Press Release No. 21/292

IMF Staff Completes 2021 Article IV Mission to the Republic of Palau

October 8, 2021

• The pandemic had a severe impact on Palau’s economy, but a recovery is expected. Real GDP is projected to further contract by 17.1 percent in FY2021 before rebounding by 9.4 percent in FY2022.
• The authorities have implemented a comprehensive policy response to cushion the impact of the pandemic. Considering the challenging near-term outlook, relief measures should be extended until the economic recovery is firmly entrenched.
• The IMF team welcomes the approval of the comprehensive tax reform in September 2021, which will improve the efficiency of the tax system and support the needed rebuilding of fiscal resilience in the medium-term.

Washington, DC: An International Monetary Fund (IMF) team led by Tidiane Kinda conducted discussions via virtual meetings for the 2021 Article IV Consultation with the Republic of Palau during September 22-October 7, 2021. At the conclusion of the virtual discussions, Mr. Kinda issued the following statement:

“Palau entered the pandemic with some fiscal buffers, including a moderate public debt at about 39 percent of GDP in FY2019. While strict and preemptive containment measures have helped prevent local community spreads of COVID-19 to date, they have severely impacted the tourism-dependent economy. Real GDP contracted by 9.7 percent in FY2020. Inflation edged up slightly, driven by a rise in food prices. The authorities have adopted a comprehensive policy response with measures that appropriately aimed at strengthening healthcare and mitigating the economic and social hardship of the pandemic. Employment support prevented a notable deterioration of overall labor market conditions.

“The economic outlook remains challenging. Real GDP is projected to further contract by 17.1 percent in FY2021 before rebounding by 9.4 percent in FY2022 alongside a gradual recovery in tourist arrivals. Inflation is expected to pick up on the back of elevated international fuel prices before subsiding over the medium-term. The large current account deficit is projected to narrow in the medium term as tourism activities gradually recover.

“The uncertainty surrounding the outlook remains high and risks are titled to the downside. The main risk is a protracted COVID-19 pandemic and a domestic outbreak, which could derail the recovery. Other risks include a shortfall of non-Compact capital grants considering Palau’s graduation to high-income status and more frequent and severe natural disasters. On the upside, with most of Palau’s population fully vaccinated, a faster-than anticipated global vaccine rollout and pandemic containment could expedite the resumption of tourism. While the ratification of a new Compact Agreement with the U.S., currently under negotiation, could boost grant revenues in the medium term, uncertainty remains regarding the timing and terms.

“Considering the challenging near-term outlook and substantial uncertainty, pandemic relief measures should be extended until the recovery is firmly entrenched. In this context, accelerating the execution of the CROSS Act to extend targeted support to still affected households and firms, as envisaged in the FY2022 budget is appropriate. Should downside risks materialize, targeted spending measures, which can best reach affected entities, should be the first line of defense, with due consideration to debt sustainability.

“Palau is facing increasing fiscal risks. The negative effect of the pandemic on the economy and the cost of the fiscal response have opened a large fiscal financing need, covered by disbursed and planned concessional financing from the Asian Development Bank and leading to a surge in public debt. While risks to debt sustainability have increased substantially, Palau’s public debt remains sustainable, helped by the favorable conditions due to the large share of concessional financing. Swift public sector reform, including of the Civil Service Pension Fund, the Palau Public Utilities Corporation, and the Social Security Fund is critical to contain fiscal risks.

“The IMF team welcomes the recent approval of the comprehensive tax reform. In addition to potential revenue gains, the approved tax reform should improve the efficiency of the tax system and support growth. The tax reform will also contribute to the needed fiscal consolidation in the medium term to lower public debt ratios, reduce fiscal risks, and accommodate higher spending to address climate change and other infrastructure needs. The fiscal adjustment would also help improve Palau’s external position.

“The IMF team expresses its gratitude to the authorities for their openness and constructive discussions in the virtual meetings, as well as for the logistical support.”