Solomon Islands’ economy has rebounded strongly from the 2008–09 global financial crisis. Growth contracted by nearly 5 percent in 2009 driven by a drop in commodity exports, mainly logging. International reserves were depleted. An 18-month Standby Credit Facility (SCF) Arrangement was approved in June 2010. The program succeeded in restoring macroeconomic and financial stability, catalyzing donor support, and promoting structural reforms. Strong demand for logging from emerging Asia, particularly in China, and favorable terms of trade triggered an unexpected surge in logging production in 2010 and growth rebounded to 7 percent.
A strong commodity-based recovery is underway. Log production surprised on the upside and jumped by 40 percent (year-on-year) in the first eight months of 2011, close to an historical high. This reflected investments of new logging companies, re-entry logging (the harvesting of native stands in areas previously logged and where trees have not re-grown fully), and strong log prices following the earthquake and tsunami in Japan in March, which triggered a surge in demand for logs to build temporary housing. The redeveloped Gold Ridge mine which started its operations in April 2011 has also been supporting the economic expansion over the last few months.
Inflation pressures are dissipating.
After falling to 1 percent in 2010, inflation increased to 8.7 in August 2011 reflecting base effects and the pass-through of global energy and food prices. However, the latest reading of month-on-month data through August suggest a sustained downward momentum. Both headline and core inflation (excluding food and fuel) are edging down helped by the revaluation of the domestic currency in June and the decline in fuel prices since mid-year, with headline inflation reaching almost a negative territory on a month-on-month basis.
Reserve buffers have been rebuilt.
The trade balance shifted from deficit to surplus during April-September 2011, for the first time since 2004 driven by exceptionally strong exports of gold and logging. As a result, the balance of payment position improved, supported by large FDI and aid flows. Gross international reserves increased to US$355 million in June 2011 from less than US$100 million in mid-2009.
However, progress toward reducing poverty has been limited. Despite strong growth, the recovery is uneven and growth remains concentrated in the commodity sector with limited spill-over to the rest of the economy.
Executive Directors agreed with the thrust of the staff appraisal.
They commended the Solomon Islands authorities for the strong performance under their Fund-supported program. Macroeconomic and financial stability have been restored and international reserves have been rebuilt. The government’s sound economic management also helped catalyze donor support. While the prospects of the economy are favorable, downside risks have increased with the uncertainty in the global outlook. The vulnerability to commodity price and demand shocks, along with concentration of growth in the commodity sector, pose further challenges.
Directors emphasized that building resilience to shocks, and adopting a more balanced and inclusive growth model, by fostering economic diversification and private sector development, while accelerating progress on poverty reduction remain top priorities. They agreed that the authorities’ economic program would help consolidate macroeconomic progress and strengthen institutions and structural policies.
Directors emphasized the importance of preserving the strong fiscal position and strengthening the medium-term fiscal framework. They welcomed the authorities’ plan to move to a multi-year budget framework and their commitment to achieving a balance between maintaining strong buffers and increasing spending on critical infrastructure and social priorities. Directors looked forward to the new resource taxation regime to promote fiscal transparency and enhance the efficiency of tax collection; reform of mining legislation to broaden the tax base; and strengthening public financial management.
For the medium term, Directors also highlighted the importance of prudent management of mineral resources, anchoring fiscal policy to the noncommodity balance in order to avoid pro-cyclicality, and resuming concessional borrowing to secure development financing.
Directors considered that the monetary and exchange rate policies since the beginning of the year have helped moderate inflation and anchor inflation expectations.
They agreed that monetary tightening would be warranted if private sector credit increases rapidly and creates inflationary pressures.
Directors noted that the banking system remains profitable and adequately capitalized. They encouraged the central bank to continue strengthening the supervisory and regulatory framework to mitigate risks facing the financial sector. Directors agreed that reforming the National Provident Fund legislation will also help to preserve financial sector stability.
Directors welcomed the adoption of the National Development Strategy, which should help the authorities achieve their growth and poverty reduction objectives.
They called for sustained further efforts to promote private sector-led growth by improving the business environment and access to credit by small businesses, and reforming state-owned enterprises.
