Securing IMF funds can help Tunisia revive its economy but introducing reforms is key

Tunisia needs to urgently enact reforms to secure a deal with the International Monetary Fund and revive its struggling economy, analysts say.

The North African country, which is facing a worsening economic crisis, had sought $4 billion in funding from the IMF and reached a staff-level agreement with the fund in October for a new 48-month Extended Fund Facility worth about $1.9 billion to support the government’s economic reform programme.

However, it has yet to secure funding from the lender pending implementation of the actions required.

“We have had a number of actions that Tunisia needs to take, so we can go to board, some of these actions proved to be more difficult, and it has taken a longer time for the authorities to implement them,” the IMF's managing director Kristalina Georgieva told The National this month.

“I am very pleased to say that we have made very good progress … I expect that we will be able to go to our board with the programme quite soon.”

Securing the deal is crucial for Tunisia, analysts say.

“The IMF programme will help unlock additional bilateral and multilateral financing from sources that have conditioned their support on an IMF deal and the implementation of the reforms,” says Mariette Kas-Hanna, country risk analyst at Fitch Solutions.

“Together this funding will help stabilise the fiscal and external positions of the country and reduce the government’s short-term liquidity risks.

“A deal with the IMF will also help boost investment flows into the country, as investors’ confidence will improve and we expect that part of the IMF-induced support from GCC countries will come in the form of investment, similar to the case in Egypt.”

The Tunisian government's financing needs are expected to reach 16.8 per cent of gross domestic product in 2023, pushed up by the large additional spending to absorb the shock from the war in Ukraine and external debt maturities of $2 billion this year, according to Fitch Ratings.

Garbis Iradian, chief economist for Mena and Central Asia at the Institute of International Finance, estimates the external financial gap alone at $2.7 billion, equivalent to 6 per cent of GDP.

Tunisia's fiscal and external deficits will likely total a cumulative 13 per cent of its GDP this year, according to the IMF.

Outside of the IMF, Tunisia is negotiating another $1.8 billion in financing, mostly from the GCC.

“In the absence of an IMF programme and financial support from the international community, we project official reserves to decline further from $7.8 billion at end 2022 to $6 billion by end-2023, equivalent to two months of imports of goods, services and income payments,” Mr Iradian says.

“The public debt remains very high at 77 per cent of GDP in 2022. A primary surplus will be needed to put the debt back on downwards trajectory.”

An IMF deal will not help the authorities achieve macroeconomic stability, including lower current account and fiscal deficits, but will encourage them to enact the needed structural reforms, he adds.

“Without a deal, not only is Tunisia going to continue to struggle meeting its budgetary needs, it will also continue to fail to instil confidence in its economy,” says Intissar Fakir, senior fellow and director of the North Africa and Sahel programme at the Middle East Institute think tank.

“If Tunisia is not able to show that it can tackle the economic situation by reaching a deal with the IMF, other avenues for financing become severely limited.”

In January, credit rating agency Moody’s Investor Services downgraded Tunisia’s credit ratings, cutting long-term foreign-currency and local-currency issuer ratings to Caa2 from Caa1 and changed the outlook to negative. Caa ratings are judged to be of poor standing and are subject to very high credit risk.

“The downgrade was driven by our assessment that the absence of comprehensive financing to date to meet the government's large funding needs raises default risks,” says Mickael Gondrand, an analyst at Moody’s.

“A new IMF programme has yet to be secured, aggravating an already challenging funding position and compounding the pressures on Tunisia's foreign exchange reserve adequacy.

“The negative outlook reflects our view that, barring a timely improvement to external financing prospects, the probability of default may rise beyond what is consistent with a Caa2 rating.”

It also reflects the “social, political and institutional challenges that constrain prospects for reform implementation, on which financing prospects are dependent”, he says.

Focus on reforms

Tunisia's economy was hit hard during the Covid-19 pandemic, contracting 9.2 per cent in 2020, the worst in the Mena region, according to the World Bank.

While its economy has since rebounded, it continues to face strain from rising inflation amid the Russia-Ukraine war as well as growing unemployment.

Tunisia's economy is forecast to grow 1.6 per cent in 2023, while inflation is projected at 8.5 per cent, according to the IMF. The unemployment rate hit 16.2 per cent in 2022.

The country aims to reduce its fiscal deficit to 5.5 per cent in 2023, from 7.7 per cent last year, as it continues to carry out austerity measures, state-owned news agency Tunis Afrique Presse reported in December, citing official data.

Spending on subsidies and on financial operations this year is projected to drop 26.4 per cent and 56.5 per cent, respectively, while tax revenue will rise by 12.5 per cent, it said.

However, one of the challenges has been getting the powerful Tunisian General Labour Union (UGTT) to agree on the reforms. The union has been rallying against cutting spending in the public sector and the removal of subsidies.

“The UGTT is looking to negotiate the most favourable terms for their constituents given the circumstances,” Ms Fakir says.

“Some of the intractable issues have included reform of state-owned enterprises. The government reached an agreement with UGTT on subsidy cuts and hiring freeze but it is not clear where those agreements stand at the moment.

“The government needs to be more empowered to negotiate with the UGTT and the UGTT has to put the country's overall economic well-being before its own interests.”

According to S&P Global Ratings' base case scenario, Tunisia will be able to secure a deal with the IMF by the end of the first quarter and will be able to attract some additional bilateral and multilateral support, says Mohamed Damak, the agency's senior director of financial institutions ratings.

“At the same time, downside risks are significant and could materialise in the next 12 months,” he adds.

These include external risks, such as a stronger-than-expected slowdown in Europe, or a higher-than-expected rise in commodities prices, as well as internal risks due to returning political instability or major opposition from stakeholders on reform implementation.

“The authorities have been showing strong commitment and a marked progress on completing the prior action requested by the fund,” says Ms Kas-Hanna.

“They have been taking some bold moves, such as cutting fuel subsidies, despite the difficult economic and political conditions in the country.

“This goes on to show the urgency for the funding that the programme will help unlock given Tunisia’s constrained access to international markets.”

Looking ahead, risks to Tunisia's credit profile will remain skewed to the downside even under any eventual IMF agreement, says Mr Gondrand.

“While the government's reform agenda offers a route to redressing Tunisia's large fiscal and external imbalances, implementation is likely to be tested by political, social and institutional obstacles,” he adds.

Meanwhile, if financial support falls short of its requirements, the Tunisian government might have to cut spending and take measures to preserve foreign currency reserves, enact strict import restrictions, or even consider some capital controls on non-resident deposits, says Mr Damak.

With public wages accounting for 42 per cent of total spending, according to the 2023 budget, it would likely aggressively cut subsidies (16 per cent of spending), further reduce investments (9 per cent) and accumulate arrears.

“The government might also increase its recourse to the local market to mobilise resources from banks or other cash-rich public sector enterprises,” he says.

“This could increase pressure on banks' funding. If there is no financial support at all, this could lead to major balance-of-payments, fiscal and currency instability.

“It might also lead the country to default on its financial obligations. We would expect this to be accompanied by a significant depreciation of the Tunisian dinar and a major spike in inflation.

“As a result, banks would likely incur significant losses and need to be recapitalised.”

Tunisia's future outlook will very much depend on the country’s capacity to mobilise resources and enact reforms, he adds.