ľ¹ÏÓ°Ôº

Skip to Main Navigation
publicationNovember 30, 2023

Lao Economic Monitor, November 2023: Fiscal Policy for Stability - Key Findings

Latest Issue: 
  • Nov 2023
A man uses an automatic payment machine to pay customs duty on imported goods at the  Laos-Thailand border near Vientiane

A man pays border fees through an automated system at the Lao-Thai border near Vientiane 

Phoonsab Thevongsa / World Bank

The Lao economy has continued its recovery in 2023, with GDP growth forecast at 3.7%, up from 2.7% in 2022. Improved performance in tourism, transport and logistics services, and foreign investment has contributed to the recovery. However, growth is lower than previously expected, mainly because of the falling value of the kip, inflation, labor shortages, and unfavorable weather. Inflation has increased consumption costs, reduced household spending on food, education, and health, and depleted savings, thereby placing many households at risk of falling into poverty. To restore economic stability, it is crucial that ongoing debt renegotiations are successfully concluded and that more revenue is raised to protect spending on human capital.

?    The kip continues to depreciate, falling in value by 29% against the Thai baht and 21% against the US dollar in the year to October 2023. With banks rationing access to foreign currency at official rates, the difference between official and parallel market exchange rates has risen to about 15% for the dollar and 8% for the baht. The main factor in the kip¡¯s falling value has been the lack of foreign currency available in country, a result of the need to repay large external debts, despite some deferrals, and limited capital inflows. Monetary policies and exchange rate measures have had only a temporary impact on official and parallel market exchange rates, suggesting that they are not fixing the root causes of kip depreciation. 

?     On average, a 1% fall in the value of the kip increases consumer prices by 0.5%. Therefore, inflation will remain high until exchange rates stabilize. While the global prices of some imported goods have eased, inflation remains high in Laos, reaching 26% in the year to October 2023. Food price inflation stood at 29%, severely affecting poor urban households. 

?     Real household incomes have suffered from rising living costs. In a World Bank survey conducted in June 2023, 54% of interviewed households said their income had remained stable or declined. While inflation reached 39% percent in the year to May 2023, the average nominal wage grew by only 5.7%, meaning inflation-adjusted wages dropped by an average of 33%. Households are coping by producing or foraging more food, reducing how much they eat, and migrating to Thailand in search of better-paid jobs. Half of the respondents now spend less on health and education. As public expenditure in these sectors is also falling, Laos¡¯ overall investment in human capital is declining, which will affect medium-term economic growth prospects.

?     The government has taken measures to improve its finances by controlling expenditure and increasing domestic revenues in the first half of 2023. Higher economic activity and price increases have offset reduced VAT and fuel excise rates. To further boost revenues, excise rates have recently been raised on vehicles, alcohol, and tobacco. While the government earned more than it spent in the first half of 2023, high debt repayments mean fiscal space is still limited, constraining investment in human capital. Combined public spending on education and health has declined from 4.9% of GDP in 2013 to an estimated 2.3% in 2023.

?     Public and publicly guaranteed (PPG) debt is undermining macroeconomic stability and development prospects. Laos faces solvency and liquidity challenges due to significant financing needs, limited financing options, low foreign exchange reserves, and considerable depreciation pressures. The PPG debt stock reached 112% of GDP at the end of 2022, although that value rises to 125% of GDP if expenditure arrears and a swap arrangement are included. The energy sector, primarily through EDL, accounted for about 48% of external PPG debt in 2022. About half of the debt stock in 2022 and half of external debt repayments scheduled for 2024¨C27 is owed to China. Deferrals of debt payments due to China amounted to about $2 billion between 2020-23, providing some temporary relief. However, a high degree of uncertainty surrounds future repayment plans, so a successful conclusion to ongoing debt renegotiations will be crucial to restoring macroeconomic stability. 

?     Assuming that Laos resumes making debt repayments on schedule, economic growth is projected to accelerate to an average of 4.2% in the medium term, led by the services sector and exports. Growing international demand, coupled with Laos¡¯ improving connectivity and logistics services, is expected to help manufacturing and agriculture exports. Industry may also benefit from investment in the power sector and special economic zones. However, structural weaknesses will limit growth. The kip is likely to remain under pressure because of high imports and large debt repayments due. Inflation will therefore remain in double-digits in 2024. With high living costs, household incomes will improve only gradually, and slow progress in poverty reduction will likely continue. 

?     External imbalances are expected to persist, undermining exchange rate stability. The current account deficit is expected to remain at around 3-4% of GDP as improvements in merchandise exports, tourism, and remittances are offset by higher imports and interest payments on debt.

?     The economic outlook is subject to significant uncertainty. The main external risks include low global and regional growth, which would lower demand for Lao exports. Escalating global tensions could raise commodity prices, which would in turn increase domestic inflation. Domestic risks include further loss of foreign currency because of debt service obligations, slow progress with structural reforms, and a deterioration of bank balance sheets. Labor shortages due to out-migration can undermine the recovery prospects of labor-intensive sectors, including agriculture, manufacturing, and services. Climate shocks could also hamper economic recovery.

To support the Lao government¡¯s National Agenda Addressing Economic-Financial Difficulties, the World Bank advocates urgent r

Restoring macroeconomic stability requires a strong commitment to ambitious reforms in five crucial policy areas

Part B: Restoring Macroeconomic Stability through Revenue Mobilization 

?     Improved domestic revenue collection is fundamental to restoring economic stability and boosting public spending on human capital. For most of the 2010s, low revenue collection resulted in high fiscal deficits. Large investments in infrastructure have also created significant public debt. Moreover, low foreign-currency revenues, particularly due to generous tax exemptions, create pressure on the exchange rate and hence inflation. Therefore, improving tax policy and tax administration is key to boost revenue collection, which would help create fiscal space and meet financing needs.

?     Revenue levels, already low by regional and income standards, declined from 22 to 16% of GDP from 2014¨C19 owing to declining tax collection and foreign grants. They then dropped to 13% of GDP in 2020, owing to the COVID-19 pandemic, but recovered to 15% in 2022, partly due to inflation. 

?     Improved revenue mobilization can be achieved by: (i) restoring the VAT rate to 10%, which would immediately and efficiently raise at least 1% of GDP in additional revenue; (ii) revising  the Law on Investment Promotion to curb tax incentives and thus broaden the tax base; (iii) reforming excise tax structures and increase rates (particularly on beverages, tobacco, and fuel) to generate additional revenue while supporting health, environmental, and social outcomes; and (iv) strengthening tax administration and compliance risk management by focusing on the administration of large taxpayers.

Last Updated: Nov 30, 2023