SINGAPORE, September 3, 2019 – Lao PDR’s growth remains resilient, and given its expanding linkages to global value chains and financial markets, maintaining macroeconomic stability amid the challenging environment should be the top priority. This is according to the 2019 Annual Consultation Report on Lao PDR published today by the ASEAN+3 Macroeconomic Research Office (AMRO). The report was prepared based on its Annual Consultation Visit to Lao PDR in February 2019 and data availability as of June 15, 2019.
Lao PDR’s GDP growth is expected to increase slightly to 6.6 percent in 2019, supported by a robust services sector and improved prospects for tourism. The commencement of operations of several large hydropower projects in the last quarter of 2019 is expected to boost growth in 2020 to 6.9 percent. Inflation rose to 2.0 percent in 2018 from 0.8 percent in 2017, reflecting higher fuel and food prices, but is expected to remain stable going forward.
The government fiscal reform initiatives are appropriately aimed at strengthening the fiscal position. Preliminary figures indicate that the fiscal deficit narrowed to 4.4 percent of GDP in 2018 from 5.5 percent of GDP in 2017. The improvement in the fiscal position was mainly due to tight expenditure control as tax collection was flat. The fiscal deficit is budgeted to narrow further to 4.3 percent of GDP in 2019. Authorities need to stay mindful of the potential setbacks in fiscal consolidation efforts that could significantly narrow the policy space.
On the financial sector, delays in resolving remaining arrears related to past government projects could prolong uncertainty and weigh on credit growth. On the external front, a sharp tightening in global financial conditions could put significant pressure on the exchange rate and fiscal position. Policy shifts and growth slowdown in major trading partners could have negative implications for the Lao economy, particularly given its significant linkages to China, Thailand, and Vietnam via channels such as trade, investments and tourism.
Amid heightened concern about fiscal sustainability, building confidence by successfully implementing a medium-term fiscal consolidation plan remains imperative. Although the current debt level is below the government’s ceiling of 65 percent of GDP, it is relatively high compared to regional peers. In this regard, the authorities’ own consolidation plan of achieving a fiscal deficit of around 3 percent of GDP over the medium term should be sufficient to reduce debt/GDP ratio significantly over time.
Also, building and maintaining a healthy level of international reserves is essential as a buffer against external shocks, including interventions to avoid excessive foreign exchange (FX) volatility. A more flexible exchange rate will require enhancing prudential regulations to help reduce the FX-related risks in the private sector and developing market-based risk management and assessment capabilities. In this regard, the New Commercial Bank Law is expected to strengthen banks’ capital buffer. The law also sets the framework towards risk-based supervision and the adoption of key Basel II standards that will fortify the soundness of the financial system.
Structural reforms and economic diversification should enhance Lao PDR’s growth potential and economic resilience. To improve economic resilience, developing the non-resource sectors, particularly manufacturing, tourism, and agro-based industries, is crucial. As a land-locked country with a limited supply of skilled labor and a small domestic market, attracting foreign direct investment (FDI) to boost the non-resource sectors requires strong government commitment and policy support to improve the business environment. Maintaining strategic social programs and infrastructure spending is also necessary. In addition, clear plans to maximize returns on large infrastructure investments are needed to encourage greater private sector participation and reduce financial burden from these projects.
About AMRO and AMRO’s Annual Consultation Report:
The ASEAN+3 Macroeconomic Research Office (AMRO) is an international organization established to contribute towards securing macroeconomic and financial stability of the ASEAN+3 region, which includes 10 members of the Association of Southeast Asian Nations (ASEAN) and China; Hong Kong, China; Japan; and Korea. AMRO’s mandate is to conduct macroeconomic surveillance, support the implementation of the regional financial arrangement, the Chiang Mai Initiative Multilateralisation (CMIM), and provide technical assistance to the members.
The Annual Consultation Report was prepared in fulfillment of AMRO’s mandate. AMRO is committed to monitoring, analyzing and reporting to its members on their macroeconomic status and financial soundness. It also helps identify relevant risks and vulnerabilities, and assists members, if requested, in the timely formulation of policy recommendations to mitigate such risks.