Press Release No. 24/479

IMF Executive Board Concludes 2024 Article IV Consultation with Timor-Leste

December 17, 2024

Washington, DC: The Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation^[1] with Timor-Leste on December 10, 2024 and endorsed the staff appraisal without a meeting on a lapse-of-time basis.^[2]

Non-oil GDP growth slowed to 2.4 percent in 2023 (from 4 percent in 2022) due to a drag from fiscal policy as budget execution fell in the election year. After averaging a high 8.4 percent in 2023, headline inflation sharply declined this year, reaching 0.6 percent (y/y) in September, driven by lower global food prices and the rollback of tax hikes introduced in 2023.

Growth is estimated to increase to 3.4 percent in 2024, supported by fiscal expansion and strong credit growth. A significant fiscal expansion in 2025 is expected to sustain growth at 3.4 percent in 2025. Inflation is expected to ease further—averaging 2.2 percent in 2024 and 1.5 percent in 2025—given the continued moderation of global commodity prices. Risks to the outlook are balanced.

Executive Board Assessment

Fiscal expansion and strong credit growth are expected to support economic growth in 2024. Following a slowdown in 2023, growth is estimated to rise to 3.5 percent this year. A large fiscal expansion in 2025—mainly driven by transfers with low multiplier—would deliver growth of 3.4 percent next year. In the long run, non-oil GDP growth is expected to remain modest at around 3 percent, which corresponds to about 1.5 percent in per-capita terms. As global commodity prices moderate, inflation will ease further, averaging 2.2 and 1.5 percent in 2024 and 2025, respectively. The external sector position in 2023 was substantially weaker than implied by fundamentals and desirable policy settings.

Risks to the outlook are balanced. Near- to medium-term risks include a sudden global recession that could reduce PF returns, severe climate events affecting food security, and an onset of political instability limiting foreign direct investment. Conversely, reaching an agreement to develop the Greater Sunrise oil field could boost long-term exports.

The sizable savings in the PF should be used productively and prudently to deliver higher living standards. In the past decade, a high share of public spending relative to the economy has delivered only modest growth and development. Timor-Leste remains at moderate risk of overall and external debt distress, but large fiscal imbalances over the medium term would fully deplete the PF by the end of the 2030s. Fiscal and structural reforms are needed to secure fiscal sustainability, which would also strengthen the external sector position.

Public spending should be reduced gradually, and its quality further improved, while domestic revenue mobilization should start promptly. Expenditure restraint should involve gradually unwinding the surge in recurrent spending since 2020, while accommodating higher spending on human and physical capital (including in climate-resilient infrastructure) and on social safety nets (to protect the vulnerable). Regarding revenue mobilization, a key reform priority is the introduction of the VAT in 2026, which requires immediate progress with legislation and strengthening tax administration. These fiscal efforts should be underpinned by advancing PFM reforms and formulating a medium-term fiscal framework.

Addressing structural bottlenecks to lending through financial sector reforms is crucial for private sector development. The authorities’ ambitious agenda of legal reforms of the financial sector is welcome. Accelerating the issuance of land titles would provide essential collateral and is urgently needed to fully realize the potential of these legal reforms.

These should be combined with other structural reforms to support economic diversification. Ongoing steps towards deeper integration in the global and regional economies should continue. While governance reforms are progressing, more are needed to address vulnerabilities, notably in the domain of rule of law. Deficiencies in the AML/CFT framework should be addressed in a timely manner, in line with the findings and recommendations in the Mutual Evaluation Report recently adopted by the Asia Pacific Group. Improved performance under dollarization requires reduced fiscal imbalances and advancement of reforms that address structural bottlenecks that also undermine competitiveness.

[1] Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.

[2] The Executive Board takes decisions under its lapse-of-time procedure when the Board agrees that a proposal can be considered without convening formal discussions.