Council opinion of 10 March 2009 on the updated stability programme of Malta, 2008-2011
Date: 2009-03-10
Institutions: Council of the European Union
Subjects: Malta, budget estimate, economic forecasting, public finance, stability programme

C 66/12

EN

Official Journal of the European Union

20.3.2009

COUNCIL OPINION

of 10 March 2009

on the updated stability programme of Malta, 2008-2011

(2009/C 66/03)

THE COUNCIL OF THE EUROPEAN UNION,

Having regard to the Treaty establishing the European Community,

Having regard to Council Regulation (EC) No 1466/97 of 7 July 1997 on the strengthening of the surveil-
lance of budgetary positions and the surveillance and coordination of economic policies (1), and in particular
Article 5(3) thereof,

Having regard to the recommendation of the Commission,

After consulting the Economic and Financial Committee,

HAS DELIVERED THIS OPINION:

(1)

On 10 March 2009, the Council examined the updated stability programme of Malta, which covers
the period 2008 to 2011.

(2) While until now the financial crisis has had a modest effect on Malta, economic activity, especially
the external sector, is expected to suffer from the ensuing global slowdown. The notable reduction in
the general government deficit which took place over the period 2004-2007 was temporarily halted
in 2008, when it is estimated to have increased to 3,5 % of GDP, linked to specific expenditure-
increasing decisions. The budgetary strategy is to resume fiscal consolidation from 2009. Within the
overall strategy, some measures have been taken to respond to the economic slowdown by increasing
public investment (partly financed by EU funds), bolstering purchasing power and providing direct
support targeted at manufacturing, tourism and SMEs. Resuming the path towards budgetary consoli-
dation, while at the same time further diversifying the economic base and bolstering the export
sector by strengthening competitiveness, are key challenges facing Malta. While Malta pursues a
strategy of promoting non-price competitiveness by facilitating upwards shifts in value-added activity,
cost competitiveness remains key to export-led growth.

(3)

(4)

The macro-economic scenario underlying the programme envisages real GDP growth to decelerate
from 2,8 % in 2008 to 2,2 % in 2009 before recovering to an average rate of 2,7 % over the rest of
the programme period. Assessed against currently available information (2), this scenario is based on
markedly favourable growth assumptions because of relatively strong assumed recovery in exports.
The programme's projections for inflation appear to be on the high side in 2009 but are plausible
thereafter. The possibility that overall wages rise in excess of productivity gains may result in a less
favourable development in Malta's competitiveness than implied by the updated stability programme.

For 2008, the general government deficit is estimated at 3,5 % of GDP in the Commission services'
January 2009 interim forecast, against a target of 1,2 % of GDP set in the previous programme (3).
The difference primarily reflects higher-than-planned expenditure growth, driven mainly by: (i) the
unbudgeted one-off cost related to the granting of early retirement schemes to shipyard employees
(1 % of GDP); (ii) additional expenditure in respect of energy subsidies (0,8 % of GDP); and (iii) a
higher-than-planned increase in the wage bill on account of additional recruitment and higher wages
in particular in the health sector (0,5 % of GDP).

(1) OJ L 209, 2.8.1997, p. 1. The documents referred to in this text can be found at the following website:

http://ec.europa.eu/economy_finance/about/activities/sgp/main_en.htm

(2) The assessment notably takes into account the Commission services' January 2009 forecast, but also other information

that has become available since then.

(3) The programme estimates the 2008 deficit outcome at 3,3 % of GDP, confirming the value reported in the EDP notification
of October 2008. In view of the reported breach of the Treaty reference value, the Commission prepared on 18 February
2009 a report under Article 104(3) of the Treaty.

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(5)

(6)

(7)

(8)

According to the programme, the general government deficit is targeted to fall to 1,5 % of GDP
in 2009 (one-off deficit-reducing transactions taking the form of sales of
land are projected to
amount to 0,3 % of GDP). The structural deficit in 2009 is diminishing. The budgetary impact of
measures to support the economy (expected to amount to 1,5 % of GDP) is more than offset by the
deficit-reducing impact of the reduction in energy and other subsidies, the vanishing of the one-off
cost related to early retirement schemes to shipyard employees and an increase in excise duties
together with higher tax buoyancy (from international companies), amounting to around 2,25 % of
GDP.

The medium-term budgetary strategy outlined in the update aims at pursuing further fiscal consolida-
tion over the programme period, with the overarching aim of achieving the medium-term objective
(MTO) of a balanced budgetary position in structural terms (i.e. in cyclically-adjusted terms net of
one-off and other temporary measures) by 2011, one year later than planned in the 2007 stability
programme. The headline deficit is foreseen to decline further to 0,3 % of GDP in 2010, before
turning into a surplus of 1,2 % of GDP in 2011, although the programme gives no indications about
the measures underlying this path. The consolidation envisaged over the programme horizon will be
primarily achieved through expenditure restraint, with a cut in the expenditure ratio by 3,2 percen-
tage points of GDP, whilst revenue is expected to increase by 1,2 percentage points. Expenditure
restraint is underpinned by lower subsidies and social payments (both front-loaded to 2009) and
government consumption (back-loaded to 2010-2011). The bulk of the increase in revenue over the
programme horizon is due to an assumed higher yield from direct taxes, which the programme attri-
butes to a higher number of registered international operators in Malta. Government gross debt, esti-
mated at 62,8 % of GDP in 2008, is projected to decline by 3 percentage points by 2010 and further
by 3,5 percentage points in 2011, mainly driven by the growing primary surplus from 2009
onwards.

The budgetary outcomes are subject to downside risks throughout the programme period. The risks
mostly relate to the favourable macro-economic scenario, the reliance on volatile revenue items (an
uncertain increase in direct taxes from international companies) and the possibility of expenditure
slippages compared to the envisaged back-loaded decline in public consumption. For 2010 and 2011,
an additional risk factor is the lack of information on measures underpinning the consolidation
process, in particular as regards the envisaged continued restraint in the public wage bill. The risks to
the deficit projections imply that
the debt ratio could turn out higher than expected in the
programme.
In addition, based on currently available information, the liquidation of the Malta
Shipyards during the course of 2009 could result in a higher debt level.

The long-term budgetary impact of ageing in Malta is significantly lower than the EU average, with
pension expenditure decreasing as a share of GDP over the long-term according to the projections
made in 2005. Yet, the 2006 pension reform, which aims at improving the level of pension while
also increasing the retirement age, is likely to imply higher spending over the long run. In addition,
the current level of gross debt is above the Treaty reference value. The budgetary position in 2008 as
estimated in the programme, which is worse than the starting position of the previous programme,
compounds the budgetary impact of population ageing on the sustainability gap. Improving the
budgetary position would contribute to reducing the medium risks to the sustainability of public
finances.

(9) While expenditure outturns over the period 2004-2007 were below budgeted amounts, experience in
2008 has shown that public expenditure is still subject to discretionary decisions in the budget imple-
mentation phase, whilst the budget lacks a clear medium-term focus. The programme does not envi-
sage improvements in this area. In addition, the efficiency and effectiveness of expenditure in educa-
tion and health seem to be weak.

(10)

In October 2008, the government announced an increase in the guarantee on deposits held with
banks in Malta from EUR 20 000 to EUR 100 000. No other measures to help stabilise the financial
system have proved necessary so far.

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(11)

Fiscal policy in 2009 is overall consolidating the budget which is adequate and in line with the
European Economic Recovery Plan agreed in December 2008 by the European Council (EERP) in the
light of the high deficit and debt ratios and the competitiveness challenge. However, in line with the
EERP, Malta adopted several measures to support the economy in 2009. Most of these measures are
timely and targeted and are addressed to sectors which are expected to be hit hardest by the economic
slowdown, e.g. tourism and manufacturing. With the exception of public investment, which will
moderate as a share of GDP in 2011, the measures seem to be of a permanent nature. A number of
structural measures, which are part of the longer-term policy reform agenda, should provide support
in view of the challenges posed by the downturn by enhancing growth potential. Specifically, the
planned liberalisation of public transport will render the sector more efficient and competitive, while
the implementation of a flexicurity roadmap will help ensure an adequate supply of skills in emerging
high-skill sectors. Furthermore, the programme envisages higher outlays on infrastructure and envir-
onmental projects. The measures are related to the medium-term reform agenda and the country-
specific recommendations proposed by the Commission on 28 January 2009 under the Lisbon
Strategy for Growth and Jobs.

(12) According to the programme, the structural balance as recalculated by the Commission services on
the basis of the information in the programme is expected to improve further by a yearly average of
1,25 percentage points of GDP in 2010-2011. Taking into account the important risks to the
budgetary targets, the stance in the programme would not provide a sufficient safety margin against
breaching the 3 % of GDP deficit limit by the end of the programme period. The planned consolida-
tion in the outer years should be backed up by measures. Taking into account the risks to the debt
projections, the debt ratio seems to be sufficiently diminishing towards the reference value in a
medium-term perspective, although increasing slightly in the short term according to the Commission
forecast, bearing in mind the significant decline in the ratio during the period 2004-2007.

(13) As regards the data requirements specified in the code of conduct for stability and convergence

programmes, the programme provides all required and most of the optional data (1).

The overall conclusion is that, against a backdrop of weakening economic growth and a breach of the 3 %
of GDP deficit reference value in 2008, the programme envisages a return to budgetary consolidation from
2009 onwards, brought about by expenditure restraint and, to a lesser extent, higher revenue. This is in line
with the European Economic Recovery Plan and can be regarded as adequate given the high deficit and debt
ratios and the competitiveness challenge. However, there are risks to the achievement of the deficit and debt
targets over the programme period stemming from the favourable macro-economic scenario, the reliance on
volatile revenue, the possibility of expenditure slippages and the lack of information on the consolidation
measures in the outer years. The debt ratio, which is targeted to fall gradually over the programme period to
below the 60 % of GDP reference value but is subject to the risks mentioned above, seems to be sufficiently
diminishing towards the reference value in a medium-term perspective, although increasing slightly in the
short term according to the Commission forecast, bearing in mind the significant decline in the ratio during
the period 2004-2007. Although improving in recent years, the lack of diversification in the economic base
increases Malta's exposure to external shocks, especially in the face of the current economic downturn.
Moreover, competitiveness remains vulnerable, especially if overall wages move out of line with productivity.

In view of the above assessment, Malta is invited to:

(i) resume fiscal consolidation as envisaged in the programme so as to return to a deficit-to-GDP ratio
below 3 % in 2009 as planned and ensure that the general government debt ratio is reduced accordingly,
by spelling out the measures underlying the planned consolidation in the outer years towards the MTO;

(ii) strengthen the medium-term budgetary framework and enhance the efficiency and effectiveness of
public spending, including by accelerating the design and implementation of a comprehensive healthcare
reform.

(1) In particular, the data on general government debt developments, in particular data on stock-flow adjustment in respect of
differences between cash and accruals, net accumulation of financial assets, net accumulation of financial assets — privati-
sation proceeds, valuation effects and other, liquid financial assets, net financial debt, all for the period 2007-2011, are not
provided.

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Comparison of key macro-economic and budgetary projections

2007

2008

2009

2010

2011

Real GDP
(% change)

HICP inflation
(%)

Output gap (1)
(% of potential GDP)

Net lending/borrowing
vis-à-vis the rest of the
world
(% of GDP)

General government
revenue
(% of GDP)

General government
expenditure
(% of GDP)

General government
balance
(% of GDP)

Primary balance
(% of GDP)

Cyclically-adjusted
balance (1)
(% of GDP)

SP Dec 2008

COM Jan 2009

CP Nov 2007

SP Dec 2008

COM Jan 2009

CP Nov 2007

SP Dec 2008

COM Jan 2009 (2)

3,7

3,9

3,5

0,7

0,7

0,9

0,0

1,1

2,8

2,1

3,1

4,5

4,6

2,5

0,1

1,2

CP Nov 2007

– 0,8

– 0,1

2,2

0,7

3,2

2,7

1,9

2,3

2,5

1,3

3,4

2,3

2,2

2,1

– 0,3

– 0,5

0,0

0,5

– 0,6

1,9

SP Dec 2008

– 5,5

– 5,1

– 3,1

– 2,7

COM Jan 2009

– 4,6

– 5,5

– 5,5

– 5,3

CP Nov 2007

– 0,5

0,2

3,2

5,5

2,8

n.a.

n.a.

2,0

n.a.

n.a.

0,5

n.a.

n.a.

0,7

n.a.

n.a.

SP Dec 2008

40,6

40,6

41,7

41,8

41,9

COM Jan 2009

40,4

40,7

41,1

41,2

CP Nov 2007

41,0

40,9

39,9

39,5

n.a.

n.a.

SP Dec 2008

42,4

43,9

43,2

42,1

40,7

COM Jan 2009

42,2

44,2

43,7

43,8

CP Nov 2007

42,7

42,2

40,0

38,5

SP Dec 2008

– 1,8

– 3,3

– 1,5

– 0,3

COM Jan 2009

– 1,8

– 3,5

– 2,6

– 2,5

CP Nov 2007

– 1,6

– 1,2

– 0,1

SP Dec 2008

COM Jan 2009

CP Nov 2007

1,6

1,6

1,7

0,0

– 0,2

2,0

1,9

0,8

2,9

0,9

3,0

0,8

3,8

SP Dec 2008

– 1,8

– 3,4

– 1,4

– 0,1

COM Jan 2009

– 2,2

– 4,0

– 2,6

– 2,3

CP Nov 2007

– 1,3

– 1,2

– 0,3

0,3

n.a.

n.a.

1,2

n.a.

n.a.

4,3

n.a.

n.a.

1,0

n.a.

n.a.

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20.3.2009

Structural balance (3)
(% of GDP)

Government gross debt
(% of GDP)

SP Dec 2008

COM Jan 2009

CP Nov 2007

SP Dec 2008

COM Jan 2009

CP Nov 2007

2007

2008

2009

2010

2011

– 2,4

– 2,8

– 2,1

62,2

61,9

62,9

– 3,7

– 3,3

– 1,4

62,8

63,3

60,0

– 1,7

– 2,9

– 0,5

61,9

64,0

57,2

– 0,2

– 2,3

0,1

59,8

64,2

53,3

0,9

n.a.

n.a.

56,3

n.a.

n.a.

Notes:
(1) Output gaps and cyclically-adjusted balances according to the programmes as recalculated by Commission services on the basis of the

information in the programmes.

(2) Based on estimated potential growth of 2,3 %, 2 %, 1,9 % and 1,9 % respectively in the period 2007-2010.
(3) Cyclically-adjusted balance excluding one-off and other temporary measures. One-off and other temporary measures are 0,6 % of GDP
in 2007, 0,3 % of GDP in 2008, 0,3 % of GDP in 2009 and 0,1 % of GDP in 2010; all deficit-reducing, according to the 2008 stability
programme and 0,6 % of GDP in 2007, – 0,6 % of GDP in 2008 and 0,3 % of GDP in 2009 in the Commission services' January 2009
interim forecast.

Source:
Stability programme (SP); Commission services' January 2009 interim forecasts (COM); Commission services' calculations.