VZCZCXRO9889
RR RUEHBZ RUEHDU RUEHJO RUEHMR RUEHRN
DE RUEHLS #0429/01 1001437
ZNR UUUUU ZZH
R 101437Z APR 07
FM AMEMBASSY LUSAKA
TO RUEHC/SECSTATE WASHDC 4225
INFO RUCNSAD/SOUTHERN AFRICAN DEVELOPMENT COMMUNITY
RUCPDOC/DEPT OF COMMERCE WASHDC
RUEATRS/DEPT OF TREASURY WASHDC

UNCLAS SECTION 01 OF 02 LUSAKA 000429 
 
SIPDIS 
 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: ECON EFIN EINV EAID ZA
SUBJECT: IMF GIVES ZAMBIA'S ECONOMIC MANAGEMENT HIGH MARKS AGAIN 
 
REF:  A) LUSAKA 171; B) 06 LUSAKA 1523 
 
¶1. (SBU) Summary: Zambia's Poverty Reduction and Growth Facility 
program is "on track" and its macroeconomic performance has been 
good, according to a recent International Monetary Fund assessment 
team visit.  The Zambian Government (GRZ) adequately addressed the 
team's concerns about fiscal accounts and potentially large 
carry-overs of unspent funds from year to year, and gave assurances 
regarding its plans to improve cash management and establish a 
single treasury.  The team observed the slow GRZ movement on private 
sector development reform, but maintained a "big picture" focus that 
was largely positive.  The IMF team's disregard over both an 
improved environment for private sector growth and the GRZ's active 
involvement in the agriculture sector, and its misplaced emphasis on 
mopping up excess liquidity are disappointing.  End summary. 
 
¶2. (U) Introduction: An IMF mission visited Zambia from March 14 to 
28, 2007 to complete the fifth review and conduct a sixth review of 
Zambia's performance under the Poverty Reduction and Growth Facility 
(PRGF).  The mission chief, Francesco Caramazza, briefed donors at 
the start of the mission and at the mission's end, on March 28.  He 
explained that the report of the previous mission (the start of the 
fifth review) in October 2006 (Ref B) was never finalized or 
approved by the Board because of key outstanding fiscal issues, 
which ultimately were resolved. Highlights of the briefing are 
provided below. 
 
Overall Picture Good, Concerns Being Addressed 
 
¶3. (SBU) The Fund was pleased with the almost 6 percent real GDP 
growth in 2006, a result of continued mining sector expansion and a 
strong construction sector, Caramazza told donors.  He did raise 
concerns at the in-brief over reconciliation of a large discrepancy 
in the 2006 fiscal accounts.  He reported that there was 
over-financing of about Kwacha 525 billion (USD 125 million) and 
this was linked to large levels of "carry-over funds" (unspent 
budget allotments).  From 2005 to 2006, carry-over funds amounted to 
almost Kw 600 billion (USD 143 million), while carry-overs from 2006 
to 2007 were possibly as much as Kw 360 billion (USD 86 million). 
However, during the course of the visit, Ministry of Finance and 
National Planning (MOFNP) officials provided information and 
explanations that showed the IMF that the carry-over was lower than 
originally thought, at Kw 166 billion (USD 40 million). 
 
¶4. (SBU) Caramazza said that large carry-overs were not efficient 
and reflected cash management difficulties.  He said that the MOFNP 
is well aware of the problems and taking steps to address them, 
including through establishment of a national treasury and by 
enacting constitutional changes to the budget cycle, which should 
make a significant difference.  The GRZ maintains many accounts in 
commercial banks that earn no interest, he noted, and it is 
essential that these accounts be centralized for better management 
and accountability.  He added that there is a desperate need to 
strengthen the cash management system and that technical assistance 
from donors would be welcome. 
 
Inflation Outlook Positive 
 
¶5. (SBU) Caramazza noted that there was a surge in monetary 
expansion at the end of 2006 that the Bank of Zambia tried hard to 
absorb.  Comment: We understand that the IMF strongly pressured the 
BOZ to mop up this excess liquidity, although Caramazza did not 
divulge this to the donors.  This impacted the short-term government 
securities market in two ways.  The BOZ's open market operations 
(OMO) competed directly with the 91-day Treasury bill market, and 
the BOZ accepted higher interest rates in the drive to absorb 
liquidity, thereby causing demand for 91-day T-bills to evaporate. 
Also, OMO has set the benchmark rates that the government securities 
market is now following, which is the opposite of normal (and good) 
practice, in which the T-bill is the reference rate.  Given its 
singular monetary policy focus on targeting excess reserves, the IMF 
is not concerned with these unintended consequences, which will 
ultimately have a negative impact on government spending, due to 
higher debt service costs.  End Comment. 
 
¶6. (SBU) The IMF believes that the GRZ's goal of 5 percent inflation 
by the end of 2007 is reachable in the "medium term" (by the end of 
2008); Caramazza was not willing to comment specifically about 
expected results by the end of 2007, because of uncertainty around 
oil and food prices.  Caramazza admitted that the IMF and GRZ need a 
better understanding of the various factors driving inflation in 
Zambia, and said that GRZ talk about targeting inflation was 
"premature." 
 
Budget 2007 -- Some Concerns Over Revenues 
 
¶7. (SBU) Caramazza noted that the 2007 national budget (Ref A) was 
more expansionary than was indicated by the GRZ's Medium Term 
Expenditure Framework.  The IMF has concerns regarding the revenue 
projections, he said.  He expressed reservations about the way that 
the GRZ was offering tax incentives, in particular how broadly the 
 
LUSAKA 00000429  002 OF 002 
 
 
GRZ defined incentives, tax holidays, and its Multi-Facility 
Economic Zone program.  Extensive global experience shows that 
governments must take measures to ensure that the tax base is not 
eroded and that sufficient revenues are generated, Caramazza 
commented, and there are other, better ways to offer incentives to 
investment.  He also credited the Zambia Revenue Authority with 
better results in collecting Value Added Tax and noted the positive 
impact of a data base that captured external financing more 
effectively, thanks to greater information from donors. 
 
Private Sector Development (PSD) Still Lagging 
 
¶8. (SBU) Caramazza had noted in October 2006 that the GRZ had been 
very slow to implement agreed-upon PSD reform measures (Ref B).  He 
said that GRZ movement on PSD reforms continued to be "slow" and 
that private sector representatives with whom the mission met raised 
concerns of GRZ bureaucracy and regulations, the lack of skills in 
the workforce, and high transport and telecommunications costs.  He 
characterized progress on PSD as "insufficient" and said that the 
GRZ needed to step up its efforts in this area. 
 
Donor Concerns: Mineral, Agriculture Sectors 
 
¶9. (SBU) Some donors questioned how aggressively the GRZ would seek 
dialogue with mining companies over new tax and royalty arrangements 
for mining that were announced in the 2007 budget.  They noted that 
it was hard to get approval for additional budget support in their 
capitals as long as companies here earned windfall profits from high 
world copper prices while the GRZ received very little from them in 
terms of direct revenue.  Caramazza reminded donors that the new 
provisions did not apply to existing contractual commitments, and 
that given the contributions of the mining sector to the economy and 
the sector's turnaround in recent years thanks to the new investment 
inflows, the GRZ should continue to respect contracts.  He noted 
that the largest tax contributor, Mopani Copper Mine, already paid 
USD 75 million in taxes to the GRZ.  He said that some of the mining 
companies had indicated a willingness to enter into negotiations on 
their contract terms, but the GRZ had not yet approached them. 
 
¶10. (SBU) When asked about the distorting effect of announced export 
bans on maize, Caramazza said that the GRZ told the mission that it 
wasn't actually banning exports and had already approved the export 
of 40,000 tons of maize, and that it would be monitoring the 
situation closely and considering further exports.  With respect to 
a question of (overpriced) maize purchases by the government's Food 
Reserve Agency (FRA), he said that the GRZ maintains that it will 
end budget support to the FRA in 2008, at which point the FRA will 
have to become self-financing.  He said that the IMF mission had not 
discussed fertilizer subsidies with the GRZ. 
 
What's Next? 
 
¶11. (SBU) Due to the delay in completing the fifth review, the PRGF 
timeframe will be extended by three months.  PRGF completion will be 
in September 2007, rather than June 2007.  The IMF and GRZ are 
discussing two possible options for what comes next: one is another 
PRGF with a lesser amount of financing; the other is a Public 
Support Instrument, which involves similar reviews of economic 
performance, but without the loan facility. 
 
Comment 
 
¶12. (SBU) The IMF team's apparent disregard over lack of progress in 
PSD reforms and the GRZ's meddling with the agricultural market is 
disappointing, but it was clear that the team members consider these 
issues to be outside of their scope of influence.  Similarly, the 
IMF's insistence on the BOZ's addressing excess liquidity regardless 
of other costs is unfortunately myopic.  End comment. 
 
PASSEN