Explanatory Memorandum to COM(2016)431 - Further macro-financial assistance to Jordan - Main contents
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| dossier | COM(2016)431 - Further macro-financial assistance to Jordan. |
|---|---|
| source | COM(2016)431  |
| date | 29-06-2016 |
1. CONTEXT OF THE PROPOSAL
• Reasons for and objectives of the proposal
Since early 2011, the Jordanian economy has been significantly affected by the ongoing regional unrest, notably in neighbouring Iraq and Syria. Combined with a weaker global environment, this regional unrest has taken a heavy toll on external receipts and has strained public finances. Lower tourism and FDI inflows, blocked trade routes, and repeated disruptions to the flow of natural gas from Egypt, which forced Jordan to replace gas imports from Egypt with more expensive fuels for electricity generation, have put a drag on growth and weighed on Jordan's external and fiscal position. The Syrian conflict has impacted Jordan not only by disrupting trade with and through Syria but also by causing an inflow of around 1.3 million of Syrian refugees into Jordan that has increased pressure on Jordan's fiscal position, public services and infrastructure.
In 2012, Jordan and the IMF agreed on a first adjustment programme, which was supported by a three-year Stand-By Arrangement (SBA) in the amount of USD 2 billion. This programme was successfully completed in August 2015. The IMF programme was complemented by a first Macro-Financial Assistance from the European Union (the EU) in the amount of EUR 180 million (MFA-I), which was adopted by the European Parliament and the Council in December 2013 and was disbursed in two tranches of EUR 100 million and EUR 80 million in February 2015 and in October 2015, respectively.
While the country made progress with macroeconomic stabilisation and reform under the first programme supported by the IMF, the EU and other donors, the persistence of the conflicts in neighbouring Syria and Iraq continued to disrupt Jordan's foreign trade and undermine investor and tourist confidence, with the economic situation deteriorating again in 2015. In this context, the Jordanian government has called for increased support from the international community to address the economic consequences of the Syrian crisis, and in particular the presence of a large number of Syrian refugees in Jordan. At the conference Supporting Syria and the Region, held in London on 4 February 2016, the international community pledged about USD 10 billion to help the countries most affected by the Syrian refugee crisis. Of this amount, the EU pledged EUR 2.39 billion for the countries affected by the Syrian refugee crisis including a EUR 200 million loan for the purpose of a second Macro-Financial Assistance operation for Jordan (MFA-II). On 3 March 2016, through a letter from the Ministry of Planning and International Cooperation to the Commissioner for Economic and Financial Affairs Taxation and Customs, the Jordanian authorities formalised their request for a new MFA from the EU 1 . The new proposed MFA operation will be part of the so-called EU-Jordan Compact (annexed to EU-Jordan partnership priorities), a document that the EU and Jordan are discussing and that would contain precise commitments on both sides (including financial assistance from the EU) aimed at addressing a number of policy priorities.
At the same time, Jordan and the IMF have been negotiating a successor financial arrangement, which is expected to be put in place in the second half of 2016. The arrangement, which will probably take the form of an Extended Fund Facility (EFF), would support a new economic programme probably covering 3 years.
In this context, and consistent with the pledge made at the London conference, the European Commission is submitting to the European Parliament and the Council a proposal for a Decision providing a new MFA to Jordan of up to EUR 200 million, in the form of medium-term loans. The proposed amount seems justified based on an updated assessment of the country's external financing needs, the size of the expected IMF programme, burden-sharing considerations and the room for manoeuvre available in the EU budget.
The proposed EU MFA would help Jordan cover part of its residual external financing needs, for the period 2016-17, estimated at about USD 3.2 billion. Since it is intended that the assistance would be channelled to the budget, the new assistance (as the previous one) would also help Jordan cover part of the fiscal costs associated with the Syrian refugee crisis.
As further elaborated in the Commission Staff Working Document accompanying this proposal, the Commission considers, based also on the assessment of the political situation made by the European External Action Service, that the political and economic pre-conditions for the proposed MFA operation are satisfied.
• General context
Following a period of robust growth averaging 6.5% during 2000-2009, Jordan's GDP growth has decelerated to an average of 2¾% in 2011-2014. While growth recovered to 3.1% in 2014, the intensification of the Syrian crisis in 2015, through its effects on trade, tourism and investor confidence, as well as the slowdown in the Gulf Cooperation Council (GCC) economies, which are major trading partners for Jordan and also an important source of tourism, remittances and financial flows, contributed to a deceleration of growth back to 2.4% in 2015.
The deceleration of the economy resulted in a sizeable increase in unemployment. After declining from 12.6% in 2013 to 11.9% in 2014, the unemployment rate increased again to 14.6% in the first quarter of 2016. Unemployment remains particularly high for young people and women (33% and 23.7%, respectively, in the first quarter of 2016).
Helped by sharp declines in food and fuel-related prices, consumer prices fell by 0.9% in 2015 (with core inflation at about 2%, however, partly reflecting the demand from Syrian refugees). Consumer price inflation is expected to recover this year as fuel prices stabilise or pick up somewhat, but it is expected to remain low (in the 1%-1.5% range). Reflecting this subdued inflation trends and the weakening of growth, the Central Bank of Jordan reduced the rediscount rate from 4.25% in early 2015 to 3.75% in July 2015.
Jordan has made substantial progress with fiscal consolidation since its fiscal deficit jumped in 2012-2013, largely reflecting adjustment measures taken in the context of the IMF programme (including the introduction of a new income tax law in 2015) and the decline in oil prices, which allowed to reduce markedly the operating loss of NEPCO (the national electricity company) and the state transfers to this company. Thus, the overall fiscal balance, which includes transfers to NEPCO and to WAJ (the Water Authority of Jordan) as well as grants, declined from a peak of about 11% of GDP in 2013 to 3.5% of GDP in 2015.
The improvement in the underlying fiscal position is, however, less substantial when looking to the primary deficit of the central government, excluding grants and transfers to NEPCO and to WAJ. This measure deteriorated in 2015 (increasing to 5.2% of GDP) and remains more than three percentage points of GDP above what the IMF had programmed. The combined deficit of the central government and NEPCO (which adds to the above-mentioned primary deficit measure NEPCO's operating loss) remains above 6% of GDP and is also substantially above what had been targeted under the IMF's SBA programme (3.5% of GDP).
The persistent fragility of Jordan's fiscal position is further highlighted by the fact that the country continues to be very dependent on foreign grants (which are expected to remain lower in the coming years, reflecting the impact of lower oil prices on the finances of GCC donors) and by the risk that oil prices will recover more markedly than currently assumed. Moreover, Jordan must continue to accommodate the significant fiscal cost related to the Syrian refugees, which mainly reflects higher expenditure in subsidies, health, education and infrastructure. According to the Jordanian authorities, the cost of direct and indirect expenses related to the hosting the Syrian refugees has amounted to approximately USD 6.6 billion since the beginning of the Syrian conflict.
Reflecting substantial borrowing from foreign donors, as well as the issuance of international bonds, Jordan's gross public debt increased further to 93.4% of GDP end the end of 2015, continuing an upward trend observed since 2008, when the ratio stood at 60.2% of GDP. The public debt's dynamics are, however, judged by the IMF to be sustainable provided that the country continues to deliver on further medium-term fiscal adjustment and continues to receive substantial grants from the international community.
While Jordan has achieved a substantial correction of its current account deficit since 2013 (reflecting fiscal consolidation, the decline in oil prices and the shift to cheaper types of fuel), the deficit remains very large, amounting to 11.7% of GDP in 2015. The escalation of the conflicts in Syria and Iraq in 2015 weighed on exports, tourism and investor confidence. Exports decreased by 6.6% as a result of disrupted trade routes while income from tourism dropped by 7.1%, reflecting a sizeable decrease in tourists' arrivals from 4.1 million in 2014 to 3.7 million in 2015. This partly compensated for the decline in imports in a context of weaker growth and low oil prices. External pressures continued in the first quarter of 2016, leading to a sizeable widening of the trade deficit (by 13% on a year-on-year basis), reflecting new declines in exports and tourism revenues. The current account deficit excluding grants is expected to remain close to 10% of GDP in 2016-2017 (or around 6% of GDP including foreign grants).
The decline in foreign direct investment, from USD 1.8 billion in 2014 to around USD 1.2 billion in 2015, created further pressures to the external position. Despite the decline in FDI, the capital and financial account recorded a net inflow of USD 2.2 billion in 2015, compared to a net inflow of USD 1.2 in 2014. This was made possible by the issuance in June of two Eurobonds guaranteed by the US Treasury for a total of USD 1.5 billion and the issuance in November of a non-guaranteed Eurobond of USD 500 million.
In March 2016, net international reserves stood at a comfortable level of USD 13.4 billion, equivalent to around 7 months of next year's imports. Including gold, international reserves stood at about USD 15 billion.
In the context of the adjustment and reform programmes supported by the assistance of the IMF, the World Bank and the EU's first MFA operation, which was completed in October 2015, the Jordanian authorities made significant progress in a number of key structural reform areas. This included the reform of fuel subsidies and introduction of a compensatory cash transfer scheme, efforts to diversify energy sources, tax reform and the revamping of the investment framework. However, the country continues to face significant structural reform challenges. The tax base is still narrow, entailing many tax-exemptions, and there is still scope for strengthening tax administration and for further reforming income taxation in order to increase both revenues and progressivity. These reforms should support fiscal consolidation. Jordan also suffers from rigid labour markets and skill mismatches, which contributes to high unemployment, particularly among the youth, as well as from very low rates of participation among women. Efforts to diversify energy sources and increase energy efficiency should continue, in order to meet the increased demand for electricity and reduce further Jordan's dependency on oil fuel. Water sector reform is another key reform challenge, with transfers to WAJ remaining a substantial burden on the budget. There is also scope for further improvement the business and investment climate, which is key for raising investment inflows under the current difficult regional environment. Also, economic governance and transparency should be strengthened, including by pursuing efforts to improve public finance management, for example by adopting the new legislation on the Audit Bureau and by modernising debt management.
The projections by the IMF, in February 2016, point towards significant balance of payments needs for the period 2016-2017, with the total external financing gap estimated at USD 3.2 billion (USD 2 billion in 2016 and USD 1.2 billion in 2017). This financing gap can broadly be attributed to three factors: a persistently large current account deficit large debt amortization requirements expected, especially for 2016, and the need to maintain a prudent foreign exchange reserve level. The proposed new MFA operation of EUR 200 million would cover 7.4% of the estimated residual financing gap (after deducting net IMF financing and the expected disbursement of World Bank policy-based loans).
As in recent years, other donors (including France, Japan, the US and the GCC countries and the Arab Monetary Fund, as well as the EU through its grant-based budgetary support financed by the European Neighbourhood Instrument) are expected to contribute substantial additional funds in the coming period, ensuring a reasonable burden-sharing in the donors' support effort.
• Existing provisions in the area of the proposal
Decision No 1351/2013/EU providing a first macro-financial assistance to Jordan in the amount of EUR 180 million was adopted by the European Parliament and the Council on 11 December 2013 2 . The assistance was fully disbursed during 2015.
• Consistency with the other policies and objectives of the Union policies
The EU and Jordan have developed a close political and economic relationship over the years. In 2010, an Advanced Status partnership was agreed between the EU and Jordan that entails expanded areas of cooperation. The legal basis for the EU-Jordan relationship is the Association Agreement that entered into force on 1 May 2002 and the different cooperation and dialogue instruments created under the ENP. Jordan is also a member of the Union for the Mediterranean. The EU aims to assist Jordan in the implementation of its own reform process based on the priorities and actions defined in the Single Support Framework adopted for 2014-2017. In response to the conflicts in Syria and Iraq, and with a view to further strengthening the solid and multi-faceted relationship between the EU and Jordan, the two sides have started discussions on a new Partnership Priorities Agreement which should guide EU-Jordan relations for the period 2016-2018. The partnership priorities involve the fulfilment of mutual commitments, specified in the EU-Jordan Compact, also currently under discussion. Jordan has developed important economic ties with the EU. In 2014, the EU was Jordan's second largest trading partner, with a trading share of 15.5% after Saudi Arabia with 17.7% and before the US (third trading partner with a share of 8.5%). A preparatory process for launching negotiations on a Deep and Comprehensive Free Trade Area (DCFTA) is on-going. The DCFTA would aim at improving market access opportunities and the investment climate and promoting closer economic integration between the EU and Jordan. While the actual negotiations on the DCFTA have yet to be launched, the parties have started discussions on a temporary relaxation of the rules of origin on the part of the EU applied in their bilateral trade. It is hoped that this initiative, which forms part of the EU's support for Jordan in the present Syrian refugee crisis, will provide a boost to Jordanian exports to the EU and create additional employment opportunities for both Jordanians and Syrian refugees.
The EU MFA would complement the grants mobilised under the ENI and other EU programmes and in particular the conditionalities envisaged under the budget support packages being implemented by the EU. By supporting the adoption by the Jordanian authorities of an appropriate framework for macroeconomic policy and structural reforms, the EU’s MFA would enhance the added value and effectiveness of the EU’s overall financial interventions, including through other financial instruments.
Jordan has taken important steps towards strengthening democratic rights and the rule of law. A Constitutional Court and an Independent Electoral Commission have been set up and a number of major laws, including the Electoral Act and the Political Parties Act as well as laws on decentralisation and municipalities, have been passed by the Jordanian Parliament.
While there is still room for reinforcing its democratic institutions and legal framework and for making its democracy more representative of the different social and ethnic groups, Jordan has managed to make progress in this area despite a difficult regional environment and continues to exert a stabilising and moderating role in the region.
In this context, Jordan is deemed to meet the political preconditions for the granting of MFA, notably in terms of respect for democracy, human rights and the rule of law, and of being a country with which the EU maintains close political and economic relations. A detailed assessment of the satisfaction of these political criteria for MFA produced by the European External Action Service is annexed to the Commission Staff Working Document accompanying the proposal. The proposed new MFA is also consistent with the EU's commitment to support Jordan's economic and political transition.
2. LEGAL BASIS, SUBSIDIARITY AND PROPORTIONALITY
• Summary of the proposed action
The EU shall make MFA available to Jordan for a total maximum amount of EUR 200 million, provided in the form of a medium-term loan. The assistance will contribute to cover Jordan's residual external financing needs in 2016-2017, as identified by the Commission based on the estimates of the IMF.
The assistance is planned to be disbursed in two loan instalments of EUR 100 million each. The disbursement of the first instalment is expected to take place towards the end of 2016. The second instalment, conditional on a number of policy measures, could be disbursed in the second quarter of 2017. The assistance will be managed by the Commission. Specific provisions on the prevention of fraud and other irregularities, consistent with the Financial Regulation, are applicable.
As usual with the MFA instrument, the disbursements would be conditional on successful programme reviews under the new IMF's financial arrangement. In addition, the Commission and the Jordanian authorities would agree on specific structural reform measures in a Memorandum of Understanding. The Commission will target structural reforms aimed at improving the overall macroeconomic management and the conditions for sustainable growth. As noted above, these reform measures would support the authorities’ reform agenda and complement the programmes agreed with the IMF, the World Bank and other donors, as well as the policy programmes associated with the EU’s budgetary support operations. They would be consistent with the economic reform priorities agreed between the EU and Jordan in the context of the Single Support Framework for 2014-2017 and other strategic documents (including the future Partnership Priorities and the Jordan Compact). They would also build upon the structural reforms implemented under MFA-I.
The decision to disburse the full MFA in the form of loans is justified by Jordan's level of economic development (as measured by its per-capita income) and debt indicators. It is also consistent with the treatment given to Jordan by the World Bank and the IMF. Indeed, Jordan is not eligible for concessional financing from either the International Development Agency or the IMF's Poverty Reduction and Growth Trust fund.
• Legal basis
The legal basis for this proposal is Article 212 TFEU.
• Subsidiarity (for non-exclusive competence)
The subsidiarity principle is respected as the objectives of restoring short-term macroeconomic stability in Jordan cannot be sufficiently achieved by the Member States alone and can be better achieved by the European Union. The main reasons are the budgetary constraints faced at the national level and the need for strong donor coordination in order to maximise the scale and effectivenes of the assistance.
• Proportionality
The proposal complies with the proportionality principle: it confines itself to the minimum required in order to achieve the objectives of short-term macroeconomic stability and does not go beyond what is necessary for that purpose.
As identified by the Commission based on the estimates of the IMF in the context of the future Extended Fund Facility, the amount of the proposed new MFA corresponds to 7.4% of the estimated residual financing gap for the period 2016-2017. This is consistent with standard practices on burden-sharing for MFA operations. Given the assistance pledged to Jordan by other bilateral and multilateral donors, it is deemed an appropriate level of burden-sharing for the EU.
• Choice of the instrument
Project finance or technical assistance would not be suitable or sufficient to address these macroeconomic objectives. The key value added of the MFA in comparison to other EU instruments would be to alleviate the external financial constraint and to help create a stable macroeconomic framework, including by promoting a sustainable balance of payments and budgetary situation, and an appropriate framework for structural reforms. By helping to put in place an appropriate overall policy framework, MFA can increase the effectiveness of the actions financed in Jordan under other, more narrowly focused EU financial instruments.
3. RESULTS OF EX-POST EVALUATIONS, STAKEHOLDER CONSULTATIONS AND IMPACT ASSESSMENTS
• Consultation of interested parties
MFA is provided as an integral part of the international support for the economic stabilisation of Jordan. In the preparation of this proposal for MFA, the Commission services have consulted with the IMF and the World Bank, which have already put in place sizeable financing programs and are preparing new ones. The Commission consulted the Economic and Financial Committee on 2 June 2016, receiving an endorsement for the proposal. The Commission has also been in regular contact with the Jordanian authorities.
• Collection and use of expertise
An Operational Assessment for verifying the quality and reliability of Jordan's public financial circuits and administrative procedures will be carried out by the Commission with the assistance of external experts before the effective implementation of the assistance. Its results, which will be shared with Jordanian authorities and the EU Delegation for further work on possible areas for improvement, might also be reflected in the policy conditionality of the proposed MFA.
• Impact Assessment
The EUs macro-financial assistance is an exceptional emergency instrument aimed at addressing severere balance-of-payment difficulties in third countries. Therefore, this MFA proposal is exempted from the requirement to carry out an Impact Assessment in accordance with the Commission's Better Regulation Guidelines (SWD(2015) 111 final) as there is a political imperative to move ahead quickly in this emergency situation requiring a rapid response.
More generally, the Commission's MFA proposals build on lessons learned from ex-post evaluations carried out on past operations in the EU's neighbourhood. Like MFA-I, MFA-II and the economic adjustment and reform programme attached to it will help alleviate Jordan's short-term financing needs while supporting policy measures aimed at strengthening medium-term balance of payments and fiscal sustainability and raising sustainable growth, thus complementing the programme to be agreed with the IMF. These measures are likely to cover reform areas such as public financial management and other aspects of economic governance, tax reform, the strengthening of the social safety net, energy and water sector reforms, trade and investment, and the labour market, including measures to facilitate the integration of Syrian refugees into the Jordanian labour market.
4. BUDGETARY IMPLICATIONS
The planned assistance would be provided in the form of a loan and would be financed through a borrowing operation that the Commission will conduct on behalf of the EU. The budgetary impact of the assistance will correspond to the provisioning of the EU's Guarantee Fund for external actions, at a rate of 9% of the amounts disbursed, from budget line 01 03 06 ("Provisioning of the Guarantee Fund"). Assuming that the first loan disbursement (of EUR 100 million) will be made in 2016 and the second loan disbursement (of EUR 100 million) in 2017 in accordance with the rules governing the guarantee fund mechanism, the provisioning will take place in the 2018-19 budgets. Based on current projections on the utilisation of the budget line 01 03 06, the Commission assesses that the budgetary impact of the operation can be accommodated.
5. OTHER ELEMENTS
• Review/revision/sunset clause
The proposal includes a sunset clause. The proposed MFA would be made available for two and a half years, starting from the first day after the entry into force of the Memorandum of Understanding.