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MALE¡¯, October 3, 2023¡ªReal GDP is expected to grow by 6.5% in 2023, with an average growth of 5.4% from 2024 to 2025, but challenges lie ahead, with growing external and fiscal vulnerabilities posing risks to the economy, particularly if Maldives continues to borrow at high costs during a global economic slowdown, says the World Bank in its twice-a-year update.

Released today as a companion piece to the latest South Asia Development Update, presents a positive outlook for the country's medium-term growth, primarily driven by a thriving tourism sector. But the country is grappling with pressing fiscal challenges due to inflationary pressures linked to rising global commodity prices, increased capital spending and subsidies, and ongoing central bank financing of the budget deficit. These challenges require an urgent and robust fiscal adjustment and responsible debt management to ensure fiscal sustainability.

Despite expectations of reduced deficits, Maldives¡¯ total debt is set to remain high at over 115% of GDP. The government raised Goods and Services Tax (GST) rates earlier this year, but more substantial and immediate commitments are necessary, especially since planned subsidy reforms for 2023 did not happen as anticipated.

To ensure fiscal sustainability, Maldives needs to better manage spending while boosting revenue. Key reforms involve revamping programs like the Aasandha national health insurance scheme, streamlining subsidies for state-owned enterprises (especially in fuel and food), and creating a strong public investment management system for sequenced and well-planned infrastructure investments. On the revenue front, the focus should be on broadening the tax base, tapping into domestic income sources, reducing informal economic activity, and fostering tax fairness.

¡°Maldives is expecting a strong growth of 6.5% this year. However, to ensure a more resilient economy going forward, and to build on the recent reforms, prudent debt management and a fiscal adjustment with strengthened investment planning are needed in the context of tightened global conditions and already elevated fiscal deficits,¡± said Faris H. Hadad-Zervos, World Bank Country Director for Maldives, Nepal, and Sri Lanka. ¡°While tourism will remain a primary engine of growth, Maldives stands to benefit by promoting more eco-tourism and fisheries development, prioritizing limited infrastructure financing for remote areas, and encouraging more private sector investment in such a way that growth is inclusive, greener and resilient to climate and other shocks.¡±

The  special focus section of the report, Supporting Sustainable and Resilient Infrastructure, notes that Maldives has excelled in providing infrastructure services but relies heavily on public spending, often surpassing GDP growth. While the country has improved infrastructure across atolls, disparities remain, especially in piped water, sewage, and internet access compared to capital Mal¨¦. Addressing these challenges requires better coordination, sustainable planning, transition to greener energy mobilizing more private capital, and enhanced public investment management to deal with fiscal constraints and climate change.

Meanwhile, the latest forecasts regional growth to slow to 5.6% in 2024 and 2025, as post-pandemic rebounds fade and a combination of monetary tightening, fiscal consolidation, and reduced global demand weigh on economic activity.

Regional growth prospects are subject to downside risks, including due to fragile fiscal positions. Government debt in South Asian countries averaged 86% of GDP in 2022, increasing the risks of defaults, raising borrowing costs, and diverting credit away from the private sector. The region could also be affected by a further slowdown in China¡¯s economic growth and natural disasters made more frequent and intense by climate change.

Constrained by fiscal challenges, governments have limited room to help their economies fully capitalize on the global energy transition. Though often seen as an additional burden for developing countries, for South Asia, the energy transition could present an opportunity for future growth and job creation¡ªif it leads to more investments by firms, cuts air pollution, and reduces the reliance on fuel imports. Even with limited fiscal space, countries can encourage firms to adopt more energy-efficient technologies through market-based regulations, information campaigns, broader access to finance, and reliable power grids.

The energy transition will also have significant impacts on South Asia¡¯s labor markets. Almost one-tenth of the region¡¯s workers are employed in pollution-intensive jobs. These jobs are concentrated among lower-skilled and informal workers who are more vulnerable to labor market shifts. While the energy transition can help create more new jobs, it could also leave some workers stranded in declining industries. The report recommends a wide range of policies to protect such workers, including providing better access to high-quality education and training, finance, and markets; facilitating worker mobility; and strengthening social safety nets.

Sources: World Bank estimates and forecasts as of September 2023.

Note: (e)=estimate, (f)=forecast.