- The economy has been hit by several shocks in recent years, including Covid and higher fuel and food prices, resulting in low and volatile growth. After contracting in FY2022, the economy expanded by an estimated 0.8 percent in FY2023 and inflation rose to 6.2 percent driven by higher fuel and food prices.
- The short-term economic prospects are expected to benefit from a boost in public spending, including accelerating public investment, but a declining workforce and limited capacity pose a significant risk.
- The expected renewal of the Compact of Free Association (COFA) with the United States could dramatically improve the economic outlook and debt dynamics and provides an opportunity to adopt an ambitious reform agenda anchored on a vibrant private sector and enhanced climate resilient strategy.
Washington, DC – December 12, 2023: An International Monetary Fund (IMF) team led by Paulo Medas conducted discussions for the 2023 Article IV consultation with the Federated States of Micronesia (FSM) from November 28 to December 12. The team exchanged views with the Finance Secretary Nakanaga, Governor Oliver of Pohnpei state, as well as senior officials in several departments of the national government and state governments, the private sector, and development partners.
At the end of the visit, Mr. Paulo Medas issued the following statement:
"FSM experienced a short-lived recovery in 2021 from Covid, but economic activity has since stagnated because of additional shocks. In FY2023, growth is estimated to have reached 0.8 percent as the borders reopened and public wages increased in the national government. Inflation rose to 6.2 percent in FY2023 fueled by higher import prices for fuel and food and supply bottlenecks. FSM is also experiencing significant labor shortages made worse by emigration.
"After two years of large fiscal surpluses partly due to exceptional strong revenues; the fiscal surplus is estimated to have declined partly driven by a gradual recovery in investment and higher wages in the national government. Public debt declined to 12.4 percent of GDP in FY2023, while the assets of the Compact trust fund and the FSM trust fund reached a total of 323 percent of GDP.
"Growth in FY2024 is projected at 1.1 percent before accelerating further to 1.7 percent in FY2025 boosted by the implementation of COFA and associated public spending. However, there are important risks from external shocks and a significant delay or no renewal of the COFA. Delays in implementing large investments would also hurt growth prospects.
"The lingering effects of Covid-19 and increasingly visible effects of climate change are exacerbating the already daunting challenges faced by FSM. While prompt government action and international support contained the immediate effects of Covid-19, there are more long-lasting negative economic and social effects. Emigration and loss of access to skilled foreign workers led to delays in critical maintenance and investment of public infrastructure that will be hard to reverse.
"The private sector remains underdeveloped, concentrated in a few sectors, and highly vulnerable to shocks. Deteriorating infrastructure undermines growth prospects and access to basic services (e.g., clean water, sanitation). Climate change is also putting more urgency on the need for adaptation efforts and addressing rising concerns with food security.
"The revised COFA, when approved, will bring larger grants for the next 20 years, and offers an opportunity to boost living standards and create well paid jobs. But to fully capitalize on the opportunities, it will require a comprehensive reform effort.
"A set of ambitious reforms—that are mutually reinforcing—is needed to raise sustainable economic growth led by the private sector and tackle climate change. It will require building broad consensus on critical, but difficult reforms and support from the international community. The ongoing work on a new strategic development plan is very timely. It would be important to create a group, including national and state governments and donors, to monitor the implementation of the reforms.
"Strengthening public investment management remains critical to achieve larger growth dividends. Developing a medium-to long-term fiscal framework and public investment management capacity will be key.
"Adopting reforms to allow for a more dynamic and entrepreneurial private sector is crucial. The more pressing priorities are to promote foreign direct investment, which will bring critical resources and know-how, and address land issues that hamper economic and social development.
"Efforts should continue to press ahead on climate adaptation and food security with donor support to improve resilience to climate change. It will be important that the climate and development strategies being developed are integrated.
"Lastly, addressing data weaknesses would help strengthen the effectiveness of public policies and increase transparency and accountability.
"The team would like to thank the authorities for their cooperation, valuable and constructive dialogue, and warm hospitality. We look forward to further strengthening the IMF's close and constructive engagement with the Federated States of Micronesia."
