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publication August 12, 2019

Maintaining Economic Stability in Lao PDR

Key findings

Economic growth is expected to rebound.

  • Economic growth is projected to rebound to 6.5% in 2019 from 6.3% in 2018.
  • Growth is expected to be driven by the construction sector, supported by investments in large infrastructure projects, and a resilient services sector, led by wholesale and retail trade growth.
  • Price pressure has started to pick up as the average inflation rate in the first half of 2019 increased to 2% from 1.7% over the same period in 2018.

The Lao government has committed to fiscal consolidation, despite rising fiscal pressure from last year’s floods.

  • Fiscal consolidation is expected to result in a decline in the budget deficit to 4.3% of Gross Domestic Product (GDP) in 2019, down from 4.4% in 2018.
  • This was primarily driven by tighter control of the public wage bill and capital spending, which is expected to keep public expenditure stable at around 20% of GDP in 2019.
  • The revenue to GDP ratio is projected to improve slightly in 2019 to 15.6% of GDP from 15.5% of GDP in 2018 due to efforts to strengthen revenue administration and the legal framework.
  • Fiscal consolidation is estimated to have slowed the accumulation of public debt this year, though not enough to reverse the rising debt-to-GDP ratio, which is estimated to have risen from 57.2% of GDP in 2018 to 58% in 2019. If fiscal consolidation continues, public debt is expected to decline to 55.5% of GDP by 2021.

The current account deficit remains elevated but is expected to improve over the medium term.

  • The current account deficit is expected to widen slightly to 12% in 2019 reflecting strong demand for imports related to investments in large infrastructure projects.
  • Foreign reserves continue to remain relatively low, at less than 2 months of total imports (or 2.4 months of non-FDI-related imports) in 2019. Building foreign currency reserves is essential to cushion against economic shocks.
  • The operation of new power projects and completion of the construction of large infrastructure projects are expected to reduce the current account deficit in the medium term.

Risks are weighted to the downside.

  • However, there are increasing downside risks. Domestic risks include increased frequency of natural disasters and slippages in reforms in implementing the fiscal consolidation plan, which could affect fiscal and public debt sustainability.
  • External risks include prolonged trade conflicts and heightened geopolitical uncertainty among major economies that can cause a more-than-anticipated slowdown in regional growth, particularly for Lao PDR’s key trading partners. Commodity prices, or changes in trade and investment flows from key trade partners, could potentially impact Lao PDR.

Going forward, addressing risks remains a key priority.

  • To mitigate these risks, building fiscal and external buffers will be crucial.
  • This will require:
    • Mainintaining reform momentum through enforcement of planned revenue and expenditure measures and fiscal discipline;
    • Strengthening public debt management;
    • Improving the business environment to promote private sector development and growth, particularly in non-resource sectors.
  • Improvements to the business environment are necessary to encourage diversification, which can support job creation, lead to higher exports, and make economic growth more inclusive.

The report presents a special thematic section on the perceptions of small and medium enterprises (SMEs) of the business environment.

  • SMEs in Lao PDR account for about 99% of all registered firms in the country and about 82% of employment.
  • The 2018 World Bank Enterprise Survey showed that SMEs’ perceptions of the “biggest” and “most severe” obstacles to doing business are: access to finance, practices of informal firm – such as those that are not registered or do not comply with regulations - and electricity outages.
  • Access to finance has become a more prominent issue in recent years, particularly for small businesses. Most firms surveyed cited high interest rates and complex procedures as constraints to access finance. However, many SMEs also have weak business planning, financial planning, and reporting, which prevents creditors from correctly assessing risks of potential SME borrowers. Improving the capacity of SMEs in business planning and financial management can help improve SMEs’ access to finance.
  • The issue of informal practices was less prominent in 2018 than in 2016, but remains among the top obstacles, particularly for medium-sized firms. Concerns about informal competition include some firms’ lack of compliance with regulations, and inconsistent enforcement by authorities, which gives informal firms an unfair competitive advantage. Improving efficiency and reducing the costs of bureaucratic processes could be an incentive for firms to comply with regulations and promote a more level-playing field.
  • Inconsistent electricity supply is a problem, especially for small firms. Continuing to improve energy planning and promoting efficient energy distribution is key.