones.

Madagascar’s traditional vanilla-bean sector is the most important commercial agricultural sector. World vanilla prices and demand are now cyclically high, but the sector is exposed to world-market variability. All too characteristically, the sector’s present capacity to benefit from present world scarcity conditions is limited because a recent cyclone destroyed as much as a quarter of the crop.

4 World Bank, GDP per capita (constant 2010 US$), https://data.worldbank.org/indicator/NY.GDP.PCAP.KD?locations=MG. 5 Mireille Razafindrakoto, François Roubaud, Jean-Michel Wachsberger, The Puzzle of Structural Fragility in Madagascar: A Political Economy Approach, January 2015, http://cega.berkeley.edu/assets/miscellaneous_files/79_-ABCDA_2015_- _Madagascar_Structural_Fragility.pdf. 6 World Bank, GDP (current US$) https://data.worldbank.org/indicator/NY.GDP.MKTP.CD?locations=MG; World Bank, GDP per capita (current US$), https://data.worldbank.org/indicator/NY.GDP.PCAP.CD?locations=MG. 7 United Nations Department of Economic and Social Affairs, Population Division, World Population Prospects 2017, https://esa.un.org/unpd/wpp/Graphs/Probabilistic/POP/TOT/.

The mining sector is regarded as having high potential, especially for nickel. Foreign mining firms have initiated several important projects, but further development has been discouraged by various dimensions of uncertainty. Mining for export is vulnerable to the variability of international prices and demand. The sizes of Madagascar’s deposits and assays are especially uncertain. The unusually volatile political environment inevitably discourages foreign investment.8

Madagascar’s manufacturing sector remains limited and has been unable to achieve competitive economies of scale. Tourism has been growing, but is widely believed to be far short of its potential. A revival of the textile sector is expected – forecasts for this sector are expected to remain strong following the reinstatement of eligibility to the African Growth and Opportunities Act.9 Although Madagascar’s location is remote, it possesses many unique animal species, and has highly regarded beaches and interior landscapes.

Many observers, including the International Monetary Fund (IMF), have noted that if investment and production in the mining sector were to grow rapidly, the positive consequences for real growth could be offset by “Dutch-disease” pressures. Were this to occur in Madagascar, sectors such as manufacturing and tourism could come under competitive pressure10.

Low productivity characterizes Madagascar’s economy. Labour productivity in the agricultural and informal sectors is low by comparison with other African economies.11 In 2015, the World Bank found Madagascar’s rural population has been increasing relative to its urban population, partly through higher population growth in the rural sector, but also through migration from urban areas as a result from job losses in formal manufacturing sectors.12 At the moment, this trend seems to be reversed.13 Although Madagascar’s labour remuneration is low, low labour productivity apparently offsets this cost advantage. The low labour productivity can be linked to insufficient investment in education, health and nutrition.14

Inadequate gross fixed capital formation has been an additional cause of low labour productivity. Madagascar’s gross fixed capital formation averaged only 17.6 per cent of GDP in the years 2010- 2013, even including a temporary boost from two large mining investment projects amount averaging 10.6 per cent of GDP between 2005 and 2013. Non-mining private investment averaged 5.3 per cent of GDP between 2010 and 2013, and domestically-financed public investment averaged only 0.6 per cent of GDP.

8 International Monetary Fund (IMF), Republic of Madagascar 2017 Article IV Consultation, IMF Country Report No. 17/223, July 2017. 9 World Bank, Madagascar Economic Update: coping with shocks, October 2017, http://documents.worldbank.org/curated/en/141661509458497360/pdf/120761-WP-PUBLIC-36p-MadEUUpdateENG.pdf. 10 “Dutch disease” arises when an economy develops a strong comparative advantage in a sector that employs a limited amount of labour. As other sectors become relatively uncompetitive, their growth and employment demand falters. “Dutch disease” notoriously characterizes economies with large oil, gas, and mining sectors. 11 The World Bank Group, Madagascar Systematic Country Diagnostic, August 25, 2015, http://documents.worldbank.org/curated/en/743291468188936832/pdf/99197-CAS-P151721-IDA-SecM2015-0168-IFC- SAecM2015-0123-Box393189B-OUO-9.pdf. 12 Ibidem. 13 International Monetary Fund (IMF), Republic of Madagascar Economic Development Document, IMF Country Report No. 17/225, July 2017. 14 World Bank, Madagascar Economic Update: coping with shocks, October 2017.

Poverty Approximately 77.8 per cent of the population lives below the World Bank’s international poverty line of US$1.90 purchasing power parity (PPP) per day (in 2011 PPP)15, which is among the highest poverty ratios in the world.. Around 80 per cent of the population lives in rural areas, and rural poverty rates are more than two times as high as urban rates.16 Poverty and social indicators have progressed poorly: The United Nations Development Programme found that, based on the latest data available (2008/2009), about 70 per cent of the population is multi-dimensionally poor, with an additional 11.7 per cent living near multi-dimensional poverty. Madagascar appears to have fallen short of reaching the Millennium Development Goals (MDG) in 2015.

Recent macroeconomic developments

Table 2-1 presents selected macroeconomic indicators:

Table 2-1 Madagascar: Selected macroeconomic indicators, 2011-2016

2011 2012 2013 2014 2015 2016 Gross domestic product* 8,706.7 8,969.8 9,172.8 9,477.4 9,764.8 10,165.19 Growth rate (%) 1.4 3.0 2.3 3.3 3.0 4.1 Per-capita: Gross domestic product (US$)** 401.6 402.3 400.1 402.1 402.9 408.14 Growth rate (%) -1.4 0.2 -0.6 0.5 0.2 1.3 Non-government consumption** 336.3 330.4 330.5 314.9 304.0 294.1*** Growth rate -4.1 -1.7 0.0 -4.7 -3.5 -3.2 Per cent of GDP: Gross fixed capital formation 17.5 17.6 15.9 15.6 16.6 19.4*** Central-government fiscal surplus 0.0 0.0 -2.0 -2.4 -3.7 -1.9 Merchandise-trade surplus -7.1 -7.6 -5.9 -2.0 -2.0 -11.5*** Growth rate: Consumer prices (December) 6.9 6.4 6.3 6.0 7.6 6.3 Exchange rate (December) 1.3 5.4 -0.9 15.5 23.8 4.5 Growth rate: Population (millions) 2.8 2.8 2.8 2.8 2.8 2.8 Population under 15 (millions) 2.1 2.0 2.0 2.0 2.0 2.0 Population under 19 (millions) 2.4 2.3 2.2 2.1 2.0 2.0 Source: IMF International Financial Statistics, http://data.imf.org/?sk=4C514D48-B6BA-49ED-8AB9-52B0C1A0179B (Gross Domestic Product, Consumer Price Index, Exchange Rate, Gross fixed capital formation, Non-government consumption, merchandise trade); The World Bank Data, World Development Indicators, https://data.worldbank.org/products/wdi (population); Ministry of Finance and Budget, Opérations Globales du Trésor (OGT) années 2013-2016, http://www.tresorpublic.mg/?page_id=214&content=temp&type=ogt (Central Government fiscal surplus), retrieved May 2017. * US$ million at 2015 prices and exchange rate. ** US$ at 2015 prices and exchange rate. ***Projections made using IMF March 2017 report or previous year share.

15 World Bank, Poverty headcount ratio at $1.90 a day (2011 PPP), (% of the population), https://data.worldbank.org/topic/poverty?locations=MG. 16 World Bank Group, Shifting fortunes and enduring poverty in Madagascar: recent findings, June 2016, http://documents.worldbank.org/curated/en/413071489776943644/pdf/113582-v2-FINAL-PUBLIC-7817-Madagascar- Poverty-Report.pdf.

Real GDP growth Recent real-GDP growth rates have been relatively low, although they have risen from 1.4 per cent in 2011 to 4.1 per cent in 2016. The 2012-2016 growth rates have been on the same order of magnitude as the population growth rate, so per-capita real GDP rose by an average annual rate of just 0.3 per cent between 2011 and 2016. A rise in per capita GDP tends to reflect an increase in productivity, or increased average output per person, which has not been the case in Madagascar. As such, neither the economic performance of the country nor individual standards of living have been significantly improved.

Figure 2-1 Madagascar: real GDP growth 5%

0% 2011 2012 2013 2014 2015 2016 2017

-1%

-2%

Real Gross Domestic Product (% growth rate) Real Gross Domestic Product per capita (% growth rate)

Source: IMF World Economic Outlook Database, October 2016, http://www.imf.org/external/pubs/ft/weo/2016/02/weodata/index.aspx, retrieved September 2017.

International trade (and its consequences for the fiscal accounts) Mining and agricultural exports account for about 48 per cent of total merchandise export value. In 2015, exports totalled US$2.5 billion, having grown at an average annual rate of 14.7 per cent from 2010. Merchandise imports are also exposed to price fluctuation, since refined petroleum amounts to 14 per cent of total merchandise imports. Madagascar’s trade deficit diminished from 7.1 and 7.6 per cent of GDP in 2011 and 2012 to about 2 per cent in 2016, largely because of high vanilla export prices and lower oil import prices (and despite low nickel prices). Despite this, the IMF has projected the current account deficit to increase again in 2017 and years after (stabilizing around 5 per cent).17 Madagascar’s exposure to price volatility is an important source of instability and uncertainty (see Figure 2-2).

17 IMF, Republic of Madagascar 2017 Article IV Consultation, July 2017.

Figure 2-2 Madagascar: Exports (value, share of total) 2013-2015 average

Others Raw Nickel 27% 23%

Cobalt 4% Animal products Vanilla 4% 11%

Textiles 25% Cloves 6%

Source: author’s own calculations based on data retrieved from Atlas of Economic Complexity MIT, https://atlas.media.mit.edu/en/19, retrieved September 2017.

Figure 2-3 Madagascar: Imports (value, share of total) 2013-2015 average

Oil 14% Chemical products others 8% 38%

Textiles 15%

Machines 15% Metals 5% Foodstuffs 5%

Source: author’s own calculations based on data retrieved from Atlas of Economic Complexity MIT, https://atlas.media.mit.edu/en/21, retrieved September 2017.

Madagascar’s exposure to export-price volatility contributes to the difficulty of managing the fiscal accounts. Volatile export performance affects GDP, which affects the revenue accounts. Volatile export performance also affects the exchange rate, which in turn affects trade-dependent revenue flows. Even the oil price affects the fiscal accounts, since customs revenues depend in part on the value of oil imports.

18 The Atlas of Economic Complexity data from the MIT is collected by customs offices, therefore it includes only goods and not services. This is an important drawback, as services are becoming a rising share of international trade. 19 The Atlas of Economic Complexity data from the MIT is collected by customs offices, therefore it includes only goods and not services. This is an important drawback, as services are becoming a rising share of international trade. 20 The Atlas of Economic Complexity data from the MIT is collected by customs offices, therefore it includes only goods and not services. This is an important drawback, as services are becoming a rising share of international trade. 21 The Atlas of Economic Complexity data from the MIT is collected by customs offices, therefore it includes only goods and not services. This is an important drawback, as services are becoming a rising share of international trade.

Figure 2-4 World vanilla and nickel price fluctuations 1990-2016 500 40,000 35,000 400 30,000 300 25,000 20,000

200 15,000 EUR /KG EUR 10,000 100 5,000

0 0 US $ PER METRIC TON $ US METRIC PER

Vanilla Euro per kg Non-energy, Industrial Input, Metals, Nickel, Price, US Dollars per Metric Ton, Rate

Source: Emiko Terazono, Vanilla price reaches record high after Madagascar cyclone, Financial Times, 24 April 2017, https://www.ft.com/content/e0e2fc16-28db-11e7-bc4b-5528796fe35c, (vanilla price); IMF International Financial Statistics, http://data.imf.org/?sk=4C514D48-B6BA-49ED-8AB9-52B0C1A0179B (nickel price), retrieved September 2017.

External and internal debt Madagascar has a relatively modest external-debt stock, and appears to be in no danger of slipping into distress. Madagascar was a beneficiary of the Multilateral Debt Initiative in the last decade. At the end of 2015, according to the World Bank’s International Debt Statistics, total public and publicly guaranteed external debt amounted to just under 25 per cent of GDP.22 Moreover, this debt is mostly owed to multilateral entities, and that debt is largely concessional. Madagascar may have some additional external debt not captured by the World Bank’s data system, but the amount is probably not large.

Madagascar’s internal debt is also relatively modest. It stood at just 12.6 per cent of GDP at the end of 2015, having risen from 7.3 per cent of GDP at the end of 2008. The nation’s financial markets are relatively undeveloped, however, so any significant increase in internal debt could produce crowding-out problems, including diminished credit availability for the private sector and sharply increased interest rates.

Although Madagascar’s public debt is still relatively low as a percentage of GDP, the authorities feel they must be careful to limit its growth, as discussed in Section 2.3 below. The fiscal consequences of the increase of the public debt have been amplified by the exchange-rate depreciation. At the end of 2015, 80 per cent of the external debt was owed to multilateral creditors on highly concessional terms, especially the World Bank and the African Development Bank.

Inflation and exchange rate Inflation has remained around 6-7 per cent in recent years, a moderate rate although above international levels and the sub-Saharan African average – Madagascar’s inflation stood at 6.7 per cent in 2016 against a sub-Saharan African average of 5.5 per cent.23 The inflation rate was high enough that it had some effect on the exchange rate.

The Central Bank of Madagascar officially maintains a flexible exchange rate, although it has often intervened to smooth large exchange-rate fluctuations and to meet foreign reserve targets.

22 The World Bank, International Debt Statistics, country tables: Madagascar, http://datatopics.worldbank.org/debt/ids/country/MDG. 23 The World Bank, Inflation, consumer price (annual %), sub-Saharan Africa, https://data.worldbank.org/indicator/FP.CPI.TOTL.ZG?locations=ZG.

According to the IMF, the exchange rate followed a pre-determined path until September 2015, but has since then been floating freely. This resulted in an official exchange rate depreciation of the Malagasy Ariary by 10 per cent against the US dollar.24

Figure 2-5 National currency (Ariarys) per USD Jan 2010- Jul 2107 4,000

3,000

2,000

1,000

11 10 12 13 14 15 16 17

10 10 11 11 12 12 13 13 14 14 15 15 16 16 17 17

------

jul jul jul jul jul jul jul jul

jan jan jan jan jan jan jan jan

apr apr apr apr apr apr apr apr

Oct 2016 Oct Oct 2011Oct 2012Oct 2013Oct 2014Oct 2015Oct Oct 2010Oct Source: IMF International Financial Statistics, http://data.imf.org/?sk=4C514D48-B6BA-49ED-8AB9-52B0C1A0179B, retrieved September 2017.

The falling nickel price produced some exchange-rate depreciation pressure (nickel constitutes 23 per cent of total merchandise exports) since 2014. The rising vanilla price (vanilla constitutes approximately 10 per cent of merchandise exports) was apparently insufficient to offset the depreciation pressure resulting from lower nickel prices.

Recent fiscal performance

Government financial performance As noted in Section 2.1 above, Madagascar’s volatile export performance affects the fiscal accounts, and complicates fiscal-policy management.

The central government’s fiscal deficit ranged between 2 and 4.5 per cent of GDP over the years 2013-2016. Since the government’s revenue depends directly and indirectly on the export sector, the external price variability translates into revenue variability.

Revenue performance Tax and non-tax revenue rose from 10.1 per cent of GDP in 2014 to 10.4 of GDP in 2015, and is estimated to have reached 11.8 per cent in 2016.25 This is a low revenue-GDP ratio by almost any standard. Given the small size of the GDP, this means the government’s revenue inflow is relatively limited, which affects its ability to meet the needs of its population in general and its children in particular.

24 IMF, Republic of Madagascar 2017 Article IV Consultation, July 2017. 25 World Bank, Public finance sustainability and investment development policy financing operation, October 2016, Operation Global du Tresor, MoFB Madagascar, December 2016.

Madagascar’s tax revenue performance is relatively weak. For the years 2013-2016, overall tax and non-tax revenue averaged just 10.9 per cent of GDP, an average of US$43 per capita at 2016 prices and exchange rate. The tax and non-tax revenue covered about 75 per cent of total expenditures. Customs and other external-trade levies averaged 5.1 per cent of GDP, almost half (46.7 per cent) of the total revenue flow. Revenue from income taxes, which almost entirely exist of revenue from company taxes, averaged 2.2. per cent of GDP, and contributed about 20 per cent to the total tax and non-tax revenue. The income from value-added tax (VAT) is on average 2 per cent of GDP, and added 18 per cent to the total tax and non-tax revenue. The low contribution of VAT income to Madagascar’s revenue inflow is mainly due to the weak tax administration (internal VAT collection efficiency is only about 10 per cent), as the VAT rate is high (20 per cent). Non-tax revenue, including mining royalties, averaged just 0.3 per cent of GDP, or 2.8 per cent of the total tax and non-tax revenue.

Strengthening Madagascar’s revenue mobilization is thus a key priority. Any longer-term growth strategy must incorporate a credible tax-administration development program, as well as measures to increase non-tax revenue. The IMF has found that once countries cross a tax-to-GDP threshold of around 12.75 per cent, real GDP per capita tends to increase in a strong, sustained manner over the following decade.26 The Government’s goal improving the tax-to-GDP ratio by 0.5 per cent a year is thus welcomed and the IMF reported in its latest Article IV review encouraging success could be observed.27 The mining sector appears to offer some potential for increased royalty revenue, especially on new projects.

Current expenditure performance Madagascar’s government current expenditure has risen as a percentage of GDP, from 10.7 per cent of GDP in 2013 to about 11.5 per cent of GDP in 2016. Non-interest current expenditure has risen from 10.2 per cent to 10.6 per cent, while interest payments have risen from 0.5 to 0.9 per cent. Priority expenditure fluctuated between 2.6 and 2.8 per cent of GDP between 2013 and 2016, while current expenditure in non-priority sectors was 7.6 per cent of GDP in 2013 and 2014, rose to 8.4 per cent in 2015, and declined to 7.8 per cent in 2016. Priority expenditure made up about 25 per cent of total current expenditure.

Capital expenditure performance Overall capital expenditure has risen from 3.1 per cent of GDP in 2013 to 5.2 per cent of GDP in 2016. Execution rates in the period 2013-2015 were particularly low, connected to lower levels of donor funding.

State enterprises The precarious financial situation of the state enterprises, especially the national water and electricity company Jiro sy rano malagasy (JIRAMA) and the national airline Air Madagascar, affects the government budget mainly because the government covers their operating losses. These companies are taking steps to reduce losses, including restructuring and possible

26 IMF, Republic of Madagascar 2017 Article IV Consultation, July 2017. 27 Ibidem.

recapitalization.28 Nevertheless, for 2017 the IMF estimates that JIRAMA could require additional transfers amounting to 0.5 per cent of GDP.29

External support Between 2009 and 2013, in response to political developments, Madagascar’s development partners significantly reduced financing flows, as shown in Figure 2-6. This forced the government to borrow from internal sources to finance budget deficits, leading to an increase in domestic debt from 7.3 per cent of GDP in 2008 to 12.6 per cent at the end of 2015. Now that the government is re-engaging with international donor community, external financing has become available once again.

While projects grants resumed after 2013, budget-support grants remained at a low level: projects grants averaged 1.7 per cent of GDP over 2013-2016, while budget-support grants averaged just 0.4 per cent. Budget-support grants have remained low for the same reasons they have in many developing economies: recipient governments have found it difficult to satisfy their conditionality, and donor governments have increasingly encountered political opposition in their own countries. In addition, donor governments have increasingly preferred to provide grants to entities outside the governments.

Figure 2-6 Net official development assistance received (constant 2014 US$ million)

1,200

1,000

800

600

400

200

- 2007 2008 2009 2010 2011 2012 2013 2014 2015

Source: The World Bank Data, World Development Indicators, https://data.worldbank.org/indicator/DT.ODA.ODAT.CD?locations=MG, retrieved September 2017. Converted into constant 2014 US$ million by the author.

According to OECD data, about 39 per cent of the bilateral Official Development Assistance (ODA) for 2014-15 was spent on education (17 per cent), health (16 per cent) and other social infrastructure and development (6 per cent).30

In July 2016, the IMF approved an External Credit Facility worth of US$304.7 million to reinforce macroeconomic stability and boost growth.31 Recent figures show total public debt projected at 41

28 International Monetary Fund (IMF), Republic of Madagascar: Request for an arrangement under the extended credit facility; first review under the staff monitored program – Debt Sustainability Analysis, 13 July 2016. 29 International Monetary Fund (IMF), IMF Staff Completes Mission to Madagascar for 2017 Article IV and First ECF Review, Press Release no.17/96, March 2017. 30 OECD, Aid at a glance, Recipient country: Madagascar, https://public.tableau.com/views/OECDDACAidataglancebyrecipient_new/Recipients?:embed=y&:display_count=yes&:sho wTabs=y&:toolbar=no?&:showVizHome=no. 31 International Monetary Fund (IMF), IMF Executive Board Approves US$304.7 million Extended Credit Facility Arrangement for Madagascar, Press Release No. 16/370, 28 July 2016.

per cent of GDP for the end of 2016, with a slight reduction in domestic debt to 11.4 per cent of GDP at the end of 2016.

Government debt (external, internal) As noted in Section 2.1 above, the public debt remains relatively small as a percentage of GDP, and is not generally believed to pose a significant threat of distress in the near term. Nevertheless, the combination of low GDP growth, especially when considering GDP growth per-capita (see section 2.2.1), and a continuing government deficit, together with the standing volatility of the government’s finances, implies that there is some danger that the government debt could grow rapidly in coming years. The authorities would want to avoid this, because the country’s financial, markets are limited in scope: increasing the banking system’s holdings of government debt outstanding could drive up interest rates and crowd out the commercial private sector. Higher interest rates would also drive the government’s own interest charges higher, and increase the government’s deficit.

Prospects Forecasts for growth rates for the medium term are generally positive, despite the many challenges the country faces. The IMF estimates that in 2016, real growth reached 4.1 per cent and observers anticipate that the growth rate will gradually rise to 5.0 per cent by 2021.32 Government estimates presented in the Cadre Macro-Budgétaire de Moyen Terme (CMBMT) annexed at the Budget Law for 2017 are more positive and forecast a growth rate at 5.0 per cent already in 2019.33 These forecasts already take into account possible negative effects of natural disasters, but obviously, costs of climate change could be higher. Madagascar can be hit hard by natural disasters, not only because the incidence of such disasters is relatively high, but also because its high levels of poverty and dependence on rain-fed agriculture increase its vulnerability. While Madagascar, together with Development Partners, is working to implement adaptation and mitigation strategies, future growth is likely to be impacted by climate change and natural disasters.

Growth will help improve the revenue flow, especially if accompanied by improved revenue administration. However, the situation of the state-owned enterprises, the damage caused by drought and cyclones, and political instability remain long-term problems.

Madagascar’s small manufacturing sector has grown slowly, partly because it depends on the performance of the primary sectors. Madagascar does have the potential to export manufactured goods to southern African economies, but must maintain price competitiveness to do so.

Other sectors seem offer higher growth potential, but the uncertainties affecting the economy matter for these sectors. One example of such a sector is tourism, particularly tourism based on the country’s unique ecological characteristics. This is widely believed to have significant potential, but Madagascar’s remote location in combination with limited access to roads and travel connections remains an obstacle to large-scale tourism. Moreover, tourism is affected by political uncertainties.

32 World Bank, Public finance sustainability and investment development policy financing operation, October 2016. 33 Ministry of Finance and Budget, Loi de Finances, 2017, Tome 3, Annexe.

3 Priority expenditure trends and policy challenges

Priority-expenditure composition and recent evolution

Madagascar’s structural fragility, related to a complex set of social and political factors, has resulted in little economic development and a slow and much-interrupted real-GDP growth rate. As a result, Madagascar remains one of the poorest countries in the world and has seen little improvement in poverty rates or social indicators.34 Various research papers show poverty is especially endemic in more rural and remote areas.35 Public spending on health and education is lower than in other sub- Saharan African countries, and insufficient to address the challenges in these sectors.36

Priority-expenditure components For Madagascar, “priority expenditure” is taken to encompass all expenditure in the institutional categories of education; health; water, sanitation and hygiene (WASH); social protection; and nutrition. It would be preferable to carry out the analysis with functional rather than institutional categories. Since expenditure data are unavailable in functional categories for Madagascar, the institutional categories are used as “proxies” for the functional categories.

Figure 3-1 shows the composition of the priority expenditure. Almost 70 per cent of priority expenditure was allocated to the education sector, and almost the entire remainder went to the health category. Social-protection expenditure increased from 1.3 to 3.4 per cent of the total.

Figure 3-1 Madagascar: Priority expenditure composition (%) 100.0% 90.0% 80.0% 70.0% 60.0% 50.0% 40.0% 30.0% 20.0% 10.0% 0.0% 2013 2014 2015 2016 Nutrition 1.0% 3.0% 1.4% 0.6% Water 0.9% 5.0% 3.3% 3.8% Social-Protection 1.3% 1.4% 3.2% 3.4% Health 26.6% 26.5% 25.2% 22.4% Education 70.1% 64.2% 66.9% 69.7%

Education Health Social-Protection Water Nutrition

Source: Author’s own graph and calculations based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General) (Budget Programme_CODIFICATION BUDGETAIRE 2013 à 2017) and Budget d’execution (FID; ONN) 2014-2017, excel sheets received from Direction de la Synthèse Budgétaire (DSB) Ministère des Finances et du

34 Razafindrakoto et.al., The Puzzle of Structural Fragility in Madagascar: A Political Economy Approach, January 2015. 35 World Bank Group, Shifting fortunes and enduring poverty in Madagascar: recent findings, June 2016. 36 IMF, Republic of Madagascar 2017 Article IV Consultation, July 2017.

Budget in May 2017 and August 2017. See section 1.4 Data Limitiations in chapter 1, and table A-1 Budget categories for the definition of priority expenditure in Appendix 1, for the selection of specific categories that constitute priority spending.

Total priority expenditure makes up about 20 per cent of the budget: increasing from 19.4 per cent in 2013 to 21.6 per cent in 2016. This increase was mainly due to increases in the education sector – e.g. the relative share of health shows a decline (Figure 3-2).

Figure 3-2 Madagascar: priority expenditure composition as a percentage of total Government expenditure (%) 25.0%

20.0%

15.0%

10.0%

5.0%

0.0% 2013 2014 2015 2016 Nutrition 0.2% 0.6% 0.3% 0.1% Water 0.2% 1.0% 0.6% 0.8% Social-Protection 0.3% 0.3% 0.6% 0.7% Health 5.2% 5.5% 5.0% 4.9% Education 13.6% 13.4% 13.2% 15.1%

Education Health Social-Protection Water Nutrition

Source: Author’s own graph and calculations based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General) and Budget d’execution (FID; ONN) 2014-2017, excel sheets received from DSB in May 2017 and August 2017.

In terms of GDP, Madagascar spends not more than 4 per cent on the priority sectors (Figure 3-3).

Figure 3-3 Madagascar: Priority expenditure (Per cent of GDP) 4.00%

3.50%

3.00%

2.50%

2.00%

1.50%

1.00%

0.50%

0.00% 2013 2014 2015 2016 Nutrition 0.03% 0.09% 0.04% 0.02% Water 0.03% 0.15% 0.10% 0.14% Social-Protection 0.04% 0.04% 0.10% 0.12% Health 0.71% 0.82% 0.76% 0.81% Education 1.88% 1.99% 2.01% 2.51%

Education Health Social-Protection Water Nutrition

Recent evolution of priority expenditure Figure 3-4 shows the recent evolution of priority expenditure. Over 2013-2016, Madagascar’s priority expenditure has risen from 2.7 per cent of GDP in 2013 to 3.6 per cent in 2016, as compared to an increase of non-priority expenditure from 10.6 per cent of GDP to 12.2 per cent of GDP. Priority expenditure remained about 20.5 per cent of total (non-interest) expenditure – it made up 19.4 per cent of total expenditure in 2013, rose to 20.8 per cent in 2014, then dropped to 19.7 per cent in 2015, and finally 21.6 per cent in 2016.

Figure 3-4 Priority Expenditure as percentage of total expenditure 22.0%

21.5%

21.0%

20.5%

20.0%

19.5%

19.0%

18.5%

18.0% 2013 2014 2015 2016

Table 3-1 shows that priority expenditure was low but growing when measured in per-child U.S. dollars at 2016 prices. In sum: total priority expenditure grew in per-child real terms from US$25.33

in 2013 to US$35.57 in 2016, and grew as a percentage of GDP from 2.7 per cent in 2013 to 3.6 per cent in 2016.

Table 3-1 Madagascar: priority expenditure and fiscal space Year 2013 2014 2015 2016 Overall fiscal space (Per cent of GDP): -2.7 -3.1 -3.0 -3.6 Tax and non-tax revenue (excl. external grants) (+) 10.8 10.3 10.8 11.9 External grants (+) 1.3 2.3 1.5 3.5 Total non-priority non-interest expenditure (-) -10.6 -11.2 -11.5 -12.2 External-debt disbursements (+) 1.3 1.7 2.6 1.3 External debt service (-) -0.4 -0.7 -0.6 -0.9

Net internal financial flows (incl. internal interest) (+) 0.4 0.7 0.2 0.1

Per-child expenditure (US$ at 2015 prices and exchange rate): Total priority non-interest expenditure: 25.33 29.65 29.02 35.57 Total education expenditure 17.76 19.03 19.41 24.79 Total health expenditure 6.74 7.85 7.32 7.98 Total social-protection expenditure 0.33 0.41 0.92 1.22 Total WASH expenditure 0.24 1.48 0.95 1.35 Total nutrition expenditure 0.27 0.88 0.42 0.23 Source: Author’s own calculations based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General) and Budget d’execution (FID; ONN) 2014-2017, excel sheets received from DSB in May 2017 and August 2017; IMF International Financial Statistics, http://data.imf.org/?sk=4C514D48-B6BA-49ED-8AB9-52B0C1A0179B, retrieved September 2017.

Comparison to international benchmarks Countries and international organizations have tried to formulate certain international benchmarks, targets or floors with regard to social sector spending. These benchmarks provide some guidance to countries on what would be appropriate to spend on various social sectors. Below, Madagascar is compared to some of these benchmarks, as well as to some other countries with a higher income. It should be emphasised global benchmarks for social sector spending can be seen as guidelines, but are not adequate in themselves.37 There are many country-specifics, which should be taken into account to determine the appropriate amount of funding to be spent. In addition, the quality of services cannot be expressed by spending levels. A country that spends more on education does not necessarily obtain better results in this sector than a country that spends less on education. Efficiency and effectiveness of spending greatly influence its impact. Therefore, one should always look beyond the monetary numbers, to actual performance.

UNESCO has set two benchmarks for spending on education.38 Governments should spend between 15 per cent and 20 per cent of their national budgets on education (countries furthest from the targets will need to aim for the higher end of this range), and low and lower middle income countries, in particular, should spend at least 3.4 per cent of GDP on pre-primary, primary and lower secondary education or 5.4 per cent of GDP across all education levels. Figure 3-5 shows Madagascar is well below the GDP benchmark, and used to be below the minimum education expenditure level as a share of total budget – but in 2016, it managed to reach 15 per cent spending on education as a share of total expenditure.

37 International Budget Partnership, Do we need sectoral budget targets? Yes, er no, er, well its complicated, 10 February 2011, https://www.internationalbudget.org/2011/02/do-we-need-sectoral-budget-targets-yes-er-no-er-well-its-complicated/. 38 United Nations Educational, Scientific and Cultural Organization (UNESCO), Education for All Global Monitoring Report, Policy Brief, http://unesdoc.unesco.org/images/0023/002326/232654E.pdf.

Figure 3-5 Madagascar’s education expenditure against international benchmarks 16.0%

14.0%

12.0%

10.0%

8.0%

6.0%

4.0%

2.0%

0.0% 2013 2014 2015 2016

Education expenditure Madagascar (% of total expenditure) International benchmark (% of total expenditure) Education expenditure Madagascar (% of GDP) International benchmark (% of GDP)

Source: Author’s own graph based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General) and Budget d’execution (FID; ONN) 2014-2017, excel sheets received from DSB in May 2017 and August 2017; IMF International Financial Statistics, http://data.imf.org/?sk=4C514D48-B6BA-49ED-8AB9-52B0C1A0179B, retrieved September 2017. Note: The definition of ‘education expenditure’ is determined by the authors of this report. Table A-1 Budget categories for the definition of priority expenditure in Appendix 1, shows the budget categories that constitute ‘education expenditure’.

In the Abuja Declaration on HIV/AIDS, Tuberculosis and other Related Infectious Diseases, African Union countries set a target of allocating at least 15 per cent of their annual budget to the health sector.39 In addition, research points at a spending target of 5 per cent of GDP on health.40 Figure 3-6 demonstrates Madagascar is far below both international benchmarks. Health spending fluctuates around 10 per cent of total expenditure, and is below 5 per cent in terms of share of GDP.

39 Abuja Declaration, http://www.un.org/ga/aids/pdf/abuja_declaration.pdf. 40 Di McIntyre and Filip Meheus, Fiscal Space for Domestic Funding of Health and other Social Services. Chatham House Center on Global Health Security Working Group Papers, March 2014, https://www.chathamhouse.org/sites/files/chathamhouse/home/chatham/public_html/sites/default/files/20140300Domestic FundingHealthMcIntyreMeheus.pdf.

Figure 3-6 Madagascar’s health expenditure against international benchmarks 16.0%

14.0%

12.0%

10.0%

8.0%

6.0%

4.0%

2.0%

0.0% FY12/13 FY13/14 FY14/15 FY15/16 FY16/17

Health expenditure Madagascar International benchmark (% of total expenditure) Health expenditure Madagascar (% of GDP) International benchmark (% of GDP)

Source: Author’s own graph based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General) and Budget d’execution (FID; ONN) 2014-2017, excel sheets received from DSB in May 2017 and August 2017; IMF International Financial Statistics, http://data.imf.org/?sk=4C514D48-B6BA-49ED-8AB9-52B0C1A0179B, retrieved September 2017. Note: The definition of ‘health expenditure’ is determined by the authors of this report. Table A-1 Budget categories for the definition of priority expenditure in Appendix 1, shows the budget categories that constitute ‘health expenditure’.

Social Protection is to a large extent dependent on the country context. Still, some international benchmarks have been set. In 2008 at the African Union (AU) Windhoek Conference, African governments committed to a basic Social Protection Floor, the cost of which was determined at 4.5 per cent of GDP. In addition, the International Labour Organization (ILO) and others have estimated the level of government spending needed to provide basic social protection at between 2.9 per cent and 5.2 per cent of GDP. 41 These levels are quite ambitious – a World Bank study42 found that low- income and middle-income countries realistically spent respectively 1.5 and 1.6 per cent of GDP on social safety nets. However, Madagascar’s spending on social protection is, with an average of 0.07 per cent of GDP between 2013 and 2016, far below these numbers.

With regard to WASH, a target of 0.5 or 1 per cent of GDP could be used. This is based on two components. First, the commitment made at the 2008 African Union eThekwini meeting by several African Ministers of Health and/or Water, to spend 0.5 per cent of GDP on sanitation and hygiene. Second, a 1 per cent benchmark suggested by the 2006 Human Development Report for low income countries to be spend on water supply and sanitation together.43 Madagascar’s spending of 0.1 per cent of GDP is below these targets.

41 Government Spending Watch, Financing the Sustainable Development Goals: lessons from government spending on the MDGs, 2015 Report, http://www.governmentspendingwatch.org/images/pdfs/GSW_2015_Report/Financing-Sustainable- Development-Goals-Report-2015.pdf. 42 World Bank Group, The State of Social Safety Nets 2015, http://documents.worldbank.org/curated/en/415491467994645020/pdf/97882-PUB-REVISED-Box393232B-PUBLIC- DOCDATE-6-29-2015-DOI-10-1596978-1-4648-0543-1-EPI-1464805431.pdf. 43 Government Spending Watch, Financing the Sustainable Development Goals, 2015 Report; UNDP, Human Development Report 2006, Beyond scarcity: Power, poverty and the global water crisis, 2006, http://hdr.undp.org/sites/default/files/reports/267/hdr06-complete.pdf.

Sectoral issues in priority expenditure

Education Madagascar’s education system remains unable to provide education for all children, and appears to do a poor job of preparing school children for the labour market. Madagascar’s structural fragility and low level of economic development have affected the resources, which have been spent on education. Parents generally had to contribute to the cost of their children’s education, even in public schools.

The economic crisis that began in 2009 has seriously undermined results obtained by Madagascar in the education sector during the preceding decade. In that period, incentive programs such “Education for All “, abolition of school fees, provision of school kits and school canteen in areas of high food insecurity significantly contributed to increase primary school enrolment. In more recent years, however, the pace of improvement slowed and in some ways reversed, especially in rural zones and in the southern regions, where the share of children that have never attended school has increased.44 Moreover, learning outcome assessments show a slow decline in student performance. The causes include lack of proper learning materials (outdated and few books) and a decline in the share of civil-servant teachers, as opposed to community teachers who are more likely to be undertrained and underqualified.45 Addressing these issues would require additional spending in staff salaries and goods consumption.

As Figure 3-7 shows, real education expenditure has not increased over the past three years, averaging US$190 million at 2016 prices, with the exception of a spike in development expenditures in 2016. Development expenditure in education has risen over the three years, reaching a maximum of 57 US$ billion in 2016, one third of which was externally financed. Staff expenditure has ranged between 75 and 85 per cent of the total education expenditure. It is difficult to gauge the exact percentage, since the data does not fully include the transfers to community teachers who are now an important share of the total (roughly 70 per cent in primary schools).46 World Bank estimates show that salary cost constitutes 90 per cent of total public spending on education.47

44 World Bank, Madagascar Public Expenditure Review Education, 24 June 2015, http://documents.worldbank.org/curated/en/271911468185343596/pdf/98186-REVISED-PUBLIC-Mada-PER-Education- Background-paper.pdf. 45 Ibidem. 46 Salaries to community teachers are included in the non-staff expenditure. World Bank, Madagascar Public Expenditure Review Education, June 2015. 47 Ibidem.

Figure 3-7 Education expenditure (US$ million at 2016 prices and exchange rate) $300

$250

$200

$150

$100

$50

$- 2013 2014 2015 2016

Non-recurrent education expenditure Other non-staff recurrent education expenditure Recurrent education expenditure on goods and services Recurrent expenditure on education staff

Source: Author’s own graph based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General), excel sheet received from DSB in May 2017. Note: The definition of ‘education expenditure’ is determined by the authors of this report. Table A-1 Budget categories for the definition of priority expenditure in Appendix 1, shows the budget categories that constitute ‘education expenditure’.

Figure 3-8 Funding of education development expenditure 100%

90%

80%

70%

60%

50%

40% % of financing of % 30%

20%

10%

0% 2013 2014 2015 2016

external internal

Health Government allocations to the health and nutrition systems underwent an especially sharp decline in real terms since the 2009 crisis. According to the World Bank, the health system is now simply failing most of the population, especially the poor.

Since the start of the political and economic crisis in 2009, progress on key health indicators has faltered or even gone into reverse (Madagascar failed to achieve the MDGs). Maternal mortality

ratios also have remained relatively high and unchanging over the last ten years48.The infant mortality rate however halved in the last ten years, and now stands at 34 infant deaths per 1,000 live births.49 DTP3 immunization coverage is 93 per cent according to official country estimates, although the World Health Organization and UNICEF estimate coverage is 77 per cent.50

Figure 3-9 shows the economic breakdown of health expenditure. Staff expenditure was between 60 and 75 per cent of total health expenditure over 2013-2016. Development capital formation has increased, and constituting one fourth of total health expenditure in 2015. Development expenditure is for about 50 per cent externally funded (figure 3-10).

Figure 3-9 Health expenditure (US$ million at 2016 prices and exchange rate) $90 $80 $70 $60 $50 $40 $30 $20 $10 $- 2013 2014 2015 2016

Non-recurrent health expenditure Other non-staff recurrent health expenditure (not available in 2013/2014/2015) Recurrent health expenditure on goods and services Recurrent expenditure on health staff

Source: Author’s own graph based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General), excel sheet received from DSB in May 2017. Note: The definition of ‘health expenditure’ is determined by the authors of this report. Table A-1 Budget categories for the definition of priority expenditure in Appendix 1, shows the budget categories that constitute ‘health expenditure’.

48 Government of Madagascar, World Bank, UNICEF, Madagascar 2014 Public Expenditure Review Education and Health, http://documents.worldbank.org/curated/en/298131467999684470/pdf/98183-REVISED-PUBLIC-Policy-Note-Mada-PER- English.pdf. 49 The World Bank, Mortality rate, infant (per 1,000 live births), https://data.worldbank.org/indicator/SP.DYN.IMRT.IN?locations=MG. 50 Gavi The Vaccine Alliance, Country hub, Madagascar, http://www.gavi.org/country/madagascar/.

Figure 3-10 Funding of health development expenditure 100%

90%

80%

70%

60%

50%

40%

30%

20%

10%

0% 2014 2015 2016

external internal

Source: Author’s own graph based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General), excel sheet received from DSB in May 2017. Note: The definition of ‘health expenditure’ is determined by the authors of this report. Table A-1 Budget categories for the definition of priority expenditure in Appendix 1, shows the budget categories that constitute ‘health expenditure’.

Nutrition Malnutrition, including chronic malnutrition, is widespread in Madagascar. About 47 per cent of children under five are estimated to suffer from chronic malnutrition, while 9 per cent suffer from “acute” malnutrition.51 The main causes for malnutrition are poor maternal nutrition, inadequate infant and young child feeding practices, insufficient access to food (both in terms of quality and quantity), and recurrent illness associated with poor access to quality health services.52 These are exacerbated by food insecurity, poor hygiene and sanitation, and lack of access to social services for the most deprived segment of population. In 1995, recognizing the need to encourage better nutrition practices, the Government set up a national nutrition office under the Prime Minister’s office and initiated a community-based nutrition Program (PNNC). Despite the recognized success and achievements of this initiative in fighting malnutrition, Madagascar’s accomplishments in this area were reversed in the years following the 2009 political crisis. To improve the state of the country's human capital, the national development plan has set a goal of reducing stunting among children from its current 47 per cent rate to 32 per cent by 2019.

Figure 3-11 shows this budget’s relatively small size and its fluctuations.

51 UNICEF, Madagascar Nutrition Investment Case, 2017, https://www.unicef.org/madagascar/eng/GRAND-RAPPORT-PEN- ENG-64pages-10juillet2017-Web-version.pdf. 52 Republic of Madagascar, Conference des Bailleurs et Investisseurs: Documents sectoriels, March 2016.

Figure 3-11 Nutrition expenditure composition (US$ million at 2016 prices and exchange rate) 9.00

8.00

7.00

6.00

5.00

4.00

3.00

2.00

1.00

- 2012 2013 2014 2015 2016

Primature Agriculture Elevage Finance Fisheries

Source: Author’s own graph based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General) and Budget d’execution (FID; ONN) 2014-2017, excel sheets received from DSB in May 2017 and August 2017. Note: The definition of ‘nutrition expenditure’ is determined by the authors of this report. Table A-1 Budget categories for the definition of priority expenditure in Appendix 1, shows the budget categories that constitute ‘nutrition expenditure’.

Social protection Madagascar ranks 151th out of 187 countries in the Human Development Index53, according to latest data, the headcount poverty gap index indicates that 77.8 per cent of the total population survives on less than US$ 1.90 per day. The Ministry of Social Protection and Women has primary responsibility for coordination, monitoring and evaluation of government social-protection policy. The ministry’s declared objectives are reduction of social exclusion, reduction of the population’s vulnerability, encouraging access to basic social services, promotion of gender equality and promotion of human rights. For the purposes of this study, social protection expenditure has been calculated as the sum of the ministry of social protection budget and the FID funds related to social protection. As Figure 3-12 shows, its total spending increased from 3.1 US$ million in 2013 to 12.2 US$ million in 2016, thanks to the contribution of FID funds.

53 United Nations Development Programme (UNDP), Human Development Reports, Madagascar, http://hdr.undp.org/en/countries/profiles/MDG.

Figure 3-12 Social protection expenditure (US$ million at 2016 prices and exchange rate) 14

0 2013 2014 2015 2016

Ministry of Social Protection FID

Source: Author’s own graph based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General) and Budget d’execution (FID; ONN) 2014-2017, excel sheets received from DSB in May 2017 and August 2017. Note: The definition of ‘social protection expenditure’ is determined by the authors of this report. Table A-1 Budget categories for the definition of priority expenditure in Appendix 1, shows the budget categories that constitute ‘social protection expenditure’.

Water, sanitation and hygiene (WASH) Madagascar’s water, sanitation and hygiene indicators rank fourth from the bottom in the world. Only half of the population in the country has access to proper water supply, and many people die from diarrhoea and other water-borne illnesses. This is partly the consequence of the lack of WASH facilities in schools: only 18 per cent of schools have access to water and 56 per cent have sanitation facilities. The water-supply coverage rate was 40 per cent in 2014 (63 per cent urban and 38 per cent rural), although it rose to 43 per cent in 2015 (52 per cent urban and 40 per cent rural). Only 12 per cent of the population has access to improved modern sanitation facilities and more than 40 per cent of the population practices open defecation.54 The budget of the responsible ministry, the Ministry of Water, Sanitation and Hygiene, is plainly inadequate.55 This is partly the consequence of the political crisis that started in 2009, which reduced external grants and loans.56 The Ministry has called for further investment.

Given the lack of available functional data, total WASH expenditure in water is taken to be the spending relevant ministry’s expenditure.57 This amounted to an average of US$13 million over 2013- 2016, consisting mostly of development expenditure.

54 Republic of Madagascar, Conference des Bailleurs et Investisseurs: Documents sectoriels, March 2016. 55 This Ministry has been merged with the Ministry of Energy, and is now called Ministre de l’Eau, de l’Energie et des Hydrocarbures. 56 Ministry of Water, Sanitation and Hygiene, Investing in wash in Madagascar: the business case, July 2016, https://www.unicef.org/madagascar/eng/Business_Case_-_Investing_in_WASH-final-July_2016_archive_copy.pdf. 57 Which is the Ministry of Water, Sanitation and Hygiene (Ministere de l' eau, de l'assainissement et de l'hygiene).

Figure 3-13 WASH expenditure58 (US$ million at 2016 prices and exchange rate) 16

0 2013 2014 2015 2016

Recurrent staff WASH expenditure Recurrent non-staff WASH expenditure devolpment WASH expenditure (external) development WASH expenditure (internal)

Source: Author’s own graph based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General), excel sheet received from DSB in May 2017. Note: The definition of ‘WASH expenditure’ is determined by the authors of this report. Table A-1 Budget categories for the definition of priority expenditure in Appendix 1, shows the budget categories that constitute ‘WASH expenditure’.

Figure 3-14 Funding of WASH development expenditure 100%

90%

80%

70%

60%

50%

40%

30%

20%

10%

0% 2014 2015 2016

external internal

Source: Author’s own graph based on data from the Ministry of Finance and Budget, Execution Budgetaire 2013 à 2016 (Budget General), excel sheet received from DSB in May 2017. Note: The definition of ‘WASH expenditure’ is determined by the authors of this report. Table A-1 Budget categories for the definition of priority expenditure in Appendix 1, shows the budget categories that constitute ‘WASH expenditure’.

58 Total expenditure in 2013 is small because of very low execution rate for development expenditure in that year.

4 The base scenario

This chapter describes the base-scenario projection exercise. That is what would happen in the projection period (2016-2021) if we assume “business as usual”. That is, expecting the macroeconomic and fiscal variables will develop the same manner as the years before – a so-called “neutral, non-controversial” scenario. Section 4.1 describes the base-scenario assumptions, and Section 4.2 describes the projection results.

Base scenario assumptions

The projection analysis is carried out first with a “base scenario”, a straightforward and non- controversial set of assumptions covering the years 2016-2021. This scenario is based on some key assumptions such as the growth rates of the GDP, the exchange rate, and the population from which further assumptions depend.59 Table A-2 in Appendix 1 lists the base-scenario assumptions and provides brief explanations for them. Key assumptions in the base scenario include the following:

Table 4-1 Key assumptions in the base scenario Growth rates 2016 2017 2018 2019 2020 2021 Real GDP 4.1 4.3 4.5 4.7 4.9 5 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5

The growth rate of the exchange rate (national currency per US$) would be equal to the differential of the Madagascar and international (US$) inflation rates. Table A-3 in Appendix 1 lists the numerical values of the base-scenario assumptions.

Base-scenario projection results

Table 4-2 presents some of the key projection results for the years 2017-2021, based on the base scenario assumptions:

59 Thus, for example, certain variables are assumed to grow at the same rate as the nominal GDP – that is, they are assumed to grow at the “combined” rates of real GDP and the GDP deflator.

Table 4-2 Madagascar: Key projection results for the base scenario 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 21.73 22.07 22.40 22.93 23.49

Per cent of GDP 3.57 3.54 3.51 3.44 3.39

Per child in USD at 2016 exchange rate and prices 35.13 35.82 36.50 36.87 37.38

Net internal financing gap (fiscal gap)

Per cent of total expenditure 2.40 3.89 4.69 2.96 1.12

Per cent of GDP 0.40 0.62 0.73 0.44 0.16

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.36 -1.89 -1.51 -0.87 -0.35

Under the base-scenario assumptions, priority expenditure would rise gradually as a percentage of total expenditure and in per-child real terms, although it would decline as a percentage of GDP.60 In the case of Madagascar, the combined effect of all the other components of the government budget would be such that the net internal-financing flow – the fiscal gap – would decline over time as a percentage of GDP.

The base scenario thus means that Madagascar can realize a modest increase in its priority expenditure (from US$35.13 per child to US$37.38 per child), without creating a large fiscal gap. In fact, the gap will decrease over the period of time. Spending this amount of money on the priority sectors would enable the government to reduce its total external and internal debt from an estimated 41.5 per cent of GDP at the end of 2016 to 33.65 per cent of GDP at the end of 2021 (as shown in Table 4-2). The government deficit would diminish from 1.9 per cent of GDP in 2016 to 0.3 per cent in 2021. The net internal borrowing flow would decrease from 0.4 per cent of GDP in 2016 to 0.16 per cent in 2021 (as shown in Table 4-3).

Table 4-3 Results for the other elements of the fiscal account Results Scenario 0

Average tax and non-tax revenue/GDP, 2017-2021 11.90

Average priority expenditure/GDP, 2017-2021 3.49

Average priority expenditure per child (USD at 2015 prices & exchange rate), 2017-2021 36.34

Net internal debt flow/GDP, 2017-2021 0.47

Total government debt/GDP, 2021 33.65

Average fiscal deficit/GDP, 2017-2021 -1.40

This favourable result, however, would be mainly the consequence of Madagascar’s very low expenditure on social-sectors programs. In other words, in a base scenario of “business-as-usual”, priority expenditure would increase, but in absolute terms, expenditure would be still far from sufficient to address Madagascar’s needs. .

If Madagascar’s expenditure on education and health were higher, all other things being the same, either the government’s deficit and net internal financing flow would be higher, or its revenue (or aid) flows would need to be higher. To create additional fiscal space – which could then even lead

60 The basic reason it would decline as a percentage of GDP is that real priority expenditure would rise at about the same rate as population, while the real-GDP growth rate would exceed the real population growth rate.

to higher priority expenditure as compared to the base scenario – the next section investigates alternative scenarios.61

Table A-4 in Appendix 1 shows the full projection results, based on the base-scenario assumptions.

61 Under the projection methodology, net internal financing is always taken to be the “residual account,” calculated for each year to ensure that the accounting identity is satisfied. As such, it is the indicator of each year’s the “fiscal gap.” If the user believes that any specific year’s financing gap would be covered, in fact, with an increase in some other account, she should rerun the projection with an assumption for that increase.

5 Alternative scenarios

The projection exercise is set up to carry out sensitivity analysis. The procedure consists of calculating projections based on alternative scenarios. The assumptions of each alternative scenario are the same as those of the base scenario except that one or two assumption lines are changed. Comparison of each alternative scenario with the base scenario would indicate the order- of-magnitude consequences for the fiscal accounts of the changed assumptions, given the exercise’s other assumptions.

It is important to emphasize that the purpose of presenting alternative scenarios is to illustrate the use of the projection exercise, to demonstrate how specific changes to assumptions would lead to changed outcomes for the fiscal accounts. There is no sense in which any of these alternatives could be considered recommendations.

The assumptions which have been changed are mentioned in the first table for each scenario -- the table “key assumptions” depicts three key assumptions on GDP, population and consumer price index, and (in bold) the one or two assumptions which have been adjusted to construct this scenario. An overview of all alternative assumptions per scenario can be found in Table A-5 of Appendix 1. The assumptions are set by the analyst, to reflect a possible change and see how that affects fiscal space projections. The scenarios constructed through setting alternative assumptions should be seen as an illustrative exercise.

In this chapter, Section 5.1 describes possible approaches to increase the fiscal space. Section 5.2 describes some illustrative alternative scenarios, and describes how their results compare with those of the base scenario.

Options to increase the fiscal space

In principle, policy-makers have the following general options for enhancing the fiscal space for priority expenditure: (1) increasing tax and non-tax revenue, and possibly earmarking some of this for priority expenditure; (2) reducing spending in priority sectors, possibly by increasing expenditure efficiency; (3) reducing non-priority expenditure; (4) reducing external debt service, presumably through agreements with creditors; (5) increasing external debt disbursements; and (6) increasing net internal borrowing flows.

Apart from government policy choices, changes in the macroeconomic context can affect the fiscal space. For example, increased GDP growth would increase the fiscal space by increasing tax revenue.

Alternative scenarios and projections compared with the base scenario

Alternative Scenario 1: increase of external grants Scenario 1 considers the consequences of a substantial increase of external grants. Under this scenario, external grants for current and non-recurrent expenditure would triple in year 2018, and then return gradually to the 2017 level in year 2021. Table 5-1 shows the key assumptions for this scenario, indicating the alternative assumptions used as compared to the base scenario.

Table 5-1 Key assumptions for Scenario 1 Growth rates 2016 2017 2018 2019 2020 2021 Real GDP 4.1 4.3 4.5 4.7 4.9 5 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5 Alternative assumptions External grants for current expenditure percent of 0.7 0.7 2.2 1.8 1.4 0.7 GDP (per cent of GDP) External grants for capital expenditure (projects) 2.7 1.5 4.5 3.8 3.0 1.5 percent of GDP (per cent of GDP)

With these assumptions, the average 2017-2021 net internal debt flow would be -1.73 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 24.8 per cent of GDP (compared with 33.7 per cent in Scenario 0).

Table 5-2 Key projection results for Scenario 1 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 21.73 22.07 22.75 23.51 24.16

Per cent of GDP 3.57 3.54 3.51 3.44 3.39

Per child in USD at 2016 exchange rate and prices 35.13 35.82 36.50 36.87 37.38

Net internal financing gap (fiscal gap)

Per cent of total expenditure 2.40 -23.82 -18.46 -14.67 -1.71

Per cent of GDP 0.40 -3.82 -2.85 -2.15 -0.24

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.36 2.55 2.07 1.73 0.05

Box A: Improvements from an increase in donor funding Results Scenario 0 Scenario 1 Variation Average tax and non-tax revenue/GDP, 2017-2021 11.90 11.90 = Average priority expenditure/GDP, 2017-2021 3.49 3.49 = Average priority expenditure per child (USD at 2015 36.34 36.34 = prices and exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 -1.73 -2.21 Total government debt/GDP, 2021 33.65 24.82 -8.83 Average Fiscal Deficit, 2017-2021 -1.40 0.81 2.21

It would be possible to set a scenario slightly different from Scenario 1, under which the government received an enhanced inflow of concessional external debt rather than an enhanced inflow of grant assistance. The results would be the same or only slightly different, however.

If the debt is concessional, the government would make no amortization payments until long after 2021. With a concessional interest rate, interest due would be very small, and might even be capitalized into the debt stock until after 2021.

Alternative Scenario 2: enhanced value-added tax administration Madagascar’s tax and non-tax revenue is relatively low as a percentage of GDP, and many observers believe there is scope to increase it. Explicit tax-rate increases are generally viewed as politically unfeasible or economically damaging, but an effort to improve tax administration is more likely to be feasible. Madagascar’s government is already engaged in a program to enhance tax administration, aiming to increase tax revenue by 0.5 per cent of GDP each year until 2020.

Scenario 2 considers the likely consequences for the fiscal-space gap of a realistic improvement in tax administration. Scenario 2 is the same as the base scenario (Scenario 0), except that in Scenario 2 the collection efficiency of the value-added tax (VAT) would rise gradually over 2017- 2021 to a level 10 per cent higher than in 2016 (see Table 5-3 for the specific alternative assumptions).

Table 5-3 Key assumptions in the Scenario 2 Growth rates 2016 2017 2018 2019 2020 2021 Real GDP 4.1 4.3 4.5 4.7 4.9 5 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5 Alternative assumptions Internal value added tax collection efficiency (per 11.0 11.3 11.6 11.8 12.1 12.1 cent) Value added tax on imports collection efficiency 62.1 63.6 65.1 66.7 68.3 68.3 (per cent)

As shown in Table 5-4, this would improve the fiscal deficit, de facto bringing the budget to equilibrium and reduce the financing gap.

Table 5-4 Key projection results for the Scenario 2 2017 2018 2019 2020 2021 Priority expenditure

Per cent of total expenditure 21.73 22.08 22.43 23.00 23.59

Per cent of GDP 3.57 3.54 3.51 3.44 3.39

Per child in USD at 2016 exchange rate and prices 35.13 35.82 36.50 36.87 37.38

Net internal financing gap (fiscal gap)

Per cent of total expenditure 1.49 1.93 1.58 -1.48 -3.59

Per cent of GDP 0.25 0.31 0.25 -0.22 -0.52

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.21 -1.58 -1.02 -0.20 0.33

Box B: Improvements from strengthened VAT administration Results Scenario 0 Scenario 2 Variation

Average tax and non-tax revenue/GDP, 2017-2021 11.90 12.33 0.43

Average priority expenditure/GDP, 2017-2021 3.49 3.49 =

Average priority expenditure per child (USD at 2015 36.34 36.34 = prices & exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 0.01 -0.46

Total government debt/GDP, 2021 33.65 31.66 -1.99

Average Fiscal Deficit, 2017-2021 -1.40 -0.94 0.46

Alternative Scenario 3: increase in mining proceeds Prospects for mining development poses a challenge for any fiscal projection for Madagascar. The country has substantial unexploited deposits of minerals, particularly nickel, and both the government and foreign investors are interested in expanding production. The potential is sufficiently large that, if fully exploited, Madagascar could become a resource-dependent economy according to IMF criteria by 2025, as illustrated in the 2015 World Bank study on economic contributing from industrial mining in Madagascar.62

Nevertheless, mining development is subject to wide-ranging uncertainties. The government’s principal revenue flow from mining is royalties. The government would like to increase these, but it must negotiate them with producing companies. These negotiations are subject to powerful political pressures. Madagascar is now engaged in a reform of its mining code, but this is unlikely to be complete for some years. On top of the uncertainties associated with the royalty regime, there are the uncertainties associated with export prices and with production (including quantities of deposits and assays). Potential exchange-rate volatility adds an additional dimension of uncertainty for the predictability of the government’s revenue flow.

Scenario 3 reverts to the Scenario 0 assumptions, but differs by having mining royalties grow faster than in Scenario 0.63 Mining royalties presumably depend on the value of mining production. The growth rate of the value of mining production is the combined growth rates of its volume and the price. For both Scenario 0 and Scenario 3, the volume of mining production is assumed to grow at a rate projected, on the base of technical industry data by the World Bank64, while the US$ price of mining production is assumed to grow at the same rate as the world US$ price level. For Scenario 0, the elasticity of the revenue flow from mining royalties with respect to the value of mining production is assumed to be one for each projection year. For Scenario 3, however, it is assumed that the basic rules governing mining royalties change in 2018, so that for that specific year the elasticity is three (as compared to 1 in the base scenario, see Table 5-5).

Table 5-5 Key assumptions in Scenario 3 Growth rates 2016 2017 2018 2019 2020 2021 Real GDP 4.1 4.3 4.5 4.7 4.9 5 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5 Alternative assumptions Elasticity of mining-royalty revenue with respect to 1.0 1.0 3.0 1.0 1.0 1.0 the national-currency value of mining output

In Scenario 0, revenue from mining royalties is assumed to grow at an annual average rate equal to 21.8 per cent. Under Scenario 3, however, with the large change in 2018, revenue from mining royalties would grow at an annual average rate approximately equal to 29.9 per cent over the projection years. Under Scenario 3, the average 2017-2021 net internal debt flow would be 0.45 per cent of GDP (just slightly less than 0.47 per cent of GDP in Scenario 0), and the total (external and internal) government debt stock would conclude in 2021 at 33.53 per cent of GDP (just slightly lower than 33.65 per cent of GDP in Scenario 0).

62 Mylène Faure, Olivia Rakotomalala and Remi Pelon, Economic contributions from industrial mining in Madagascar: research summary, World Bank Group, 2015, http://documents.worldbank.org/curated/en/263731468179369566/Economic-contributions-from-industrial-mining-in- Madagascar-research-summary. 63 The base scenario assumes that overall mining production subject to royalties grows at an annual average rate of 15 per cent per year over the projection years. It is important to remember that the annual growth rates will most probably evolve unevenly. The base scenario also assumes that mining-export prices will grow at the same rate as the U.S-dollar world price level. 64 Faure et. al., Economic contributions from industrial mining in Madagascar: research summary, World Bank Group, 2015.

The small effect of the enhanced flow of mining royalties reflects, first, the fact that the change would affect only four of the five projection years, and, second, the reality that Madagascar’s mining royalty revenues are relatively small. Also, royalties are estimated account only for about 40 per cent of the total revenue coming from the mining industry, the rest coming from other taxes.65

Table 5-6 Key projections results for Scenario 3 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 21.73 22.07 22.40 22.93 23.49

Per cent of GDP 3.57 3.54 3.51 3.44 3.39

Per child in USD at 2016 exchange rate and prices 35.13 35.82 36.50 36.87 37.38

Net internal financing gap (fiscal gap)

Per cent of total expenditure 2.40 3.89 4.69 2.56 0.66

Per cent of GDP 0.40 0.62 0.73 0.38 0.09

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.36 -1.89 -1.51 -0.81 -0.28

Box C: Improvements from an increase in mining revenues Results Scenario 0 Scenario 3 Variation

Average tax and non-tax revenue/GDP, 2017-2021 11.90 11.93 0.02

Average priority expenditure/GDP, 2017-2021 3.49 3.49 =

Average priority expenditure per child (USD at 2015 36.34 36.34 = prices & exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 0.45 -0.03

Total government debt/GDP, 2021 33.65 33.53 -0.12

Average Fiscal Deficit, 2017-2021 -1.40 -1.37 0.03

Alternative Scenario 4: higher (or lower) GDP growth The projection exercise could be used in a straightforward way to evaluate the consequences of a higher or lower real-GDP growth rate than the base-scenario assumes. The government hopes to set policies to bring about steady annual growth on the order of 4-5 per cent over the medium term. At the same time, however, sluggish growth has been a persisting reality for Madagascar.

Scenario 4 reverts to the Scenario 0 assumptions, but differs in a single way: it is assumed the real-GDP growth rate rises gradually from 4.1 per cent in 2016 to 6 per cent in 2021, rather than 5 per cent as in Scenario 0 (hence, the alternative assumption for this scenario concerns the growth of GDP, and is highlighted in Table 5-7).

Table 5-7 Key assumptions in Scenario 4 Growth rates 2016 2017 2018 2019 2020 2021 Real GDP 4.1 4.5 5.0 5.5 6.0 6.0 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5

65 Faure et. al., Economic contributions from industrial mining in Madagascar: research summary, World Bank Group, 2015.

With this assumption, the average 2017-2021 net internal debt flow would be 0.42 per cent of GDP (compared with 0.47 per cent of a smaller GDP in Scenario 0), and the total (external and internal) government debt stock would conclude at 32.53 per cent of GDP in 2012 (compared with 33.65 per cent of a smaller GDP in Scenario 0). Per-child real priority expenditure at 2016 prices and exchange rate would average US$36.69 over 2017-2021, US$0.35 higher than in Scenario 0. The reason is that, since non-recurrent priority expenditure is assumed to be the same percentage of GDP as in Scenario 0, the higher GDP growth rate would lift it higher in real terms than in Scenario 0.

Table 5-8 Key projection results from Scenario 4 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 21.73 22.07 22.42 22.97 23.55

Per cent of GDP 3.57 3.54 3.50 3.43 3.37

Per child in USD at 2016 exchange rate and prices 35.13 35.86 36.73 37.44 38.27

Net internal financing gap (fiscal gap)

Per cent of total expenditure 2.40 3.84 4.44 2.36 0.27

Per cent of GDP 0.40 0.62 0.69 0.35 0.04

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.36 -1.89 -1.47 -0.79 -0.24

BOX D: Increase in the annual growth rate over the period Results Scenario 0 Scenario 4 Variation

Average tax and non-tax revenue/GDP, 2017- 11.90 11.90 0.00 2021 Average priority expenditure/GDP, 2017-2021 3.49 3.48 -0.01

Average priority expenditure per child (USD at 36.34 36.69 0.35 2015 prices & exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 0.42 -0.05

Total government debt/GDP, 2021 33.65 32.53 -1.12

Average Fiscal Deficit, 2017-2021 -1.40 -1.35 0.05

Alternative Scenario 5: increased current expenditure in child-relevant sectors The economic crisis that began in 2009 has reversed the good results Madagascar secured in the education sector during the first decade of the century. Learning-outcome assessments indicate that student performance has slowly declined. Causes apparently include lack of proper learning materials (outdated and few books) and a decline in the number of civil-servant teachers relative to community teachers, who are less likely to be fully trained and qualified.66

The crisis also appears to have reversed progress in health indicators, including Madagascar’s failure to achieve the MDGs in 2015. As noted in Section 3.2 above, the incidence of chronic malnutrition among children under five is among the world’s highest, and maternal mortality has remained high over the last ten years67. Madagascar would have to increase staff and capital formation in the relevant sectors to improve education and health outcomes.

66 World Bank, Madagascar public expenditure review education, June 2015. 67 Government of Madagascar, World Bank, UNICEF, Madagascar 2014 Public Expenditure Review Education and Health.

Scenario 5 considers an increase in recurrent education expenditure in line with the Plan Sectoriel de l’Education (PSE). This would lead to a 4.9 per cent annual average growth rate of education staff. In addition, the growth rate of health staff and the expenditure in social protection, water and nutrition68 would grow at a rate 1.5 times higher than in the base scenario. Assuming a higher growth rate of education staff, along with a higher growth of social protection, water and nutrition staff, a growth in priority expenditure in terms of GDP is projected (from 3.6 per cent to 3.7 per cent, in contrast to the base scenario, which projects a decrease from 3.6 per cent to 3.4 per cent).

Table 5-9 Key assumptions in Scenario 5 Growth rates 2016 2017 2018 2019 2020 2021 Real GDP 4.1 4.3 4.5 4.7 4.9 5 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5 Alternative assumption Total Priority expenditure 3.6 3.6 3.7 3.7 3.7 3.7

All other things being equal, this would produce a modest increase in the fiscal-space gap. The net internal debt flow would average 0.68 per cent of GDP over the projection period, compared with 0.47 per cent in Scenario 0. The total government debt would conclude 2021 at 34.58 per cent of GDP, higher than 33.65 per cent in Scenario 0.

Table 5-10 Key projections results for Scenario 5 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 22.05 22.71 23.37 24.23 25.14

Per cent of GDP 3.64 3.68 3.71 3.71 3.71

Per child in USD at 2016 exchange rate and prices 35.80 37.18 38.59 39.69 40.98

Net internal financing gap (fiscal gap)

Per cent of total expenditure 2.80 4.71 5.96 4.76 3.49

Per cent of GDP 0.46 0.76 0.95 0.73 0.52

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.43 -2.03 -1.72 -1.15 -0.70

Box E: Increased health and education expenditure (staff) Results Scenario 0 Scenario 5 Variation

Average tax and non-tax revenue/GDP, 11.90 11.90 = 2017-2021 Average priority expenditure/GDP, 2017-2021 3.49 3.69 0.20

Average priority expenditure per child (USD at 36.34 38.45 2.11 2015 prices & exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 0.68 0.21

Total government debt/GDP, 2021 33.65 34.58 0.92

Average Fiscal Deficit, 2017-2021 -1.40 -1.61 -0.21

68 Nutrition expenditure will increase as expected by the Investment plan for the part related to the PNNC in: Madagascar Republic, Conferences des Bailleurs et investisseurs: Documents sectoriels, March 2016.

Alternative Scenario 6: increased current and non-recurrent expenditure in child-relevant sectors Scenario 6 combines the assumptions of Scenario 5 with an increase of non-recurrent education expenditure in line with the PSE (1 per cent of GDP), while the non-recurrent health expenditure increases 1.5 times the assumption of the base scenario. Assuming both growth in staff and growth in non-recurrent expenditure, this scenario projects a total priority expenditure of 4.1 per cent of GDP in 2021 (compared to 3.4 per cent of GDP in the base scenario).

Table 5-11 Key assumptions in Scenario 6 Growth rates 2016 2017 2018 2019 2020 2021 Real GDP 4.1 4.3 4.5 4.7 4.9 5 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5 Alternative assumptions Total Priority expenditure 3.6 4.2 4.1 4.4 4.4 4.1 Total Priority non-recurrent expenditure 0.8 1.4 1.2 1.5 1.5 1.2

With this additional increase in priority expenditure, the average 2017-2021 net internal debt flow would reach 1.28 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 37.01 per cent of GDP (compared with 33.65 per cent in Scenario 0).

Table 5-12 Key projection results for Scenario 6 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 24.64 24.50 26.43 27.33 26.92

Per cent of GDP 4.21 4.07 4.39 4.39 4.11

Per child in USD at 2016 exchange rate and prices 41.36 41.17 45.67 46.98 45.34

Net internal financing gap (fiscal gap)

Per cent of total expenditure 6.03 7.18 10.11 9.25 6.57

Per cent of GDP 1.03 1.19 1.68 1.49 1.00

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.99 -2.46 -2.45 -1.91 -1.19

BOX F: Increased health and education expenditure (staff and development) Results Scenario 0 Scenario 6 Variation

Average tax and non-tax revenue/GDP, 11.90 11.90 = 2017-2021 Average priority expenditure/GDP, 2017-2021 3.49 4.23 0.74

Average priority expenditure per child (USD at 36.34 44.10 7.77 2015 prices & exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 1.28 0.81

Total government debt/GDP, 2021 33.65 37.01 3.36

Average Fiscal Deficit, 2017-2021 -1.40 -2.20 -0.81

Alternative Scenario 7: combined Scenarios 2 and 5 Scenario 7 combines Scenarios 2 and 5, so that additional resources collected from improved tax administration would be used to fund the increase in priority expenditure as projected by scenario 5. This scenario explores the sustainability of funding an increase in priority expenditures, in this case in education, through Madagascar’s own revenue base.

Table 5-13 Key assumptions in Scenario 7 Growth rates 2016 2017 2018 2019 2020 2021 Real GDP 4.1 4.3 4.5 4.7 4.9 5 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5 Alternative assumptions Internal value added tax collection efficiency 11.0 11.3 11.6 11.8 12.1 12.1 Value added tax on imports collection efficiency 62.1 63.6 65.1 66.7 68.3 68.3 Total Priority expenditure 3.6 3.6 3.7 3.7 3.7 3.7

The net internal debt flow would average 0.22 per cent of GDP over the projection period, compared with 0.47 per cent in Scenario 0. The total government debt would conclude 2021 at 32.58 per cent of GDP, compared with 33.65 per cent in Scenario 0. With the specific assumptions chosen for the exercise, the additional revenue deriving from improved administration would fund a significant increase in real priority expenditure per child while offsetting its negative effect on the net internal debt flow and hence internal debt accumulation.

Table 5-14 Key projections results for Scenario 7 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 22.05 22.73 23.40 24.30 25.24

Per cent of GDP 3.64 3.68 3.71 3.71 3.71

Per child in USD at 2016 exchange rate and prices 35.80 37.18 38.59 39.69 40.98

Net internal financing gap (fiscal gap)

Per cent of total expenditure 1.90 2.77 2.90 0.41 -1.10

Per cent of GDP 0.31 0.45 0.46 0.06 -0.16

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.28 -1.72 -1.23 -0.48 -0.02

BOX G: Improved tax administration and growth in recurrent and non-recurrent education and health expenditure Results Scenario 0 Scenario 7 Variation

Average tax and non-tax revenue/GDP, 2017- 11.90 12.33 0.43 2021 Average priority expenditure/GDP, 2017-2021 3.49 3.69 0.20

Average priority expenditure per child (USD at 36.34 38.45 2.11 2015 prices & exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 0.22 -0.25

Total government debt/GDP, 2021 33.65 32.58 -1.07

Average Fiscal Deficit, 2017-2021 -1.40 -1.15 0.25

Alternative Scenario 8: favourable election consequences for growth Scenarios 8 and 9 consider two different possibilities for Madagascar’s economy beginning in 2019, following the elections (scheduled for end-2018). A favourable election sequence would presumably lead to higher growth and allow the donors to engage more deeply with the country, thus increasing development assistance.

In Scenario 8, the real-GDP growth rate would rise gradually from 4.1 per cent in 2016 to 6 per cent in 2021, rather than 5 per cent in Scenario 0. In addition, starting from 2019, external grants for recurrent and development expenditure would be 1.2 times higher the base-scenario amounts. This scenario thus assumes a higher GDP growth, and an increase of external grants.

Results show a positive effect on the fiscal deficit and the financing gap, which are both reduced.

Table 5-15 Key assumptions in Scenario 8 Growth rates 2016 2017 2018 2019 2020 2021 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5 Alternative assumptions Real GDP 4.1 4.5 5.0 5.5 6.0 6.0 External grants for current expenditure percent of 0.7 0.7 0.7 0.9 0.9 0.9 GDP External grants for capital expenditure (projects) 2.7 1.5 1.5 1.8 1.8 1.8 percent of GDP

Table 5-16 Key projections results for Scenario 8 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 21.73 22.07 22.42 23.00 23.61

Per cent of GDP 3.57 3.54 3.50 3.43 3.37

Per child in USD at 2016 exchange rate and prices 35.13 35.86 36.73 37.44 38.27

Net internal financing gap (fiscal gap)

Per cent of total expenditure 2.40 3.84 1.59 -0.76 -3.11

Per cent of GDP 0.40 0.62 0.25 -0.11 -0.44

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.36 -1.89 -1.03 -0.32 0.24

BOX H: Higher growth following end-2018 elections Results Scenario 0 Scenario 8 Variation

Average tax and non-tax revenue/GDP, 2017- 11.90 11.90 0.00 2021 Average priority expenditure/GDP, 2017-2021 3.49 3.48 -0.01

Average priority expenditure per child (USD at 36.34 36.69 0.35 2015 prices and exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 0.14 -0.33

Total government debt/GDP, 2021 33.65 31.28 -2.37

Average Fiscal Deficit, 2017-2021 -1.40 -1.07 0.32

Alternative Scenario 9: lower GDP growth Madagascar is prone to natural disasters and vulnerable to the effects of climate change. While these risks are incorporated in growth projections for Madagascar, it is possible a major event would severely impact Madagascar’s economic growth in the coming five years. In addition, political unrest, notably after the elections end-2018, could lead to a lower growth of GDP. This scenario thus projects the consequences of a lower GDP growth, as well as lower external grants.

In Scenario 9, the real-GDP growth rate would decline gradually from 4.1 per cent in 2016 to 2.5 per cent in 2021, instead of 5 per cent in Scenario 0. In addition, starting from 2019, external grants for recurrent and development expenditure would be 0.5 times lower than the base-scenario amounts. This scenario thus assumes a lower-than-expected GDP growth and a decrease in development aid (see Table 5-17).

The effects would lead to a lower average priority expenditure per child (US$35.02 instead of US$36.34 projected in the base scenario), as well as an increase in debt-GDP levels. The average internal financing gap would increase to 1.4 (compared to 0.47 in the base scenario).

Table 5-17 Key assumptions in Scenario 9 Growth rates 2016 2017 2018 2019 2020 2021 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5 Alternative assumptions Real GDP 4.1 3.6 3.2 2.8 2.5 2.5 External grants for current expenditure percent of 0.7 0.7 0.7 0.4 0.4 0.4 GDP External grants for capital expenditure (projects) 2.7 1.5 1.5 0.8 0.8 0.8 percent of GDP

Table 5-18 Key projections results for Scenario 9 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 21.71 22.02 22.29 22.69 23.12

Per cent of GDP 3.58 3.56 3.54 3.49 3.44

Per child in USD at 2016 exchange rate and prices 34.90 35.15 35.28 34.99 34.77

Net internal financing gap (fiscal gap)

Per cent of total expenditure 2.69 4.69 13.12 12.64 11.99

Per cent of GDP 0.44 0.76 2.08 1.94 1.78

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.40 -2.01 -2.83 -2.32 -1.91

BOX I: Lower growth following end-2018 elections Results Scenario 0 Scenario 9 Variation

Average tax and non-tax revenue/GDP, 2017- 11.90 11.91 0.01 2021 Average priority expenditure/GDP, 2017-2021 3.49 3.52 0.03

Average priority expenditure per child (USD at 36.34 35.02 -1.32 2015 prices and exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 1.40 0.93

Total government debt/GDP, 2021 33.65 40.71 7.05

Average Fiscal Deficit, 2017-2021 -1.40 -2.30 -0.90

Alternative Scenario 10: increased transfers to state enterprises In recent years, subsidies for Madagascar’s state enterprises, including the national airline and the water-and-electricity enterprises, have accounted for a significant share of overall government expenditure. In 2014, 2015, and 2016 they reached 3.2, 3.3, and 3.5 per cent of GDP respectively. The government has now undertaken a program aiming to reduce and reallocate these subsidies, but its success is by no means assured. It is more likely Madagascar would face a fiscal shock as a result of a failing SoE, which would make an ‘exceptional’ request for funding. The latest IMF report identifies “Larger than anticipated transfers to SoEs (JIRAMA and Air Madagascar)” as a risk, which has high impact and is highly likely to happen.69Therefore, this scenario assesses what such a shock, as result of a failing SoE, would do to the government’s fiscal space.

Scenario 10 reverts to the Scenario 0 assumptions, but differs by having a different growth rate for the flow of subsidies to state enterprises. In Scenario 0 the part of the subsidies classified as non- consumption current expenditure remains at 0.5 per cent of GDP over the entire projection period, the value estimated for 2016. In Scenario 10, however, it rises to 1 per cent of GDP in 2018 and remains at this percentage thereafter.

Table 5-19 Key assumptions in Scenario 10 Growth rates 2016 2017 2018 2019 2020 2021 Real GDP 4.1 4.3 4.5 4.7 4.9 5 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5 Alternative assumption Growth rate of transfers to state enterprises 11.7 12 123 123 123 123

With these assumptions, the average 2017-2021 net internal debt flow would be 0.9 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 35.49 per cent of GDP (compared with 33.65 per cent in Scenario 0).

69 IMF, Republic of Madagascar 2017 Article IV Consultation, July 2017.

Table 5-20 Key projections results for Scenario 10 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 21.73 21.40 21.67 22.12 22.61

Per cent of GDP 3.57 3.54 3.51 3.44 3.39

Per child in USD at 2016 exchange rate and prices 35.13 35.82 36.50 36.87 37.38

Net internal financing gap (fiscal gap)

Per cent of total expenditure 2.40 6.79 7.79 6.37 4.83

Per cent of GDP 0.40 1.12 1.26 0.99 0.72

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.36 -2.39 -2.04 -1.42 -0.91

BOX J: Higher transfers to state enterprises Results Scenario 0 Scenario 10 Variation

Average tax and non-tax revenue/GDP, 2017- 11.90 11.90 = 2021 Average priority expenditure/GDP, 2017-2021 3.49 3.49 =

Average priority expenditure per child (USD at 36.34 36.34 = 2015 prices and exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 0.90 0.43

Total government debt/GDP, 2021 33.65 35.49 1.84

Average Fiscal Deficit, 2017-2021 -1.40 -1.82 -0.43

Alternative Scenario 11: setting floor target for priority expenditure Alternative Scenario 11 works in a somewhat different way from the other alternative scenarios, and requires a somewhat more elaborate explanation. This scenario shows how the projection exercise could be used to consider the consequences of setting “floors” – that is, minimum-programmed expenditure flows – for priority expenditure under a program agreed with the IMF.

The IMF employs a specific definition of “priority social spending”, for which it has set a floor to safeguard a minimum level of allocation. This floor is “set as the sum of the budget allocations in the Loi de Finance to the Ministries of Health, Education, Population and Water, excluding salaries and externally financed investment”.70 Hence, this definition is different from the definition used in this report, which includes salaries, salaries and other categories of expenditures, such as the ONN and the FID. In addition, the IMF sets those floors based on its own assumptions with regard to for example macroeconomic figures.

In sum, both the definition of priority expenditure as well as the underlying assumptions differ and thus, it is not possible to project the effects of IMF spending floors. Alternatively, this scenario sets out a hypothetical spending floor, to present how the consequences of such a floor could be modelled.

The starting point is to suppose that the base scenario’s programming assumptions are part of a fiscal program agreed by the Government with the IMF. Suppose the base scenario was worked out before, any priority-expenditure “floors” are set. Suppose that under the base scenario, the

70 International Monetary Fund (IMF), Republic of Madagascar 2017 Article IV Consultation, IMF Country Report No. 17/223, July 2017.

Government and IMF agreed that the overall government-deficit and net internal-financing flows are to be program targets.

Scenario 11 supposes that the Government and IMF add two additional sets of assumptions to those of the base scenario. The first is priority-expenditure floors: the Government and IMF agree that the growth rates of priority expenditure are to be a specified multiple of the growth rates assumed for the base scenario. The second set of assumptions is that the Government and IMF agree that the growth rates of non-priority expenditure are to be whatever they must to ensure that the overall government-deficit and net internal financing flows would come out to the same base- scenario targets. In other words, the Government and the IMF agree on an increase in priority expenditure, without an increase of the fiscal deficit and net internal financing flows (“the fiscal gap”). This means non-priority expenditure has to be adjusted. The analysis of Scenario 11 therefore consists of setting the changed priority-expenditure growth-rate assumptions and then calculating the reduced non-priority growth-rate assumptions that keep the net internal financing flows the same as in the base scenario. The idea is to examine them to determine whether the reduced non-priority growth rates would be unfeasibly, or unacceptably, low.

Like all scenario assumptions discussed here, the Scenario 11 assumptions are illustrative. The calculation could be carried out for any set of proposed priority-expenditure “floors”. The IMF’s spending floor is based on the budget allocations. In the present calculation, which works with actual expenditures, the assumption is that staff in education and health and expenditure in all other aspects of priority expenditure will grow at rates 1.5 times higher than in the base scenario. With this change, real priority expenditure per child would be 2.8 per cent higher on average than it would be in the base scenario. The change by itself would raise the average net internal financing of 0.10 per cent of GDP.

In the base scenario, the growth rate of non-priority staff would average 2.7 per cent. To restore the average net internal financing flow to 0.47 per cent of GDP, calculation (using Excel’s “goal-seek” iteration procedure) shows that the average growth rate of non-priority staff would have to decline from 2.7 to 1.2 per cent. This reduced growth rate, over five years, would be a substantial change from the base scenario, and would presumably have significant consequences for the non-priority sectors. Indeed, the option to allow the targeted average net internal financing flow to rise from 0.47 to 0.57 per cent of GDP might be more attractive than reducing the non-priority expenditure growth rate.

Again, it is important to remember that the numbers discussed here are illustrative. As with the discussion of scenarios generally, the point is to describe a policy-analysis calculation procedure, not to consider a specified policy alternative.

Table 5-21 Key assumptions for Scenario 11 Growth rates 2016 2017 2018 2019 2020 2021 Real GDP 4.1 4.3 4.5 4.7 4.9 5 Consumer price index 6.3 6.1 6 5.9 5.8 5.7 Population growth 2.8 2.8 2.7 2.6 2.6 2.5 Alternative assumptions Growth rate of education staff 2.9 2.9 2.8 2.8 2.7 Growth rate of health staff 4.2 4.1 4.1 3.9 3.8 Growth rate of social protection expenditure 13.9 13.5 13.3 13.0 12.7 Growth rate of water expenditure 20.8 20.2 20.0 19.5 19.0 Growth rate of nutrition expenditure 20.8 20.2 20.0 19.5 19.0 Growth rate of non-priority staff 2.6 2.1 1.8 1.5 1.2

Table 5-22 Key projection results for Scenario 11 2017 2018 2019 2020 2021

Priority expenditure

Per cent of total expenditure 21.91 22.46 23.04 23.81 24.64

Per cent of GDP 3.61 3.61 3.61 3.58 3.55

Per child in USD at 2016 exchange rate and prices 35.47 36.50 37.54 38.26 39.15

Net internal financing gap (fiscal gap)

Per cent of total expenditure 2.52 4.00 4.69 2.90 0.95

Per cent of GDP 0.42 0.64 0.73 0.44 0.14

Fiscal Deficit (surplus/deficit)

Per cent of GDP -2.38 -1.91 -1.51 -0.86 -0.32

BOX K: Set priority expenditure floors Results Scenario 0 Scenario 11 Variation

Average tax and non-tax revenue/GDP, 2017- 11.90 11.90 = 2021 Average priority expenditure/GDP, 2017-2021 3.49 3.59 0.10

Average priority expenditure per child (USD at 36.34 37.38 1.04 2015 prices and exchange rate), 2017-2021 Net internal debt flow/GDP, 2017-2021 0.47 0.47 0.00 (=)

Total government debt/GDP, 2021 33.65 33.65 -0.01 (=)

Average Fiscal Deficit, 2017-2021 -1.40 -1.40 0.00 (=)

Summary of scenario results The impact of the different scenarios on fiscal space and priority spending are summarised in Table 5-23.

Table 5-23 Scenario results No. Scenario Debt Per child Per cent stock priority increase (2021) expenditure compared to (US$, base average) scenario 0 BASE SCENARIO 33.7 36.34 = INCREASED REVENUE 1 Increase of aid flows 24.8 36.34 = 2 Enhanced VAT administration (10% increase) 31.7 36.34 = 3 Higher growth rate of mining royalties 33.5 36.34 = HIGHER GROWTH 4 Increase in the annual growth rate over the period 32.5 36.69 0.96 INCREASE IN EXPENDITURE 5 Increase in expenditure levels for child-friendly sector 34.6 38.45 5.81 (staff and other recurrent expenditure), education expenditure in line with the PSE. 6 Increase in expenditure levels for child-friendly sector 37.0 44.10 21.37 (staff and investment), education expenditure in line with the PSE.

No. Scenario Debt Per child Per cent stock priority increase (2021) expenditure compared to (US$, base average) scenario 7 Increase in expenditure levels for child-friendly sector 32.6 38.45 5.81 (staff and other recurrent expenditure) + Enhanced VAT administration (10% increase) ELECTORAL OUTCOME 8 Positive electoral outcome 31.3 36.69 0.96 9 Negative electoral outcome 40.7 35.02 -3.63 OTHER SCENARIOS 10 Increasing Transfers to SOE 35.5 36.34 = 11 IMF program "benchmarks" 33.6 37.38 2.88

The base scenario found that Madagascar could realize a small increase in its per child priority expenditure, and at the same time reduce the financing gap: average per child priority expenditure would be US$36.34 and the debt stock would stand at 33.7 per cent in 2021 This positive result is linked to the low level of spending and growth in expenditure levels in priority sectors. In other words, in a base scenario of “business-as-usual”, priority expenditure would increase, but in absolute terms, expenditure would be still far from sufficient to address Madagascar’s needs. To increase priority expenditure further than the projected increase in the base scenario, either the government’s deficit and net internal financing flow would be higher, or its own revenue (or aid) flows would need to be higher.

The projection exercise has produced illustrative results that show alternative means of creating enhanced fiscal space that can be used to finance priority spending.

The first three scenarios (1, 2, 3) show how increase of aid flows, enhanced VAT administration and higher growth rate of mining royalties can have a positive effect on the debt stock – under these assumptions, increase of aid flows would significantly lower the debt stock, whereas a higher growth rate of mining royalties would have a smaller effect.

Results of Scenario 4 show how economic growth might have a positive influence on both debt stock and priority expenditure – if Madagascar manages to achieve higher growth than expected, it could lead to lower debt levels and increase priority expenditure per child with US$0.96 compared to the base scenario.

Scenario 5 and 6 project an increase in priority expenditure, based on the Government’s policy plans. Notably increasing investment levels (scenario 6) would have a negative effect on the government’s fiscal position – as it would increase debt stock to 37 per cent. Scenario 7 shows how the projected increase in priority expenditure of scenario 5 (i.e. increase of staff) could be funded by higher VAT collection efficiency (as projected in scenario 2).

Scenarios 8 and 9 illustrate how the elections of 2018 could affect fiscal space and priority expenditure. Scenario 8 assumes the election process will take place without political turmoil, which would lead to higher-than-anticipated economic growth and higher inflows of external grants. This would decrease government debt stock as well as increase priority expenditure per child by US$0.96. However, should political tension increase, affecting economic growth and external aid, this could lead to an increase of debt stock as well as a decrease of per child priority expenditure.

Scenario 10 projects the effects of increasing transfers to SoEs – which could increase debt stock to 35.5 compared to 33.7 per cent in the base scenario. Scenario 11 shows the same results in debt as the base scenario, but an increase of US$2.88 per cent in priority expenditure – which could be realized by the mean of reducing the expense of non-priority expenditure.

The first couple of scenarios show how Madagascar can increase its fiscal space through improvement on the revenue side. However, the subsequent scenarios underscore that fiscal space for priority spending is also subject to a considerable degree of uncertainty from different potential economic growth scenarios.

Other possibilities for enhancing the fiscal space

There are, of course, other possibilities for fiscal-space enhancement besides those mentioned thus far.

Reducing non-priority expenditure Limiting non-priority expenditure presents a complex set of practical issues as a general approach for bringing about sustained enhancement of Madagascar’s fiscal space. It is instructive to compare the approach of improving tax administration. Unlike the approach of reducing non-priority expenditure, improving tax administration is generally politically acceptable; it is generally regarded as technical rather than political; and it can be sustained through multiannual efforts, often with foreign technical support. In contrast, reduction of non-priority expenditure is likely to be politically controversial, and may be difficult to carry out in sustained multiannual efforts. While it would be too much to say that improving tax administration is likely to happen steadily and that reducing non- priority expenditure is likely to be continually difficult, it is probable that UNICEF would find it the government more likely to favour improved tax administration over reducing non-priority expenditure.

There are several additional considerations. One is that a large proportion of non-priority expenditure is, in fact, essential for children’s welfare. For example, in general investments in infrastructure and electricity would indirectly enhance children’s well-being, as some of those investments would most likely add to upgrading of living conditions and access to services. In any case, those type of expenditures are likely to enhance economic growth, which, in turn, would enhance tax revenue and the fiscal space.

Reducing external-debt service through agreements with creditors While external-debt service reduction would, in principle, augment the fiscal space, this is not a realistic possibility. Since the mid-2000s, with the conclusion of the cycle of debt reduction that began with the Heavily Indebted Poor Countries initiative in the late 1990s and continued through the Multilateral Debt Relief Initiative in the 2000s, the international financial community has generally been unwilling to consider debt reduction. In any case, Madagascar’s external debt service remains small as a percentage of GDP.

Increasing external-debt disbursements In general, macroeconomic policy specialists concur that it is inadvisable to use commercial external debt to fund education, health, or social-protection expenditure. The reasoning is straightforward: eventual returns to education and health expenditure are realized over decades,

but debt service on commercial external debt is generally due within a decade. Concessional debt, with multi-decade terms and near-zero interest rate, would be more realistic for such purposes. Madagascar does have some scope to increase such borrowing. If applied in well-conceived education and health projects, such borrowing could enhance the fiscal space significantly.

Increasing net internal borrowing flows In the projection exercise, net internal borrowing is calculated residually. In effect, it is the consequence of all the programming assumptions taken together. Evaluation of its feasibility therefore amounts to evaluation of the feasibility of all the programming assumptions taken together. In principle, if it is inadvisable to fund priority expenditure with non-concessional external debt, it is more inadvisable to use internal debt, which tends to be characterized by higher interest rates and shorter maturities.

Madagascar’s net internal financing flow averaged about 1.3 per cent of GDP over the 2013-2016 period. Given the economy’s (nominal) GDP growth, this caused Madagascar’s internal debt to rise over those years from about 7.9 to about 11.1 per cent of GDP. To prevent internal debt from rising further, policy-makers are likely to take steps across the full fiscal-space range to reduce the internal-debt flow in coming years. For this reason alone, they would be unlikely to issue internal debt specifically to increase the fiscal space.

Reducing illicit financing flows While not included in the model, another (unquantifiable) option to free up resources is to improve capturing illicit financial flows. Illicit financial flows (IFFs) are illegal movements of money or capital from one country to another. The latest report of Global Financial Integrity (GFI) has investigated these IFFs, using two sources: (1) deliberate misinvoicing in merchandise trade (the source of GFI’s low and high estimates), and (2) leakages in the balance of payments (also known as “hot money flows”).71 The GFI report provides low estimates, which are based on trade between Madagascar and advanced economies only; and high estimates, which also take into account trade between developing countries. Naturally, measurements of illicit financial flows are identified indirectly and hence data on IFFs is imprecise. Figure 5-3 illustrates estimates an uneven trend of IFFs, which does result in US millions of leakages each year.

71 Global Financial Integrity (GFI), Illicit Financial Flows to and from Developing Countries: 2005-2014, April 2017, http://www.gfintegrity.org/wp-content/uploads/2017/05/GFI-IFF-Report-2017_final.pdf.

Figure 5-1 Madagascar Illicit Financial Flows 2005-2014 (in US$ millions) 2,000

1,800

1,600

1,400

1,200

1,000

800 Millions US dollar US Millions 600

400

200

0 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 Total Illicit Financial Flows (low) Total Illicit Financial Flows (high)

Source: Global Financial Integrity, Madagascar, http://www.gfintegrity.org/issues/data-by-country/, retrieved February 2018.

Figure 5-4 demonstrates illicit financial inflows and outflows as percentage of total trade. Illicit financial outflows are estimated at 4.8 to 10.3 per cent of Madagascar’s total merchandise trade, and inflows at 1.8 to 3.6 per cent of Madagascar’s total trade. Whereas illicit inflows in Madagascar are well below the average in the region, its illicit outflows – notably the high estimates, which include illicit flows between developing countries – are close to the sub-Sahara African average.

Figure 5-2 Illicit Financial Flows, 2005-2014 average (as percentage of total trade)

16%

14%

12% 10.3% 10%

6% 4.8%

Percengate of total trade of totalPercengate 4% 3.6%

1.8% 2%

0% Outflows (low) Outflows (high) Inflows (low) Inflows (high) Madagascar Sub-Saharan Africa Source: Global Financial Integrity, Madagascar, http://www.gfintegrity.org/issues/data-by-country/, retrieved February 2018.

6 Conclusions

This part’s fundamental recommendation is that, in support of its advocacy on behalf of expenditure beneficial for children, UNICEF should continually formulate quantitative projections, and make use of these in its dialogue with the government of Madagascar and other stakeholders. These projections would cover not only future expenditure needs in education, health and other sectors relevant for children, but also the various components of the “fiscal space” that provides the funding for such expenditure. The projection exercise is intended to describe the basic methodological approach recommended for the projection work, and the sensitivity analysis is intended to illustrate some of the ways in which UNICEF could apply the projection work to suggest and evaluate alternative policy approaches. Quantitative projections of this kind should enable UNICEF to engage in more effective dialogue with all stakeholders in the government’s budget.

The best approaches for augmenting the fiscal space for priority expenditure include administrative improvements to enhance revenue collection and capital formation to ensure higher growth (and hence higher revenues). While the economic and political context offers little scope for increasing tax revenue by raising rates or introducing new taxes, there is likely to be more political support for improved tax administration, especially if it is perceived as favouring fairness and equity. Political certainty and institutional stability has a positive effect on economic growth. If the 2018 elections do not lead to significant political unrest, economic growth is likely to benefit, and to this extent the fiscal space will be enlarged. Spending floors could help to make sure additional fiscal space is used to fund priority expenditure, but should be carefully set based on agreed assumptions and conditions with regard to fiscal sustainability.

Enhanced donor support can play a role in increasing the fiscal space, but improved tax- administration and higher growth are more sustainable approaches for the longer term. External grants carried out through the fiscal accounts, which have been increasing in the years following the end of the political crisis in 2013, became more important in some of the priority sectors, especially education, health and nutrition. Several donor programmes are scheduled to end in 2019, and it is quantitatively important that these be replaced. Donors now anticipate maintaining or even increasing their programs, but political certainty could affect their decisions.

The precarious financial conditions of state enterprises have strained the public finances for some time, with negative consequences for the fiscal space. This will continue unless the enterprises can be comprehensively reformed.

Some suggested options for increasing the fiscal space are less advisable to work. In general, non-concessional external debt should not be used to fund education and health expenditure. The basic reason is that the yields from education and health expenditure come only in the long term, beyond the terms typical of non-concessional external debt. The debt service would be paid before the returns are realized. For similar reasons, high-cost internal term debt should not be used to fund education and health expenditure. Non-priority expenditure includes infrastructure development, which is likely to prove crucial for sustaining the growth of real GDP growth and hence revenue. This would help buttress the fiscal space.

In its programming exercises, UNICEF should focus closely on the fiscal space necessary to ensure that priority-sector expenditure programs are adequately funded. In doing so, it must consider several essential points.

First, in carrying out planning activities, it is important to remember that Madagascar’s economy is subject to an especially high amount of uncertainty. Madagascar is a primary producer, and is subject to a high degree of export price variability. In addition, though, its mining production is subject to a wide range of additional uncertainties, including the size and assay of deposits and the instability of the political environment.

Second, while Madagascar needs urgently to reverse the deterioration of its education, health, and nutrition programs, it must be sure to do so in a stable, permanent way. The growth of expenditure in this sector must not run ahead of the growth of resources in the fiscal space. If it does, it is likely to be forced to be reduced, destabilizing the overall effort to have priority expenditure grow steadily and continually. No less important, priority expenditure must not run ahead of the nation’s absorption capacity. Planners must be sure the requisite numbers of teachers and medical professionals are trained and available at the same time they expand the programs that require them. The point is that if Madagascar fails to train the required teachers and fails to train the required health workers, attempts to increase expenditure in these areas will run into staff shortages.

Third, it is essential to remember that anyone who has a stake in the growth of education, health and nutrition investments has a corresponding stake in the growth of the overall economy. For example, when considering the short-term trade-off between priority and non-priority expenditure, it is important to remember that non-priority expenditure includes government capital formation that may be essential to sustain real growth, and that real growth is essential to sustain the revenue flows that constitute a large proportion of the fiscal space.

Presidential elections are scheduled for 2018. Once these take place, it is hoped that the new government will be solidly positioned to lead a sustained development effort. Given the long background of inadequate growth, it is likely that the new government will undertake at least some planning, both to ensure that its own limited resources are effectively allocated, and to indicate the government’s basic development trust to private-sector actors. Under a longer-term development program, Madagascar’s government must ensure that it (1) mobilizes the financial resources necessary for its development effort; its social-sector expenditure; (2) programs steady growth rates of education, health and nutrition expenditure; (3) sets in place urgently needed infrastructure development; and (4) enunciates clear policies for such essential sectors as mining, vanilla-bean production, environmental protection, and tourism.

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Appendix 1: Fiscal space projections

Table A-1: Budget categories for the definition of priority expenditure Institution - Programme Ministry of Education - ALL Total education expenditure Ministry of Health - ALL Total health expenditure Ministry of Work and Welfare (formally ministry of Population) - ALL FID - Social Protection Total social-protection expenditure Ministry of Water - ALL Total water expenditure primature - office national de nutrition (filets sociaux de securite) rpi primature - office national de nutrition (filets sociaux de securite) pip primature - projet d'urgence de securite alimentaire et de protection sociale (pursaps) elevage - developpement des politiques de l'elevage et ses filieres elevage - developpement des femmes rurales par l'amelioration technique elevage vollaile elevage - professionnalisation des acteurs des filieres animales elevage - developpement de la filiere zebu et amelioration des genetiques elevage - developpement filieres animales caprins, ovins et porcins elevage - developpement de l'apiculture - lutte contre la maladie varroa finance - appui d'urgence aux services essentiels en education, sante et de nutrition finance - appui d'urgence aux services essentiels en education, sante et de nutrition peche, ressources halieutiques - projet de gestion de ressource crevettiere peche, ressources halieutiques - south west indian ocean fisheries programme peche, ressources halieutiques - projet de developpement du secteur peche agriculture - appui a la mise en œuvre du pniaep agriculture - bassins verssants et perimetre irrigues (bvpi) agriculture - fonds d'entretien des reseaux hydroagricoles agriculture - appui a la mise en place fonds regional de developpement agricole agriculture - projet d'appui au developpement de menabe et melaky agriculture - programme de soutien aux poles de micro-entrep. rurales et aux economies region de mcar (prosperer) agriculture - projet d'amelioration des pertes de post recolte agriculture - promotion de la production de semences de riz hybride agriculture - formation professionnelle amelioration de la productivite agricole agriculture - projet de relance de la production du soja agriculture - projet d'appui amelioration productivite agricole a mcar agriculture - prevention de malnutrition dans cinq communes de betioky atsimo agriculture - projet d'appui a la securite alimentaire dans le sud ouest agriculture - pronut: ameliorer durablement la production agricole et la nutrition des populations agriculture - renforcement de la securite alimentaire des populations du sud agriculture - transformation manioc

Institution - Programme agriculture - developpement de la filiere manioc agriculture - developpement agricole et securite alimentaire (aina) agriculture - unite de politique de developpement rural (updr) agriculture - appui aux politiques et strategies de developpement agricole agriculture - service de securite alimentaire agriculture - relance de la production agricole agriculture - projet d'amelioration de la productivite rizicole dans les hautes terres agriculture - semence et engrais agriculture - service de securite alimentaire agriculture - preparation / attenuatiion effets catastrophes naturelles agriculture - developpement agricole et securite alimentaire (aina, azara) agriculture - programme special securite alimentaire agriculture - programme de formation professionnelle amelioration de la productivite agricole (formaprod) Total Nutrition Expenditure

This Appendix describes the details of the base-scenario projection exercise discussed in Chapter 4, and then describes the results of the sensitivity analysis.

The base-scenario programming assumptions are intended to be relatively simplified, to make the calculation relatively easy to carry out and to understand. The following general explanatory points are noted: 1. The assumptions are “programming” assumptions. They are not intended, and should not be understood, as forecasts, but rather as plausible possibilities for planning purposes. The government-expenditure growth rates are intended as plausible policy settings; 2. In general, the aim for Scenario 0 is to set programming assumptions that are “neutral” in character. For example, Madagascar`s merchandise export volumes are assumed to grow at the same rates as the world trade volume, so Madagascar’s exports maintain the same share of the world trade volume. The volume of Madagascar’s merchandise imports is assumed to grow at the same rates as real GDP, so merchandise imports would tend to maintain the same percentage of GDP. For recurrent expenditure, the assumption that staff sizes will grow at the same rate as the population would be neutral in a similar sense. So is the assumption that government wage rates would grow at the same rate as per-capita nominal GDP; The elasticities that help determine the government’s revenue performance are taken to be unitary for Scenario 0. This is also a “neutral” assumption. (In general, it is inadvisable to apply econometric point estimates based on historical data for these values, for at least two reasons. The first is that future elasticities of tax revenue with respect to their underlying determinants are likely to differ from historical elasticities. The second is that, say, if the elasticity of a given revenue line with respect to nominal GDP is assumed to exceed (be less than) one, the projected revenue flow would rise (diminish) indefinitely as a percentage of GDP; 3. It is straightforward to set programming assumptions that adjust gradually over the projection period, using (“geometric”) adjustment formulas. This is useful for several different assumption lines. For example, a large proportion of the assumptions are set as growth rates. These can be assumed to rise or diminish gradually from their initial projection values toward their final projection values. Another way to use a gradual adjustment would be for the elasticity of a given revenue line with respect to nominal GDP to take on an initial value somewhat different from one, but then gradually adjust toward a long-term value of one.

For Scenario 0, the programming assumptions are listed in table A-2.

Table A-2 Programming assumptions base scenario

(A) World economic conditions (1-5): (1) The growth rate of the world trade volume rises gradually from its estimated 2016 value of 2.8 per cent to a 2021 value of 5 per cent.

(2) The growth rate of the U.S.-dollar world price level rises gradually from its estimated 2016 value of 1.8 per cent to a 2021 value of 2 per cent.

(3) After 2016 the U.S.-dollar average world oil price grows at the same rate as the world U.S.-dollar price level

(4) After 2016 the U.S.-dollar average world nickel price grows at the same rate as the world U.S.-dollar price level

(5) The London Interbank Offer Rate rises gradually from its 2016 value of 0.49 per cent to a 2021 value of 1.5 per cent.

(B) Basic Madagascar macroeconomic variables (6-12): (6) The growth rate of real GDP rises gradually from its estimated 2016 value of 4.1 per cent to a 2021 value of 5 per cent.

(7) The GDP deflator grows at the same rate as the year-average consumer price index. (8) The December-December growth rate of the consumer price index (CPI) declines gradually from 6.3 per cent in 2016 to 5.7 per cent in 2021.

(9) The December-December growth rate of the U.S. dollar exchange rate grows at a rate (approximately) equal to the differential of the Madagascar and the world U.S.-dollar inflation rates. (10) The overall population growth rate declines gradually from 2.8 per cent in 2016 to 2.5 per cent in 2021.

(11) The growth rate of the population under fifteen years of age declines gradually from 2 per cent in 2016 to 1.8 per cent in 2021.

(12) The headcount poverty incidence declines gradually from 77.8 per cent in 2016 to 70.1 per cent in 2021. Exports and imports of goods and non-factor services (14-23): (13) The raw-nickel export price grows at the same rate as the world U.S.-dollar price level.

(14) The raw-nickel export volume grows at the same rate as the world trade volume. (15) Non-raw-nickel export prices grow at the same rate as the world U.S.-dollar price level. (16) The non-raw-nickel export volume grows at the same rate as the world trade volume. (17) The oil-import volume grows at the same rate as real GDP. (18) Oil-import prices grow at the same rate as the world U.S.-dollar average oil price. (19) The non-oil-import volume grows at the same rate as real GDP. (20) Non-oil import prices grow at the same rate as the world U.S.-dollar average oil price. (21) Non-factor service exports grow at a rate equal to the combined growth rates of world trade volume and the world US$ price level.

(22) Non-factor service imports excluding insurance and freight charges for merchandise imports grow at a rate equal to the combined growth rates of world trade volume and the world US$ price level. (23) Insurance and freight charges for decline gradually from 11.6 per cent of the value of merchandise imports in 2016 to 10 per cent in 2021.

National-expenditure accounts (24-26): (24) Consumption expenditure by government entities outside the central government remains at 4 per cent of GDP over the projection period.

(25) Gross fixed capital formation remains at 16.6 per cent of GDP over the projection period. (26) The net increase in inventory stocks remains at 0.5 per cent over the projection period. (C) Tax and non-tax revenue (27-41): (27) The elasticity of company tax revenue with respect to nominal GDP remains at 1 from 2017 to 2021.

(28) The elasticity of labor income with respect to nominal GDP remains at 1 from 2017 to 2021. (29) The elasticity of other income-tax revenue with respect to nominal GDP remains at 1 from 2017 to 2021. (30) The elasticity of customs revenue with respect to merchandise-imports value remains at 1 from 2017 to 2021.

(31) The elasticity of internal excises with respect to nominal GDP remains at 1 from 2017 to 2021. (32) The elasticity of other tax revenue with respect to nominal GDP remains at 1 from 2017 to 2021. (33) The internal value-added tax rate remains unchanged at 20 per cent. (34) The internal value-added tax collection efficiency remains unchanged from its 2015 value. (35) The import-based value-added tax rate remains at 20 per cent. (36) The import-based value-added tax collection efficiency remains unchanged from its 2015 value. (37) Mining production grows at an average annual rate of 15 per cent over the projection period. (38) U.S.-dollar mining prices grow at the same rate as world U.S.-dollar prices. (39) The elasticity of mining-royalties revenue with respect to the value of mining production is 1 in all projection years.

(40) The elasticity of dividends from government enterprises with respect to nominal GDP remains at 1 from 2017 to 2021.

(41) The elasticity of other non-tax revenue with respect to nominal GDP remains at 1 from 2017 to 2021. (D) External grants to the government (42-43): (42) Central-government external grants for current expenditure would remain at 0.7 per cent of GDP. (43) Central-government external grants for current expenditure would remain at 1.5 per cent of GDP. (E) Government expenditure in the priority and non-priority categories (44-62): (E.1) For non-interest recurrent expenditure, (E.1.a) In the education sector, (44) The staff size grows at the same rate as the number of children. (45) Staff salaries grow at a rate equal to the growth rate of per-capita nominal GDP. (46) Expenditure on current goods and services grows at a rate equal to the combined growth rates of the year-average CPI and the sectoral staff size.

(47) Expenditure on non-staff recurrent expenditure excluding current goods and services grows at a rate equal to the combined growth rates of the year-average CPI and the number of children. (E.1.b) In the health sector, (48) The staff size grows at the same rate as the population. (49) Staff salaries grow at a rate equal to the growth rate of per-capita nominal GDP. (50) Expenditure on current goods and services grows at a rate equal to the combined growth rates of the year-average CPI and the sectoral staff size.

(51) Expenditure on non-staff recurrent expenditure excluding current goods and services grows at a rate equal to the combined growth rates of the year-average CPI and the population growth rate. (E.1.c) In the social-protection sector, (52) Central-government recurrent expenditure grows at a rate equal to the combined growth rates of the year-average CPI and the population.

(E.1.d) In non-priority sectors, (55) The staff size grows at the same rate as the population. (56) Staff salaries grow at a rate equal to the growth rate of per-capita nominal GDP. (57) Expenditure on current goods and services grows at a rate equal to the combined growth rates of the year-average CPI and the sectoral staff size.

(58) Transfers to state enterprises grow at a rate equal to the growth rate of nominal GDP.

(59) Expenditure on non-staff recurrent expenditure excluding current goods and services grows at a rate equal to the combined growth rates of the year-average CPI and the population growth rate. (E.2) For non-recurrent expenditure, over the projection years, (60) Education non-recurrent central-government expenditure increases gradually from the 2015 value of 0.1 per cent of GDP to a 2021 value of 0.6 per cent of GDP.

(61) Education non-recurrent central-government expenditure increases gradually from the 2015 value of 0.2 per cent of GDP to a 2021 value of 0.2 per cent of GDP.

(62) Education non-recurrent central-government expenditure increases gradually from the 2015 value of 3.2 per cent of GDP to a 2021 value of 3.5 per cent of GDP.

(F) For external and internal debt (63-66): (63) Average interest rates on the previous year’s year-end external debt stock increase (decrease) with LIBOR.

(64) Average interest rates on the previous year’s year-end internal debt stock decline gradually from 7.9 per cent in 2015 to 4.8 per cent in 2021.

(65) External-debt repayments in each projection year amount to 2.8 per cent of the preceding year’s year- end external-debt stock; and

(66) External-debt disbursements in each projection year amount to 42.2 per cent of total non-recurrent expenditure.

Table A-3 immediately following lists these assumptions, and Table A-4 shows the base-scenario projection results. (Table A-3 shows only the assumption values. Consult the listing above to understand the reasoning underlying any specific assumption).

Table A-3 Madagascar: Programming assumptions for the fiscal-space projection exercise (base scenario) 2017 2018 2019 2020 2021 (A) EXTERNAL STATE OF THE WORLD VARIABLES World trade volume 0.03 0.04 0.04 0.05 0.05 World U.S.-dollar price level 0.02 0.02 0.02 0.02 0.02 Average world U.S.-dollar oil price (US$/bbl.) 0.02 0.02 0.02 0.02 0.02 Average world U.S. nickel price 0.02 0.02 0.02 0.02 0.02 Interest rates London Interbank Offer Rate (LIBOR) 0.01 0.01 0.01 0.01 0.02 (B) BASIC MACROECONOMIC VARIABLES Gross domestic product (national currency - millions) 0.12 0.12 0.12 0.12 0.11 Gross domestic product at 2015 prices and exchange rate 0.05 0.05 0.05 0.05 0.05 (US$ million) GDP deflator 0.07 0.06 0.06 0.06 0.06 Consumer prices (year-average) 0.06 0.06 0.06 0.06 0.06 Consumer prices (December) 0.06 0.06 0.06 0.06 0.06 Exchange rate (year-average) 0.04 0.06 0.04 0.04 0.02 Exchange rate (December) 0.04 0.04 0.04 0.04 0.04 Population (millions) 0.03 0.03 0.03 0.03 0.03 Population under fifteen (millions) 0.02 0.02 0.02 0.02 0.02 Population in poverty 0.02 0.02 0.02 0.02 0.01 Headcount poverty incidence 0.76 0.75 0.73 0.72 0.70 Growth rates (US$ million) Merchandise exports: 0.05 0.05 0.06 0.06 0.07 RAW NICKEL EXPORTS 0.05 0.06 0.06 0.07 0.07 Unit value 0.02 0.02 0.02 0.02 0.02 Volume 0.03 0.04 0.04 0.05 0.05 NON-RAW NICKEL EXPORTS 0.05 0.06 0.06 0.07 0.07 Unit value 0.02 0.02 0.02 0.02 0.02 Volume 0.03 0.04 0.04 0.05 0.05 Merchandise imports: 0.06 0.07 0.07 0.07 0.07 Oil imports: 0.06 0.07 0.07 0.07 0.07 Unit value 0.02 0.02 0.02 0.02 0.02 Volume 0.05 0.05 0.05 0.05 0.05 Non-oil imports: 0.06 0.07 0.07 0.07 0.07 Unit value 0.02 0.02 0.02 0.02 0.02 Volume 0.05 0.05 0.05 0.05 0.05 Growth rates: Non-factor services receipts 0.05 0.06 0.06 0.07 0.07 Non-factor services payments, excluding merchandise-imports 0.06 0.07 0.07 0.07 0.07 insurance and freight Ratios: Ratio, insurance and freight costs/merchandise imports value 0.11 0.11 0.11 0.10 0.10 Incremental capital-output ratio 3.46 3.46 3.33 3.33 3.33

2017 2018 2019 2020 2021 Per cent of GDP: Consumption expenditure by governments excl. central 0.04 0.04 0.04 0.04 0.04 government Gross fixed capital formation 0.17 0.17 0.17 0.17 0.17 Net increase in inventory stocks 0.01 0.01 0.01 0.01 0.01 (C) TAX REVENUE Central government: Elasticities of… company tax revenue with respect to nominal GDP 1.00 1.00 1.00 1.00 1.00 labour income with respect to nominal GDP 1.00 1.00 1.00 1.00 1.00 other income-tax revenue with respect to nominal GDP 1.00 1.00 1.00 1.00 1.00 customs revenue with respect to merchandise-imports value 1.00 1.00 1.00 1.00 1.00 internal excises with respect to nominal GDP 1.00 1.00 1.00 1.00 1.00 other tax revenue with respect to nominal GDP 1.00 1.00 1.00 1.00 1.00 Value added tax: Internal value-added tax rate 0.20 0.20 0.20 0.20 0.20 Internal value-added tax collection efficiency 0.11 0.11 0.11 0.11 0.11 Value-added tax revenue from imports: 0.00 0.00 0.00 0.00 0.00 Average tax rate on international trade 0.20 0.20 0.20 0.20 0.20 Imports value-added tax collection efficiency 0.62 0.62 0.62 0.62 0.62 NON-TAX REVENUE Mining Sector: Growth rate of national-currency value of mining royalties: 0.22 0.24 0.22 0.22 0.20 Growth rate of U.S.-dollar value of mining royalties: 0.17 0.17 0.17 0.17 0.17 Growth rate of overall mining production volume 0.15 0.15 0.15 0.15 0.15 Growth rate of U.S.-dollar export mineral prices 0.02 0.02 0.02 0.02 0.02 Elasticity of mining-royalty revenue with respect to the 1.00 1.00 1.00 1.00 1.00 national-currency value of mining output Elasticities of… dividends from government enterprises with respect to nominal 1.00 1.00 1.00 1.00 1.00 GDP other non-tax revenue with respect to nominal GDP 1.00 1.00 1.00 1.00 1.00 (E) EXTERNAL GRANTS (+) Per cent of GDP: External grants for current expenditure percent of GDP 0.01 0.01 0.01 0.01 0.01 External grants for capital expenditure (projects) percent of 0.02 0.02 0.02 0.02 0.02 GDP CENTRAL-GOVERNMENT EXPENDITURE Growth rates: Recurrent education expenditure: 0.10 0.10 0.10 0.09 0.09 Education staff 0.02 0.02 0.02 0.02 0.02 Education remuneration rates 0.09 0.09 0.09 0.09 0.09 Non-staff recurrent education expenditure: 0.08 0.08 0.08 0.08 0.08 Recurrent education expenditure on goods and services 0.09 0.08 0.08 0.08 0.08 Other non-staff recurrent education expenditure 0.09 0.08 0.08 0.08 0.08 Recurrent health expenditure: 0.11 0.11 0.11 0.09 0.09

2017 2018 2019 2020 2021 Health staff 0.03 0.03 0.03 0.03 0.03 Health remuneration rates 0.09 0.09 0.09 0.09 0.09 Non-staff recurrent health expenditure: 0.09 0.09 0.09 0.09 0.08 Recurrent health expenditure on goods and services 0.10 0.09 0.09 0.09 0.09 Other non-staff recurrent health expenditure 0.10 0.09 0.09 0.09 0.09 Social-protection expenditure 0.09 0.09 0.09 0.09 0.08 water expenditure 0.09 0.09 0.09 0.09 0.08 nutrition expenditure 0.09 0.09 0.09 0.09 0.08 Non-priority recurrent expenditure: Non-priority staff 0.03 0.03 0.03 0.03 0.03 Remuneration rates in non-priority sectors 0.09 0.09 0.09 0.09 0.09 Non-staff recurrent non-priority expenditure: 0.12 0.12 0.12 0.12 0.11 Recurrent non-priority expenditure on goods and services 0.10 0.09 0.09 0.09 0.09 Transfers to state enterprises 0.12 0.12 0.12 0.12 0.11 Other non-staff recurrent non-priority expenditure 0.10 0.09 0.09 0.09 0.09 Per cent of GDP: Non-recurrent education expenditure (% of GDP) 0.01 0.01 0.01 0.01 0.01 Non-recurrent health expenditure (% of GDP) 0.00 0.00 0.00 0.00 0.00 Non-priority non-recurrent expenditure 0.04 0.04 0.04 0.04 0.04 (I) EXTERNAL AND INTERNAL DEBT Average interest rates (applied to preceding year-end debt stock): Average interest rates on external debt 0.01 0.01 0.01 0.01 0.01 Average interest rates on internal debt 0.08 0.07 0.06 0.05 0.05 Per cent of preceding year-end debt stock: 0.00 0.00 0.00 0.00 0.00 External-debt repayments (-) -0.03 -0.03 -0.03 -0.03 -0.03 Per cent of GDP: External-debt disbursements (+): 0.03 0.02 0.02 0.01 0.01 External-debt disbursements/total non-recurrent expenditure 0.65 0.51 0.40 0.31 0.24 External-debt repayments (-) -0.01 -0.01 -0.01 -0.01 -0.01 Net internal-debt flow (+): 0.00 0.00 0.00 0.00 0.00 Source: Estimates and calculations from the projection workbook MgFS.xlsm.

Table A-4 Madagascar: Projection results for the fiscal-space projection exercise (base scenario) 2017 2018 2019 2020 2021 (A) Total priority non-interest expenditure 3.57 3.54 3.51 3.44 3.39 Total education expenditure 2.49 2.47 2.44 2.40 2.35 Total health expenditure 0.81 0.80 0.80 0.79 0.78 Total social-protection expenditure 0.12 0.12 0.12 0.11 0.11 Total water expenditure 0.13 0.13 0.13 0.12 0.12 Total nutrition expenditure 0.02 0.02 0.02 0.02 0.02 Priority recurrent expenditure: 2.78 2.75 2.72 2.66 2.60 Recurrent education expenditure: 1.92 1.89 1.87 1.82 1.78 Expenditure on education staff 1.55 1.54 1.53 1.52 1.51 Non-staff recurrent education expenditure: 0.36 0.35 0.34 0.31 0.28 Recurrent education expenditure on goods and services 0.06 0.05 0.05 0.05 0.04 Other non-staff recurrent education expenditure 0.31 0.30 0.29 0.26 0.23 Recurrent health expenditure: 0.59 0.59 0.58 0.57 0.56 Expenditure on health staff 0.47 0.47 0.47 0.47 0.47 Non-staff recurrent health expenditure: 0.11 0.11 0.11 0.10 0.09 Recurrent health expenditure on goods and services 0.05 0.05 0.05 0.05 0.04 Other non-staff recurrent health expenditure 0.06 0.06 0.06 0.05 0.05 Social-protection expenditure 0.12 0.12 0.12 0.11 0.11 water expenditure 0.13 0.13 0.13 0.12 0.12 nutrition expenditure 0.02 0.02 0.02 0.02 0.02 Priority non-recurrent expenditure: 0.79 0.79 0.79 0.79 0.79 Non-recurrent education expenditure 0.57 0.57 0.57 0.57 0.57 Non-recurrent health expenditure 0.22 0.22 0.22 0.22 0.22 (B) Tax and non-tax revenue (excl. external grants) (+): 11.86 11.93 11.93 11.93 11.84 Tax revenue: 11.52 11.58 11.56 11.54 11.44 Income tax: 1.53 1.53 1.53 1.53 1.53 Labour and company income tax 1.44 1.44 1.44 1.44 1.44 Company income tax 0.33 0.33 0.33 0.33 0.33 Labour income 1.12 1.12 1.12 1.12 1.12 Other income tax: 0.09 0.09 0.09 0.09 0.09 Taxes on goods and services 3.29 3.29 3.29 3.29 3.29 Value-added tax on internal transactions 2.20 2.20 2.20 2.20 2.20 Excises and other internal taxes 1.09 1.09 1.09 1.09 1.09 Customs and excise duties 5.31 5.36 5.35 5.32 5.22 Customs duties 1.30 1.31 1.31 1.30 1.28 Value-added tax on imports 4.01 4.05 4.04 4.02 3.94 Other 1.39 1.39 1.39 1.39 1.39 Non-tax revenue (excl. external grants) (+): 0.34 0.36 0.37 0.39 0.41 dividends 0.17 0.17 0.17 0.17 0.17 Mining Tax 0.15 0.17 0.19 0.20 0.22 Other non-tax revenue 0.02 0.02 0.02 0.02 0.02 (C) External grants (+): 2.22 2.22 2.22 2.22 2.22 External grants for current expenditure 0.72 0.72 0.72 0.72 0.72 External grants for capital expenditure (projects) 1.50 1.50 1.50 1.50 1.50

2017 2018 2019 2020 2021 (D) Total non-priority non-interest expenditure (-): -11.91 -11.66 -11.40 -10.90 -10.45 Non-priority recurrent expenditure: -7.73 -7.66 -7.58 -7.24 -6.95 Non-priority expenditure on staff -3.86 -3.86 -3.86 -3.86 -3.86 Non-staff recurrent non-priority expenditure: -3.87 -3.80 -3.72 -3.39 -3.09 Recurrent non-priority expenditure on goods and services -1.39 -1.36 -1.33 -1.19 -1.07 Transfers to state enterprises -0.50 -0.50 -0.50 -0.50 -0.50 Other non-staff recurrent non-priority expenditure -1.98 -1.94 -1.89 -1.70 -1.53 Non-priority non-recurrent expenditure -4.18 -4.00 -3.82 -3.66 -3.50 (E) External-debt disbursements (+): 2.72 2.03 1.52 1.14 0.85 External-debt disbursements (+) (US$ millions): 287.6 227.3 182.1 146.1 119.3 8 4 6 8 6 (F) External debt service (-): -0.97 -0.98 -0.96 -0.92 -0.86 External interest expenditure (-) -0.22 -0.22 -0.22 -0.21 -0.19 External interest expenditure (-) (US$ million) -23.01 -24.68 -25.82 -26.57 -27.00 External debt repayments (-) -0.75 -0.76 -0.74 -0.71 -0.66 External debt repayments (-) (US$ million) -79.47 -85.25 -89.19 -91.77 -93.28 (G) Net internal financial flows (incl. internal interest) -0.35 -0.01 0.19 -0.02 -0.22

(+):

Net internal-debt flow (+): 0.40 0.62 0.73 0.44 0.16 Internal-debt disbursements (+) Internal debt repayments (-) Internal interest expenditure (-) -0.75 -0.63 -0.54 -0.47 -0.39 Discrepancy (+) 0.00 0.00 0.00 0.00 0.00 Source: Estimates and calculations from the projection workbook MgFS.xlsm.

The top line of the projection (A) shows the evolution of priority expenditure, and the lines below show the evolution of the components of its fiscal space: tax and non-tax revenue (B), external grants (C), non-priority expenditure (-) (D), external-debt disbursements (E), external-debt service (-) (F), and (G) the net internal financing flow (the “fiscal gap”).

The net internal-debt flow as a percentage of GDP is the “bottom-line” result, determined residually for each year from the assumed priority-expenditure and fiscal-space flows. For each projection year, it indicates the “fiscal gap” implied by the programming assumptions, including those that determine priority expenditure and those that determine the other fiscal accounts. For Scenario 0 (the base scenario), the net internal-debt flow over the five years 2017-2021 would average 0.47per cent of GDP. That is, on average, the projected net internal borrowing requirement would be relatively small (indeed, well within 1 per cent of GDP over the projection years). The government’s overall debt stock would diminish as a percentage of GDP over the projection years, from 41.5 per cent of GDP at the end of 2016 to 33.65 per cent at the end of 2021. Policy-makers would presumably consider the fiscal-balance projections satisfactory per se, although one of the main reasons for this outcome is that expenditure in education, health and other sectors relevant for children’s needs would remain inadequate. These results would seem to imply there is scope for increasing expenditure beneficial to children.

The projection exercise can be used to try out alternative scenarios, to compare with Scenario 0 and with one another. For example, alternative scenarios could include such things as an assumed increase in the determinants of tax and non-tax revenue, an assumed increase in education and

health expenditure, and other policy changes. That is, in Scenario 0, the collection efficiency of the internal value-added tax would remain unchanged over the projection period from its 2016 value and the collection efficiency of the value-added tax on imports would remain unchanged over the projection period from its 2016 value.

Scenario 1 considers the consequences of a substantial increase of external grants. Under this scenario assumptions, external grants for current and non-recurrent expenditure would triplicate in year 2018, and then slowly returning to the prior level in year 2021. With all the others assumption being the same, there will be a significant positive effect on net internal debt flow. The average 2017-2021 net internal debt flow would be -1.73 per cent of GDP (compared with 0.43 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 24.82 per cent of GDP (compared with 33.62 per cent in Scenario 0).

In the alternative Scenario 2, the collection efficiency of both the internal and imports value-added tax would rise gradually to a 2021 value 10 per cent higher than the 2016 value. Consequently, the average 2017-2021 overall tax and non-tax revenue flow would be 12.33 per cent of GDP, compared with 11.90 per cent in Scenario 0. With these assumptions, the average 2017-2021 net internal debt flow would be 0.01 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 31.66 per cent of GDP (compared with 33.65 per cent in Scenario 0). That is, the assumed improvement in the tax-collection efficiency would reduce the fiscal-space gap to this extent.

The collection efficiency of the value-added-tax would presumably improve through enhanced tax administration and perhaps some elimination of exemptions. It is important to remember that improved tax administration might require additional personnel in the relevant revenue administration authorities, the cost of which might partially offset the enhanced revenue collection.

Scenario 3 reverts again to Scenario 0, except that the growth rate of revenue from mining royalties is higher than in Scenario 0. The revenue flow from mining royalties is assumed to be based, through an assumed unit elasticity, on the value of mining output, which is assumed to grow at the combined rate of the mining production volume and the world mining export price index. The production volume is obtained from a World Bank projection while the mining export price index is assumed to grow at the assumed world U.S.-dollar inflation rate.

Scenario 3 assumes that adjustments are made in 2018 to the rules governing mining royalties, such that the 2018 elasticity of the royalty revenue flow with respect to the value of mining output is three rather than one as in all projection years in Scenario 0. In Scenario 0, these revenues would grow over the projection years at an average annual (nominal) rate of 21.8 per cent, while in Scenario 3 these revenues would grow at an average annual rate of 29.9 per cent.

With the higher assumed mining royalties flow, the overall tax and non-tax revenue flow would average 11.93 per cent of GDP over 2017-2021, compared with 11.90 per cent in Scenario 0, and the average 2017-2021 net internal debt flow would be 0.45 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 33.53 per cent of GDP (compared with 33.65 per cent in Scenario 0). The change is small, for at least two reasons. The first is that the increase covers just four of the five projection years. The second is that Madagascar’s mining-royalties flow is relatively low, so that even if were to grow at a high rate, it would still have a limited effect on the overall revenue flow.

Alternative Scenario 4 reverts to the Scenario 0 assumptions, but with a single difference: the real- GDP growth rate rises gradually from 4.1 per cent in 2017 to 6 per cent in 2021, rather than 5 per cent in Scenario 0. With these assumptions, the average 2017-2021 net internal debt flow would be 0.42 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 32.53 per cent of GDP (compared with 33.65 per cent in Scenario 0).

In Scenario 5, the growth rate of education staff would increase in line with the PSE, with an annual average of 4.9 per cent. Also, the growth rate of health staff and the expenditure in social protection, water and nutrition increase 1.5 times more than in the base scenario. With this assumption priority expenditure will increase. The average 2017-2021 net internal debt flow would be 0.68 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 34.58 per cent of GDP (compared with 33.65 per cent in Scenario 0).

Scenario 6 combines the assumptions of Scenario 5 with an increase of non-recurrent education expenditure in line with the PSE (1 per cent of GDP), while the non-recurrent health expenditure will increase 1.5 times the assumption of the base scenario, (thus it will equal 0.3 per cent of GDP). With this further increase in priority expenditure, the average 2017-2021 net internal debt flow would be 1.28 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 37.01 per cent of GDP (compared with 33.65 per cent in Scenario 0).

Scenario 7 combines Scenario 5 (increase in priority expenditure) and Scenario 2 (enhanced tax administration) assumptions. If the increase in priority expenditure is effectively funded by an increase in tax administration, the average 2017-2021 net internal debt flow would be 0.22 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 32.58 per cent of GDP (compared with 33.65 per cent in Scenario 0).

Scenario 8 assumes the real-GDP growth rate rises gradually from 4.1 per cent in 2016 to 6 per cent in 2021, rather than 5 per cent in Scenario 0; furthermore the external grants for recurrent and development expenditure respectively increase 1.2 times more than in the base scenario, but only from 2019. With these assumptions, the average 2017-2021 net internal debt flow would be 0.14 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 31.28 per cent of GDP (compared with 33.65 per cent in Scenario 0).

Alternatively, Scenario 9 assumes the real-GDP growth rate to decline gradually from 4.1 per cent in 2016 to 2.5 per cent in 2021, instead of to 5 per cent in Scenario 0. In addition, the external grants for recurrent and development expenditure would be 0.5 times their base-scenario values. With these assumptions, the average 2017-2021 net internal debt flow would be 1.40 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 40.71 per cent of GDP (compared with 33.65 per cent in Scenario 0).

Alternative Scenario 10 reverts to the Scenario 0 assumptions, but with a single difference. In Scenario 0, the subsidy flow to state enterprises remains at 0.5 per cent of GDP over the entire projection period. In Scenario 10, the growth rate of the flow of subsidies to state enterprises rises to 1 per cent of GDP in 2018 and remains at that percentage thereafter. The growth rate of the transfers to SoE enterprises thus increase to an annual average of 100.7 per cent. With these

assumptions, the average 2017-2021 net internal debt flow would be 0.90 per cent of GDP (compared with 0.47 per cent of GDP in Scenario 0). The total (external and internal) government debt stock would conclude in 2021 at 35.49 per cent of GDP (compared with 33.65 per cent in Scenario 0).

In Scenario 11, priority expenditure is assumed to grow 1.5 times higher than in the base scenario, at the same time, non-priority recurrent expenditure will decrease as much as to have the same net internal financing of the base scenario. This scenario attempts to represent a possible spending floor, under which priority expenditure has to be increased while maintaining the same levels of debt. Hence, with these assumptions, the average 2017-2021 net internal debt flow and total (external and internal) government debt stock would be similar to the base scenario. The real difference is to be found in the decrease in non-priority expenditure compared to the base scenario.

Table A-5 summarizes key underlying assumptions for each of the scenarios. The assumptions highlighted in yellow are those that differ from the base scenario assumptions, and as such construct an alternative scenario.

Table A-6 presents a summary of the (numerical) results of the projection exercise for each scenario.

Table A-5 Madagascar: Summary of scenario assumptions (assumptions different from the base scenario assumptions are marked in yellow) Scenario 0 1 2 3 4 5 6 7 8 9 10 Real GDP Rises Rises Rises Rises Rises Rises Rises Rises Rises Declines Rises Growth gradually gradually gradually gradually gradually gradually gradually gradually gradually gradually gradually from 4.1 from 4.1 from 4.1 from 4.1 from 4.1 from 4.1 from 4.1 from 4.1 from 4.1 from 4.1 from 4.1 per cent in per cent in per cent in per cent in per cent in per cent in per cent in per cent in per cent in per cent in per cent in 2016 to 5 2016 to 5 2016 to 5 2016 to 5 2016 to 6 2016 to 5 2016 to 5 2016 to 5 2016 to 6 2016 to 2.5 2016 to 5 per cent in per cent in per cent in per cent in per cent in per cent in per cent in per cent in per cent in per cent in per cent in 2021. 2021. 2021. 2021. 2021. 2021. 2021. 2021. 2021. 2021. 2021. Internal Remains I Remains Rises Remains Remains Remains Remains Rises Remains Remains Remains value unchanged unchanged gradually unchanged unchanged unchanged unchanged gradually unchanged unchanged unchanged added tax from its from its from 11 per from its from its from its from its from 11 per from its from its from its collection 2016 value. 2016 value. cent in 2016 value. 2016 value. 2016 value. 2016 value. cent in 2016 value. 2016 value. 2016 value. efficiency 2016 to 2016 to 12.1 per 12.1 per cent in cent in 2021. 2021. Value Internationa Internationa Internationa Internationa Internationa Internationa Internationa Internationa Internationa Internationa Internationa added tax l trade tax l trade tax l trade tax l trade tax l trade tax l trade tax l trade tax l trade tax l trade tax l trade tax l trade tax on imports collection collection collection collection collection collection collection collection collection collection collection collection efficiency efficiency efficiency efficiency efficiency efficiency efficiency efficiency efficiency efficiency efficiency efficiency remains remains rises remains remains remains remains rises remains remains remains unchanged unchanged gradually unchanged unchanged unchanged unchanged gradually unchanged unchanged unchanged from its from its from 62.1 from its from its from its from its from 62.1 from its from its from its 2016 value. 2016 value. per cent in 2016 value. 2016 value. 2016 value. 2016 value. per cent in 2016 value. 2016 value. 2016 value. 2016 to 2016 to 68,3 per 68,3 per cent in cent in 2021. 2021. Growth Mining Mining Mining Mining Mining Mining Mining Mining Mining Mining Mining rate of production production production production production production production production production production production overall grows at an grows at an grows at an grows at an grows at an grows at an grows at an grows at an grows at an grows at an grows at an mining average 15 average 15 average 15 average 15 average 15 average 15 average 15 average 15 average 15 average 15 average 15

Scenario 0 1 2 3 4 5 6 7 8 9 10 production per-cent per-cent per-cent per-cent per-cent per-cent per-cent per-cent per-cent per-cent per-cent volume annual rate. annual rate. annual rate. annual rate. annual rate. annual rate. annual rate. annual rate. annual rate. annual rate. annual rate. Growth Mining Mining Mining Mining Mining Mining Mining Mining Mining Mining Mining rate of prices grow prices grow prices grow prices grow prices grow prices grow prices grow prices grow prices grow prices grow prices grow U.S.-dollar at the same at the same at the same at the same at the same at the same at the same at the same at the same at the same at the same export annual annual annual annual annual annual annual annual annual annual annual mineral percentage percentage percentage percentage percentage percentage percentage percentage percentage percentage percentage prices rate as rate as rate as rate as rate as rate as rate as rate as rate as rate as rate as world U.S.- world U.S.- world U.S.- world U.S.- world U.S.- world U.S.- world U.S.- world U.S.- world U.S.- world U.S.- world U.S.- dollar dollar dollar dollar dollar dollar dollar dollar dollar dollar dollar prices. prices. prices. prices. prices. prices. prices. prices. prices. prices. prices. Elasticity of The The The The The The The The The The The mining- elasticity of elasticity of elasticity of elasticity of elasticity of elasticity of elasticity of elasticity of elasticity of elasticity of elasticity of royalty mining- mining- mining- mining- mining- mining- mining- mining- mining- mining- mining- revenue royalty royalty royalty royalty royalty royalty royalty royalty royalty royalty royalty with revenue revenue revenue revenue revenue revenue revenue revenue revenue revenue revenue respect to with respect with respect with respect with respect with respect with respect with respect with respect with respect with respect with respect the to the value to the value to the value to the value to the value to the value to the value to the value to the value to the value to the value national- of mining of mining of mining of mining of mining of mining of mining of mining of mining of mining of mining currency production production production production production production production production production production production value of remains at remains at remains at remains at remains at remains at remains at remains at remains at remains at remains at mining 1 over the 1 over the 1 over the 1 over the 1 over the 1 over the 1 over the 1 over the 1 over the 1 over the 1 over the output projection projection projection projection projection projection projection projection projection projection projection period. period. period. period period. period. period. period. period. period. period. except for 2020 when its value is 3. Growth Education Education Education Education Education Education Education Education Education Education Education rate of staff grows staff grows staff grows staff grows staff grows staff grows staff grows staff grows staff grows staff grows staff grows education at the same at the same at the same at the same at the same at a rate at a rate at a rate at the same at the same at the same staff rate as the rate as the rate as the rate as the rate as the equal to 4.9 equal to 4.9 equal to 4.9 rate as the rate as the rate as the

Scenario 0 1 2 3 4 5 6 7 8 9 10 population population population population population in line with in line with in line with population population population 15 years 15 years 15 years 15 years 15 years the PSE. the PSE. the PSE. 15 years 15 years 15 years and less. and less. and less. and less. and less. and less. and less. and less. Non- Non- Non- Non- Non- Non- Non- Non- Non- Non- Non- Non- recurrent recurrent recurrent recurrent recurrent recurrent recurrent recurrent recurrent recurrent recurrent recurrent education education education education education education education education education education education education expenditur expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure e (per cent equals 0,6 equals 0,6 equals 0,6 equals 0,6 equals 0,6 equals 0,6 equals 1 equals 1 equals 0,6 equals 0,6 equals 0,6 of GDP) per cent of per cent of per cent of per cent of per cent of per cent of per cent of per cent of per cent of per cent of per cent of GDP over GDP over GDP over GDP over GDP over GDP over GDP over GDP over GDP over GDP over GDP over the the the the the the the the the the the projection projection projection projection projection projection projection projection projection projection projection years. years. years. years. years. years. years, in years, in years. years. years. line with the line with the PSE. PSE. Growth Health staff Health staff Health staff Health staff Health staff Health staff Health staff Health staff Health staff Health staff Health staff rate of grows at grows at grows at grows at grows at grows at a grows at a grows at a grows at grows at grows at health staff the same the same the same the same the same rate equal rate equal rate equal the same the same the same rate as the rate as the rate as the rate as the rate as the to 1.5 times to 1.5 times to 1.5 times rate as the rate as the rate as the overall overall overall overall overall the base- the base- the base- overall overall overall population. population. population. population. population. scenario scenario scenario population. population. population. rate. rate. rate. Non- Non- Non- Non- Non- Non- Non- Non- Non- Non- Non- Non- recurrent recurrent recurrent recurrent recurrent recurrent recurrent recurrent recurrent recurrent recurrent recurrent health Health Health Health Health Health Health Health Health Health Health Health expenditur expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure e (Per cent equals 0.2 equals 0.2 equals 0.2 equals 0.2 equals 0.2 equals 0.2 equals 0.3 equals 0.3 equals 0.2 equals 0.2 equals 0.2 of GDP) per cent of per cent of over the over the over the over the over the over the per cent of over the over the GDP over GDP over projection projection projection projection projection projection GDP over projection projection the the years years years. years. years. years. the years. years. projection projection projection years. years. years.

Scenario 0 1 2 3 4 5 6 7 8 9 10 Growth Social- Social- Social- Social- Social- Social- Social- Social- Social- Social- Social- rate of protection protection protection protection protection Protection Protection Protection protection protection protection social expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure protection grows at grows at grows at grows at grows at grows at a grows at a grows at a grows at grows at grows at expenditur the the the the the rate equal rate equal rate equal the the the e combined combined combined combined combined to 1.5 times to 1.5 times to 1.5 times combined combined combined growth growth growth growth growth the base- the base- the base- growth growth growth rates of the rates of the rates of the rates of the rates of the scenario scenario scenario rates of the rates of the rates of the overall overall overall overall overall rate. rate. rate. overall overall overall population population population population population population population population and the and the and the and the and the and the and the and the price level. price level. price level. price level. price level. price level. price level. price level. Growth Water Water Water Water Water Water Water Water Water Water Water rate of expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure water grows at grows at grows at grows at grows at grows at a grows at a grows at a grows at grows at grows at expenditur the the the the the rate equal rate equal rate equal the the the e combined combined combined combined combined to 1.5 times to 1.5 times to 1.5 times combined combined combined growth growth growth growth growth the base- the base- the base- growth growth growth rates of the rates of the rates of the rates of the rates of the scenario scenario scenario rates of the rates of the rates of the overall overall overall overall overall rate. rate. rate. overall overall overall population population population population population population population population and the and the and the and the and the and the and the and the price level. price level. price level. price level. price level. price level. price level. price level. Growth Nutrition Nutrition Nutrition Nutrition Nutrition Nutrition Nutrition Nutrition Nutrition Nutrition Nutrition rate of expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure nutrition grows at grows at grows at grows at grows at grows at a grows at a grows at a grows at grows at grows at expenditur the the the the the rate equal rate equal rate equal the the the e combined combined combined combined combined to 1.5 times to 1.5 times to 1.5 times combined combined combined growth growth growth growth growth the base- the base- the base- growth growth growth rates of the rates of the rates of the rates of the rates of the scenario scenario scenario rates of the rates of the rates of the overall overall overall overall overall rate. rate. rate. overall overall overall population population population population population population population population

Scenario 0 1 2 3 4 5 6 7 8 9 10 and the and the and the and the and the and the and the and the price level. price level. price level. price level. price level. price level. price level. price level. Growth Transfers to Transfers to Transfers to Transfers to Transfers to Transfers to Transfers to Transfers to Transfers to Transfers to Transfers to rate of state state state state state state state state state state state transfers to enterprises enterprises enterprises enterprises enterprises enterprises enterprises enterprises enterprises enterprises enterprises state grow at a grow at a grow at a grow at a grow at a grow at a grow at a grow at a grow at a grow at a grow at an enterprises rate equal rate equal rate equal rate equal rate equal rate equal rate equal rate equal rate equal rate equal average to the to the to the to the to the to the to the to the to the to the rate equal growth rate growth rate growth rate growth rate growth rate growth rate growth rate growth rate growth rate growth rate to 123 per of nominal of nominal of nominal of nominal of nominal of nominal of nominal of nominal of nominal of nominal cent from GDP. GDP. GDP. GDP. GDP. GDP. GDP. GDP. GDP. GDP. 2018 implying transfer to state enterprise equal to 1 per cent of GDP from year 2018. External External External External External External External External External External External External grants for grants for grants for grants for grants for grants for grants for grants for grants for grants for grants for grants for current current current current current current current current current current current current expenditur expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure e per cent equals 0.7 triplicate in equals 0.7 equals 0.7 equals 0.7 equals 0.7 equals 0.7 equals 0.7 equals 0.7 equals 0.7 per cent of of GDP per cent of year 2018 per cent of per cent of per cent of per cent of per cent of per cent of per cent of till 2018 GDP GDP over (equals 2.2 GDP over GDP over GDP over GDP over GDP over GDP over GDP till and 0.4 equals 0.7 the per cent of the the the the the the 2018 and from 2019 over the projection GDP) and projection projection projection projection projection projection 0.9 from till 2021. projection years. then return years. years. years. years. years. years. 2019 till years. to 0.7 in 2021. year 2021.

Scenario 0 1 2 3 4 5 6 7 8 9 10 External External External External External External External External External External External External grants for grants for grants for grants for grants for grants for grants for grants for grants for grants for grants for grants for capital capital current capital capital capital capital capital capital capital capital capital expenditur expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure expenditure e (projects) (projects) triplicate in (projects) (projects) (projects) (projects) (projects) (projects) (projects) (projects) (projects) per cent of equals 1.5 year 2018 equals 1.5 equals 1.5 equals 1.5 equals 1.5 equals 1.5 equals 1.5 per cent of per cent of per cent of GDP per cent of (equals 4.5 per cent of per cent of per cent of per cent of per cent of per cent of GDP GDP GDP GDP over per cent of GDP over GDP over GDP over GDP over GDP over GDP over equals 1.5 equals 1.5 equals 1.5 the GDP) and the the the the the the till 2019 till 2019 over the projection then return projection projection projection projection projection projection and 1.8 and 0.8 projection years. to 1.5 in years. years. years. years. years. years. from 2019 from 2019 years. year 2021. till 2021. till 2021.

Table A-6 Madagascar: Summary scenario results for the projection exercise Scenario 1 2 3 4 5 6 7 8 9 10 11 AVERAGE OVER PROJECTIONS YEARS US$ per child priority expenditure at 2016 prices and exchange rate Total priority non-interest expenditure: 36.34 36.34 36.34 36.34 36.69 38.45 44.10 38.45 36.69 35.02 36.34 Total education expenditure 25.29 25.29 25.29 25.29 25.55 26.82 31.35 26.82 25.55 24.30 25.29 Total health expenditure 8.29 8.29 8.29 8.29 8.38 8.51 9.64 8.51 8.38 7.96 8.29 Total social assistance expenditure 1.20 1.20 1.20 1.20 1.20 1.36 1.36 1.36 1.20 1.20 1.20 Total water expenditure 1.33 1.33 1.33 1.33 1.33 1.50 1.50 1.50 1.33 1.33 1.33 Total nutrition expenditure 0.23 0.23 0.23 0.23 0.23 0.26 0.26 0.26 0.23 0.23 0.23 Per cent of GDP General government surplus: -1.40 0.81 -0.94 -1.37 -1.35 -1.61 -2.20 -1.15 -1.07 -2.30 -1.82 General government primary surplus -0.63 1.37 -0.20 -0.61 -0.59 -0.83 -1.37 -0.40 -0.33 -1.46 -1.03 Tax and non-tax revenue 11.90 11.90 12.33 11.93 11.90 11.90 11.90 12.33 11.90 11.91 11.90 External grants 2.22 4.23 2.22 2.22 2.22 2.22 2.22 2.22 2.49 1.56 2.22 Total non-interest expenditure (-) -14.76 -14.76 -14.76 -14.76 -14.72 -14.95 -15.50 -14.95 -14.72 -14.92 -15.16 General government external and internal interest -0.77 -0.56 -0.74 -0.77 -0.76 -0.78 -0.83 -0.75 -0.75 -0.84 -0.79 Total priority non-interest expenditure: 3.49 3.49 3.49 3.49 3.48 3.69 4.23 3.69 3.48 3.52 3.49

Total education expenditure 2.43 2.43 2.43 2.43 2.43 2.57 3.01 2.57 2.43 2.44 2.43 Total health expenditure 0.80 0.80 0.80 0.80 0.80 0.82 0.93 0.82 0.80 0.80 0.80 Total social assistance expenditure 0.12 0.12 0.12 0.12 0.11 0.13 0.13 0.13 0.11 0.12 0.12 Total nutrition expenditure 2.70 2.70 2.70 2.70 2.69 2.90 2.90 2.90 2.69 2.73 2.70 Total child protection expenditure 1.86 1.86 1.86 1.86 1.85 2.00 2.00 2.00 1.85 1.87 1.86 Total water expenditure 0.13 0.13 0.13 0.13 0.13 0.14 0.14 0.14 0.13 0.13 0.13 Total nutrition expenditure 0.02 0.02 0.02 0.02 0.02 0.02 0.02 0.02 0.02 0.02 0.02 Net financing (gross of interest): 1.40 -0.81 0.94 1.37 1.35 1.61 2.20 1.15 1.07 2.30 1.82 Net external financing 0.92 0.92 0.92 0.92 0.93 0.92 0.92 0.92 0.93 0.89 0.92 Net internal financing 0.47 -1.73 0.01 0.45 0.42 0.68 1.28 0.22 0.14 1.40 0.90 Final-year general-government debt stock: 33.65 24.82 31.66 33.53 32.53 34.58 37.01 32.58 31.28 40.71 35.49

Scenario 1 2 3 4 5 6 7 8 9 10 11 Final-year general-government external-debt stock 25.37 25.37 25.37 25.37 24.71 25.37 25.37 25.37 24.71 27.47 25.37 Final-year general-government internal-debt stock 8.28 -0.56 6.28 8.16 7.82 9.20 11.64 7.21 6.57 13.24 10.12 Source: Estimates and calculations from the projection workbook MgFS.xlsm.