Press Release No. 95/31

Press Release: IMF Approves Credit under Extended Fund Facility for Algeria

May 22, 1995

Background

Over the last decade, Algeria's economy has been characterized by stagnant growth, declining per capita income, increasing unemployment, and high inflation. The authorities began to implement economic reform programs starting in 1989 but, until 1994, these efforts were either insufficient or could not be sustained. A program, supported by an IMF stand- by credit approved on May 27, 1994, was the first credible step in a medium-term economic liberalization and reform process that sought to establish a solid macroeconomic and institutional basis for an improvement in the growth performance and a reduction in unemployment (see Press Release 94/37). Economic policies introduced under the program emphasized tight demand management and wage restraint, including a large depreciation of the Algerian dinar and halving the fiscal deficit. These policies have yielded some important early successes: nonhydrocarbon GDP growth recovered from its previous declines, inflation has decelerated, and the external reserves position has strengthened considerably.

Structural measures under the program aimed at liberalizing the economy and establishing market mechanisms. They have been implemented forcefully, in some cases ahead of schedule. These measures included a managed float for the dinar exchange rate, liberalization of external trade, removal of price restrictions, and a reduction of generalized subsidies. There was also some progress in public enterprise restructuring and in banking reform. The social safety net was overhauled to improve the targeting of social welfare. In this context, a public works program, was launched, and an unemployment insurance scheme was introduced to facilitate labor reductions by public enterprises.

Medium-Term Strategy and the 1995/96 Program

The Government's medium-term macroeconomic program, which is supported by the EFF, aims at ensuring high and sustained levels of economic growth to reduce unemployment; rapidly establishing a low level of inflation; and restoring balance-of-payments viability by 1998, while maintaining adequate levels of external reserves. In pursuit of these objectives, the authorities plan to complete the liberalization of both domestic prices and the external trade and payments systems, while accelerating the establishment of market mechanisms and promoting private sector activity. These actions are to be reinforced by additional fiscal adjustment, continued monetary restraint, and implementation of an exchange rate policy aimed at preserving the competitiveness of the nonhydrocarbon sector.

The main objective of fiscal policy over the next three years is to establish a low level of inflation by quickly eliminating the budget deficit and generating budgetary surpluses starting in 1996/97. This would be achieved through further reforms of the tax system--focusing on a broadening of the tax base--and a restructuring of budgetary expenditures to improve their efficiency and coverage of the most vulnerable groups. Attainment of the program's inflation objectives will also require continued rigorous management of domestic liquidity. Various measures, such as the auctioning of central bank refinancing and treasury bonds, and the elimination of restrictions on interest rate spreads, are intended to increase the role of the market in determining interest rates. These policies are expected to reduce inflation substantially and lead to the emergence of positive real interest rates by end-1995.

The macroeconomic objectives for 1995/96 are an acceleration of real economic growth to 5.3 percent from 1.1 percent in 1994/95; a reduction in the year-end rate of inflation to 10.3 percent from 35.1 percent in 1994-95; and a reduction in the budget deficit to 1.3 percent of GDP from 2.8 percent in 1994/95.

Structural Reforms

On the structural front, the centerpiece of the medium-term reform program is a deepening of the liberalization of the trade and payments systems begun in 1994. Trade for invisibles will be liberalized gradually with a view to establishing current account convertibility of the dinar. The fixing sessions at the Bank of Algeria are to be expanded into an interbank foreign exchange market. Remaining restrictions on the price system will be eliminated and the generalized system of subsidies, including untargeted food subsidies, will be phased out by the end of 1996.

A large number of public enterprises will be given full management autonomy while others will be dissolved. A legal framework for privatization of public enterprises will be put in place and a privatization program will be implemented. Commercial banks will be recapitalized and performance contracts will be signed with the state to ensure their efficient management. Various other actions will also be taken to remove structural rigidities of the housing sector and its financing.

Addressing Social Costs

To ensure an equitable distribution of the adjustment burden, the authorities also intend to strengthen the social safety net further. The public works program will be reviewed regularly to ensure that it meets its social objectives, and a standard-of-living survey will be conducted to provide better insights into the extent of poverty and to improve the targeting of the social welfare system. The program also aims at alleviating the severe shortage of housing, which is most acute for the poorest sections of the population.

The Challenge Ahead

Algeria's reform program is ambitious, well-sequenced, and covers a large number of sectors. Its success will depend heavily on strict implementation of its major elements so as to give a clear signal to the private sector about the authorities' commitment to establishing a market economy with vigorous growth. Macroeconomic policies would have to respond promptly to possible declines in the price of oil and timely availability of external financial assistance on appropriate terms will also be crucial to support the authorities' efforts. The most important task is to restore political stability at the earliest in order to create an environment conducive to private sector investment.

Algeria joined the IMF on September 26, 1963, and its quota ¹ is SDR 914.4 million (about $1,403 million). Its outstanding financial obligations to the IMF currently total SDR 828.3 million (about $1,271 million).