Maldives Public Expenditure Review Restoring fiscal health Maldives Public Expenditure Review: Restoring fiscal health Page 1 Standard Disclaimer: This volume is a product of the staff of the International Bank for Reconstruction and Development/ The World Bank. The findings, interpretations, and conclusions expressed in this paper do not necessarily reflect the views of the Executive Directors of The World Bank or the governments they represent. The World Bank does not guarantee the accuracy of the data included in this work. The boundaries, colors, denominations, and other information shown on any map in this work do not imply any judgment on the part of The World Bank concerning the legal status of any territory or the endorsement or acceptance of such boundaries. Copyright Statement: The material in this publication is copyrighted. Copying and/or transmitting portions or all of this work without permission may be a violation of applicable law. 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Photo Credits: Cover: Saffu on Unsplash Maldives Public Expenditure Review: Restoring fiscal health Page 2 Acknowledgments This report was prepared by a team led by Pui Shen Yoong The team is grateful to the Government of Maldives for (Economist, Macroeconomics, Trade and Investment its collaboration during the preparation of this report. In Global Practice – MTI GP), with guidance from Faris particular, the team appreciates the excellent support Hadad-Zervos (Country Director, Maldives, Nepal and Sri provided by the Fiscal Affairs Department of the Ministry Lanka), Zoubida Allaoua (Director, Equitable, Finance & of Finance for facilitating the data, information and Institutions, South Asia), Chiyo Kanda (Country Manager, policy discussions that were critical to the report. The Maldives & Sri Lanka), Shabih Ali Mohib (Practice Manager, team also thanks the Maldives Pension Administration MTI South Asia), Taehyun Lee (Lead Country Economist, Office, the National Pay Commission (MoF), the Resource Maldives, Nepal and Sri Lanka) and Richard Walker Mobilization and Debt Management Department (MoF), (MTI Senior Economist, Sri Lanka and Maldives, co-TTL). the Privatization Corporation Board (MoF), the Housing Fernando Gabriel Im (Senior Economist, MTI) co-led the Development Corporation, and the Ministry of National work and Manuela Francisco (former Practice Manager, Housing, Infrastructure and Planning for their inputs into MTI South Asia) provided guidance in the earlier stages. the report. Chapter 1 was written by Pui Shen Yoong and Anna The cut-off date for all data and information used in this Custers, with contributions from Karishma Sheriff, Juan report was March 31, 2022. Pradelli and Juan Pablo Erosa (consultants). Chapter 2 The exchange rate used throughout this report is was written by Pui Shen Yoong with contributions from US$1 = MVR15.4. Karishma Sheriff, Ruijie Cheng (MTI GP), Hideki Higashi, Owen Smith (Health & Nutrition GP), and Upamanyu Datta (Poverty GP). Chapter 3 was written by Juan Pradelli and Ariel Melamud (consultants), with contributions from Karishma Sheriff. Chapter 4 was written by Dao Harrison (Urban, Resilience and Land GP) and Francis Goyes Flor (Consultant) with inputs from Olivier Giles Vidal (Finance, Competitiveness & Innovation GP). Chapter 5 was written by Zac Mills with inputs from Tiloka de Silva and Shurufa Abdul Wahid (all consultants). Chapter 6 was written by Mark Dorfman with inputs from Marola Castillo Quinto (Social Protection & Jobs GP). The team is also grateful to Massimo Mastruzzi and Kirsten Deras (MTI GP) for their assistance in constructing a BOOST database for Chapter 2, Eddy Quach Trang for initial research assistance, and to Santiago Herrera (MTI GP) for guidance on the data envelopment analysis undertaken in Chapter 2. The report benefited from comments from Andrea Coppola (Program Leader, West Africa), Chadi Bou Habib, Leif Jensen, Tehmina Khan, Ralph Van Doorn (Senior Economists, MTI), Ran Li (Economist, MTI), Emmanouil Kitsios (Economist, International Monetary Fund) and Mustapha Nabli (consultant, EFI). Several chapters benefited from further guidance from Winston Cole (Lead Financial Management Specialist, Governance GP), Ekta Maheshwari (Operations Officer, IFC), Simon Walley (Lead Financial Sector Specialist, Finance, Competitiveness & Innovation GP), Suhail Kassim (Senior Private Sector Specialist, FCI), Peter Mousley (Lead Private Sector Specialist, FCI), John Speakman (Consultant, FCI), and Thomas Walker (Senior Economist, Social Protection & Jobs GP). Maldives Public Expenditure Review: Restoring fiscal health Page 3 Contents List of Figures iii List of Tables vi List of Boxes vi Chapter 1: Macro-fiscal overview 10 1.1 Maldives has made a strong recovery, but it is not yet out of the woods 10 1.2 Expenditures have been increasing, with limited impact on near-term 14 growth 1.3 Debt vulnerabilities have increased significantly in recent years 17 1.4 Revenue collection on par with peers, but overly reliant on external sources 19 and plateaued pre-pandemic 1.5 How can Maldives increase fiscal space and still achieve its development 21 goals? Chapter 2: Public Spending 24 2.1 How does the Government of Maldives allocate public resources? 24 2.1.1 Spending by economic classification 24 2.1.2 Spending by functional classification 30 2.2 How well are public resources being spent? 31 2.2.1 Efficiency and effectiveness of public spending on health 32 2.2.2 Efficiency and effectiveness of public spending on infrastructure 34 2.3 How can Maldives improve the quality of public spending? 37 Chapter 3: Fiscal risks from state-owned enterprises 40 3.1 Introduction 40 3.2 Overview of SOEs in Maldives 41 3.3 How do SOEs pose fiscal risks to the Government of Maldives? 43 3.4 Stress-testing Maldives’ SOEs 47 3.5 How can Maldives manage and mitigate fiscal risks from SOEs? 49 Chapter 4: Affordable Housing 52 4.1 The challenge of affordable housing provision in a small island state 52 4.2 Public spending and fiscal risks associated with the housing sector 54 4.3 Is public spending on housing yielding the desired results? 56 4.3.1 The efficiency of the Rent-to-Own Program 57 4.3.2 Is the Rent-to-Own program effective? 59 4.4 Spending more will not necessarily help the government solve housing 60 problems 4.5 How can the government achieve its housing policy goals without 60 jeopardizing fiscal and debt sustainability? Chapter 5: Public Sector Wage Bill 66 5.1 Introduction 66 5.2 Is the wage bill affordable? 67 5.3 Outsized role of allowances 69 5.4 Same job, different pay 73 Maldives Public Expenditure Review: Restoring fiscal health Page 4 5.5 Competitiveness 75 5.6 Institutional Fragmentation 77 5.7 Options for Reforming the Public Wage Bill 78 Chapter 6: Pensions 80 6.1 Introduction 80 6.2 Description of the Maldives Retirement Pension Scheme (MRPS) 81 6.3 Key challenges 84 6.3.1. Fiscal sustainability of the MRPS 84 6.3.2. Civil service pensions: double coverage and rising costs 86 6.3.3 Coverage 88 6.4 Options for reforming Maldives’ pension system 90 References 93 Annex 1: PSIP Projects 97 Annex 2: Performance of Maldives’ Largest SOEs 98 Annex 3a: Methodology and Operation of the SOE Model 99 Annex 3b: Financial Performance of SOEs in Baseline and Alternative Scenarios 102 Annex 4: Housing 104 Annex 5a: Wage Bill Data 105 Annex 5b: Estimation of the Public Sector Wage Premium 106 Annex 6: PROST Methodology, Assumptions And Key Data 109 List of Figures Figure 1: Maldives is a small, but widely dispersed country Figure 2: Before the pandemic, Maldives had grown faster than its peers Figure 3: …but growth has been highly volatile due to its high dependence on tourism. Figure 4: Public investment projects have been increasingly financed by external sources. Figure 5: leading to a doubling of public debt and guarantees even before the pandemic. Figure 6: Maldives’ tourism recovery has been exceptional compared to other small island states. Figure 7: …with tourist arrivals rebounding to pre-pandemic levels since H2 2021. Figure 8: Maldives spends more than the average upper middle-income country, but on par with other SIDS Figure 9: Growth in public spending has outpaced that of GDP since 2014. Figure 10: Approved budget ceilings have grown at an unsustainable pace. Figure 11: …and the government tends to overspend on subsidies, losses and write-offs. Figure 12: The growth impact of higher public spending appears to be limited in Maldives Figure 13: External debt service costs on existing borrowing are projected to reach nearly US$1 billion in 2026 Figure 14: Maldives’ revenue ratio is comparable to countries of a similar per capita income level Figure 15: …but less dependent on grants compared to other SIDS. Figure 16: The bulk of tax revenues comes from indirect taxation of tourists. Figure 17: …and Maldives did not collect any Personal Income Tax prior to 2020. Figure 18: The revenue-to-GDP ratio plateaued even before COVID-19. Figure 19: …and tax revenues are not very sensitive to changes in output. Figure 20: The fiscal deficit is expected to remain high even with faster growth. Figure 21: PPG debt exceeds the size of the economy in all scenarios. Maldives Public Expenditure Review: Restoring fiscal health Page 5 Figure 22: Capital investments drove increases in overall spending in 2015-2016, and have remained high ever since. Figure 23: Capital spending averages about half a billion dollars annually or a third of total spending. Figure 24: …thanks to a large increase in PSIP spending in 2015-2016. Figure 25: Maldives’ public capital stock per person is now almost on par with advanced economies Figure 26: Growth in public investment per capita has been on par with China in recent years Figure 27: Most PSIP funding has been allocated to transport and housing infrastructure Figure 28: The share of PSIP funds dedicated to health and environmental protection is expected to increase Figure 29: The government has injected more funds in SOEs in recent years Figure 30: Recurrent spending growth has mostly been driven by grants, contributions and subsidies in recent years, but the contribution of interest payments to growth rose sharply in 2021 Figure 31: Foreign interest payments are expected to rise in the coming years Figure 32: Social sectors take up 42 percent of total expenditures on average Figure 33: Spending on economic affairs and environmental protection have increased significantly Figure 34: Maldives spends far more on health than its peers… Figure 35: …but less than most of its peers on education. Figure 36: Maldives has significantly reduced infant mortality over the past three decades… Figure 37: …as well as maternal mortality over 2000-2017. Figure 38: Out-of-pocket health spending declined, especially for poorer households Figure 39: Catastrophic OOP spending for health also declined across the board Figure 40: Patients are more likely to seek care domestically than abroad Figure 41: Rising Aasandha costs have not been driven by an increase in beneficiaries… Figure 42: …but rather an increase in outpatient care and medication costs Figure 43: Maldives outperforms its regional peers on the Logistics Performance Index… Figure 44: …and is the most internationally well-connected destination among small island states Figure 45: The disparity in sewerage connections between Malé and atolls persists Figure 46: Bottled water usage has increased in both Malé and the atolls Figure 47: Maldives already had a large infrastructure spending efficiency gap… Figure 48: …which seems to have persisted after the most recent expansion of PSIP spending. Figure 49: SOEs play a critical role in Maldives, even more so than in other small island developing states Figure 50: SOEs in transport, housing and utilities hold over half of total assets… Figure 51: …but only account for about a third of revenues. Figure 52: The average listed SOE generates more revenues than the average unlisted SOE… Figure 53: …as well as higher net profits. Figure 54: Government guaranteed and on-lent debt to SOEs reached US$1.3 billion at end-2020 Figure 55: HDC and MACL are the biggest beneficiaries of guaranteed and on-lent debt, respectively Figure 56: The government supports SOEs through capital injections… Figure 57: …of which HDC is the main beneficiary. Figure 58: Half of all dividends come from Dhiraagu, the mostly privately-owned SOE Maldives Public Expenditure Review: Restoring fiscal health Page 6 Figure 59: SOE dividends only contribute 1 percent of GDP to state revenues Figure 60: Purchasing a home is out of the question for many Maldivians Figure 61: Most Maldivians are dissatisfied with their current housing situation Figure 62: HDC accounts for over half of guaranteed debt to SOEs Figure 63: There is a mismatch between HDC’s debt service repayments and rental payments Figure 64: Domestically financed housing development spending is not high… Figure 65:…but the government transfers an increasing and significant amount of resources to housing SOEs Figure 66: The Hiyaa project effectively costs the government at least US$31,800 per unit (excluding land costs) Figure 67: Better collaboration between different actors and more engagement with the private sector could yield better results for affordable housing policies and programs Figure 68: Maldives spends about 11 percent of GDP or half a billion dollars annually on the public wage bill Figure 69: About 40 percent of total revenues excluding grants goes towards the wage bill Figure 70: Real growth in salaries and allowances have outpaced real GDP growth Figure 71: Maldives’ wage bill is on par with small island peers as a share of GDP… Figure 72: …but higher than most peers as a share of total revenues. Figure 73: Allowances make up nearly half of total compensation Figure 74: There are 54 different allowances in Maldives Figure 75. Allowances form part of almost every employee’s compensation Figure 76. The number of allowances and total allowances received by teachers vary widely Figure 77. The work week for public servants in Maldives is shorter than in EU/OECD countries Figure 78. Overtime allowance plays an important role for nearly half of all public servants in Malé Figure 79. Pay compression is extremely high in Maldives… Figure 80. …especially amongst health and judiciary workers, political appointees, and uniformed bodies Figure 81. Three-quarters of administrative officers had a unique take-home salary Figure 82. A third of teachers had unique take-home salaries… Figure 83. ...and almost all registered nurses had different salaries. Figure 84: Lower-skilled public employees benefit from a larger premium… Figure 85: …as well as females and less experienced employees. Figure 86. A quarter of employees are working at least 30 hours of overtime per month Figure 87: The aging process has begun in Maldives… Figure 88: …as Maldivians are living longer and having fewer children. Figure 89: A Maldivian earning the average wage would receive 59 percent of their income after retirement Figure 90: Maldives’ pension system is highly adequate and generous, even more than the OECD Figure 91: Maldives’ basic pension scheme is extremely generous compared to OECD countries Figure 92: As suggested by this stylized example, replacement rates could be lower or higher depending on the proportion of basic salary as share of total compensation Figure 93: Pensions have not been a big fiscal burden… Figure 94: …but they will begin to rise over the long term. Maldives Public Expenditure Review: Restoring fiscal health Page 7 Figure 95: The projected costs of OABP differ depending on the indexation method adopted Figure 96: Inflation indexation would gradually reduce the individual replacement rate for OABP Figure 97: Civil service pension costs are expected to rise under no reform scenarios Figure 98: Public pension costs could increase further if headcount increases Figure 99: MRPS coverage is low Figure 100. Coverage of the MRPS is low, compared to countries of a similar per capita income level Figure 101. Virtually all retirees receive the old age basic pension (OABP), but few receive the retirement pension (MRPS) Figure 102: Impact of Establishment of a Top-up for Civil Servant Retirees List of Tables Table 1: Key macroeconomic indicators, 2016-2021 (as a share of GDP, unless otherwise stated) Table 2: 60-70 percent of Maldives’ budget can be considered rigid Table 3: Even before the pandemic, Maldives’ debt was already high Table 4: Maldives outperforms its peers on key indicators of connective and social infrastructure Table 5: Actual versus budgeted spending on PSIP by function, percent Table 6: Sources and Magnitude of Fiscal Risks to Government from SOEs (end-2020) Table 7: Scenarios for simulations of selected Maldivian SOEs’ balance sheets Table 8: The per unit cost of the Hiyaa public housing is extremely high Table 9: Housing programs need to be better targeted based on income Table 10: Wage Bill Management Framework Table 11: Compensation from allowances increases in tandem with basic salaries Table 12: New allowances are periodically introduced in Maldives Table 13: Overtime Distribution by Basic Salary Table 14: Overtime Allowance by Gender Table A1: PSIP projects financed by external loans in 2021-2024 (projected disbursements, US$ millions) Table A2: SOE statistics (all in US$ millions, unless otherwise noted) Table A3: Gross income weights for each SOE Table A4: Operating expenses and overhead cost weights for each SOE Table A5: External loans and guarantees contracted by the government to finance public housing projects Table A6: FDC Social Housing Pipeline (2020-2022) Table A7: Description of Micro Level Payroll Data used for the analysis Table A8: Number of permanent employeees receiving each allowance in dataset Table A9: Administrative officer average salary by rank and payroll area Table A10: Mincerian regression results – regressions with all employees Table A11: Mincerian regression with public sector dummy interactions – regressions with formal sector employees only Table A12: Public sector premium estimated with quantile regression – formal sector employees only Table A13: Maldives Retirement Pension Scheme Table A14: Key assumptions for PROST projections Table A15: Number of covered workers and retirees Table A16: Distribution of covered wages Table A17: Pension Distribution (DB and DC pension) as at end-2020 Maldives Public Expenditure Review: Restoring fiscal health Page 8 List of Boxes Box 1: Estimating the fiscal multiplier in Maldives Box 2: Grants to local councils are set to increase as Maldives pursues decentralization Box 3: How did Maldives allocate public resources to tackle the COVID-19 pandemic? Box 4: Enhancing the role of PCB Box 5: Public-private partnerships can deliver affordable housing, but they are not a silver bullet Box 6: A Comparison of Chile’s Solidarity Pension and the Maldives OABP 99 Maldives Public Expenditure Review: Restoring fiscal health Page 9 CHAPTER 1 Macro-fiscal overview Summary Maldives has made a remarkable recovery from the historic crisis induced by the COVID-19 pandemic, but it remains highly vulnerable to multiple external shocks and lacks the fiscal buffers to confront them. Public debt and guarantees now exceed the size of Maldives’ entire economy, and are projected to remain so even if economic growth accelerates. To achieve its development goals without causing potential economic crises, Maldives needs to collect more revenues especially from domestic sources, make wiser spending decisions, and borrow more judiciously. 1.1 Maldives has made a strong recovery, but it is not yet out of the woods Like other small island states, the Republic of Maldives 2. A large public sector: Maldives has a relatively large (henceforth “Maldives”) has unique characteristics state, with the public wage bill at 11 percent of GDP (see that pose considerable development challenges. These Chapter 5). This is, however, not uncommon for small include: island developing states (SIDS), where public services need 1. A small, highly dispersed population: With over half a to be provided to small, dispersed populations, and where million inhabitants1 and less than 300 square kilometers private employment opportunities are often limited. Half of total land area, Maldives is the smallest and most of all full-time workers were employed in the public sector densely populated country in South Asia. It is also highly in 2019.3 While most jobs held by men are in the private geographically dispersed, with some islands located sector, employment for females is more concentrated in as far as 200 kilometers away from the capital, Malé the public sector. (Figure 1). Over a third of the population lives in Malé and the remainder are spread across 187 other islands.2 3. Limited near-term prospects for economic The lack of economies of scale drives up the cost of diversification: Tourism and associated services directly delivering public services across the archipelago. Costly account for a third of Maldives’ GDP,4 half of its revenues infrastructure investments to improve connectivity or and the bulk of private sector jobs. While the COVID-19 to mitigate the risks of sea-level increases are needed pandemic has prompted the government to accelerate regardless of the size of the population or area. The economic diversification, opportunities outside tourism small, highly dispersed population means that Maldives are limited in the near-term. The scarcity of land and other faces high costs of delivering basic services, as well as a natural resources constrains domestic production and limited domestic revenue base. leads to a heavy reliance on imports, especially for fuel and Figure 1: Maldives is a small, but widely dispersed country Y-axis: land area (hectares); X-axis (distance to capital city in kilometers) Source: Statistics Maldives 2021a, staff calculations. Note: Each bubble represents an inhabited island. Bubble size refers to population as of the 2014 Census (latest available). Excluding the Greater Malé region, only 9 inhabited islands have more than 3,000 residents. 1 Statistics Maldives 2021a. The estimated population as of 2020 was 557,426. 2 Ibid. According to the 2014 census. An estimated 38 percent of residents lived in Malé in 2020. 3 Data on resort employees from Statistics Maldives (2020a); data on public sector from 2019/20 Household Income and Expenditure Survey or HIES (Statistics Maldives 2021b). 4 The indirect contribution of tourism to the economy is much higher. Maldives Public Expenditure Review: Restoring fiscal health Page 10 construction materials. While digital transformation could 5. Despite these challenges, Maldives has managed contribute more to growth, the local labor force does not to achieve high growth and rapid poverty reduction yet have the requisite skills.5 The Maldivian economy is over the past few decades. Endowed with a rich marine thus expected to remain heavily reliant on tourism in the ecological system, Maldives has been able to develop a near term, and is hence susceptible to various external successful high-end tourism sector that has driven rapid shocks such as global pandemics, political and economic economic growth and income convergence with richer turmoil in its main tourism markets, and heightened countries.9 Prior to the COVID-19 pandemic, real GDP uncertainty. grew by 6.4 percent annually on average between 2010- 2019, faster than other peers (Figure 2) albeit volatile 4. Vulnerability to climate change: Over 70 percent of due to the high dependence on tourism (Figure 3). The Maldives’ total land area is lower than 1 meter above unique “one island, one resort” model10 has attracted a mean sea level, and the bulk of critical tourist and other large amount of foreign direct investment and foreign infrastructure is located within 100 meters of the country’s exchange, boosting average household incomes. Poverty shorelines.6 As such, Maldives is highly vulnerable to a is low by upper middle-income standards: in 2019, only rise in sea levels, extreme weather events, temperature an estimated 1.7 percent of the population lived below increases and floods.7 In 2004, the Indian Ocean tsunami the international poverty line of US$5.50 (PPP) per person battered the islands and claimed approximately 100 lives; per day.11 Inequality, as measured by the Gini coefficient, it damaged or destroyed almost 9,000 houses, and caused was estimated at 29.3 points, relatively low compared to a severe damage – estimated at US$470 million – to the selection of peers.12 physical infrastructure of many islands. While such events are rare, more than half of all inhabited islands already 6. However, several major development gaps remain. experience floods and freshwater shortages on an annual First, there are wide spatial disparities between Malé basis,8 and weather events frequently disrupt the delivery and the atolls. For example, only 27 and 48 percent of of goods, services, and fuel to more remote islands. In households residing in the atolls have access to safe the longer term, erosion of the coral reef could affect drinking water13 and improved sanitation respectively, Maldives’ comparative advantage in tourism. Changes versus nearly universal access in Malé.14 Similar disparities in sea surface temperature and ocean pH would impact persist in access to and the cost of broadband internet. the fisheries sector, a key source of income and critical to The cost of transporting essential goods such as water livelihoods in the atolls. Figure 2: Before the pandemic, Maldives had grown Figure 3: …but growth has been highly volatile due to faster than its peers… its high dependence on tourism. Average real GDP growth, 2010-2019, percent Real GDP growth (%) / GDP per capita, constant 2017 US$ Source: IMF WEO and WDI, staff calculations. Source: Source: Statistics Maldives, staff calculations. 5 World Bank 2021a. Only 13 percent of youth who are eligible to enroll in tertiary education do so. Only 5 percent of tertiary graduates pursue science, technology, engineering, and mathematics programs. 6 Government of Maldives 2015. All four international airports are within 50m of coastline. All utilities facilities, approximately 70 percent of all fisheries infrastructure, more than 75 percent of communications infrastructure, almost all tourist accommodations are located within 100m of coastline. 7 WBG and ADB 2021. Maldives ranks 113 out of 181 countries in the 2020 ND-GAIN Index, which assesses a country’s vulnerability to climate change as well as its adaptive capacity. 8 Ibid. There are no rivers or streams, and few wetlands or freshwater lakes in Maldives. 9 In 1980, Maldives was among the poorest countries in the world, with a GDP per capita of US$268. Sustained and fast growth has enabled Maldives to narrow this gap, reaching upper-middle-income status in 2010. 10 159 islands are designated exclusively for resort tourism. Each island only has one resort. Maldives Public Expenditure Review: Restoring fiscal health Page 11 and fuel, and basic services such as health and education, by state-owned enterprises (SOEs) and financed by to outer atolls is also extremely high. Second, a steady external borrowing (Figure 4), leading to a rapid increase stream of migrants from outer atolls to Malé in search in guaranteed debt from 2 percent of GDP at end-2015, of better amenities and opportunities has driven up the to 15.9 percent at end-2019.18 As a result, the public and cost of housing and led to overcrowding in the capital. publicly guaranteed debt (PPG) ratio rose by some 24 Notwithstanding this, in 2019, the median income in percentage points of GDP over the period of four years, Malé was twice as high as that of the atolls.15 Third, while reaching 79 percent in 2019 (Figure 5). This ratio rose Maldives enjoys universal literacy, large human capital even further due to additional borrowing and the large gaps persist. Only a third of the population under 19 GDP contraction during the COVID-19 pandemic in 2020 years of age has completed higher secondary education.16 (see section 1.3). Maldives also performs much worse than regional and 8. Maldives has made a remarkable comeback from the small island peers in terms of secondary and tertiary historic recession induced by the COVID-19 pandemic. education completion rates.17 In 2020, the COVID-19 pandemic led Maldives to close its 7. To address the housing deficit in the Greater Malé borders for three months. The sudden stop in tourism led region, close development gaps between Malé and real GDP growth to contract by 33.5 percent. However, the atolls and boost economic growth, Maldives since the reopening of borders in July 2020, Maldives’ has significantly expanded public investment in tourism recovery has been exceptionally strong, especially recent years. In 2015 and 2016, the government tripled compared to other SIDS (Figure 6). Straightforward entry spending on mega-infrastructure projects under the requirements, the unique “one island, one resort” concept, Public Sector Investment Program (PSIP) to help close and a rapid COVID-19 vaccination rollout are some of Maldives’ development gaps. Most of the funds were the factors that have supported this strong recovery. directed towards the construction and development of In 2021 Maldives recorded 1.3 million arrivals, only 20 airports, harbors, water and sanitation infrastructure, and percent below the historic 2019 record (Figure 7). Resilient large public housing projects in the Greater Malé region demand from India and Russia (which together accounted (see chapter 2). Most of these projects were undertaken for 40 percent of all visitors in 2021) compensated for the Figure 4: Public investment projects have been Figure 5: leading to a doubling of public debt and increasingly financed by external sources… guarantees even before the pandemic. Share of PSIP spending by financing source, percent Percent of GDP Source: MoF, staff calculations. Source: MoF, staff calculations. Note: External loans include guarantees. Data for 2021 are preliminary Note: Up-to-date as of March 14, 2022. 11 World Bank 2022c. Staff calculations using 2019-2020 HIES. 12 Average of 40.6 for upper middle-income countries; 35.2 for South Asia (excluding India). Most small island states do not report Gini coefficients. Source: World Bank WDI data. 13 According to Maldives’ HIES 2019 methodology, safe drinking water is defined as water (including rainwater) that has been purified either by boiling, chlorinating or filtering. 14 Statistics Maldives 2020b 15 Statistics Maldives 2021b. The median monthly income per household is MVR 23,500 (US$1526) nationally. In Malé, it is MVR 32,575 (US$2115) per month, double the level (US$974) in the atolls. 16 Ibid. 17 World Bank 2021b. 18 As long as the sovereign guarantee is not called, it does not represent an expense in the fiscal accounts. To date, no guarantee has been called in Maldives. Maldives Public Expenditure Review: Restoring fiscal health Page 12 absence of tourists from China, which had accounted for a remains at double-digit levels as a share of GDP, as import fifth of all tourists before the pandemic. Real GDP growth growth has accelerated to meet the demand from tourism is thus estimated to have rebounded by 31 percent in and construction. Higher global fuel prices, induced by 2021.19 the ongoing Russia-Ukraine war, have also driven up the fuel import bill by an estimated 0.4-0.7 percent of GDP 9. Nonetheless, the Maldivian economy is not yet out (World Bank 2022b). Usable reserves (netting out short- of the woods. Even before the pandemic, Maldives had term liabilities) stood at US$405 million at end-March consistently recorded a budget deficit of 6.3 percent of GDP 2022, equivalent to only 1.9 months of goods imports. on average, nearly triple that of other upper middle-income Moreover, with a fixed exchange rate, Maldives has limited countries and more than twice as large as other SIDS. As policy instruments to cope with future shocks. the next section illustrates, the deficit has been driven by a large expansion in public infrastructure investment 10. To reduce these imbalances, Maldives can undertake and generous social spending. Despite a significant drop three sets of reforms. It can (i) raise more revenues in revenues due to the COVID-19 pandemic in 2020, from both international and domestic sources; (ii) curtail Maldives maintained a high level of spending as a share the high growth of public expenditures by making of GDP, leading the fiscal deficit and public debt to balloon spending more targeted and efficient; and (iii) improve to 24 and 150 percent of GDP in 2020 (Table 1). Despite the management of public debt and guarantees. For (ii), the strong recovery, both ratios remain elevated. External this would require more efficient and targeted spending financing needs are also sizeable; the current account Figure 6: Maldives’ tourism recovery has been Figure 7: with tourist arrivals rebounding to pre- exceptional compared to other small island pandemic levels since H2 2021. states… Number of tourist arrivals Change in real tourism receipts, 2021 vs 2019 Source: MoF, staff calculations. Source: MoF, staff calculations. Note: External loans include guarantees. Data for 2021 are preliminary Note: Up-to-date as of March 14, 2022. Table 1: Key macroeconomic indicators, 2016-2021 (as a share of GDP, unless otherwise stated) 2016 2017 2018 2019 2020 2021 Real GDP growth (year-on-year, %) 6.3 7.2 8.1 6.9 -33.5 31.0 Exchange Rate (MVR/US$) 15.4 15.4 15.4 15.4 15.4 15.4 Inflation, consumer prices (period average) 0.5 2.8 -0.1 0.2 -1.4 0.5 Current account balance -23.5 -21.6 -28.4 -26.6 -35.5 -35.5 Total revenues 27.6 27.7 27.2 26.9 26.4 25.8 Total expenditures 37.6 30.8 32.5 33.6 49.9 43.4 Primary Balance -8.2 -1.6 -3.5 -4.9 -20.7 -14.0 Overall Balance -10.0 -3.1 -5.3 -6.7 -23.5 -17.7 Public and publicly guaranteed debt 58.5 64.5 73.9 78.8 150.3 125.2 Source: MoF and Statistics Maldives for 2016-2020; staff projections for 2021. Current as of April 1, 2022. 19 2021 real GDP growth was revised to 37 percent in June 2022, after the cut-off date for this publication. Maldives Public Expenditure Review: Restoring fiscal health Page 13 on infrastructure and health (see Chapter 2), more external financing and/or a materialization of other fiscal transparent and equitable public wage bill management risks could quickly wipe out hard-earned gains in growth (see Chapter 5), and reforms to reduce duplications in the and development. As many countries’ experiences show, public pensions system (see Chapter 6). For (iii), it could the rapid accumulation of debt is often associated with reduce fiscal risks from SOEs (see Chapter 3), and reduce the increased risk of financial crises, sovereign debt reliance on costly external financing for public housing defaults, and banking crises that are economically and (see Chapter 4). As the remainder of this chapter will show, socially costly (IMF 2016; Kose et al 2019). To avoid such action is needed in all three areas to restore Maldives’ a situation, Maldives needs to spend more wisely and public finances back to a sustainable path. find ways to raise additional revenues – including from domestic sources. 11. Such reforms will involve some trade-offs, but acting now will help Maldives achieve faster, more resilient growth over the medium and long term. Although the government has outlined an ambitious Strategic Action Plan (2019-2023) to close development gaps,20 Maldives lacks adequate resources to finance this plan. While Maldives can continue to borrow to finance its spending needs, the global environment is currently highly uncertain, with every indication of tighter financing conditions over the medium term. Any sudden stop in 1.2 Expenditures have been increasing, with limited impact on near-term growth 12. Like other SIDS, Maldives is a big spender. Prior to public sector wage bill, generous social spending, and the COVID-19 pandemic, public expenditures in Maldives substantial increases in capital spending. The spending- amounted to about a third of nominal GDP, slightly ahead to-GDP ratio remained relatively constant at around 30 of other upper middle-income countries but on par with percent from 2010-2014, then rose to an average of 34 the average SIDS (Figure 8). High spending was initially percent between 2015-2019 and spiked to 50 percent in driven by post-disaster reconstruction works after the 2020 due to the deep economic contraction. Spending 2004 Indian Ocean tsunami, but later by an expansion has remained high at 43 percent of GDP in 2021 despite of the public sector under the 2008 constitution,21 the the recovery. Figure 8: Maldives spends more than the average Figure 9: Growth in public spending has outpaced upper middle-income country, but on par with other that of GDP since 2014… SIDS Average public expenditure 2010-2019, percent of GDP Average public expenditure 2010-2019, percent of GDP Source: IMF Fiscal Affairs Database, October 2021 Source: IMF Fiscal Affairs Database, October 2021 20 The plan has been scaled down and renamed as the “National Resilience and Recovery Plan” since the COVID-19 pandemic, but it remains ambitious relative to the country’s domestic financing capacity. 21 Under Maldives’ Constitution of 2008, the public sector was further expanded by establishing new independent commissions and offices as well as administrative decentralization, which contributed towards higher public spending. Maldives Public Expenditure Review: Restoring fiscal health Page 14 Figure 10: Approved budget ceilings have grown at Figure 11: …and the government tends to overspend an unsustainable pace… on subsidies, losses and write-offs. US$ millions, real terms Percent of GDP Source: MoF, staff calculations Source: MoF, staff calculations 13. The pace of public spending has picked up significantly 10). Nonetheless, the government tends to overspend on in recent years. Between 2014 and 2019, total public grants, contributions, and subsidies, as well as losses and expenditures (measured in real terms) grew at a compound write-offs. Between 2015 and 2021, overspending on these annual growth rate of 11.6 percent, almost double the items amounted to 0.3 and 1 percentage point of GDP, average pace of GDP growth (6.5 percent) during the respectively (Figure 11). Overspending was most acute same period. Except for a one-off fiscal consolidation in 2018 and 2019. In 2018, for example, the government effort in 2017 and the large COVID-19-related rebound spent nearly double the amount it allocated on electricity in 2021, total expenditures have grown faster than the subsidies due to higher-than-expected global oil prices economy every year (Figure 9). This, coupled with positive and a policy decision to reduce electricity prices in atolls correlations between almost all components of public (MoF 2019). The government also spent more than double expenditures and the business cycle, suggests that public the amount it originally budgeted on social welfare, as spending policies have been highly procyclical in Maldives. outstanding Aasandha arrears, of US$33 million that were Like many other emerging economies, the ability of not previously accounted for, were cleared. In addition, expenditure policy to act as an “automatic stabilizer” in the government has spent much more than it anticipated times of economic crises is thus limited (see Frankel et on losses and arbitration charges to private companies al 2013; Galeano et al 2021). As Chapter 2 illustrates, over contractual disputes.22 the increase in public spending has mostly been driven 16. Higher public spending does not appear to have by a rapid expansion in public investment, but also other translated into faster economic growth so far. While recurrent items such as subsidies and wages. more public investment in infrastructure projects has 14. Budget ceilings have grown at an unsustainable fueled growth in the construction sector over the past few pace. The approved budget ceiling has steadily risen over years, there is little evidence that higher public spending the last several years, by an average of 11 percent per has had a more meaningful impact on the overall level of annum over 2014-2021. In 2020, prior to the pandemic, growth in the short-term. A preliminary estimation of the the government had approved a 32 percent increase in expenditure multiplier in Maldives shows that it is small (see total expenditures. These large increases have generally Box 1) and consistent with what the literature predicts for been directed towards capital expenditures; however, the a highly indebted small open economy (Ilzetzki et al 2013). government typically only spends 82 percent of the capital One possible explanation is that PSIP projects are mostly budget allocation (see Chapter 2). dependent on imports of capital goods and foreign labor, and hence do not induce a large increase in domestic 15. While there is generally a small divergence in budget production. Unless such investment is accompanied execution, the government has consistently overspent by measures to improve domestic productive capacity, in some areas. Budget execution has been mixed: the Maldives’ infrastructure investment push may have a government underspent the overall budget in 2015-2016, limited impact on medium- and long-term growth. Cross- while overspending it by a small margin in 2017 and by country studies show that the welfare effects of public a larger amount (6-7 percent) in 2018 and 2019 (Figure 22 In 2019 alone, the Government paid US$68 million to several companies for unlawful termination of contracts by the previous administration, notably Noomadi Resorts (US$55 million). More recently, in 2021, a Malaysian construction and property developer sued the government of Maldives over unpaid dues of US$23 million from HDC. The latter payment was made off budget. Maldives Public Expenditure Review: Restoring fiscal health Page 15 infrastructure investment are highly dependent on the domestically financed capital expenditures by the Green productivity and effectiveness of spending (Bom and Fund, which are earmarked for environmental projects. As Ligthart 2014 and Ganelli and Tervala 2015). shown by Table 2, nearly two-thirds of Maldives’ budget is comprised of these high and medium rigidity expenses, a 17. There is little room to reallocate resources across share that has not changed much over time. International categories of spending during the fiscal year. While experience indicates that relatively high shares of rigid there is no standard methodology to define expenditure components of public spending are a constraint for fiscal rigidity, these are generally understood as spending items consolidation (Munoz and Olaberria 2019). This occurs that are not subject to the discretion of the authorities especially when wages, pensions, and interest payments during the fiscal year. In Maldives, “high rigidity” expenses are above what economic fundamentals would suggest. comprise salaries and wages, interest payments, capital expenditure financed by external loans and grants, and arbitration losses; while “medium-rigidity” expenses comprise allowances, pensions, social transfers, and some Box 1: Estimating the fiscal multiplier in Maldives A fiscal multiplier measures how much an economy’s GDP Figure 12: The growth impact of higher public changes in response to a public spending or tax policy spending appears to be limited in Maldives shock. Estimating the fiscal multiplier in Maldives is tricky Y-axis: percent, X-axis: number of quarters given that historical fiscal data is not available for a long period of time. Nonetheless, as a first pass, quarterly expenditure and GDP data from 2013Q1 to 2021Q1 are used to estimate the fiscal multiplier. The data are log- transformed, de-seasonalized and deflated, and then linearly detrended to remove underlying trends. Following Blanchard and Perotti (2002), it is assumed that output does not have a contemporaneous effect on fiscal policy variables, i.e., total government expenditure is not affected by shocks to GDP within the same quarter. A two-variable Structural Vector Autoregressive (SVAR) model is used to Source: World Bank staff estimates. identify expenditure shocks. in GDP is much lower than the initial increase in spending. Estimates suggest that the impact of higher public The analysis is, however, limited by the relatively short spending on economic activity has been very limited. period of available economic and fiscal data in Maldives. The econometric analysis confirms that output grows As a further examination, we differentiated government as government expenditure increases; however, this consumption and investment spending. The impulse multiplier effect is very small and short-lived. A one percent response for government consumption shock looks very increase in total spending leads to an immediate increase similar to Figure 12 with a similar magnitude. However, the in GDP by 0.12 percent (significant at the 5 percent impulse response for investment shock is not significant level) in the same quarter, but the multiplier becomes at all, indicating that this multiplier effect for investment insignificant in subsequent quarters and fades to zero spending could be limited due to the high import-content over the longer horizon of 10 quarters (Figure 12). These of infrastructure spending. estimates are far below unity, indicating that the increase Source: World Bank staff estimates based on data from Ministry of Finance and Statistics Maldives. Maldives Public Expenditure Review: Restoring fiscal health Page 16 Table 2: 60-70 percent of Maldives’ budget can be considered rigid 2014 2015 2016 2017 2018 2019 2020 2021R High rigidity 28 28 32 35 39 34 26 30 Salaries and wages 21 18 16 18 16 16 15 14 Interest payments 6 6 5 5 5 5 6 8 Externally-financed capital expenditures 1 3 12 13 17 7 4 7 Losses and write-offs - - - - 0 5 1 1 Medium rigidity 41 34 28 29 32 32 35 35 Allowances 15 13 11 13 13 13 13 12 Pensions 8 7 6 6 6 5 5 5 Trust-funded capital expenditures 0 0 0 0 0 1 1 2 Grants, contributions and subsidies 18 13 11 9 13 13 16 16 Low rigidity 31 38 40 36 30 34 39 36 Goods and services 17 20 15 15 15 16 15 18 Domestically-financed CAPEX 14 19 25 21 14 18 25 18 Source: MoF, staff estimates. 2021 refers to revised budget estimates. 1.3 Debt vulnerabilities have increased significantly in recent years 18. Debt is at unprecedented levels, exceeding the size government direct debt stood at US$5.2 billion or 107 of Maldives’ entire economy. Total public and publicly percent of 2021 GDP (see Table 3). These figures do guaranteed debt stood at US$6.1 billion or an estimated not include advances from the central bank, which has 125 percent of GDP as at end-2021.23 Domestic and occurred since the suspension of the Fiscal Responsibility domestically-guaranteed debt account for the bulk Act (FRA) in April 2020.25 Moreover, fiscal risks – mostly of total debt (65 percent of GDP), while external and stemming from guaranteed and on-lent loans, as well as externally-guaranteed24 debt account for the remainder trade payables, subsidies and capital injections to SOEs (60 percent of GDP). Even excluding guarantees, central – are estimated at about US$2.5 billion or 45 percent Table 3: Even before the pandemic, Maldives’ debt was already high in US$ millions as share of GDP 2018 2019 2020 2021 2018 2019 2020 2021 Domestic direct debt 1,907 2,156 2,760 3,188 36.0 38.5 73.8 65.3 Short-term 975 1,231 1,564 1,975 18.4 22.0 41.8 40.5 Long-term 821 861 1,139 1,172 15.5 15.4 30.5 24.0 MMA Bond 400 395 390 385 7.6 7.1 10.4 7.9 Pension recognition bond 223 230 236 243 4.2 4.1 6.3 5.0 MVR Treasury Bond 198 223 246 265 3.7 4.0 6.6 5.4 US$ Treasury Bond - 13 266 279 - 0.2 7.1 5.7 Domestic guaranteed debt 110 64 56 41 2.1 1.1 1.5 0.8 External direct debt 1,336 1,432 1,621 2,046 25.2 25.6 43.4 41.9 External guaranteed debt 672 827 1,239 876 12.7 14.8 33.1 17.9 Public and publicly guaranteed debt 3,915 4,415 5,619 6,110 73.9 78.8 150.3 125.2 Note: 2021 real GDP growth was revised to 37 percent in June 2022, after the cut-off date for this publication. 23 Estimate current as of end March 2022. 24 Domestic guaranteed debt accounts for only 1 percent of GDP while a large portion of domestic PPG debt is direct borrowing of the government. 25 As at end-March 2022, advances to the government from the Maldives Monetary Authority (MMA) were at US$118.5 million. In April 2020, the Parliament had approved a one-year suspension of certain clauses of the FRA to enable the government to borrow more from the central bank. In November 2021, Parliament approved the government’s request to extend the FRA suspension until December 2023. Maldives Public Expenditure Review: Restoring fiscal health Page 17 of 2019 GDP (see Chapter 3). While such risks have not associated liability management operation reduced short- materialized, Maldives lacks the fiscal space to address term rollover risks (from the US$250 million Eurobond any potential fallout to public finances, should they occur. due in 2022), it has contributed to a huge bunching of repayments in 2026, when the US$100 million sovereign 19. Not all new borrowing during the pandemic was bond (placed in Abu Dhabi and initially due in 2023), in directed towards short-term needs. Although Maldives’ addition to the US$500 million sukuk come due. Total debt was already high prior to the pandemic, a sharp debt service costs on existing debt are expected to jump increase in borrowing occurred in 2020-2021 as the to US$900 million in 2026 (Figure 13) – equivalent to an government contracted new loans and guarantees to estimated 16 percent of 2019 GDP or 60 percent of 2019 cope with the revenue shortfall that occurred due to revenues. Although the Sovereign Development Fund the COVID-19 pandemic. Notably, these included a five- could partially finance some of these repayments, these year US$500 million sukuk (accompanied by a liability revenues are unlikely to be sufficient to repay external management operation)26 and US$250 million from the debt service costs.29 Government of India (channeled as domestic debt – see US$ treasury bonds in Table 3).27 However, the bulk of 21. Debt transparency and debt management have new commitments contracted during this period was improved, but have failed to curtail large increases in directed towards infrastructure projects. The government public debt. In recent years, Maldives has made several signed several lines of credit with the Export-Import Bank improvements in debt transparency: it began to publish of India (EXIM India) for the Greater Malé Connectivity a Medium-Term Debt Strategy, semi-annual Public Debt Project (US$400 million), defense projects (US$50 million) Bulletins, quarterly debt statistics, audited public debt and and sports infrastructure (US$40 million), and obtained guarantee statements, and information on PSIP projects guarantees worth US$246 million for the development financed by sovereign guarantees. It also published its of social housing and roads in Hulhumalé. Most of these first fiscal risk statement in 2021 (MoF 2021a). As a result, projects began to be disbursed in 2021. Maldives is among the best performers in the South Asia region and among small island states in terms of debt 20. Maldives is at high risk of external and overall debt reporting (World Bank 2021c). Moreover, the government distress. In the latest published Joint World Bank-IMF has now centralized the issuance of domestic securities Debt Sustainability Analysis (April 2020), all indicators within MoF’s Debt Management Department (DMD). except the debt-to-exports ratio breach their respective Nevertheless, there is room for improvement in both thresholds under the baseline scenario. Debt was assessed debt transparency and debt management (see section to be sustainable on the strong assumption that capital 1.5). This is evidenced by the fact that Maldives has not spending would be reduced, but this has not occurred. adhered to the legal limit for public debt of 60 percent of Rather, the government has maintained a high level of GDP, as stipulated by the Fiscal Responsibility Act (FRA). capital spending.28 While the sukuk issuance and the Figure 13: External debt service costs on existing borrowing are projected to reach nearly US$1 billion in 2026 US$ millions Source: Data obtained from MoF, staff calculations. 26 In March 2021, the Government of Maldives issued a five-year US$200 million sukuk (profit rate: 10.5%). A further US$100 million was raised through a tap issuance in April 2021. Proceeds of the sukuk were mainly used to roll over 76 percent of the US$250 million Eurobond due in 2022, with the remainder going towards budget financing. In September 2021, the government tapped the existing sukuk to raise US$200 million at 10.5%. 27 This was done through a branch of the State Bank of India in Malé. 28 In 2020, the government postponed PSIP projects that had not yet been awarded due to the pandemic, but proceeded with ongoing projects. 29 Proceeds from the Airport Development Fee and dividends from the state-owned airport operator, MACL, are transferred into the SDF and earmarked for debt repayment. As of early June 2022, the SDF Fund amounted to USD 264.8 million, of which USD72.1 million consists of long-term investments. The remainder of the SDF is included in Maldives’ foreign reserves (source). Maldives Public Expenditure Review: Restoring fiscal health Page 18 1.4 Revenue collection on par with peers, but overly reliant on external sources and plateaued pre-pandemic 22. Maldives collects an average amount of revenues than a third of the total (Figure 16).34 This is not surprising compared to most of its peers. Prior to the pandemic, as the tourism GST rate is twice the non-tourism GST rate between 2017 and 2019, Maldives’ revenue-to-GDP ratio30 (12 versus 6 percent respectively). Like other SIDS, trade averaged 27.3 percent – higher than the South Asia taxes account for about 19 percent of Maldives’ total tax average, but comparable to other small island states and revenues. These are mostly paid by tourists, since import upper middle-income countries (Figure 14). Tax revenues duties on alcohol, animal products and other luxury goods make up the bulk of total revenues and grants, averaging are high and predominantly consumed by resorts. All in 19.6 percent of GDP. Maldives collects a comparable all, this high dependence on tourism revenues means that amount of domestic revenues, but it is relatively less Maldives has few buffers in the event of external shocks, dependent on grants compared to other SIDS (Figure as evidenced by the COVID-19 crisis. 15). It also collects a more substantial amount of non-tax 24. Compared to peers, Maldives collects relatively little revenue (mostly resort and land rent, and dividends from direct tax on income, profits and capital gains from SOEs)31 compared to its income and regional peers. local firms and households. Prior to the introduction 23. Heavily dependent on international tourism, revenues of the Personal Income Tax (PIT) beginning January are extremely vulnerable to external shocks. Tourism- 2020, Maldives did not collect any direct tax revenues linked revenues directly contribute about half of total from households (Figure 17), unlike most of its income, revenues (including grants) in Maldives. Indirectly, this regional and even small island peers. Even in 2020 and proportion is likely to be even higher, as tourism is the 2021, PIT accounted for only 0.1 and 0.3 percent of 2019 main driver of economic growth. Most tourism-linked GDP, respectively. This is far below the level collected in revenues (80 percent) are taxes, comprising the tourism other tourism-dependent SIDS such as Fiji (2 percent of Goods and Services Tax (GST), an Airport Service Charge, GDP), Jamaica (3.3 percent), Cabo Verde (3.8 percent) and a per-night Green Tax32 and a portion of import duties.33 Seychelles (5.9 percent).35 Analyses by the World Bank Non-tax tourism revenues are collected through an Airport and IMF suggest that the income tax threshold is too high Development Fee and on rents from resorts. Looking to be a meaningful source of income – at MVR 720,000 solely at tax revenues, tourism GST accounts for more (US$46,753 or nearly five times per capita income), many Figure 14: Maldives’ revenue ratio is comparable to Figure 15: …but less dependent on grants compared countries of a similar per capita income level… to other SIDS. Y-axis: percent of GDP; X-axis: GDP per capita Percent of GDP Note: Data refer to 2019. Note: Simple average for groups. Data refers to 2019 when available, Source: IMF WEO data, World Bank WDI, staff calculations otherwise 2018. Countries with no information on 2018 were dropped from the sample. Source: UNU-WIDER Government Revenue Dataset Version 2021, staff calculations 30 Revenue numbers reported in this section include grants unless otherwise specified. 31 Non-tax revenues have been variable over time, averaging 6.6 percent of GDP over the past decade. Roughly one-third of these revenues comes from rent from resorts. Dividends from SOEs also make up a sizeable portion of non-tax revenues (17 percent on average between 2012 and 2020) and are a significant source of revenue variability. The remainder of non-tax revenues consists of fees, charges, fines, and penalties. 32 The Green Tax is payable by tourists who stay in tourist resorts, hotels, vessels, and guesthouses. It is payable at the rate of US$6 per day of stay in tourist resorts, hotels, and vessels (effective November 2015); and US$3 per day of stay in tourist guesthouses (effective October 2016). Green Tax receipts are earmarked for renewable energy, coastal protection and other environmental protection projects. 33 Import duties on alcohol and selected food items are high, which are predominantly consumed by resorts. 34 RHalf of Maldives’ tax revenue is generated through the GST, of which more than 65 percent is based on tourism. 35 Data are from UNU-WIDER and refer to 2018-2019. Maldives Public Expenditure Review: Restoring fiscal health Page 19 Figure 16: The bulk of tax revenues comes from Figure 17: …and Maldives did not collect any indirect taxation of tourists… Personal Income Tax prior to 2020. Breakdown of tax revenues, percent of GDP Note: Simple average for groups. Data refers to 2019 when available, otherwise 2018. Countries with no information for 2018 were dropped from the sample. Source: UNU-WIDER Government Revenue Dataset Version 2021, staff calculations Figure 18: The revenue-to-GDP ratio plateaued even Figure 19: …and tax revenues are not very sensitive before COVID-19… to changes in output. Percent of GDP Tax revenue multiples of a percent change in GDP Source: Data obtained from MoF, staff calculations. Source: : MoF, staff calculations. high-earning individuals are outside the tax net. Moreover, need to modernize tax policy and administration and to the top marginal tax rate of 15 percent only applies to diversify revenue collection away from tourism-related incomes above MVR 2.4 million (US$155,844 or 17 times activities. In addition, tax revenue has a low and declining per capita income). responsiveness to economic growth, illustrated by a 25. Even before the COVID-19 pandemic, revenues had tax buoyancy36 below one (Figure 19). This suggests tax been plateauing. Revenue as a share of GDP had steadily mobilization is behind increases in economic activity, increased up until 2018-2019, when it subsequently putting pressure on Maldives’ fiscal sustainability in the declined to 27 percent of GDP (Figure 18). This was driven long run. If domestic revenues do not move in tandem by a plateauing of tax revenue at around 19 percent of with output in the economy, this reduces predictability GDP in these years, which is surprising given the historic and complicates budget planning and fiscal forecasting. record of 1.7 million international tourists in 2019. The Similarly, in the short run, low buoyancy means that the tax revenue ratio rose again in 2021, but this was driven system cannot stabilize output (e.g. reduce fluctuations in by a repayment of resort rent income and other dues the business cycle and the burden on households/firms that were postponed from 2020 due to the pandemic. in a recession) by managing or stimulating aggregate All in all, Maldives’ revenue performance reflects the demand (Dudine and Jalles 2017). 36 Tax buoyancy measures how tax revenues vary with changes in output. A buoyancy of one means that an additional 1 percent of GDP would increase tax revenue also by 1 percent, leaving the tax-to-GDP ratio unchanged. Maldives Public Expenditure Review: Restoring fiscal health Page 20 26. Maldives has made laudable progress in improving revenues by about US$37 million in 2022 (0.7 percentage tax policy in recent years, but recent reforms have not points of 2019 GDP).38 Overall, however, it is too soon yet yielded significant increases in revenue. Notable to assess the impact of most of these recent reforms: improvements in tax policy include: (i) establishing a realizing the full potential from a new tax measure can Tax Policy Unit in MoF; (ii) introducing a PIT in 2020; (iii) typically take three to four years as the revenue authority abolishing a preferential tax regime; and (iv) abolishing focuses on encouraging employers to register employees, all tax exemptions and incentives under the Foreign and identifies and addresses non-compliance. Recent Investment Act.37 Maldives has also implemented other reforms should therefore be rigorously evaluated as soon tax revenue increases, such as: (i) introducing the Airport as data becomes available. Development Fee in 2017; (ii) increasing import duties on selected beverages and cigarettes; and (iii) increasing Airport Departure Taxes and Airport Service Charges beginning January 2022. The latter is expected to increase 1.5 How can Maldives increase fiscal space and still achieve its development goals? 27. To sustainably fund its large spending needs, even under a more optimistic scenario: assuming faster Maldives needs to mobilize additional revenues. average growth of 9.3 percent over the forecast horizon, The World Bank’s medium-term forecasts indicate that the deficit and debt would still be 5.5 and 108 percent of Maldives’ fiscal imbalances are expected to remain large, GDP, respectively, in 2026. Only if, in addition to faster and potentially destabilizing, even in a context of robust economic growth, policy measures could deliver additional economic growth. In the baseline scenario – which government revenues of 0.6 percent of GDP per annum assumes that Maldives grows at 7.3 percent per annum over 2022-2026 (an additional US$149 million annually over the forecast horizon of 2022-2026 (slightly higher on average), would the deficit and debt fall to 4.5 and than its pre-pandemic average of 7.1 percent) – the fiscal 103 percent of GDP by 2026 (Figure 21). These scenarios deficit and public & publicly guaranteed debt are expected assume ceteris paribus conditions for the exchange rate to remain elevated relative to GDP, at 7.9 and 124 percent and inflation. of GDP by 2026 (Figure 20). These ratios will remain high Figure 20: The fiscal deficit is expected to remain Figure 21: …and tax revenues are not very sensitive high even with faster growth to changes in output. Percent of GDP Tax revenue multiples of a percent change in GDP Source: World Bank staff simulations. Source: World Bank staff simulations. 37 Additional measures include introducing transfer pricing rules and limiting interest deductions, and introducing a cross-border withholding tax on all sources of capital income and technical and management fees. 38 Maldives previously charged a per-passenger airport service charge (ASC) of US$12 for Maldivians and US$25 for foreigners departing the country and an airport development fee (ADF) of the same magnitude. Starting January 1, 2022, the ASC was repealed and replaced with a new departure tax ranging from US$12-US$120 for Maldivians and US$30-US$120 for foreigners, depending on the class of travel. The ADF was also increased to the same amounts. Maldives Public Expenditure Review: Restoring fiscal health Page 21 28. Achieving such an increase in revenue is feasible that managed to increase tax revenues by more than a if Maldives diversifies the tax base by mobilizing cumulative six percentage points of GDP during the period more domestic sources of revenue. Raising more were Tonga and Guyana.40 revenues from domestic sources could broaden the tax 30. Maximizing revenue potential will require parallel base and reduce Maldives’ heavy reliance on external investments in tax morale and tax equity. The success sources, which are subject to a range of conditions of revenue reforms will be heavily dependent on political beyond its control. Taxing the domestic economy could support. Tax reforms only yield their revenue potential if, reduce the procyclicality of fiscal policy and maintain besides effective enforcement and facilitation measures, the competitiveness of the tourism industry. To do so, taxpayers have “nonpecuniary motivations for tax Maldives could consider the following actions: compliance” (Dom et al 2022). In other words, whether i. Lower the tax brackets for PIT: Reducing the Maldives can successfully raise revenues depends on how threshold would increase the tax base, result in more well citizens believe their taxes are being spent, whether revenues, and make the tax system more progressive. they feel they are treated fairly by tax officials, how well tax World Bank simulations indicate that halving the laws and decisions are communicated, and how equitable threshold to MVR 300,000 (US$19480), for example, the tax system is. These dimensions of reciprocity, fairness, would increase PIT collections fivefold to US$28 equity, and accountability will need to be central in the million annually, equivalent to 0.5 percent of 2019 Maldives Inland Revenue Authority’s (MIRA) compliance GDP. This would still be below the recommended strategies to help build trust in the tax system and expand level of 1 percent of GDP (IMF 2019a). the domestic tax base. ntroduce a presumptive regime for businesses ii. I 31. Several non-tax revenue reforms could also yield below the GST threshold. At present, many small additional revenue. The 2020 and 2021 Budget businesses do not pay business profit taxes as they documents had indicated new measures to raise non-tax generate below MVR 500,000 (US$32,467) annually. revenues: requiring dividends from real estate tourism, A uniform presumptive tax, for example at a rate of 2 imposing expatriate quota fees, increasing resident or 3 percent of turnover, for these businesses would permit fees, land sales, introducing a spectrum charge, generate additional revenues of 0.2 percent of GDP, and imposing congestion charges/parking fees in the reduce compliance burdens, and lower administrative capital. Together, these measures were estimated to costs. raise US$56 million annually on average in additional revenues over 2022-2024, or about 1 percent of 2019 iii. Make adjustments to the GST. Immediate term GDP annually. Most of these measures, however, have yet policy recommendations for the GST include: i) to be implemented at the time of writing. abstaining from introducing new tax incentives; ii) reviewing and rationalizing exemptions and zero- 32. In addition to raising revenues, Maldives needs to ratings; iii) imposing GST on imported goods and implement expenditure policy and debt management services; and iv) extending GST to digital services reforms to return to a more sustainable fiscal and and offshore booking accounts. These measures debt path. While the remainder of the report will delve are relatively low hanging fruit and could yield an into specific policy actions related to the key drivers additional 2 percent of GDP in revenue in the short of spending, this chapter concludes with three broad term. In the medium term, once inflationary pressures recommendations for overall fiscal and debt policy: abate, Maldives could consider gradual increases to i. The Fiscal Responsibility Act needs to be both the general GST (to 8-10 percent) and tourism revamped urgently. The FRA, which came into GST rates (to 14-15 percent). This could result in an effect in 2013, stipulated overly ambitious numerical additional 2-3 percent of GDP in revenue (IMF 2022a). targets that were never adhered to: a maximum PPG 29. All in all, it is estimated that these measures could raise debt target of 60 percent of GDP, a budget balance central government revenues by at least 2.7 percent of of 3.5 percent of GDP, and a primary balance rule GDP in the short term, and a further 2-3 percent of GDP requiring a primary surplus starting at end-2016. in the medium term.39 This is a significant amount and There were no penalties for non-compliance with represents the upper bound of revenue potential, as the these targets. To make the FRA more effective and average upper middle-income country only managed to credible, the World Bank (2015) and the IMF (2022b) increase its tax-to-GDP ratio by 0.1 percentage points of recommend moving away from a rules-based GDP per year between 2010 and 2019. The only countries towards a principles-based FRA. This approach, while 39 Estimates based on IMF 2019b. 40 Based on a sample of 37 upper middle-income countries. Source: UNU-WIDER Government Revenue Dataset Version 2021, staff calculations. Maldives Public Expenditure Review: Restoring fiscal health Page 22 more flexible (as the numerical targets are included previous editions). More comprehensive reporting of in a government document, rather than a law), would government debt and guarantees are an important require strong accountability and transparency next step towards more accountability. mechanisms to ensure that any proposed changes in 33. The government of Maldives is well-placed to take fiscal targets are justified by the Minister of Finance these measures and has already begun to work on and/or approved by Parliament. Maldives’ 2022- several key reforms. The Ministry of Finance has made 2024 Medium-Term Fiscal Strategy already sets two important changes to strengthen the institutional structure numerical anchors that could serve as the fiscal of debt management, following the recommendations of targets,41 but (i) guarantees are not included in the the 2018 World Bank Debt Management Performance debt limit, consistent with the FRA, and (ii) these Assessment (DeMPA). It is currently working with the World do not seem to be realistic given the current fiscal Bank, the IMF and other development partners to revamp scenario. It would be important for the new FRA to the FRA, formulate a medium-term revenue strategy, draft include a limit on government guarantees, given the a Public Debt Law, and to refine the sovereign guarantee large fiscal risks they pose to public finances (see policy and the public financial management reform Chapter 3). strategy. However, communication at the highest political ii. Improving debt management could promote levels on the importance of fiscal and debt sustainability a more judicious use of external loans and are important to secure buy-in for the necessary reforms guarantees. How much a country decides to borrow from the whole of government and from the public. To and for what purpose is a sovereign decision. In avoid succumbing to multiple pressures to increase Maldives’ case, however, the large increase in public public expenditures, the government needs to articulate debt and guarantees in recent years is cause for clear strategies for achieving its development objectives concern, as the country lacks buffers to cope with without jeopardizing macroeconomic and fiscal stability. potential future shocks. Greater scrutiny on the The highest levels of political leadership need to visibly use of external loans and guarantees to fund state commit to restoring Maldives back to the path of fiscal expenditures is therefore warranted. To start, discipline and carefully communicate the urgent need MoF could ensure that the Public Debt Law clearly to do so. This goal can be achieved by raising additional articulates the overarching objectives of debt revenues in a progressive and transparent manner, by management, clarifies the delegation of authority to making expenditures more efficient and well-targeted, borrow and lend public resources, and guarantees and by reducing reliance on costly external debt and and empowers the DMD. It could also revamp the guarantees. FRA and other necessary legislation to mandate the inclusion of government guarantees in the medium- term debt and fiscal strategies. Finally, it could publish a borrowing plan to improve cash management and domestic market development. This plan could help to mitigate large refinancing risks from the reliance of domestic debt on Treasury Bills. iii. There is still room for improvement on debt transparency. The semi-annual debt bulletins typically contain information on: (i) disbursed outstanding debt; (ii) external debt, disaggregated by creditor, currency composition, disbursement, and debt service; (iii) domestic debt disaggregated by short-term and long-term, and debt service; (iv) institutional developments in debt management; and (v) debt risk indicators. However, there is limited information on the terms of contracted loans and guarantees, and coverage is not consistent across publications (the June 2021 bulletin, for example, does not include detailed information on government guaranteed and on-lent debt that was included in 41 These are to reduce the budgetary central government debt to GDP ratio to 105 percent by 2023 and to reduce the primary budget deficit to GDP ratio to 5 percent by the same year. The third, non-numeric anchor is to “maintain a reducing path over the medium term for budget deficit and debt.” Source: MoF 2021. Maldives Public Expenditure Review: Restoring fiscal health Page 23 CHAPTER 2 Public Spending Summary This chapter examines how the Government of Maldives has spent public resources in recent years.42 The first section looks at trends in spending by economic and functional classification. Maldives spends a third of its budget on capital, much higher than many of its peers. It spends another third on public wages, in line with other small island states. Spending on social sectors takes up nearly half the budget, as Maldives spends much more than peers on public health. The second section examines the quality of public spending in health and infrastructure. While available evidence is limited, the analysis suggests room for improvement. In health specifically, it can reduce the prices of drugs, leverage digital technology to provide health services, strengthen strategic purchasing and hospital management. In infrastructure, Maldives can improve the efficiency of budget execution and enact public investment management reforms. Overall, Maldives needs to collect more and better data to better monitor and evaluate the results of public spending and improve the strategic allocation of resources through medium-term expenditure or budget frameworks. 2.1 How can Maldives increase fiscal space and still achieve its development goals? 2.1.1 Spending by economic classification 34. The bulk of Maldives’ budget goes to capital spending spending on PSIP leapt from an average of US$123 million (one-third of total expenditures) and public sector in 2013-2014 to an average of US$357 million over 2015- wages (another third of total expenditures). As establi 2019. Despite the large economic contraction induced by shed in Chapter 1, Maldives’ total public spending has the COVID-19 pandemic, PSIP spending remained high at grown rapidly over the past decade, outpacing GDP growth. an estimated US$320-US$340 million in 2020-2021. While In the earlier part of this period, the increase was primarily Maldives used to spend only a fifth of the budget, or 6 driven by a significant ramp-up in capital spending, percent of GDP, on capital spending in 2010-2014, it has – specifically the Public Sector Investment Program (PSIP) on average – spent a third of its budget, or 11 percent of which accounts for about 80 percent of the total (Figure annual GDP, on capital spending between 2015 and 2021 22). Due to an ambitious push by the government, (Figure 23 and Figure 24). Figure 22: Capital investments drove increases in overall spending in 2015-2016, and have remained high ever since Contribution to growth of total spending, percentage points Source: MoF, staff calculations. Primary recurrent expenditures comprise spending on salaries, wages and allowances, goods and services, pensions, retirement benefits, gratuities, grants contributions, and subsidies. 42 Most analysis in this chapter focuses on the period 2014-2021. Data prior to 2014 was not always reported in a comparable format. Data for 2021 is preliminary and current as of March 31, 2022. All fiscal data refers to central government, as data on local council finances is incipient and not published. Maldives Public Expenditure Review: Restoring fiscal health Page 24 Figure 23: Capital spending averages about half a Figure 24: …thanks to a large increase in PSIP billion dollars annually or a third of total spending… spending in 2015-2016. Share of total expenditures, percent Share of GDP, percent Source: MoF, staff calculations. Source: MoF, staff calculations. Note: Capital expenditure excludes net lending. Other capital expenditures Note: Capital expenditure excludes net lending. 2020 ratios are affected by encompasses furniture, machinery, equipment, vehicles, investment in public the large contraction of over 30 percent in the denominator. enterprises, and other investments. 35. As a result of higher capital spending, Maldives now per person – twice as high as its income and small island has a level of public capital stock per person that is far peers, and on par with the average high-income country ahead of its peers and almost on par with advanced (Figure 25). Maldives’ growth in public investment per economies. Even before the recent expansion of PSIP, in capita in recent years has almost been on par with that of 2015, Maldives’ level of general government capital stock China and much higher than other small island states such per person43 was already estimated at US$18,766. This as Fiji, Cabo Verde, and the Seychelles (Figure 26). While was 78 and 40 percent higher than the average upper the expansion in capital spending led to high growth in middle-income country and small island developing state, the construction sector between 2016-2019, it is unclear respectively, and far ahead of the South Asia region.44 By whether more public investment will translate into longer- 2019, Maldives’ public capital stock had risen to US$27,817 term improvements in economic growth and poverty Figure 25: Maldives’ public capital stock per person is Figure 26: Growth in public investment per capita now almost on par with advanced economies has been on par with China in recent years Public capital stock per capita, constant 2017 Index of public capital stock per capita (2000=100) international US$ Source: IMF Investment and Capital Stock Database (May 2021 vintage) and World Bank WDI, staff calculations. Note: Figure 28 assumes that all countries start at the same level of capital stock in 2000 43 Estimated by the IMF (Investment and Capital Stock database, May 2021) based on general government investment flows. 44 Ibid. Maldives Public Expenditure Review: Restoring fiscal health Page 25 reduction in Maldives. This is illustrated by the estimates While external sources of funding only comprised 12 of the fiscal multiplier in Box 1 and the findings of the percent of the total PSIP budget in 2014, this figure rose IMF (2019b) Public Investment Management Assessment to 50 percent on average between 2016-2021. Almost (PIMA) report at the end of this chapter. all PSIP spending is executed by the Ministry of National Planning, Housing, and Infrastructure (MNPHI) and the 36. About half of all PSIP spending has gone towards Ministry of Finance under the Special Budget.46 ‘mega’ infrastructure projects in transport and housing development. Over 2014-2021, a third of the approved 37. ‘Green’ public infrastructure investments have not PSIP budget has gone towards transport infrastructure been allocated a large share of the budget in the (mainly airports, but also harbors and bridges). 22 percent past, but this is poised to change over 2022-2024 of the total has gone towards housing and associated (Figure 28). In the past, the share of annual PSIP financing land reclamation and road construction works (Figure 27). dedicated to environmental protection has been relatively While over 1,000 PSIP projects are announced annually in low, accounting for 8 percent of the total budget or US$39 the budget, most PSIP spending is directed towards a few million annually between 2014-2021.47 Despite Maldives’ large infrastructure projects such as large-scale housing vulnerability to sea level rise, less than half of these developments, the construction of a new terminal and funds were dedicated specifically to coastal protection runway expansion at Velana International Airport (VIA), the works. Over 2022-2024, however, the allocation for country’s main gateway, and most recently, Greater Malé environmental protection projects has doubled to 16 Connectivity Project (comprising land reclamation works percent of the total or US$77 million annually, financed on Gulhifalhu island, the construction of Gulhifalhu port, mostly by grants and trust funds. Assuming all water and and the Malé-Thilafushi Bridge). These mega projects are sewerage projects and harbor construction works also financed externally, mostly with non-concessional external contribute to strengthening climate resilience, 36 percent loans45 (see Annex 1). As elaborated on in Chapter 1, the of PSIP funds (US$522 million in total) over 2022-2024 overall expansion in PSIP has been enabled by increased will be directed towards projects that could help Maldives reliance on external financing, especially loans, which has achieve its climate adaptation goals by 2030. While this is a led to a large increase in the country’s debt vulnerabilities. positive development, the absence of a systematic budget Figure 27: Most PSIP funding has Figure 28: The share of PSIP been allocated to transport and funds dedicated to health and housing infrastructure environmental protection is Percent of approved PSIP budget, expected to increase 2014-2021 Percent of PSIP budget, 2022-2024 Source: MoF, staff calculations. Source: Source: MoF, staff calculations Note: Other encompasses general administration, Note: 2022 refers to Approved Budget, 2023-2024 are mosques, fisheries and agriculture. Proposed Budget estimates. 45 Concessional finance refers to below market-rate finance provided by select financial institutions (such as development banks and multilateral organizations) to developing countries to accelerate development objectives. The World Bank defines concessional loans as having a grant element of 35 percent or more. 46 This mostly consists of funding for mega infrastructure projects such as the VIA expansion. These funds are mostly on-lent to SOEs.. 47 This includes spending of Green Tax revenues that are earmarked for environmental projects Maldives Public Expenditure Review: Restoring fiscal health Page 26 tagging system for climate-relevant public investments and expenditures48 makes it difficult to ascertain how much Figure 29: The government has injected more funds in SOEs in recent years of the PSIP addresses climate mitigation and adaptation. US$ millions Establishing such a system could help Maldives further prioritize green infrastructure investments, which are important to strengthen its buffers against climate-related shocks, and could potentially attract additional climate financing. Simulations indicate that investing in adaptation infrastructure would help Maldives minimize output losses in the cases of either a natural disaster shock or slow onset climate-related events (Melina and Santoro 2021). 38. Capital investments in health are also set to increase. The government intends to increase the share of PSIP funds for the health sector from 11 percent in the past to 15 percent over 2022-2024, or US$76 million annually (Figure 28). About half of these funds will go towards constructing new hospital buildings in 13 islands, as well Source: MoF, staff calculations. as towards ongoing efforts to build a cancer hospital and a Note: “Other” comprises vehicles, construction, renovation & improvements, tertiary hospital in Gan. These projects are to be financed and other investments. mainly using non-concessional external loans.49 Given that the disbursement of these loans would increase tripled capital injections to the State Trading Organization, Maldives’ already high external debt and that the projects the Housing Development Corporation (HDC), and the will involve an increase in recurrent costs (from staffing Aasandha health insurance scheme. In 2020 and 2021, and purchases of equipment and materials), a careful transfers to SOEs further increased to US$143 million and sequencing of these investments is needed to ensure that US$139 million respectively, reflecting the impact of the they do not exacerbate Maldives’ fiscal vulnerabilities. COVID-19 pandemic especially on HDC, the State Electric Company, and Island Aviation Services. The creation 39. Capital injections to SOEs have risen in recent years. of the SME Development Finance Corporation and the While PSIP accounts for the bulk of capital spending, Fahi Dhiriulhun Corporation in 2019 also added to the transfers to SOEs have become more prominent in 2019 increase in SOE support. Chapters 3 and 4 show that and 2020 (Figure 29). Spending on capital contributions SOEs, particularly HDC and FDC, are posing a fiscal risk to to SOEs tripled from US$33-36 million annually in 2017- the sustainability of Maldives’ public finances. 2018 to US$102 million in 2019 as the government Figure 30: Recurrent spending growth has mostly been driven by grants, contributions and subsidies in recent years, but the contribution of interest payments to growth rose sharply in 2021 Contribution to total recurrent spending growth, percentage points Source: MoF, staff calculations 48 Approximately US$4.6 billion or 2.4 percent of GDP was spent on climate finance in 2017. Of this, only 0.8 percent of GDP came directly from the national budget. Source: MoE 2020, page 76. 49 According to MoF Budget in Statistics (2022), 16 new hospital constructions are to be financed by EXIM India and Kuwait Fund, while two hospitals are in pre-tendering stage and to be financed by Deutsche Bank. Maldives Public Expenditure Review: Restoring fiscal health Page 27 40. Recurrent spending on grants, contributions and for education civil servants starting May 2022,51 and the subsidies have started to place upward pressure on new public service pay framework are likely to lead to the budget. While capital spending has remained high rising wage bill costs over the short term (see Chapter 5). both as a share of the budget and of GDP, recurrent 42. Interest payments are a small fraction of the budget, spending has started to drive expenditure growth in but have grown significantly and are projected to recent years (see Figure 22). In 2018-2019 and again in remain high over the medium-term. Between 2014- 2021, higher spending on grants, contributions, and 2020, the government spent US$85 million annually on subsidies drove overall recurrent spending growth (Figure average in interest payments. While this is a relatively small 30). This was initially due to the payment of arrears related amount relative to the total budget (5.4 percent) and of to the Aasandha (see Chapter 1) and subsequently the GDP (2 percent), interest payments have registered faster inauguration of block grants for local councils (Box 2). A year-on-year growth than any other recurrent spending temporary Income Support Allowance for those affected item over the period, growing at a compound annual by the COVID-19 pandemic was also introduced in 2020 growth rate (CAGR) of 8.6 percent on average. The interest (see Box 3). burden rose from US$104 million in 2020 to an estimated 41. Pressures are mounting from the public wage bill US$137 million (2.8 percent of GDP) in 2021, due to a and interest payments. As shown in Figure 23, a third large increase in domestic interest payments. Overall, the of Maldives’ total expenditures or about 11 percent interest burden is expected to remain elevated over the of GDP goes towards the payment of salaries, wages, medium term due to the high cost of the US$500 million and allowances of public sector employees. Most of sukuk issuance in 2021. From 2022-2026, Maldives is the spending on salaries and wages is executed by the anticipated to pay an average of US$112 million on foreign Ministry of Education (25 percent of the total), the Ministry interest payments alone (Figure 31). About half of this is of Health and Malé Group of Hospitals (20 percent) and due to the interest burden of commercial debt, mainly the the Maldives Police Services (8 percent). While Maldives’ sukuk. public sector wage bill is not unusually large compared to its peers as a share of GDP (see Figure 71), recent pressure for higher wages,50 the mandatory implementation of the minimum wage starting January 2022, salary increments Figure 31: Foreign interest payments are expected to rise in the coming years Source: Data from MoF, staff calculations. 50 In September 2021, civil servants held silent protests on low wage concerns (https://en.sun.mv/69226), and an emergency motion was submitted to Parliament calling for higher civil servant salaries (https://www.sun.com.mv/69253). 51 Source: https://presidency.gov.mv/Press/Article/26221 Maldives Public Expenditure Review: Restoring fiscal health Page 28 Box 2: Grants to local councils are set to increase as Maldives pursues decentralization As stipulated by the 8th amendment to the Decentralization is little accountability and transparency, as local councils Act (7/2010), which was ratified in 2019, all elected atoll, are not required to report their finances publicly. They island and city councils in Maldives began to receive are, however, required to submit financial statements to grants from the central government according to a the Auditor General. The MoF, together with the Local pre-determined formula in 2020. The total block grant Government Authority, aims to bring local council finances allocation is supposed to be equivalent to the sum of (i) 5 online through a new system, but much work remains to percent of total state revenue and (ii) 40 percent of rental be done to set up local financial and budgeting systems. and lease rent received from land, reefs and lagoons that To ensure that decentralization delivers better services are not under the jurisdiction of councils. In 2020, the to Maldivians, the government could explore increasing approved budget allocated US$105 million to councils, but the weight of the “local council performance” in the grant only 60 percent of this was transferred due to the onset of allocation formula and ensure that this is objectively and the COVID-19 pandemic and the automatic adjustment in transparently measured. Currently, council performance revenues. In 2021, preliminary estimates indicate that the only makes up 5 percent of the formula determining the full budget for such grants (US$85 million) was transferred size of the block grant by island, which is mainly determined to councils. by resident population size (75 percent) and other fixed While these grants only make up 5 percent of total factors. The incentive is therefore insufficient to encourage expenditures at present, improved monitoring of council better performance of councils in service delivery. finances and performance is critical to ensure that resources are being utilized effectively. At present, there Source: Authors, based on MoF (2021b) Box 3: How did Maldives allocate public resources to tackle the COVID-19 pandemic? In 2020 and 2021, the Government of Maldives spent Most of the economic support was directed towards significant fiscal resources to tackle the COVID-19 firms rather than households. 65 percent of economic pandemic. According to MoF weekly COVID-19 spending response spending or US$78 million was directed towards reports, the government spent US$188 million or 5 supporting businesses, as the Bank of Maldives (BML) percent of GDP on its COVID-19 policy response in 2020, and the SME Development Finance Corporation (SDFC) higher than most South Asia peers. In 2021, Maldives provided favorable financing facilities to large businesses, spent an additional US$74 million. Of the total amount SMEs, self-employed individuals, and freelancers whose spent in 2020-2021 to tackle the pandemic, about half was business operations were impacted by the pandemic. directed towards health and social spending, whereas the By the end of 2021, the scheme had disbursed loans to remainder was directed towards economic support for nearly 2,800 businesses and individuals. COVID-19 relief households and firms. loans to firms were conditional on the retention of workers for three months. In addition, starting April 2020, the The bulk of health and social spending went towards government introduced an Income Support Allowance for procuring medical supplies and expanding the Maldivian citizens who had lost their jobs or faced salary capacity of the health system. By the end of 2021, reductions due to the pandemic. The scheme provided Maldives had spent US$74 million on acquiring medical monthly income benefits of up to MVR 5,000 (US$324) per consumables, test kits and Personal Protective Equipment; eligible individual up until end-December 2020 and paid and US$25 million on purchasing diagnostic and medical over US$27 million to more than 22,000 individuals. Finally, equipment, and constructing medical and quarantine the government also spent US$14 million on electricity and facilities – including Intensive Care Units (ICU) in eight water bill discounts in April-May 2020 and in June 2021. Atolls and a 300-bed ICU facility in Hulhumalé. Additionally, the government disbursed US$17 million to over 13,000 medical and front-line workers. Most of these expenses were incurred by the Ministry of Health and the National Disaster Management Authority. Source: : Ministry of Finance weekly COVID-19 spending reports. Maldives Public Expenditure Review: Restoring fiscal health Page 29 2.1.2 Spending by functional classification 43. Nearly half of all public expenditures goes towards SIDS, which spent 12 and 10 percent of their budgets social sectors. Estimates52 indicate that Maldives has on health respectively over the same period. Including always spent generously on social sectors (Figure expenses related to Aasandha, the health insurance 32). From 2014-2021, the government spent an scheme,55 and total health-related spending is even average of 42 percent of its annual budget53 on three higher: all in all, Maldives spends a fifth of its budget or sectors: health (14 percent),54 social protection (15 7 percent of GDP on health – significantly higher than percent), and education (13 percent). Together, this the average high-income economy, which spends 14 amounted to about 14 percent of annual GDP. The and 5.5 percent of GDP respectively. second largest category of spending is public services 45. By contrast, public spending on education appears (general public services, defense, public order and to lag slightly behind peers. Maldives’ spending on safety and environmental protection), which make education from 2017-2019 averaged 13.1 percent up another third of the budget or 10 percent of GDP of the budget or 4 percent of GDP. As a share of on average. Finally, economic affairs took up about GDP, Maldives’ spending on education surpasses a fifth of the budget or 7 percent of GDP between the average South Asian country (3.6 percent) but is 2014-2021. This mostly consists of spending on large less than the average upper middle-income country transport projects, transfers to public enterprises, and (4.7 percent) and SIDS (4.9 percent) (Figure 35). The arbitration charges. Over time, spending on economic biggest component of education spending is on affairs has increased significantly, while spending on the salaries, allowances, and pensions of education public services (except for defense and environmental staff, which collectively take up about 60 percent of protection) has declined (Figure 33). the total. While the biggest share of the education 44. Maldives’ public expenditure on health far budget is spent on basic education, tertiary education exceeds its peers. Looking at the pre-pandemic has absorbed an increasing share of the education period of 2017-2019, Maldives’ average public health budget in recent years. A fifth of the budget is now expenditure was 14.4 percent of the budget or 4.4 spent on tertiary education, almost double the share percent of GDP. As a share of the budget, this was in 2017. Much of this is due to the government’s on par with several high-income OECD countries such pledge to provide free tertiary education to every as Portugal, Estonia, and Italy (Figure 34), and higher qualified Maldivian. than the average upper middle-income country and Figure 32: Social sectors take up 42 Figure 33: Spending on economic affairs and percent of total expenditures on environmental protection have increased average significantly Percent of total Compound average annual growth, 2014-2021 Source: MoF, staff calculations Note: 2021 refers to revised estimates. Data prior to 2017 is estimated and may not be directly comparable for all categories. 52 Data on the spending by functional classification prior to 2017 (see data here) did not follow the standard COFOG classification (i.e., social protection and housing and community amenities were not recorded as separate functions, but instead were included as “social security and welfare” and “community programs” under the social services function. Other than these two functions, however, it is assumed that there are no significant differences between the sectors. 53 This excludes public debt transactions. 54 This does not include expenses related to the Aasandha, which are classified under social protection. 55 Maldives classifies Aasandha expenses as social protection. If Aasandha is included as health spending rather than social protection, then Maldives’ spending on social protection is on par with other upper middle-income countries and SIDS. Maldives Public Expenditure Review: Restoring fiscal health Page 30 Figure 34: Maldives spends far more on health than its peers… Y-axis: Domestic general government health expenditure as a share of total expenditure (2017-2019 average, percent); X-axis: GDP per capita, PPP (current international $) Source: WHO Global Health Expenditure Database and WDI, staff calculations Figure 35: …but less than most of its peers on education. Y-axis: Share of total expenditure, percent; X-axis: GDP per capita, PPP (current international $) Source: World Bank WDI, staff calculations. 2.2 How well are public resources being spent? 46. Assessing the quality of public spending • Spending effectiveness is assessed based on typically involves discussions of efficiency and the relationship between outputs and outcome. effectiveness: For example, has the increase in public capital stock improved access to basic services and • Allocative efficiency refers to using the optimal infrastructure? Are Maldivians healthier than combination of inputs (public spending) to before given higher public spending on health? maximize growth and productivity. At an aggregate Effectiveness also includes considerations of level, this could refer to decisions on how to equity: are public resources being directed to the allocate spending across different functions, areas neediest households? of the country or levels of government. • Technical efficiency refers to maximizing value for 47. To conduct a thorough analysis of efficiency and money by reducing ‘waste’ or leakage of resources, effectiveness, data on inputs (public expenditure), or by getting more outputs given a fixed level of outputs and outcomes, both at the sectoral and inputs. In the health sector, for example, technical aggregate level, are needed. Unfortunately, while inefficiencies could occur if the price of medicines reasonably granular data on public expenditure is is overly high or if average hospital stays are overly available at the national level, information on outputs, long. In infrastructure, technical inefficiencies often outcomes and activities of ministries and agencies are arise from cost overruns and delays. not published on a regular basis in Maldives (GoM and Maldives Public Expenditure Review: Restoring fiscal health Page 31 WBG 2021). It is unclear whether such data is collected, this section draws on selected examples from the as ministries are not required to periodically evaluate health and infrastructure sectors to provide a partial the efficiency and effectiveness of their services. Due view of public spending quality. More comprehensive, to the lack of data, Maldives scores a “D” on most sector by sector spending reviews are needed to sub-dimensions of the “performance information for assess whether resources are sufficient and well service delivery” indicator in the Public Expenditure spent in other key sectors, such as education. and Financial Accountability (PEFA) assessment (GoM and WBG 2021). In the absence of such granular data, 2.2.1 Efficiency and effectiveness of public spending on health 48. Maldives has the best health outcomes in the 49. While these achievements are laudable, some South Asia region and among income peers. Life gaps remain. Maldives’ infant mortality ratio expectancy at birth was recorded at 78.9 years in 2019, improved by 2.8 percentage points over 2014-2019 ahead of the average upper middle-income country and maternal mortality improved by 3 percentage (75.9 years) and the region (70.6 years). Health- points over 2017-2019. The magnitude of these related Millennium Development Goals (MDGs) and improvements was, however, identical to that of the mortality-based Sustainable Development Goals average upper middle-income country. Given that (SDGs) have been achieved ahead of time: infant Maldives spends significantly more on health than and under-five mortality declined by approximately peer countries (as discussed in section 2.1.2), this 90 percent between 1990 and 2019, while maternal suggests that it may be spending far more than it mortality halved between 2000 and 2017 (Figure 36 needs in order to achieve similar health outcomes. and Figure 37). Maldives also enjoys the best nutrition One possible reason is the inadequate local supply outcomes of any country in South Asia: only 15 of trained human resources in health, which means percent of children under-five were stunted in 2017, that Maldives depends heavily on more expensive half the regional average.56 As in other upper middle- expatriate staff: 64 percent of medical doctors and income countries, the key health challenge relates to 42 percent of nurses were expatriates in 2019.58 non-communicable diseases, which account for 73 Moreover, geographic disparities in health outcomes percent of the disease burden and 80 percent of all persist. Stunting rates vary between 11 percent deaths.57 in the Central Region and 20 percent in the North Figure 36: Maldives has significantly reduced infant Figure 37: …as well as maternal mortality over 2000- mortality over the past three decades… 2017. Mortality rate, infant (per 1,000 live births) Maternal mortality ratio (per 100,000 live births Source: : World Bank WDI, staff calculations Source: : World Bank WDI, staff calculations Note: South Asia average excludes Maldives. Note: South Asia average excludes Maldives. 56 Prevalence of stunting is the percentage of children under age 5 whose height for age is more than two standard deviations below the median for the international reference population ages 0-59 months. Source: World Bank WDI. 57 IHME 2022. 58 Maldives MoH 2020. Maldives Public Expenditure Review: Restoring fiscal health Page 32 Figure 38: Out-of-pocket health spending declined, Figure 39: Catastrophic OOP spending for health also especially for poorer households declined across the board OOP spending as a share of total household Incidence of catastrophic OOP, percent of households expenditure, percent Source: : Statistics Maldives 2016; Statistics Maldives 2021b, staff calculations. Source: : Statistics Maldives 2016; Statistics Maldives 2021b, staff calculations. Central Region. As previously noted in section 2.1, reduction in the OOP share has been for lower-income the government is trying to address shortcomings households, resulting in a more equal distribution of in healthcare provision by building new hospitals in public health spending across income groups in 2019 the outer atolls (see projects in Annex 1). However, (Figure 38). A key reason for lower OOP spending is this strategy implies a further increase in healthcare the introduction of Aasandha in 2014, which provides spending in the medium term, as these new facilities coverage for previously uncovered costs such as would require expanding headcount and additional overseas care, pharmaceuticals, and private medical purchases of medical consumables. visits. The incidence of “catastrophic OOP”59 – an SDG indicator – also declined by at least half among all 50. The introduction of the Aasandha health insurance quintiles between 2016 and 2019 (Figure 39). scheme has helped to shield households against unpredictable health shocks. Data from household 51. Investments in domestic healthcare capacity have income and expenditure surveys indicate that over had some positive implications for efficiency and the past decade, household out-of-pocket (OOP) equity. Analysis of HIES data suggests a sharp decline spending on health has declined significantly. In 2009- in OOP spending for overseas care between 2016 and 2010, health accounted for an average of 9 percent of 2019 (Figure 40). The share of households with at least total household spending, but this fell to 6.5 percent one overseas outpatient visit in 30 days almost halved in 2016 and further to 2.2 percent in 2019. The largest from 6.2 percent in 2016 to 3.3 percent in 2019. At the same time, domestic outpatient visits increased from 48 percent in 2016 to 55 percent in 2019. This Figure 40: Patients are more likely to seek care domestically than abroad shift from overseas to domestic care-seeking may be Share of total OOP spending on health, percent explained by multiple factors, including the enhanced capacity of domestic health care (e.g., the number of local general doctors increased from 97 in 2016 to 254 in 2019)60 and expanding coverage of Aasandha, which has improved access to local high-end private health care. This shift has positive implications on both efficiency (as overseas care was more expensive to reimburse) and equity (because overseas care was less common among poorer households) of health spending. 52. However, there is scope to improve the efficiency of spending on Aasandha. Spending on the Aasandha health insurance scheme grew at a Source: : Statistics Maldives 2016; Statistics Maldives 2021b, staff calculations. compound annual average growth rate of 18 percent 59 Defined as OOP exceeding 10% of total household expenditure. 60 Maldives MoH 2021. Maldives Public Expenditure Review: Restoring fiscal health Page 33 Figure 41: Rising Aasandha costs have not been Figure 42: …but rather an increase in outpatient care driven by an increase in beneficiaries… and medication costs MVR millions and number of beneficiaries Aasandha expenditure by services, MVR millions Source: : Statistics Maldives, staff calculations Source: : Statistics Maldives, staff calculations per annum between 2014 and 2019. Such rapid 2017 and 2019. Most public health spending is growth in Aasandha expenses has not been due to executed by MoH (45 percent) and the Malé Group an increase in beneficiaries, which only increased of Hospitals (27 percent). The government’s plan to by about 3 percent per annum over the period impose a maximum retail price for reimbursements (Figure 41), but due to the rising costs of outpatient of pharmaceutical drugs to pharmacies by Aasandha medication and care (Figure 42). A comparative is a welcome measure, as this is expected to reduce World Bank (2018) study of drug prices showed that fiscal pressure, but its implementation has been average drug prices were 15 to 75 times higher than postponed as of April 2022. Similarly, the government international benchmarks, reflecting the absence of is exploring the bulk procurement of major drugs to robust procurement and purchasing approaches. generate cost savings. Spending on drugs and medical consumables grew further by 24 percent annually on average between 2.2.2 Efficiency and effectiveness of public spending on infrastructure 53. Even before the public investment boom, when it comes to access to basic infrastructure. Maldives already outperformed most of its peers Maldives has enjoyed universal access to electricity on measures of access to infrastructure. Although since 2009, has a high share of internet users and Maldives does not feature in many internationally widespread mobile access, and has a relatively comparable datasets of access and quality of low rate of road traffic mortalities (Table 4). It also infrastructure,61 available data indicate that it generally ranked higher than its income and regional peers outperforms regional and small island peers and is on the 2018 World Bank Logistics Performance on par with other upper middle-income countries Index (Figure 43) and has the most well-connected Table 4: Maldives outperforms its peers on key indicators of connective and social infrastructure Average Upper Small South middle- island Maldives Asia income state Access to electricity, % of population 100 93.1 96.2 93.6 Internet users, % of population 63.2 17.0 61.3 56.0 Mobile cellular subscriptions, per 100 people 144 99.2 116.3 113.3 Hospital beds, per 1000 people 4.1 1.4 3.1 2.8 Pupil-teacher ratio, secondary level 5.0 24.7 14.0 12.4 Source: World Bank WDI and Maldives MoH 2021. Data on internet users are from 2017 (last available year for Maldives); data on broadband subscriptions are from 2019. 61 Data on perceptions of the quality of infrastructure, for example, which are typically available from the World Economic Forum or the World Bank Enterprise Survey, do not exist for Maldives. Maldives Public Expenditure Review: Restoring fiscal health Page 34 Figure 43: Maldives outperforms its regional peers Figure 44: …and is the most internationally well- on the Logistics Performance Index… connected destination among small island states Score Number of countries connected to via air transport Source: World Bank. Source: Cirium. Note: Data refer to 2018. international airport among small island states, with of households in atolls properly disposing of their direct air connections to 14 countries (Figure 44).62 As waste has increased from 87 percent to 95 percent for health and education infrastructure, national data over 2016-2019. Despite these improvements, indicate a more than adequate number of hospital spatial disparities remain. On average, only half of beds per capita and a relatively low pupil-teacher ratio all households residing in atolls are connected to on average compared to peers, indicating possible the sewerage system, versus all households in Malé. over-spending on infrastructure in these areas. Piped water connections also remain much lower in the atolls than in Malé. Moreover, households in atolls 54. Access to some types of infrastructure has further have increasingly shifted to drinking bottled water, improved in recent years, but not sufficiently to which is costly and unsustainable.64 Several ongoing close the gap between Malé and the atolls. According PSIP projects focus on improving access to water and to national census and household survey data, there sewerage facilities in all islands, a key pledge of the have been several improvements in access to basic current administration. infrastructure since the expansion of PSIP, especially in the atolls. For instance, the share of households 55. There are signs that infrastructure spending in atolls with a toilet facility connected to sewerage efficiency can be improved. The lack of data on networks has doubled to 48 percent between 2014- outputs and outcomes at the project level and the 2019 (Figure 45). Reliance on rainwater63 as a drinking relatively short period of time that has passed since water source has declined (Figure 46) and the share the expansion of PSIP in 2016 make it difficult to Figure 45: The disparity in sewerage connections Figure 46: Bottled water usage has increased in both between Malé and atolls persists Malé and the atolls Share of households residing in atolls by type of toilet Share of households by drinking water source, Malé connection, percent and atolls, percent Source: Statistics Maldives Source: Statistics Maldives. 62 World Bank INFRASAP diagnostic, Phase 1. Unpublished. 63 Rainwater is not considered a safe drinking water source without additional treatment. 64 Maldives is currently phasing out single-use plastics, including a ban on imported bottled water under 500ml from June 1, 2022. Maldives Public Expenditure Review: Restoring fiscal health Page 35 Table 5: Actual versus budgeted spending on PSIP by function, percent 2019 2020 2021* National Security & Public Order 182% 41% 27% Health & Social Services 61% 78% 47% Education 34% 22% 64% Environmental Protection 29% 13% 55% Water and Sewerage 61% 40% 89% Transport 66% 63% 60% General Administration 111% 21% 63% Housing & Infrastructure 143% 14% 23% Mosques 64% 53% 77% Land Reclamation & Road Construction 57% 64% 86% Fisheries & Agriculture 91% 48% 69% Other 47% 49% 15% Overall PSIP budget execution 65% 47% 62% Source: MoF, staff calculations. Note: 2019 and 2020 refer to actual spending versus Approved Budget spending. 2021* refers to preliminary (Revised Budget) estimates versus Approved Budget spending. assess the impact of infrastructure spending on acute in transport, water and sewerage, education, Maldives’ aggregate welfare. However, available and environmental protection in 2019-2020 (Table evidence indicates that there is room to improve the 5). It is also particularly acute for foreign-funded PSIP technical efficiency of spending. While the government projects, in part due to optimistic expectations of allocates a large amount of resources to PSIP, only project progress (IMF, 2019a). Even in 2019, only 48 three quarters of it is spent. On average, from 2014 and 80 percent of the annual PSIP budgets for the to 2019, the government only spent 82 percent of the VIA terminal and runway development projects were approved capital budget. This has mainly been due to executed, respectively. The adoption of a Virements under execution of the PSIP, as well as underspending and Appropriation Procedure in mid-2019 to protect on land and buildings and other investments. PSIP the PSIP budget should have led to improvements in execution improved from an average of 53.1 percent capital budget execution, but its implementation has in 2015-2016 to 96.3 percent in 2018, but fell again been delayed due to the pandemic. in 2019-2020. Underspending of PSIP was particularly Figure 47: Maldives already had a large Figure 48: …which seems to have persisted after the infrastructure spending efficiency gap… most recent expansion of PSIP spending. Input efficiency scores, spending on infrastructure Y-axis: infrastructure index; X-axis: public capital stock per capita. Source: IMF PIMA Source: World Bank staff estimates using data from WDI and IMF. Note: EME = emerging market economies, EDA = emerging and Note: Data envelopment analysis methodology follows Herrera and developing Asia. Ouedraogo (2018). Maldives Public Expenditure Review: Restoring fiscal health Page 36 56. International benchmarking also indicates that • Absence of costing over the project life cycle: Maldives has room to improve the efficiency of Annual budget publications contain approved and infrastructure spending. The Public Investment estimated allocations for PSIP projects in their Management Assessment undertaken in 2016-2017 respective year and the following two years. For (IMF 2019a) found that Maldives’ infrastructure projects extending beyond three years, however, spending was only half as efficient as the most the total fiscal obligations of multiannual investment efficient spender (Figure 47). The gap was comparable projects are not disclosed. Moreover, the projected to other developing Asian economies, but larger recurrent costs of major infrastructure projects and than the average gap for emerging and developing carryovers from previous years are not included in economies worldwide. An update of this analysis the budget. Since lifecycle costing is not carried using more recent data from 2010-201965 and the out, policymakers do not have a full picture of the data envelopment analysis technique specified in total cost of each investment project at the onset. Herrera and Ouedragogo (2018) suggests that after Costs for maintenance and operations are also not increasing spending on PSIP, Maldives is still far factored in. from the spending efficiency frontier (Figure 48). In other words, Maldives can find ways to rationalize • Lack of robust and transparent selection criteria: infrastructure spending without jeopardizing service There is very little public information available on delivery. how PSIP projects are selected to be included in the Budget. While MoF and the President’s Office 57. Some reasons driving the low efficiency of review and prioritize all projects based on standard investment are:66 criteria, these criteria are not published. • No costing of national strategies and plans: The • Lack of a standard published methodology for SAP 2019-2023 lays out Maldives’ development project appraisal: While MoF collects information vision and mission, with clear targets, goals, on project appraisal, including feasibility studies actors responsible, and timelines. However, and cost-benefit analyses of potential PSIP aside from a one-off attempt to estimate the projects, these documents are rarely published. cost of SAP implementation in 2020,67 there is no Internal capacity to perform and review cost- accompanying document that estimates the costs benefit analyses is limited, and there are significant of achieving these targets and goals, which could data constraints in conducting such assessments. be used to inform multiannual PSIP allocations. Medium-term strategic plans are prepared • Weak incentives for SOEs tasked with service for some ministries, but none are costed. As a delivery. As Chapter 3 shows, improving the result, there is a disconnect between budgeting, governance of and central oversight over SOEs planning, financing, and implementation of public is key to improving the efficiency of public infrastructure investments. infrastructure spending in Maldives. 2.3 How can Maldives improve the quality of public spending? 58. To improve the overall efficiency and effectiveness This also applies to the subnational level; however, of public spending, Maldives could consider: data on public spending in a particular sector by atoll and island are not yet available. • Strengthening the monitoring and evaluation function within ministries and agencies. Decisions • Improving the strategic allocation of resources over how to improve the targeting, design or quality through medium-term expenditure or budget of state interventions can be better informed frameworks. To ensure that available resources are by periodic evaluations of which programs and more closely linked to government priorities, the projects are delivering, and which are not. To do government could prepare bottom-up estimates so, ministries and agencies need to collect more of the financing that would be needed to achieve and better data on sectoral outputs and outcomes. 65 The infrastructure index consists of three indicators, selected based on data availability for the full sample of emerging and developing economies: (i) share of the population with access to electricity; (ii) share of population using the Internet; and (iii) trained teachers in secondary education (share of total teachers). 66 This section draws heavily on IMF 2019b, 2021 and GoM and WBG 2021. 67 MoF (2021b) provided some top-down estimates of how the yearly budget from 2020-2022 would be allocated towards the five areas of the SAP (p. 94), but these were not based on detailed investment plans. Maldives Public Expenditure Review: Restoring fiscal health Page 37 targets in the SAP. As capacity improves in MoF and • Improve hospital management: Finally, there line ministries, the government could also bring is also room to improve hospital management medium-term budget planning more in line with practices at major government hospitals. international best practice, which would involve Strengthened approaches to patient classification, integrating the budget preparation process for cost accounting, quality improvement and human current and capital spending, and carrying forward resources could all reap dividends. spending from one year to the next with well- defined restrictions (IMF, 2021). In this regard, the 60. Maldives does not need to spend more on government’s plans to move towards results-based infrastructure, since public capital stock per budgeting would be a step in the right direction. capita is already almost on par with advanced economies. Instead, to close infrastructure gaps 59. On health, Maldives has room to reduce both between Malé and the atolls, it needs to find ways current and capital costs without jeopardizing to improve the efficiency of budget execution and outcomes. To ensure the sustainability of public avenues to improve technical efficiency. It also needs health financing, the government could explore to ensure that ongoing public investment projects various opportunities to achieve better value for its are closing gaps in spatial welfare between Malé and health spending: the atolls, and increasing Maldives’ potential output • Reduce the price of drugs: The government and productivity. To that end, the government can had proposed maximum retail prices for drugs consider the following measures: reimbursed by Aasandha starting March 2022, • Publish the criteria and methodology for which would cap the mark-up to 100 percent selecting and appraising PSIP projects. While of free-on-board prices. The government had the government has started to develop a standard estimated that these maximum retail prices would vetting process to screen potential PSIP projects, reduce the drug spending in the country by US$13 these guidelines and methodology are not divulged million (0.7 percent of total expenditures in 2021) publicly. As a result, investment projects are annually; however, the implementation of this not necessarily driven by local needs nor project measure has been postponed. The government’s readiness. Publishing the criteria and methodology plans to explore bulk procurement to reduce drug for project selection and appraisal could help prices could also result in some cost savings. ensure that public resources are directed towards • Reduce transport costs, including through the use the most impactful investment projects. of digital technology: Rather than over-investing in • Review whether sufficient funds are dedicated specialized tertiary care in atolls, the government to rehabilitating and maintaining infrastructure could help reduce transport costs of atoll residents assets. Budgeting for recurrent costs associated to Malé by improving staffing at atoll hospitals and with new and ongoing capital projects can help the health centers. It could also increase the use of government have a more realistic picture of the full digital technology in health services, for example costs over the project’s life cycle. For instance, how telemedicine, to reduce the need for patients to much more will the government have to budget for seek care in Malé or abroad. health care staffing over the medium term given • Strengthen strategic purchasing by Aasandha. the envisioned construction of new hospitals and Currently, hospitals are reimbursed largely via health centers, especially in the atolls? Are there an inefficient fee-for-service payment method sufficient funds for operations and maintenance of whereby all itemized expenses are paid by new harbors? Moreover, as previously mentioned, Aasandha. However, the global norm is to adopt establishing a climate budget tagging system over a case-based approach, such as diagnosis-related the medium to long term could also help Maldives groups, which would imply sharing of financial risk assess whether adequate PSIP resources are with the provider. Moving to such an approach dedicated towards climate adaptation needs. Such would help to incentivize more judicious use of a system would take time and resources to prepare, Aasandha resources. In addition, Aasandha could but Maldives could begin to lay the groundwork. also benefit from a well-defined and costed benefit package of services. Maldives Public Expenditure Review: Restoring fiscal health Page 38 • Improve systems to monitor and manage the • Establish a clear legal framework for public- implementation of public investment projects, private partnerships (PPPs).68 PPPs can help both at the central and local levels. In 2021, Maldives leverage more private sector financing for the government populated the Isles portal with planning, executing, and maintaining infrastructure comprehensive information on the financing and projects, and therefore improve ‘value for money’. status of PSIP projects. This is an important step to However, there is currently no legal framework improve transparency, accountability, and capital to regulate PPPs in Maldives. Without such a budget execution. Ensuring that there are sufficient framework and the requisite oversight mechanisms, resources to regularly maintain and update the PPPs could become a significant source of fiscal portal, verify the information reported, and improve risk to the government.69 PPPs are not ‘free money’, supervision and reporting will enable policymakers but rather need to be repaid over the long term. to take swifter action in the case of delays. This will Failure to monitor and adequately account for such be particularly important as the central government risks could lead Maldives to engage in highly risky hands over the implementation of smaller PSIP and costly infrastructure PPPs, as evidenced by its projects to city, atoll, and island councils. experience with India’s GMR group in 2015.70 This is especially the case as local councils are legally allowed to enter into PPPs on their own. 68 PPPs refer to long-term contracts between a private party and a government entity for providing public assets or services, in which the private party bears significant risk, and where management responsibility and remuneration is linked to performance. See World Bank PPP Knowledge Lab for more. 69 Bova et al (2016) analyzed 80 countries between 1990 and 2014 and found that PPP contingent liabilities that had materialized had amounted to 1.2 percent of GDP, on average. 70 In 2010, the Indian firm GMR had signed an agreement with Maldives Airports Company Limited and MoF to expand, modernize, and operate Velana International Airport; however, a change in government led to the termination of the contract in 2012. Maldives had to pay US$270 million as compensation for wrongful termination. Maldives Public Expenditure Review: Restoring fiscal health Page 39 CHAPTER 3 Fiscal risks from state-owned enterprises Summary Despite playing a critical role in Maldives, SOEs are not very profitable and pose large risks to public finances. To illustrate the importance of mitigating these risks, the chapter simulates the health of major SOEs’ balance sheets under alternative economic scenarios. The analysis finds that: (i) faster economic growth will not improve the poor financial performance of SOEs; (ii) elevated oil prices will further exacerbate losses and increase corporate debt for most SOEs; and (iii) eliminating all government support to SOEs is not a viable option in the short term. Rather, the government needs to: (i) undertake major operational and institutional reforms to improve oversight of SOEs; (ii) rationalize support to SOEs; and (iii) promote more regular and detailed monitoring of SOE finances. 3.1 Introduction 61. State-owned enterprises (SOEs) are a major source 62. Such fiscal risks can be explained by the existence of fiscal risks.71 Fiscal risks refer to events that can of non-commercial objectives and soft budget result in unexpected deviations of fiscal outturns from constraints. SOEs operate in many sectors that are their projected outcomes. They comprise both explicit not commercially viable for private enterprises, often legal obligations (“direct risks”) and implicit burdens undertaking “quasi-fiscal activities”72 that limit their placed on the government by public expectations profitability. SOEs also face a soft budget constraint, (“contingent risks”). SOEs can pose significant risks to as governments cannot credibly commit not to bail public finances in two main ways: out enterprises of which it has sole or controlling ownership. Because SOEs are often not allowed to fail, • Impact on government cash flows: Both sides of they benefit from explicit and implicit subsidies and the government’s cash flows may be adversely preferential access to domestic and external credit. impacted by higher-than-anticipated outflows to Governments may borrow on SOEs’ behalfs or provide SOEs (e.g., additional expenses from subsidies, guarantees for SOEs, which can reduce incentives capital injections, or payments of SOE debt service) for efficiency and profitability, and ultimately spark and/or by lower-than-anticipated SOE inflows (e.g., financial crises. profits, dividends, and tax revenues) to the state. During the COVID-19 pandemic, both of these 63. This chapter urges the government to take policy effects occurred simultaneously in many countries. actions that mitigate the fiscal risks that SOEs pose to the Maldivian economy. Following a brief • Impact on government balance sheet: Downside discussion of SOEs’ economic importance, the main risks related to SOEs can impact both sides of the mechanisms through which SOEs pose fiscal risks are public sector balance sheet, leading to higher- discussed and quantified. The chapter then presents than-anticipated levels of public debt (e.g., when the results of stress tests on the balance sheets of guarantees provided to SOEs are called) or a lower- SOEs in different potential economic scenarios and than-anticipated stock of assets (e.g., erosion of concludes with some suggestions on how fiscal risks value of equity stakes in a SOE facing bankruptcy). from SOEs can be mitigated. Such events may undermine the government’s creditworthiness, resulting in a higher cost of borrowing. 71 Using a sample of 80 advanced and emerging market countries, Bova et al (2016) find that fiscal costs from SOEs bailouts averaged 3 percent of GDP over 1990-2014, but reached as much as 15 percent of GDP in the most extreme case. Realized liabilities from SOEs constituted the fourth largest source of fiscal risks. 72 These are sectors where the government mandates activities, prices, labor and other regulations that often result in losses for the SOEs. QFAs tend to lead to underinvestment and/or excess borrowing. Ultimately, the government has to step in to bail out these enterprises through transfers, capital/equity injections and even debt restructuring. Maldives Public Expenditure Review: Restoring fiscal health Page 40 3.2 Overview of SOEs in Maldives List of Maldivian SOEs frequently used in this chapter AIA AIA Addu International Airport MTCC MTCC – Maldives Transport and Contracting Company Plc BML BML Bank of Maldives FDC FDC Fahi Dhiriulhun Corporation MTDC MTDC – Maldives Tourism Development Corporation HDC HDC Housing Development Corporation MWSC MWSC – Malé Water and Sewerage Company HDFC HDFC – Housing Development Finance Corporation SDFC SDFC – SME Development Fund Corporation MACL MACL – Maldives Airport Company Ltd STELCO STELCO – State Electric Company MIB MIB – Maldives Islamic Bank STO STO – State Trading Organization MIFCO MIFCO – Maldives Industrial Fisheries WAMCO WAMCO – Waste Management Corporation Company Ltd 64. SOEs play a critical role in the Maldivian economy. 65. The main reason driving the outsized role of SOEs While SOEs tend to be dominant in small island in Maldives is their mandate to deliver public developing states, Maldives stands out, accounting infrastructure. As at end-2020 (latest available for nearly 10 percent of GDP – much higher than its data), Maldives’ SOEs held US$8.3 billion in total small island peers(Figure 49).73 The government is the unconsolidated assets. The bulk of these assets (57 majority stakeholder in most SOEs, fully owning 22 percent) was held by majority government-owned out of the country’s 32 SOEs.74 SOEs are important SOEs that are involved in delivering public housing, sources of job and revenue creation: they employ an transportation and utilities (Figure 50), mainly the estimated 21,000 Maldivians or about 12 percent of Housing Development Corporation (HDC) and the employees outside resorts75 and account for about Maldives Airports Company Limited (MACL). The a fifth of total non-tax revenues (4 percent of total revenues). Figure 49: SOEs play a critical role in Maldives, even more so than in other small island developing states Sum of operating profits, wages, and salaries as a share of GDP, percent Source: Based on ADB (2016). Maldives’ data is an average of 2014–2018; other countries’ data refer to 2014. 73 This is calculated as the sum of operating profits and wages and salaries as a share of GDP. In 2020, the share increased to 16 percent due to the contraction in the denominator. An alternative metric is SOE density (number of SOEs per 100,000 inhabitants). According to the World Bank Global SOE Database (World Bank, 2022d, forthcoming), Maldives’ SOE density is 70, compared to just 32 in Seychelles. 74 See https://www.finance.gov.mv/public-finance/public-enterprises. These include FDC and HDC, the major entities responsible for public housing development (see Chapter 4), Aasandha, the health insurance provider, STELCO and FENAKA, the country’s major electricity providers, and the MACL, the airport management company. 75 According to PCB in November 2021. As noted in Chapter 1, half of all full-time workers (outside those working in resorts) were employed in the public sector in 2019. Maldives Public Expenditure Review: Restoring fiscal health Page 41 Figure 50: SOEs in transport, housing and Figure 51: …but only account for about a third utilities hold over half of total assets… of revenues. Share of total, percent Share of total, percent Source: MoF 2021b, staff calculations Source: MoF 2021b, staff calculations prominence of SOEs in infrastructure provision is percent of total revenues and net profits of the largest not unusual for small island developing states and SOEs.77 As shown later, most infrastructure SOEs emerging market economies such as Maldives, where are heavily reliant on government budget support, delivering essential public goods and services to a external loans and guarantees. widely dispersed population (see Chapter 1) is costly and challenging. However, Maldives’ infrastructure 66. Even before the COVID-19 pandemic, the financial SOEs are not very profitable, accounting for only performance of SOEs78 was highly uneven. In 2019, about a third of the total revenues and net profits listed SOEs generated three times more revenue generated by a sample of SOEs at end-2020 (Figure on average than unlisted SOEs (Figure 52), and 51).76 This poor financial performance was not solely a twice as much in net profits (Figure 53). In 2020, the consequence of the effects of the COVID-19 pandemic: average net profit from listed SOEs even increased even in 2019, infrastructure SOEs only generated 40 slightly despite the pandemic, while that of unlisted Figure 52: The average listed SOE generates more Figure 53: …as well as higher net profits. revenues than the average unlisted SOE… Total revenues, US$ million Total net profits, US$ million Source: PCB annual reviews (2017-2020) and HDC 2018, staff calculations Note: HDC is shown separately due to the large increase in net profits in 2017. This was prompted by a change in policy at end-2017 to recognize all investment properties at fair value. 76 Total revenues of selected SOEs whose financial information is reported in the FY2020 PCB Annual Review amounted to US$1.4 billion and US$199 million at end-2020, respectively. See Annex 3. 77 Total revenues of selected SOEs whose financial information is reported in the FY2020 PCB Annual Review amounted to US$1.7 billion and US$275 million at end-2019, respectively. See Annex 3. 78 This would ideally be measured by return on equity and return on assets, but such information is available for only a small group of SOEs in PCB’s latest (FY2020) Annual Review. Using data available for AIA, FDC, BML, Dhiraagu, MACL, MIB, HDC, MWSC, MTDC, STELCO and STO, the average RoE was negative (-7 percent) in 2019, worsening to -17 percent in 2020. This indicator was mostly driven by large negative RoEs for AIA and FDC, the newly-established social housing SOE (see chapter 4). Maldives Public Expenditure Review: Restoring fiscal health Page 42 SOEs declined. Out of the seven listed SOEs, the Similarly, FENAKA cannot set tariff prices freely and government only owns a majority stake in three, i.e., thus does not make a profit from its operations on STO, MTCC and BML. Minority government-owned any island. MTCC is mandated to provide regular low- SOEs posted slightly higher net profits especially cost ferry services to ensure connectivity between in 2020, compared to the majority of government- islands, including on unprofitable routes. In other owned SOEs.79 Importantly, the ‘true’ averages for cases, SOE profitability has been impacted by majority government-owned SOEs are likely much government mandates to enter an unrelated and lower, as data from audited financial statements was often unprofitable business line, such as the case of not available for Aasandha, Island Aviation Services, STO absorbing MIFCO.81 the Waste Management Corporation (WAMCO) and 68. SOEs have also played a major role in delivering FENAKA for most of the 2016-2020 period. Although fiscal stimulus during the COVID-19 pandemic, to all SOEs are required to submit audited financial the further detriment of their balance sheets. In statements within three months after the end of each April 2020, the government – acting largely through financial year, this is not currently practiced by most SOEs – delivered a series of stimulus measures to companies (GoM and WBG 2021).80 support households and firms’ liquidity during the 67. To some extent, the poor financial performance crisis (see Box 3 in Chapter 2). These included: (i) of unlisted, majority-government owned temporary discounts on utility bills (STELCO, FENAKA, SOEs reflects their public service obligations, MWSC); (ii) price controls on food staples (STO); (iii) a which have kept profits below their potential. moratorium on repayments for selected business and Public service obligations impact SOEs’ financial personal loans (BML, MIB and HDFC); (iv) deferment of performance, as ensuring service delivery across housing rent and resort lease rent payments; and (v) Maldives’ widely dispersed population is costly and extension of special financing facilities totaling US$75 presents a considerable challenge. For example, the million to businesses through BML and the SME State Electric Company (STELCO), which is required to provide electricity to over 30 islands, has high fixed costs and is not able to achieve economies of scale. 3.3 How do SOEs pose fiscal risks to the Government of Maldives? Development Fund Corporation (SDFC). Although parties that do not carry a formal guarantee but are SOEs were already not very profitable before the expected to be borne by the government if SOEs pandemic, some of these measures have further run into distress. Table 6 presents the main sources affected their balance sheets. of fiscal risks to the government from SOEs, with estimates of their magnitude as at end-2020 (latest 69. Fiscal risks from SOEs amount to an estimated data available). Explicit risks are estimated at US$1.6 US$2.5 billion or 45 percent of 2019 GDP. SOEs billion or 30 percent of 2019 GDP82 and mostly stem pose both explicit and implicit fiscal risks to the from guaranteed and on-lent debt to SOEs. Implicit government. “Explicit” fiscal risks emerge from risks amount to an estimated US$859 million or 15 liabilities owed by SOEs to the government (e.g., loans percent of 2019 GDP and mostly consist of trade and on-lending, tax and dividend arrears), as well as payables. debts owed by SOEs to third parties that are explicitly guaranteed by the government (e.g., external loans 70. From the table, the main three sources of carrying sovereign guarantees). “Implicit” fiscal fiscal risks from SOEs are as follows: First, the risks result from financial assistance provided by government supports SOEs through the issuance the government that does not create a repayment of loan guarantees and on-lent loans. As noted in obligation for the SOEs (e.g., subsidies and capital Chapters 1 and 2, SOEs tasked with delivering PSIP injections), as well as debts owed by SOEs to third projects have been the main driver of the increase in 79 Majority government-owned SOEs had higher revenues on average, presumably because they receive capital contributions from the government. 80 For financial year 2018, for example, most companies took more than 9 months to submit their annual financial statement to the Privatization and Corporation Board, PCB (World Bank, 2021). 81 For example, the Maldives Port Company has been required to provide bus and ferry services; STELCO is required to provide water and sewerage services where they have existing electrical plants. STO’s profitability was also impacted by subsuming the loss-making MIFCO as a subsidiary. Maldives Public Expenditure Review: Restoring fiscal health Page 43 Table 6: Sources and Magnitude of Fiscal Risks to Government from SOEs (end-2020) Source of fiscal risk related to SOEs Risk exposure (US$ millions) % of 2019 GDP SOE debt guaranteed by govt 780 14 Govt. on-lending to SOEs 567 10 Direct Treasury lending to SOEs 131 2.3 Dividend arrears 129 2.3 Tax arrears 37 0.7 Total explicit risks 1645 29.9 SOE trade payables 636 11 Subsidies to SOEs 81 1 Capital injections 143 3 SOE contingent liabilities N/A N/A SOE non-financial assets exposed to damage from disasters N/A N/A Other 859 15 Overall PSIP budget execution 2504 44.9 Source: Staff estimates, adapted from IMF (2020) based on information from MoF Public Debt Bulletin (December 2020) and Budget in Statistics (2021). Maldives’ public debt. To finance these projects, the 71. Second, the government supports SOEs government has guaranteed US$780 million worth extensively through subsidies to cap the prices of debt and on-lent a further US$567 million to SOEs of certain goods and public services. From 2018- (Figure 54), for a total of US$1.3 billion or 35 percent of 2021, the government spent an average of US$79 2020 GDP. HDC is the biggest beneficiary of sovereign million or about 2 percent of GDP per annum on guarantees and MACL is the biggest beneficiary of subsidies to SOEs. These include: (i) food subsidies on-lent debt, accounting for 71-73 percent of their to STO to reimburse it for the cost of selling staple respective totals83 (Figure 55). These guarantees were foods (rice, sugar and floor) at controlled prices, which mainly given on loans related to the expansion of the are below market prices; (ii) fuel subsidies to STO to VIA and Hulhumalé Phase II. Most guarantees were reimburse it for the cost of fuel used by electricity provided for loans contracted at non-concessional producing companies; (iii) electricity subsidies to rates from external sources, including ICBC and EXIM FENAKA and STELCO to compensate them for the China. Almost all guaranteed debt is denominated in loss in revenue from selling a unit of electricity below US dollars and carries floating interest rates, posing a a cost recoverable unit price;85 (iv) waste management risk to government finances. Again, it is important to subsidies to WAMCO reduce the price of waste note that SOEs were already highly indebted before disposal services; and (e) public ferry operation the pandemic; in 2019 Addu International Airport (AIA) subsidies to MTCC.86 had a gearing ratio84 of 201 percent, whereas STELCO, 72. The government also provides capital injections STO and MACL had gearing ratios exceeding 50 to SOEs to meet their operational and capital percent. Except AIA, whose gearing ratio has doubled, expenses, and thus support their overall financial the ratios of other companies have moderated slightly position. As SOEs often provide essential services – but remain high – in 2020. All in all, SOEs’ liabilities mandated by the government, capital contributions amounted to US$4.8 billion at end-2020 (see Annex are being provided from the government budget 2). Such high levels of SOE debt could impact the every year to minimize disruptions to their operations central government’s ability to borrow. 82 2019 GDP is used since the economy suffered a large contraction in 2020. 83 Excludes US$400 million to MMA (RBI swap). 84 Total loans and borrowings over capital employed. 85 The tariff rate approved by the Maldives Energy Authority is lower than the cost of producing a unit of electricity. As a result, the government provides STELCO, FENAKA and MWSC subsidies in the form of revenue loss recovery. 86 MTCC has been operating the public ferry system at a loss and has also recently had to cater for additional regions where private ferry operators have ceased their operations. Hence, to compensate for the loss in its operation in the year 2020, the government will grant MTCC a subsidy of MVR 102 million. Maldives Public Expenditure Review: Restoring fiscal health Page 44 Figure 54: Government guaranteed and on-lent debt Figure 55: HDC and MACL are the biggest to SOEs reached US$1.3 billion at end-2020 beneficiaries of guaranteed and on-lent debt, Left: US$ millions, right: share of GDP, percent respectively US$ millions Source: MoF public debt bulletins, 2016-2020. Source: MoF December 2020 Public Debt Bulletin. Note: The December 2021 debt bulletin does not include this breakdown. Note: The December 2021 debt bulletin does not include this breakdown. Excludes the US$400 million MMA swap with RBI and a US$121 million Excludes the US$400 million MMA swap with RBI and a US$121 million guarantee to Ahmed Siyam Holding, a private entity. guarantee to Ahmed Siyam Holding, a private entity. Figure 56: The government supports SOEs through Figure 57: …of which HDC is the main beneficiary. capital injections… Transfers to SOEs, US$ millions Transfers to SOEs, US$ millions (left axis) and share, percent (right axis) Source: MoF, staff calculations Source: MoF Note: Latest data available. and service delivery. As noted in Chapter 2, spending 73. Such subsidies and capital injections heavily on capital contributions to SOEs tripled from US$33- support SOEs’ financial performance. In 2020, total 36 million annually in 2017-2018 to US$102 million net profits of a sample of 20 Maldivian SOEs reached in 2019 as the government tripled capital injections US$275 million. However, subsidies and capital to STO, HDC and Aasandha (Figure 56). In 2020 and injections from the government to SOEs accounted 2021, transfers to SOEs further increased to US$143 for the bulk of their net profits, amounting to US$224 million and US$139 million respectively, reflecting million or 81 percent of total net profit. the impact of the COVID-19 pandemic especially on 74. Third, SOEs make limited and lower-than-expected HDC (Figure 57), STELCO and Island Aviation Services. contributions to state revenues. Even before the New SOEs such as FDC (housing) and the SDFC (SME COVID-19 pandemic, only six out of Maldives’ 32 SOEs finance) were also established. Chapter 4 elaborates paid any kind of dividend to the government in 2019 on the fiscal risks from HDC and FDC. (Dhiraagu, MWSC, HDFC, BML, STO and MACL). On 87 Differs from the number reported in Figure 5 because it includes Aasandha, which reported audited financial information in 2019 and 2020. Figure 5 excludes Aasandha because this information was unavailable in PCB annual reports from 2016-2018. 88 MoF 2021a. 89 Ibid. In 2020 dividends amounted to US$27.5 million (net of MMA) while subsidies and capital injections reached US$224 million. Maldives Public Expenditure Review: Restoring fiscal health Page 45 Figure 58: Half of all dividends come from Dhiraagu, Figure 59: SOE dividends only contribute 1 percent the mostly privately-owned SOE of GDP to state revenues US$ millions Percent of GDP Source: MoF, 2021. Budget in Statistics and 2019 Annual Financial Review, PCB. Total dividends exclude MMA average, about half of all dividends come from the 76. The above assessment only provides a partial telecommunications company, Dhiraagu, in which the view of the overall net effect of SOE operations on state owns a minority share (Figure 58). The aggregate the government budget. Without comprehensive size of SOE dividends fell from an average of 1.8 data on SOE tax payments, the net impact of SOEs on percent of GDP between 2010-2012 to 0.8 percent of government finances can currently only be partially GDP between 2013-2021 (Figure 59). This significant estimated. Based on MoF information, it is estimated fall in SOE dividends can mainly be explained by that SOEs had a negative net impact of US$197 MACL, which has stopped providing dividends due million at end-2020 (equivalent to 3.5 percent of 2019 to the expansion of VIA. In addition, as a result of GDP), excluding tax payments. However, inter-SOE higher inter-SOE arrears and unpaid bills owed by transactions render the assessment of individual the government itself to some SOEs (e.g., STO, MWSC, SOEs’ financial performance and fiscal risks from SOEs STELCO) during the onset of the COVID-19 pandemic, more complex. More comprehensive information on SOEs have withheld an increasing share of dividends the pricing of transactions between SOEs, and the owed to the government. Dividend arrears by SOEs business relationships between specific entities, is were estimated at US$129 million or 2 percent of GDP needed to make a full assessment of fiscal risks from at end-2020. SOEs. 75. Not all SOEs make tax payments. While the Maldives Inland Revenue Authority (MIRA) has made substantial progress in updating its systems by tracking tax receipts for large companies (Maldives’ primary tax contributors) and improving accountability, comprehensive data is currently not yet available for the entire SOE portfolio. According to information available at the time of writing, SOE tax arrears include US$34 million in Business Profit Tax and US$3.4 million in withholding taxes. Maldives Public Expenditure Review: Restoring fiscal health Page 46 3.4 Stress-testing Maldives’ SOEs 77. To illustrate the importance of mitigating fiscal operating losses in 2022-2024, and thus require risks from SOEs, this section presents simulation government subsidies and other types of financial results on the health of SOEs’ balance sheets under assistance.92 Their corporate debt will increase further alternative scenarios, including shocks to the in view of persistent financing needs associated to Maldivian economy. The section uses an integrated those losses and ongoing investment plans. STO is macro-micro model to link macroeconomic indicators expected to maintain very limited operating profits to corporate finance indicators by postulating and slightly reduce its corporate debt. On the other accounting conventions and elasticities (see Annex 3a hand, MACL will generate significant operating profits, for the methodology and Annex 3b for the results). while accumulating corporate debt to fund large The model assesses the performance of six major capital expenditures related to the expansion of VIA. SOEs (STO, MACL, STELCO, FENAKA, MTCC and 79. Under the baseline outlook, the SOEs’ demand HDC)90 in 2022-2024 under four illustrative scenarios for budget subsidies, direct loans, and sovereign (Table 7): guarantees is likely to continue unabated in the i. Baseline scenario: Uses the economic growth next few years. Subsidies to SOEs, especially for fuel, and inflation forecasts of the baseline scenario are expected to continue as long as a partial pass- reported in the conclusion of Chapter 1. It through of international oil and commodity prices assumes the Brent oil price decreases from to domestic retail prices and power tariffs remain in US$95 per barrel in 2022 to US$80 per barrel place. Cross-subsidization between operational loss- in 2024.91 Annual government subsidies to SOEs making companies and operational profit-making are maintained at the levels observed in 2020 ones – most notably, MACL – is not an option since throughout the 2022-2024 period. the latter requires those profits to support their (debt- financed) capital investment programs. ii. Higher economic growth scenario: Uses the higher growth scenario in Chapter 1. 80. Given the baseline outlook and in the absence of major reforms to the SOE sector, aggregate iii. Higher oil price scenario: Assumes that the operating losses for STELCO, FENAKA, MTCC, and Brent oil price peaks at US$105 per barrel in HDC are expected to reach about MVR 900 million 2022 and decreases to US$85 per barrel by 2024. (US$58 million) per year, on average, between iv. No subsidy scenario: Assumes no government 2022 and 2024. This aggregate loss is equivalent to subsidies are provided to SOEs in 2022-2024 (as 1 percent of 2019 GDP and even exceeds the MVR a result of, for example, an economic shock or a 550 million (US$36 million) combined loss recorded policy reform). in 2019 for the four companies. Corporate debt for these companies will increase further, from MVR 14.8 78. Poor financial performance of STELCO, FENAKA, billion (US$961 million) in 2021 to an estimated MVR MTCC and HDC is expected to continue even if 20.4 billion (US$1.3 billion) by 2024. the Maldivian economy recovers. In the baseline scenario, these four SOEs are projected to run Table 7: Scenarios for simulations of selected Maldivian SOEs’ balance sheets Real GDP Growth Brent Oil Price Subsidies to SOEs (%, annual average (US$/barrel, average (MVR million, annual 2022-2024) 2022-2024) average 2022-2024) Baseline Scenario 8.3 87 1,442 Faster economic growth 10.3 87 1,442 Higher oil prices 8.3 93 1,442 No subsidies to SOEs 8.3 87 0 Source: World Bank projections. 90 The selection was based on the fact that these are fully government-owned SOEs that are instrumental in delivering key public infrastructure and services. 91 World Bank commodity price assumptions as of March 2022. 92 Projections of SOEs’ gross income are rather challenging in the current juncture; for instance, HDC’s future sales of land, residential and commercial properties face volatile prices and uncertain construction completion dates and market demand. Maldives Public Expenditure Review: Restoring fiscal health Page 47 81. The second scenario – faster economic growth aggregate operating profits would be reduced by 15 over 2022–2024 – would only marginally improve percent relative to the baseline case, thus weakening financial performance of the SOE sector. In their financial standing and borrowing conditions). the higher growth scenario, the operating losses 85. The higher oil price scenario is relevant to the (or profits) and corporate debt of the six SOEs in current global context and would have the 2022–2024 are similar to the baseline case. This is most damaging impact on Maldivian SOEs. More because a company’s sales and costs increase pari expensive oil imports – which are often accompanied passu with a stronger economic recovery, while with higher prices for other commodities also the unitary operating margins are not affected, i.e., imported to the Maldivian economy – will further unitary operating margins would still remain at a loss lead to a deterioration in SOEs’ financial viability and for STELCO, FENAKA, MTCC and HDC, and at a profit increase their demand for government support. for STO and MACL. In all six companies, the financing SOEs’ demand for budget subsidies, direct loans, and needs emerging from operating losses, investment sovereign guarantees would also increase in a context programs, or both, are also unaffected. of sustained high prices of oil and commodities. 82. A faster-than-expected economic recovery is 86. In the final and fourth scenario, eliminating insufficient to mitigate the fiscal risks posed by all government subsidies to SOEs would the SOE sector. In the higher growth scenario, the significantly weaken their financial position and aggregate operating losses for STELCO, FENAKA, creditworthiness in the short-term. In the no MTCC and HDC are projected to be MVR 940 million subsidy scenario, most companies are expected to (US$61 million) per year, on average, between 2022 run significant losses, face larger financing needs, and and 2024 – in view of their unitary operating margins accumulate corporate debt to unprecedented levels. exhibiting a loss. Their corporate debt will be on a For instance, aggregate corporate debt of STELCO, rising path similar to the baseline case. Hence, faster FENAKA, MTCC and HDC would increase from MVR economic growth in Maldives cannot restore the 14.8 billion (US$961 million) in 2021 to MVR 23.4 financial viability of these companies by itself. billion (US$1.5 billion) by 2024. For STO and MACL, 83. In the third scenario, elevated oil prices are aggregate corporate debt would rise by 8 percent expected to significantly worsen the financial relative to the baseline case. This scenario illustrates performance of the SOE sector. In the high oil price the dependence of SOEs on government support. scenario, the unitary operating margins worsen for 87. To rationalize government support to SOEs and most companies; thus, their operating losses widen, avoid further deteriorations in their (already weak) or the operating profits narrow. Such deterioration is financial performance and creditworthiness, more significant in STO, MACL, STELCO, and FENAKA, major operational and organizational reforms in in view of the intensive imports of oil required for the SOE sector are essential. The scenarios described their productive activities. In most companies, the above suggest that the government should not rely financing needs resulting from higher operating solely on economic recovery as a solution for SOEs’ losses – or lower operating profits – lead to higher structurally weak performance. More importantly, levels of corporate debt. even if the government seeks to impose more fiscal 84. Higher-than-expected oil prices will further discipline and restore public debt sustainably, it exacerbate fiscal risks emerging from SOEs. In cannot just withdraw long-standing financial support the scenario with higher global energy prices, the to SOEs because many will eventually experience aggregate operating losses for STELCO, FENAKA, additional financial distress and undermine the overall MTCC and HDC are expected to reach MVR 1.2 credit standing of the public sector as a whole. Hence, billion (US$78 million) per year, on average, between subsidy rationalization should be an integral part of 2022 and 2024 – as a consequence of their unitary a comprehensive SOE reform program. Some policy operating margins exhibiting a loss larger than in recommendations are put forward in the remainder the baseline case. Corporate debt will increase even of this chapter. further, reaching MVR 21.4 billion (US$1.4 billion) by 2024. Even if the government provides more subsidies, aggregate corporate debt would still rise to about MVR 21.2 billion by 2024. (For STO and MACL, the Maldives Public Expenditure Review: Restoring fiscal health Page 48 3.5 How can Maldives manage and mitigate fiscal risks from SOEs? 88. To better manage and mitigate the fiscal risks from 91. Third, a public sector obligation (or agreement) SOEs, it is recommended that the government: system could be introduced for subsidized activities. (i) strengthen the institutional arrangement for SOEs The cost of subsidized activities must be accounted fiscal risk oversight; (ii) rationalize government support for separately and subject to comprehensive auditing. to SOEs; and (iii) enhance transparency in monitoring To do so, Maldives could create a holding company and reporting. or specialized entity for SOE oversight and ownership, following the model adopted in Bhutan, Kazakhstan, Strengthen the institutional framework for SOEs’ Malaysia, and Singapore. Such a holding company fiscal risk oversight could enhance the monitoring of SOEs’ subsidized 89. First, Maldives needs to either liquidate or activities through the design, execution and follow- privatize SOEs that are highly dependent on the up of public sector obligations (agreements) between government budget or introduce a different set each SOE and the holding entity. These public sector of rules that restricts their autonomy compared obligations would impose certain targets in terms to commercially-oriented SOEs. As a first step, MoF of operation and subsidy rationalization. Although could identify commercially-viable SOEs versus SOEs not without its risks, the holding company model that exist to serve a policy purpose. Commercial could improve SOE performance and mitigate SOEs should adopt regimes for subsidies based political interference if there is commitment to a on management performance, and alternative set of commercial targets at the highest levels of ownership arrangements should be explored – e.g., leadership. Another option is to establish an agency partial public listing or sales of minority stakes. On or commission within the government, which is the other hand, the government could enhance the administratively more straightforward (e.g., the model corporate governance of SOEs seeking to achieve used in Korea and Philippines). a policy purpose, e.g., separating accounting for 92. Fourth, the role of PCB could be further enhanced costing their non-commercial obligations; redesigning to incentivize better SOE performance and to obligations and funding from government budget monitor fiscal risks from SOEs. In recent years, under explicit service agreements; and eliminating PCB has strengthened its monitoring and guidance cross-SOE arrears. function. In May 2019, for example, PCB issued a 90. Second, Maldives needs to develop a clear and corporate governance code for SOEs to strengthen rational policy for creating new SOEs, which the staffing and functioning of SOE Boards, improve should be created only in the absence of viable risk assessment and management, and strengthen alternatives. While the prominence of SOEs in a the transparency and disclosure of the SOEs. small island state is not unusual, the omnipresence However, a recent review (MoF PCB 2021) indicates of SOEs in Maldives is crowding out the private sector. that compliance with the code is poor – few companies To ensure that SOEs only play a role where the market have a proper internal audit function and only half cannot, the government could more strictly enforce had formulated a Board-approved strategic plan. the provisions of the Privatization and Corporatization Given that the legal mandate of PCB is more focused Act93 and apply greater scrutiny to the establishment on privatization, PCB lacks stronger mechanisms to of new SOEs. It is unclear, for example, why FDC was enforce the code (see Box 4). Similarly, while PCB has created to take over the public housing mandate from strengthened its monitoring function by collecting, HDC (see Chapter 4). Ideally, any new SOE should have analyzing, and publishing financial information of a clear mandate and accountability, be restricted to individual SOEs on a quarterly basis, PCB staff lack invest in well-defined business lines, subsidiaries, or specific skills in financial and risk analysis, which joint ventures, and have a limited capacity to expand severely impedes its effectiveness to monitor fiscal unprofitable activities without explicit government risks. It is also understaffed. approval. To complement the current Corporate Governance code, MoF could set a Statement of Corporate Intent that defines and limits SOEs’ scope of activities. 93 As stipulated by the Act, PCB is supposed to evaluate the fiscal status and budget analysis, the use of the capital allotted by the government, maintain the accounts and implement the procedures for the distribution of annual profits, determine the actions to be taken against companies that do not generate a profit, discuss with the relevant authorities about what to do about entities that fail to produce a profit even after taking action against them except the places that are run for community services by SOEs. Maldives Public Expenditure Review: Restoring fiscal health Page 49 Box 4: Enhancing the role of PCB The PCB was originally established to facilitate privatization. However, this agenda has not progressed, To oversee and monitor SOEs, the “Public Enterprises with hardly any SOEs being privatized. The mandate Monitoring Unit” (PEMU) was formed as a part of the of the PCB therefore needs to be revised. Currently, Ministry of Finance on 1 March 1995 (later renamed the Act overemphasizes privatization and does not to “Public Enterprise Monitoring and Evaluation say much on monitoring and enforcing actions against Board, PEMEB). With the adoption of the Privatization underperforming SOEs. The Act is also silent on the and Corporatization Act in 2013, a Privatization and role of the MoF, which is the legal shareholder and Corporatization Board was formed, and PEMEB representative at SOE boards. Amending the Act to served as the secretariat. The Board consists of seven have a greater emphasis on monitoring and oversight, members appointed by the President of Maldives. In and to restore the role of the MoF in SOE monitoring, 2019, the name of the unit was changed to “Secretariat would give PCB greater weight in policymaking on of Privatization and Corporatization Board” (PCB). SOEs. Source: Adapted from World Bank 2019; GoM & WBG 2021. Rationalize government support to SOEs limits on the value of new guarantees granted every 93. Fifth, the government could strengthen scrutiny year. Furthermore, Maldives could require any state of subsidies to SOEs and their capital expenditure budget funding to SOEs to be approved by Parliament, proposals, and improve SOE budget planning. with a limited/pre-specified scope in terms of equity, Comprehensive budget guidelines could be developed subsidies, and/or government contracts (IMF 2021). to assess subsidies and financial assistance to SOEs. Promote transparency in monitoring and reporting of As highlighted in Chapter 2, affordability analyses SOE financial information should be conducted for major capital projects – 95. Seventh, the government could enhance the SOE on top of financial and economic assessments – to monitoring framework to become more policy- improve the effectiveness of SOE public investment based, risk-based, and forward looking. This and the sustainability of public finances (IMF 2019b). requires setting up a centralized database of core While current quarterly reports on SOEs are good corporate finance information, including subsidies practice, additional analysis on SOEs’ operational and capital contributions, quasi-fiscal activities, and and financial performance could be included. For risk indicators. Ideally, the database would contain example, to better understand the net impact of SOEs information of the full capital costs and future on the Maldivian economy, it would be necessary recurrent costs of current and planned public for PCB to collect detailed information on inter-SOE investment projects. Individual SOE profiles can be arrears and reciprocal SOE-government arrears; formulated using this database, and the government operating subsidies paid by the government for the could consider establishing a “SOE report card” costs of specific activities conducted by SOEs, or to system, as done in Grenada, to track key performance compensate for operating losses; taxes and royalties indicators. Moreover, the PFM legal framework could paid by SOE; cross-trade credits and payables; and require more comprehensive requirements on SOEs’ write-offs of SOE debt. budgeting, reporting, transparency, and performance. 94. Sixth, there is room to improve the management The government has taken a first step towards greater of sovereign guarantees and to discontinue transparency of some SOEs by updating information Treasury Loans to SOEs. While the Debt Management on public infrastructure projects on the Isles portal, Department of MoF has made much progress, it could and is working on developing a “SOE Gateway”, a further enhance technical evaluation and monitoring portal that monitors the financial situation of SOEs. of sovereign guarantees supporting SOEs’ major 96. Finally, the fiscal risk statement could be capital investment, including the analysis of fiscal strengthened to include a more in-depth risks. To mitigate these specific risks, the draft Debt discussion and estimation of risks stemming from Law and guarantee guidelines could contemplate the SOEs. In the latest PEFA assessment (GoM and WBG charging of risk-based fees, the establishment of a 2021), Maldives scored a D+ on the indicator “PI-10: guarantee fund, and the introduction of quantitative Fiscal risk reporting”, in part because most major Maldives Public Expenditure Review: Restoring fiscal health Page 50 SOEs did not submit audited financial statements to the risks or contingent liabilities materialize. To do PCB within nine months. Since the assessment was this, establishing the centralized monitoring system of finalized, Maldives has published its first fiscal risk SOEs, improving the periodicity of regular reporting, statement, a welcome step towards greater fiscal and and strengthening the capacity/resources of PCB to debt transparency. While the publication discusses collect such data will be essential. SOE-related fiscal risks, it could go a step further and quantify potential additional expenditures if any of Maldives Public Expenditure Review: Restoring fiscal health Page 51 CHAPTER 4 Affordable Housing Summary Maldives has contracted a billion dollars in external loans and guarantees to finance large-scale public housing projects. While small island states face constraints that drive up the costs, this chapter shows that spending more on public housing may not necessarily help the government solve affordable housing issues. Although the Rent-to-Own programs have increased the supply of housing units, they are of poor quality, are not well-targeted towards the neediest Maldivians, and have incurred high costs for the government. An institutional overhaul, a housing data management system, better monitoring and evaluation of housing projects, and reforms to leverage private sector participation – including through PPPs – are needed to meet the government’s ambition of adequate, safe, and affordable housing for all Maldivians. 4.1 How can Maldives manage and mitigate fiscal risks from SOEs? 97. As a small island state, Maldives faces unique 99. Government initiatives to improve access to land housing constraints. Over a third of the population have not yielded an increase in home ownership. The is concentrated in the capital, Malé, drawn there by government has allocated land for free to households the educational and employment opportunities. to increase the supply of housing in the atolls. However, Internal migration to Malé has led to overcrowding, without proper targeting and technical assistance, this while unplanned growth has resulted in traffic strategy has not resulted in an increase of housing congestion and air pollution in the city. The wide units. Most households who own plots of land have dispersion of the rest of the population and the lack been unable to build housing due to lack of financial of economies of scale make it difficult to provide resources and knowledge. In addition to incentives even service coverage, leading to wide disparities in to migrate to Malé, the absence of technical support access to public services between Malé and atolls. As and guidelines for self-built housing has also resulted noted in Chapter 1, Maldives is highly vulnerable to in parcels that are left undeveloped, unfinished, or natural hazards and extreme climatic events, which poorly finished. necessitates considerable investments in climate 100. Private sector participation in new housing adaptation and resilience. As coastal erosion and construction is low. New affordable housing provision pressures on scarce land increase, the physical is overwhelmingly led by the government. Private vulnerability of housing and other infrastructure will construction is limited to large-scale infrastructure increase, potentially eroding their market value and development, such as high-end residential and putting people at risk. commercial buildings, hotels and resorts, and owner- driven residential developments for investment and 98. Housing construction costs are high due to the the rental market. The high cost of construction scarcity of land, lack of technical expertise, finance and the lack of access to domestic financing and heavy reliance on imports. Land is a scarce for construction are two factors that preclude more resource in Maldives.94 The government has initiated private participation in housing construction. land reclamation projects to address this challenge, notably on the neighboring island of Hulhumalé,95 but 101. In part due to these constraints, housing such undertakings are costly. Moreover, as Maldives ownership is unaffordable for most Maldivians, lacks natural resources and a domestic production especially in the Greater Malé region. According to base, all construction materials are imported, World Bank estimates, a household would need to have weighing on the trade balance and external financing a monthly income of around MVR 46,000 (US$3,000) needs. Developers also often rely on foreign technical to be able to afford the most inexpensive available assistance and labor.96 2-bedroom flat in the market,97 which is estimated to 94 The total land area is less than 300 square kilometers. 95 A manmade island built starting in 1997 to relieve the lack of housing and overcrowding conditions in Malé. 96 Some 89 percent of the workforce in the construction industry are expatriates. MNACI 2020. 97 Assumed to be a 650 square-foot, two-bedroom apartment that can accommodate an average family of five. Maldives Public Expenditure Review: Restoring fiscal health Page 52 be priced at MVR 1.8 million (US$117,000).98 Currently, 103. Regardless of whether they own or rent only the richest (top 20th percentile) of Maldivian homes, most Maldivians are unsatisfied with their households, who have average monthly incomes of current housing conditions. According to the WB MVR 57,000 (US$3,700), would be able to take out a MUDRP survey,101 in 2020/2021 about 56 percent of bank loan to make this purchase.99 As a result, most respondents in Malé and 51 percent of respondents households living in the Greater Malé region cannot in atolls are unsatisfied with their current housing afford to purchase a home, but instead rent their conditions (Figure 61). Almost all respondents accommodation. According to the 2019/20 HIES pointed to the lack of space as the key driver of (Statistics Maldives, 2021b), 74 percent of households their dissatisfaction. Overcrowding affects about 12 living in Malé rented their homes in 2019, an increase percent of households in Malé (Statistics Maldives from 64 percent in 2016. 2021b), and disproportionately affects lower-income households. Despite their high dissatisfaction with 102. Rental prices are also out of reach for many current housing conditions, survey respondents households, leading multiple families to co- were hesitant to move elsewhere due to the lack of inhabit the same unit. Overcrowding of homes is alternatives. also an issue in the Greater Malé region, affecting about 12 percent of households. This is related to the 104. The undeveloped housing finance market fact that housing rental prices are also out of reach has curtailed access to affordable housing. As in for many families. Assuming the cheapest available most small island states, Maldives’ financial sector is two-bedroom flat costs MVR 18,900 or US$1,227 to under-developed, with limited access to long-term rent per month in Malé, households in the bottom finance and housing finance. The mortgage market 60 percent of the distribution would have to pool is small, with outstanding loans at 7 percent of GDP their incomes to be able to afford the rent. Assuming – half the expected size for a country with Maldives’ that households do not spend more than a third of level of income. Only three banks (mostly the Bank of their income on rent, this means that 2-4 families Maldives or BML, but also the Maldives Islamic Bank have to share the same apartment, hence leading to and the Housing Development Finance Corporation, overcrowding (Figure 60).100 HDFC) actively lend in the housing sector. There are only eight housing finance products, most of which Figure 60: Purchasing a home is out of the question Figure 61: Most Maldivians are dissatisfied with their for many Maldivians current housing situation MVR Share of survey respondents, percent Source: Staff calculations based on Statistics Maldives 2021b and WB MUDRP Source: WB MUDRP study 2020/2021. study 2020/2021. Note: Flat price is assumed to be MVR 1.8 million. Monthly rent is assumed to be MVR 18,900. 98 Source: Market research conducted by the Affordable Housing Institute (AHI) and Riyan for the World Bank Maldives Urban Resilience and Development Project in December 2020 and January 2021 (hereby referred to as WB MUDRP study 2020/2021). 99 Assumes that households spend no more than a third of their income on housing. The terms of the loan are assumed to be 10 percent at a 20-year maturity. Down payment is assumed to be 20 percent. 100 Calculations based on survey data collected by AHI as part of the WB MUDRP study. The rent-to-household-income ratio is calculated for each quintile in Figure 64. Where the ratio exceeds the benchmark of 30 percent, households must combine their budget to pay for rental. 101 This was a nationally representative sample of 2,015 respondents in 19 islands. Maldives Public Expenditure Review: Restoring fiscal health Page 53 are out of reach for lower-income households. with fixed interest rate for up to 20 years, Housing finance is largely inaccessible to them for most financial institutions either do not offer three reasons: housing loans or do not offer housing loans with maturities above 10 years. This limits the • Mortgage loans require a 20 percent down access and affordability of housing finance for payment; building such equity is very difficult low-income borrowers. In addition, most financial for most low-income households. BML, which institutions do not offer mortgage insurance represents almost 70 percent of the mortgage products such as credit risk protection for sector, requires a 20 percent down payment, lenders. on par with international prudential measures for residential mortgage loans. Lower-income • The foreclosure process is highly undeveloped. households cannot easily save for a down- If a bank decides to foreclose on a borrower, payment, and at present there are almost no they must carry their claim to the courts to demand-side government subsidies to address be adjudicated. However, there are delays in the the affordability gap between commercial court process that extend foreclosure for up to mortgage loan products and the high savings 7-8 years, posing risks to banks in recouping non- requirement.102 performing loans (NPLs). Inadequate regulations and the small size of the market discourage • Most local financial institutions do not offer banks from entering the market or creating new long-term housing finance products. Except products. the Bank of Maldives, which offers mortgages 4.2 Public spending and fiscal risks associated with the housing sector 105. The government’s exposure from external 106. The cost of housing-related debt repayments loans and guarantees associated with public is high. From 2021-2028, MoF estimates103 indicate housing is estimated at nearly US$1 billion or that debt service payments on existing housing- a fifth of Maldives’ GDP. In the past decade, the related debt amount to US$40 million annually on government has significantly ramped up public average, or about a third of total external debt service investments to address the lack of affordable housing. due over the period. The high cost of debt servicing From 2010 to 2021, the government and the Housing reflects the expensive terms of all six guarantees HDC Development Corporation (HDC; a 100 percent SOE) contracted in 2017-2018, which had short grace and contracted 11 external loans amounting to US$1.1 maturity periods (2 and 3-13 years, respectively) and billion to finance the construction of housing units, variable interest rates (33.3% plus 6-month LIBOR). primarily in Hulhumalé (see Annex 4). The government further guaranteed US$134 million in external loans 107. Revenues from public housing projects are to HDC to design and construct roads and electricity insufficient to cover debt service repayments and systems in Hulhumalé. Most of these obligations were revenues. HDC accounts for over half of external signed in 2017 and 2018 in the form of guarantees guaranteed debt (Figure 62), but its projected revenues to HDC, leading the external guaranteed debt ratio from rental payments on public housing projects are to jump by 12 percentage points of GDP in a single insufficient to cover the high cost of debt servicing, year (see Chapter 1). All in all, total external debt which is mostly due in the short and medium term outstanding and disbursed related to housing (Figure 63). In line with the social housing mandate, (including guarantees) amounted to an estimated the government has also ‘capped’ monthly rental rates US$739 million at end-2021, equivalent to a third for Rent-to-Own program beneficiaries, tolerated high of the total external public and publicly guaranteed delinquency rates on loan repayments and provided debt or about a fifth of GDP. The bulk of this debt (86 lengthy repayment periods (25 years). The cost of percent) is due to Chinese lenders, in particular the debt service is thus a major fiscal risk that will likely Industrial and Commercial Bank of China or ICBC. have to be borne by the public sector balance sheet. 102 Prior to 2021, the MMA Affordable Housing Loan Scheme required banks to lend at below market rate for home loans; however, the scheme was abolished as it did not successfully meet its objectives. The Maldives’ Pension Retirement Scheme has had a Housing Loan Collateralization Scheme since 2016, but this is not a demand-side subsidy (see Chapter 6). 103 Based on data received 24 February 2021. Include estimates of debt service repayments on sukuk. Maldives Public Expenditure Review: Restoring fiscal health Page 54 Figure 62: HDC accounts for over half of guaranteed Figure 63: There is a mismatch between HDC’s debt debt to SOEs service repayments and rental payments Share of total external guaranteed debt, percent US$ millions Source: MOF Public Debt Bulletin, December 2020. Source: World Bank analysis based on estimates from Ministry of Finance Note: Excludes the US$400 million MMA swap with RBI and a US$121 million received on 24 February 2021. guarantee to Ahmed Siyam Holding, a private entity. Note: Rental payments assume 100% of all units are leased starting in 2022 at the monthly rate of MVR7,500. HDC’s other revenue sources such as sales of land are have to pay land rent on social housing projects in uncertain, as they depend on external timelines and Hulhumalé, FDC will likely have to rent the land for all buyers’ demand. HDC itself is highly leveraged and social housing projects they develop going forward, holds more foreign currency liabilities than assets using HDC land in Hulhumalé and elsewhere. As a (see Chapter 3). result, FDC is expected to be even more reliant on capital contributions from MOF than HDC. Capital 108. Fiscal risks104 from housing may become even expenditure and fiscal risks related to housing are more significant going forward. In 2021, a new thus likely to increase as FDC has begun to contract housing agency, the Fahi Dhiriulhun Corporation external loans to develop its pipeline of 14,200 (FDC) was established to take on the bulk of social housing units, with a total funding requirement of housing development and implementation from US$671 million (see Annex 4). Going forward, FDC HDC.105 However, FDC lacks the revenue and cross- is expected to face a cash flow imbalance similar or subsidization sources that HDC has traditionally worse than that of HDC’s, given its lack of revenue relied on, such as land leasing and sales of properties. sources. Unlike HDC, which owns land assets and thus did not Figure 64: Domestically financed housing Figure 65: …but the government transfers an development spending is not high… increasing and significant amount of resources to Housing development as a share of total budget, actual housing SOEs and budgeted expenditures (% of total) Capital contributions to SOEs, US$ millions Source: MOF Public Debt Bulletin, December 2020. Source: MoF, staff calculations Note: 2022-2024 refer to proposed budget estimates. 104 Fiscal risks refer to substantial deviations in fiscal outturns from budgeted projections, which may exert unexpected pressures on public resources through their impact on cash flows and balance sheets. 105 HDC is now responsible for developing commercial housing, whereas FDC is responsible for developing and managing social housing. Maldives Public Expenditure Review: Restoring fiscal health Page 55 109. Housing development expenditure financed 110. Even though commercial banks have a low by domestic resources is not high, but housing level of exposure to the housing sector, the lengthy SOEs receive significant support. On average, only foreclosure process could pose financial risks US$3 million or 2.3 percent of total expenditures is in the longer term. Interest rates and household budgeted for housing development each year, which incomes are two key determinants for assessing is on par with the share of budget spent for housing in commercial banks’ exposure to real estate. While several other emerging market economies.106 Actual the average interest rate has been relatively stable at expenditures have come in at about half of that 11.5 percent over 2018-2021, household income has amount (Figure 64). These resources have generally been adversely impacted by the large contraction in funded the construction of social housing projects GDP growth in 2020 due to the COVID-19 pandemic. in the atolls. However, the government also makes Nonetheless, the moratorium on housing and other significant capital contributions to HDC and FDC. loan repayments108 cushioned the impact on loan Between 2018 and 2020, the government provided repayments. The NPL ratio declined from 9.4 in 2019 US$135.2 million in capital contributions to HDC and to 7.5 percent at end-Q3 2021. Moreover, real estate US$0.8 million to FDC, or approximately 60 percent represents only 7.1 percent of commercial banks’ total of total capital contributions over the period (Figure loan portfolio and the mortgage debt-to-GDP ratio is 65).107 HDC relies on such contributions to balance low at 7 percent. While BML’s requirement of a 20 out its operational losses. Finally, the government percent down payment theoretically protects it in the foregoes tax revenues by providing Goods and case of default, the lengthy foreclosure process and Services tax exemptions on sales of properties the lack of foreclosure laws (see section 4.1) put BML classified as social housing, and by providing land for at high risk of loss in the event of a default. Reform free for self-built homes and developer-led housing of the foreclosure process is needed to ensure that projects. default rates on housing loan repayments do not become a systemic financial risk. 4.3 Is public spending on housing yielding the desired results? 111. Affordable housing for all Maldivians has 112. To meet the government’s housing provision long been a key government priority. Since the goal, public spending on housing is concentrated formulation of Maldives’ first National Housing on supply-side strategies, namely: Strategy in 2009, national strategic plans have i. the Rent-to-Own program in Hulhumalé (Phase 1 included large-scale housing interventions to achieve and Phase 2; the latter is also called “Hiyaa”); this goal. The 2019-2023 Strategic Action Plan outlines ambitious policy actions to increase the accessibility ii. the Rent-to-Own program in the atolls; and and affordability of housing, including the provision of 20,000 new social housing units, allocating MVR iii. Gedhoruveriya, which provides loans to eligible 1 billion (US$65 million) for the social housing loan households in the atolls for housing construction scheme (Gedhoruveriya), and enacting a tenancy and and upgrades.109 condominium law. 106 In Indonesia, for example, an estimated 2.2 percent of the budget was spent on housing in 2018. In Chile, 3.8 percent of the total budget was spent on housing and urban development in 2021. Source: World Bank staff estimates based on national budget publications. 107 FDC is expected to receive US$4.5 million from the government annually in 2021-2022. 108 From March 2020 to March 2021. 109 The scheme is being implemented by HDFC on behalf of the government. Maldives Public Expenditure Review: Restoring fiscal health Page 56 Table 8: The per unit cost of the Hiyaa public housing is extremely high Components Cost (MVR billion) Cost (US$ million) Land 2.1 133.1 Infrastructure 1.1 71.4 Construction 7.1 459 Refinancing of debt 0.2 14.9 Total cost 10.5 678.5 Cost per unit MVR 1,554,895 US$ 100,967 Cost per unit excluding land MVR 1,249,875 US$81,160 Source: Staff calculations from HDC report. 4.3.1 The efficiency of the Rent-to-Own Program 113. The Rent-to-Own Program is the primary 115. Overall, it is estimated that the government public housing scheme in Maldives. Under the provides a subsidy of approximately US$31,800 for Hulhumalé Phase 1 project, the government built each Hiyaa unit (Figure 66). Given the low Rent-to- approximately 3,000 housing units (3-bedroom units Own payments (MVR 7,500 or US487 per month), the of 900 square feet) in 4-story, low-rise buildings.110 per unit economic cost of the Hiyaa is MVR 489,000 Hulhumalé Phase 2 (Hiyaa) was even more ambitious or US$31,800, accounting for 39 percent of the total in scale: 6,720 housing units were built in 16 blocks combined cost of construction, infrastructure, and of 25-story high-rises, but the units were smaller refinancing. If land were to be included in the total (2-bedroom units of 550 square feet). To purchase cost, the subsidy would be 69 percent of the unit cost. their flats, Phase 1 beneficiaries pay MVR 7,000 or This subsidy calculation excludes other potential costs US$455 monthly over 25 years to HDC, whereas to the government to finish the project for livability, Phase 2 beneficiaries pay MVR 7,500 or US$487 cash flow reduction due to the high delinquency rates, monthly111 over the same period. This chapter focuses repair and maintenance costs,113 and refinancing on the efficiency and effectiveness of this Rent-to- costs due to HDC’s tight cash position. Own scheme in providing affordable housing, as its shortcomings are the principal driver of the high fiscal burden of public housing in Maldives. Figure 66: The Hiyaa project effectively costs the government at least US$31,800 per unit (excluding 114. The Rent-to-Own projects have cost the land costs) government a significant amount of public Per uni Cost of Hulhumale 2 Project to GoM resources. The estimated combined cost for the Hiyaa project is MVR 10.5 billion or US$679 million, as laid out in Table 8 (12 percent of 2019 GDP). This works out to about MVR 1.6 million (US$101,000) per unit,112 or MVR 1.3 million (US$82,000) per unit excluding the land cost. To finance this, HDC contracted several expensive loans from external creditors such as Credit Suisse and ICBC, as detailed in section 4.2 and in Annex 4. Source: World Bank staff estimates 110 Of these, 2,100 remain on the HDC’s books as loans, with a small portion of units kept as rental stock for employees of service providers. The remaining 900 have been fully paid and ownership has been transferred. 111 Monthly rental was initially set at MVR 15,000 for the first five years and MVR 10,000 for the subsequent 20 years, but the rates were lowered following protests from tenants. Residents also pay a monthly maintenance fee of around MVR1,000 or US$65. 112 The project is referred to as the 7000-unit project, although the actual final unit count is 6,720 units. 113 HDC levies a monthly charge of between MVR 1,200-1,500 (US$78-97) for operational and maintenance costs. However, these amounts barely cover structural maintenance and do not include the cost of servicing amenities (e.g. elevators and security). To cover the full costs, this amount should be closer to MVR 2,500 (US$162) per month. Maldives Public Expenditure Review: Restoring fiscal health Page 57 116. Despite the high cost, Hiyaa units have not loan and has no prerogative over households’ been completed to a satisfactory standard, selection. While loans are evaluated by HDFC incurring further costs for the government. The based on information received by MNPHI, HDFC Hiyaa project has several design weaknesses. First, representatives interviewed for the WB MUDRP the 25-story high-rises are an unusual building study (2020/2021) acknowledged that this typology in Maldives, where households typically live information is often incorrect and/or unverified. in low-rises or single-family homes. Second, each of As a result, loan delinquencies are high (between the 16 housing towers only consists of four small 15 to 20 percent of all loans) and are expected to elevators with narrow lobby areas to serve more than trend further upwards over time. The outstanding 400 units, leading to congestion during peak hours. commercial and residential delinquencies HDC incurred additional costs to extend the lift lobby amount to about MVR 300 million (US$19.5 areas in several towers.114 Third, many units have also million). Although the law and several court been left unfinished, with beneficiaries expected to decisions state that the HDC has the right to evict complete the remaining work at their own cost.115 households who are delinquent, eviction is not BML provided home improvement loans up to MVR enforced. Rather, HDC’s short-term solution is to 150,000 (US$9,740) to enable households to finish reschedule the payments. and furnish their new flats, but it is unlikely that all ii. Second, significant delays in the completion beneficiaries will be able to afford the additional and lease-up of units increase total expense.116 development costs. Housing developments built 117. All in all, Hiyaa has exacerbated HDC’s financial through the Rent-to-Own Program, especially vulnerabilities. HDC has faced cash flow shortfalls those in the outer atolls, have faced lengthy that endanger the long-term financial sustainability delays through construction and lease up. The of the Hulhumalé Phase 2 project. In 2019, HDC took reasons, as highlighted by respondents to the WB four loans totaling US$40 million to refinance the MUDRP study (2020/2021), include changes in project’s interest and principal repayment obligations. administration and project management issues The pandemic has added to HDC’s financial hardship, leading to delays in construction completion. and its cash ratio has been severely constrained due These delays are considerable: lease-up took to the shortfall in revenues.117 The company is also two years in Addu, six years in Thinadhoo, and at risk due to the long delays in project lease up (see six to seven years in Kulhudhuffushi. The lengthy Section 4.3.2), as HDC absorbs all risks once units are allocation process has degraded the quality of built (developers are paid upon project completion housing units, which were left vacant for years. and pre-lease up). As noted in Section 4.2, there is As a result, beneficiaries were forced to pay for a mismatch between the lengthy repayment period repair and renovation work when they moved in. and low monthly repayments, and the high cost of servicing debt in the short and medium term. 118. Other weaknesses in the design of the Rent- to-Own scheme have driven up its costs: i. First, the lack of income verification affects the financial sustainability of the program. In selecting households for the Rent-to-Own scheme, MNPHI does not assess a household’s repayment capacity and therefore cannot ensure that selected households will regularly pay the social housing rent. HDC is only servicing the 114 Source: https://psmnews.mv/en/97347 115 According to The Edition, June 25, 2020, “PPM's administration had initially planned to distribute the Hiyaa apartments to recipients without completing the finishing works, such as installing doors and lights, painting and tiling the walls and floors.” In normal residential development, anything that is necessary to achieve a Certificate of Occupancy or its local equivalent would be considered essential, and ‘finishes’ would cover only: (a) amenities not necessary for the CO (e.g., a dishwasher or refrigerator); or (b) upgrades from the basic standards (for instance, a granite countertop instead of Formica or wood). Considering tiling or doors as ‘finishes’ is unusual (at best), and supervisory negligent at worst. 116 As noted in the Bank of Maldives, July 2021. 117 Based on HDC’s Q1 2021 financial statement. Maldives Public Expenditure Review: Restoring fiscal health Page 58 4.3.2 Is the Rent-to-Own program effective? 119. Despite the government’s considerable result, the Rent-to-Own scheme does not effectively financial investment in the Rent-to-Own scheme, target those who are most in need of public housing its effectiveness has been marred by poor support. targeting of beneficiaries. To select recipients, the 122. Furthermore, most public housing government scores applicants based on the number beneficiaries are dissatisfied with the outcomes. of their dependent children, current living conditions According to the WB MUDRP study (2020/2021), (e.g. the number of bathrooms/rooms versus the 72 percent of all respondents who participate in number of people residing in the household), and the Rent-to-Own scheme are dissatisfied with their whether applicants already own other housing and homes. There are several reasons for this: land.118 This eligibility criteria does not filter out higher-income earners, resulting in a huge housing i. The poor construction quality of many public application backlog (as almost everyone is eligible to housing units, coupled with the lack of apply). Moreover, confirming households' declarations maintenance, have led to substandard living of their living conditions is a costly and lengthy conditions for program beneficiaries. In focus process that requires resources. Since the number of group interviews of Rent-to-Own beneficiaries applications has significantly outpaced the number of for the WB MUDRP study (2020/2021), many available social housing units, the verification process residents highlighted the poor construction leads to delays in the selection process. quality of units (e.g. loose floor tiles, plumbing issues with sinks and toilets, water leaks). These 120. Similarly, the Hulhumalé Phase 2 (Hiyaa) issues present health and financial hazards to project prioritizes specific demographic and job beneficiaries, who are often forced to relocate categories, rather than income. Thirteen categories or use their limited funds to repair their homes. of applicants were prioritized to receive Rent-to- Moreover, most residents residing in these units Own housing under the Hiyaa project. Among these stated that they do not know whom to approach groups were civil servants, married people between with maintenance issues. Island councils who the ages of 18 and 35, and Malé residents which had are responsible for managing housing units in previously experienced issues with public housing the outer atolls do not have the full authority projects. Other categories that received priority were and budget for monitoring and maintaining teachers, single parents, doctors, and nurses. This the program units. There are no long-term practice of prioritizing employment types who are maintenance and redevelopment plans.120 generally in the highest income segment counters the social housing targeting principle to serve those most ii. Lack of minimum safety guidelines or design in need of government support. As a result, Hiyaa has standards: According to interviews for the WB not served the neediest households or those with MUDRP study (2020/2021), beneficiaries living limited capacity for self-built housing. in Greater Malé region have experienced theft, vandalism, and misuse of public spaces, which 121. Residency verification is not monitored after often lack security personnel or services. As a lease-up. By law, beneficiaries of public Rent-to-Own result, many beneficiaries reported feeling unsafe units in Hulhumalé cannot sublease or resell their in their own homes. Similarly, in the atolls, Rent-to- units until they have fully paid for their flat. However, Own developments have been built on reclaimed according to several stakeholders119 interviewed for land located far from existing residential areas the WB MUDRP study (2020/2021), sub-leasing social and lack supporting facilities, security services, housing units at higher rental prices is a common or safety features such as proper lighting and practice in Maldives. Neither HDC nor MNPHI have surveillance of public spaces. created systematic monitoring processes to verify that initially identified beneficiaries are still living in iii. Lack of consultation: According to focus group the units. Due to the lack of a systematic monitoring interviews conducted for the WB MUDRP study process, the extent of subleasing is unclear. As a (2020/2021), existing Rent-to-Own housing 118 Eligibility criteria provided by MNPHI (2020). 119 This included interviewees from HDC, participants in focus group discussions and landowners. 120 According to some respondents from the Sinamalé flats (established in the Greater Malé region in 1990), the government promised beneficiaries new units after the development reached its useful life. However, there is no written evidence of such an agreement, nor a clear redevelopment plan.121 Source: https://psmnews.mv/en/98881 Maldives Public Expenditure Review: Restoring fiscal health Page 59 projects do not address preferences and weather residents from Naifaru and Kulhudhuffushi considerations regarding the design of units. expressed concerns that public housing units This includes building orientation and window in their atolls are located close to the shoreline placements to avoid the impacts of high wind and a wetland area, respectively. The precarious and rain during the monsoon season, as well as location of these housing units is exacerbated by household preferences for bathroom and kitchen the risk of rising tides. locations. The projects also do not adequately take climate risk considerations into account: 4.4 Spending more will not necessarily help the government solve housing problems 123. The Government of Maldives has directed a costs, monitoring and evaluation data are not significant amount of resources to the challenge centralized nor easily accessible across the of delivering affordable housing, but so far different key housing stakeholders (i.e., MNPHI, fallen short of its goals. Among the key constraints MoF, HDC, FDC, HDFC, island councils, etc). The that hinder the efficient and effective delivery of absence of data consolidation on a project-by- government housing expenditures are: project basis precludes the government’s ability to assess: (i) the inherent cost of the project; i. Weak institutional arrangements and capacity: (ii) the level of subsidy/support per project, per HDC, FDC and local councils do not have the unit, and by income segmentation; and (iii) the adequate ability to plan, design, source funding, performance of the project and how to improve. A target, implement and monitor social housing transparent monitoring process of public housing projects. Starting from 2021, FDC was supposed programs could lead to more timely adjustments to replace HDC in social housing provisioning. to improve program implementation. As a new institution, FDC lacks the capacity for iii. One-size fits all housing strategy: Until recently, housing development and management which 90 percent of public funding in the housing sector HDC has built up over the last 20 years of has been directed to the Rent-to-Own Program in operations. Further, the risk of duplications and Hulhumalé at the expense of other housing needs. administrative overlap between HDC and FDC is Households have diverse preferences of housing still present, especially in Hulhumalé. Ultimately, types (ownership, rental, rent-to-own, housing the poor coordination and weak technical upgrade/expansion, etc.), locations (Greater Malé development and implementation capacity of vs. other atolls), income, and employment type the key housing stakeholders will remain key (low-mid-high income; salaried/non-salaried). challenges that will impact the performance and The current administration’s decentralization results of social housing programs. agenda requires a more nuanced housing policy ii. Lack of an integrated housing project data that includes comprehensive planning for these system: The basic data and information on diverse needs. The government has announced public housing projects such as construction a plan to build 1,575 units in 14 atolls starting start/completion date, target units/completed in 2022,121 but it is unclear whether this plan is units, budget versus actuals, construction adequate to meet the housing needs in the atolls. 4.5 How can the government achieve its housing policy goals without jeopardizing fiscal and debt sustainability? 124. The discussion has illustrated that Maldives’ than take on more costly external debt to finance public housing expenditure – mostly financed large-scale Rent-to-Own programs, the government through expensive external debt – has not helped could undertake three sets of reforms to address the government meet the SDG goal of providing institutional and organizational gaps that significantly adequate, safe, and affordable housing. Rather impact the provision of social housing in Maldives. 121 Source: https://psmnews.mv/en/98881 Maldives Public Expenditure Review: Restoring fiscal health Page 60 These are divided into three categories: (i) policy the implementation of housing policies and programs; reforms to improve the targeting of beneficiaries of and (iii) investment and management reforms to affordable housing programs and land use planning/ attract more private participation in the housing policies; (ii) enabling environment reforms to improve sector. Pillar 01 – Land and housing policy reforms 125. Income-based targeting of public housing the existing legal and regulatory framework is crucial. scheme beneficiaries: Improved targeting in all social A set of new regulations, including a new Land Law, housing programs is critical to improve the efficiency Building Code, and Tenancy Act have been either and effectiveness of public spending in the housing adopted or are being drafted, but have not yet been sector. While the draft National Housing Policy implemented as at the time of writing. (dated July 2020) provides a better definition of low- 127. Land rationalization: The key to an effective income housing and a clearer understanding of the and sustainable public housing policy is a successful targeted segments for future public housing (Table land policy. Along with the allocation of land which 9), implementing the policy would require better has been neither strategic nor economic, the weak mechanisms for verifying income. To avoid sub-leasing land data management and the lack of a secondary of public housing and to ensure an exit strategy for land market in Maldives have affected land-related households who are no longer eligible for a housing decision-making processes and the development of subsidy, the government could ensure that targeting a commercial real estate market. It is essential that and income verification occurs at the time of original MNPHI establish an improved land data management purchase or rental move-in and at regular intervals. system and help improve the capacity of local councils Annual home visits and income recertification would to design and implement strategic land policy and help to confirm that beneficiaries continue to reside land use plans. in the unit. 126. Legal and policy framework reform for housing: A fair, transparent, and predictable legal and regulatory framework for housing is a critical determinant of investment decisions for both public and private sector stakeholders. Hence, improving Table 9: Housing programs need to be better targeted based on income Income segment Monthly Rent/Loan Property Value (monthly income in Housing typology Repayment (MVR) MVR) Council Housing Free or Subsidy 755,580 Below 15,000 Affordable Housing 8,600 to 13,000 1 million to 1.5 million 15,000 - 25,000 Mid-range 13,000 to 23,8000 1.5 million to 2.5 25.000 - 45.000 million Source: MNPHI Malé Region Housing Need and Demand Assessment Maldives Public Expenditure Review: Restoring fiscal health Page 61 Pillar 02 –Improve the enabling environment for program implementation 128. Reform institutional arrangements to allocation according to local development needs develop distinct mandates for HDC and FDC. (e.g., releasing public land in stages, or bidding it out To address the institutional efficiencies described through an auction process to private investors). earlier, the government could establish clear mandates for key institutions in charge of housing. 129. Develop an integrated housing data system Rather than splitting these by housing typologies for policy making and project monitoring. A and income segments (social housing for FDC and healthy housing market benefits from an integrated market-priced housing for HDC), the distinction housing data system that allows public and private between the two state-owned agencies could be stakeholders to quickly assess market needs and find based on their roles: the most efficient ways to fulfill them. Such a system would include data on consumer housing needs and • HDC could continue as housing developer, a demand (by location, income, and employment), role it has been playing in Hulhumalé for the past construction updates, home price trends, and 20 years. HDC’s stronger balance sheet would rental data. Access to reliable and timely housing- also enable it to better manage external debt related data can help Maldives to develop targeted funding and develop mixed-income and mixed- regulations and policies, monitor the effectiveness use housing, including under a public-private of public housing programs, and accelerate private partnership (PPP) model. sector investments. • FDC could take on the ‘post-offtake’ 130. Strengthen private sector engagement ownership role and become the property in housing. The private sector can play a more manager for affordable housing projects, which prominent role in the development of affordable would significantly improve its rental cash flows housing, both on the supply and demand sides and quality of public housing assets. It could (Figure 67). Currently, Maldives’ commercial banks cement joint ventures with international property have limited risk appetite to provide construction managers to build capacity and implementation financing to developers/contractors and mortgages know-how. for low-income and non-salaried workers due to their • As for land use and allocation, HDC has internal limiting guidelines and capital requirements. undertaken this role for Hulhumalé and The government can explore the use of incentives could potentially do it for the entire country, and technical assistance to support banks in reaching with decentralized agencies or branches in the informal and low-income segment. These could different atoll regions or islands. HDC could include: (i) co-investing in mortgage (credit loss) support other housing agencies and/or local guarantee schemes; (ii) developing alternative credit councils in engaging more proactively in land scoring for informal and low-income workers in markets in the atolls, helping them adjust land partnership with financial technology companies to Figure 67: Better collaboration between different actors and more engagement with the private sector could yield better results for affordable housing policies and programs Source: World Bank Maldives Public Expenditure Review: Restoring fiscal health Page 62 improve underwriting capacity; and (iii) exploring aspects into the design structure, engineering, innovative loan products such as incremental housing construction, materials, monitoring and certification loans that better meet the needs of the consumers. of housing units. In the medium to long term, the Moreover, addressing the lengthy foreclosure process process of ‘greening’ upstream land use planning, is key to ensuring that the banking system can manage regulations, land tenure, building codes, and building losses in the event of a default. approval processes would further promote resilience in housing and buildings. Alternative construction 131. Strengthen disaster and climate-resilient technologies that support climate-smart embedded building practices, especially in the housing construction materials can also be explored for the sector. Despite its high vulnerability to climate change, market; however, these materials may not necessarily Maldives currently lacks a comprehensive framework bring down the total costs. for resilient building practices (construction permits, code compliance monitoring and green construction 132. Develop a long-term savings program, guidelines and certification). While the MNPHI especially for low-income households. A financial issued the Construction Act in 2017, much more literacy program can increase Maldivian households’ work is needed to ensure proper compliance with financial knowledge and skills, while a savings regulations, standards, and procedures. For public program designed specifically for homeownership can housing specifically, the government can further encourage households to save for a down-payment collaborate with the private sector to ensure the to obtain access to affordable housing. inclusion of code-compliant and climate-smart Pillar 03 – Investment and management 133. Optimize the implementation of the Rent- criteria based on beneficiary income to enable a to-Own program and consider a mixed-income, more progressive level of subsidy support. For mixed-use, PPP model: As previously outlined, the example, middle-income earners can be given the Rent-to-Own model faces significant challenges, option to purchase their homes with a mortgage including the lack of financial sustainability, targeting loan and subsidy,122 while low-income earners can issues, and weak design and implementation. Three progress through different rental payment levels ways to optimize this program are: in line with their capacity-to-pay. The government needs to reassess the targeting and eligibility i. Improve capacity to manage properties: criteria, and establish a comprehensive repair Rental property management requires specific and maintenance plan and budget. Regarding knowledge and processes which are currently the latter, a clear delineation of the roles and missing from the Rent-to-Own housing program. responsibilities for both government and the The government could consider establishing a tenants are required. joint venture between FDC and an international non-profit housing entity so that FDC can learn iii. Use of public-private partnerships (PPP) to and implement property management skills and develop mixed-income housing: Although not processes. This would enable public housing without its risks, PPPs are a mechanism that assets to be better managed, including through can help Maldives to engage a broader range of better targeting of beneficiaries and on-time private sector developers in the housing sector, rental payments. potentially increasing efficiency and economies ii. Redesign the rent-to-own product: Currently, of scale. New housing PPPs would create the the shorter-term capital funding for the opportunity for a proof-of-concept laboratory to development of rent-to-own housing units is develop demand-side products (loans, savings constrained by the longer-term 15 to 25-year programs, down payment assistance, others) Rent-to-Own Program repayments. Incentives that are compatible with supply-side initiatives. between residents and the government ought to The PPP model would also allow various offtake be better aligned to improve the program’s fiscal solutions within one development to increase sustainability. This can be done by redesigning the financial viability and to promote mixed 122 Various subsidy instruments can be considered such as down-payment assistance and interest buy-down Maldives Public Expenditure Review: Restoring fiscal health Page 63 communities. However, PPPs are not without while partnering with non-profit housing agencies their fiscal risks (see Box 5) and are not a for rental management. As previously noted, many guaranteed mechanism to reduce the costs Maldivian families cannot afford to rent homes of building affordable housing in Maldives. without pooling incomes in the Greater Malé region. As highlighted earlier on, establishing a legal Rather than solely promoting home ownership, the and regulatory framework to monitor PPPs government could provide a rental subsidy to these and ensure adequate risk sharing is critical households and create permanent rental housing. to maximizing their benefits while minimizing The government could also leverage domestic or their costs. international housing non-profits with the capacity to manage permanent affordable rental housing 134. Tailor land and housing interventions to play a more prominent role. This would enable according to location. The multiplicity of situations the government to disassociate itself from the role that exist across the atolls requires diverse of collection agent, reduce moral hazard, and thus strategies for land use, management, and housing reduce the currently-high delinquency rates in public development. In the Greater Malé region, large- housing schemes. scale housing PPPs can be considered, provided that the requisite institutions and framework to implement and monitor PPPs are set up by the central government. The central government could also partner with Malé City Council to support housing projects by developers and small owner- occupants who wish to redevelop their plot of land. In urbanizing islands,123 the government can consider developing small housing PPPs and providing block grants to support community projects. Again, as noted in Box 5, PPPs are however not a silver bullet and would require considerable capacity building to monitor and manage fiscal risks. In smaller islands, the government could accelerate the implementation of Gedhoruveriya and provide technical assistance for self-built and housing retrofits. 135. Reform Gedhoruveriya (self-construction housing loans in the atolls) to address the high rate of NPLs. To improve the targeting of the program, the government could consider adopting income verification and loan underwriting guidelines and processes. To further address the risk of borrower defaults, alternative schemes such as incremental loans and community cross-guarantee schemes can be implemented. Furthermore, the government could provide technical assistance to households and contractors to ensure greener, resilient, and good quality construction. ` 136. Create permanent affordable rental stock 123 These are regional hubs stipulated by the Maldives National Spatial Plan 2020–2040. Maldives Public Expenditure Review: Restoring fiscal health Page 64 Box 5: Public-private partnerships can deliver affordable housing, but they are not a silver bullet PPPs can help governments provide affordable housing financial systems are insufficiently mature to facilitate without overly burdening public finances. In the implementation or to reduce the costs and risks for the housing sector, a PPP is defined as “a partnership between private sector to deem them viable/profitable. Moreover, the public and private sectors, established through a some PPPs have ended up continuing to rely heavily upon contractual relationship which seeks to access private government land, subsidies or guarantees, making it sector finance, design, construction, commercialization, questionable whether the private sector has taken its fair maintenance or operational management for the delivery share of risks and whether the deal has maximized value of affordable housing, and, in some cases, ancillary for money. services”. The public sector contribution can occur in the Housing PPPs are therefore not silver bullets. form of cash or equivalents such as land, development Governments must first identify the key constraints in rights, revenues generated from land, infrastructure the enabling environment (policy, legal/regulatory and and building assets, taxation relief and/or a share in the administrative) along the housing value chain. By removing/ equity generated over a fixed period. The private party’s reducing these constraints, the market as a whole will remuneration is typically linked to performance. benefit from more private sector entry/competition. Where effectively used in the affordable housing Establishing the necessary institutional mechanisms to sector, PPPs can help the government transition manage and monitor the implementation of PPPs, for from “government as builder” to “government as example through the recently-established PPP unit in the enabler and regulator”. PPPs can transfer risk to the Ministry of Finance, is therefore a prerequisite to embarking most competent party, control project costs throughout on such projects. In the short-term, the government can the project life cycle, and harness the private sector’s ensure that the procurement process for public housing experience and efficiency in delivering infrastructure projects allows for better transparency and screening of projects. However, PPPs in emerging economies often contract awardees and involves the community in project fail because the institutions and supporting legal and design. Source: World Bank 2020c. Maldives Public Expenditure Review: Restoring fiscal health Page 65 CHAPTER 5 Public Sector Wage Bill Summary Like other small island developing states, Maldives spends a lot – about half a billion dollars annually – on public sector salaries and allowances. While there is no international benchmark of the ‘ideal’ size of the wage bill, this component of expenditure may be crowding out other priorities as it takes up 40 percent of revenues and a third of the budget. Beyond affordability concerns, there is extreme pay variance across the public sector, especially in the distribution of allowances which make up half of total compensation. Public sector employees also earn 40 percent more than comparable private sector equivalents when looking at hourly take home pay, which may be leading to distortions for private sector job creation. Given the importance of the public wage bill – not only to fiscal sustainability but also to service delivery – the government may want to consider setting a wage bill target, strengthen wage bill controls and continue to pursue other reforms124 to make the wage bill more equitable, transparent, and sustainable. 5.1 Introduction 137. Public sector wage bills have come under 2020, representing an estimated 54 percent of the pressure during the COVID-19 pandemic. The total public sector wage bill (see Annex 5a).126 The large global economic shock from the COVID-19 analysis excludes most atoll- and island-based public crisis led governments to tread a difficult balance employees whose information was not included in between fiscal consolidation with the need to procure the SAP at the time of writing,127 as well as 21,000 additional resources to save lives. Governments have employees of SOEs128 whose compensation is had to increase staffing and compensation for certain governed separately. critical functions in health and disaster management, 139. A broad framework is used to assess wage while decreasing them in other non-essential roles. bill management, which is a more comprehensive In Maldives, the sudden stop in tourism inflows in concept beyond the standard recommendation 2020 – and the resulting deep economic contraction to simply cut the wage bill. Wage bill management – forced the government to temporarily slash salaries refers to a strategic, purposeful coordination of of political appointees and employees of state- resources to meet specific wage bill objectives. owned enterprises, while expanding expenditures Five key principles are evaluated: (i) affordability; (ii) on front line healthcare workers.125 Nonetheless, transparency; (iii) fairness; (iv) competitiveness; and pre-pandemic concerns about fairness and fiscal (v) institutional coordination (Table 10). These key sustainability of the wage bill persist. principles are interdependent and there may be 138. This chapter illustrates several structural tension among them as policies, the economy, and challenges in Maldives’ central government wage other circumstances change. For example, a non- bill. The analysis uses aggregate data from official transparent wage bill can affect fairness, or a non- publications and a cross section of detailed micro- competitive pay system can affect affordability. By level payroll data provided by MoF. The microdata emphasizing management, the focus is on addressing comprises 26,063 Malé-based public employees the underlying structural issues that contribute to who were registered in the central government’s inefficiencies and inequality. central SAP payroll system as at end-November 124 This chapter was completed before the introduction of a new Public Service Pay Framework in May 2022. As the team was not able to access drafts of the document, the chapter does not reflect these reforms. 125 The cuts were on a sliding scale: (i) 25 percent reduction in wages for those earning MVR 20,000-25,000; (ii) 30 percent for those earning MVR 25,000- 60,000; and (iii) 35 percent for those earning above MVR 60,000. Employees earning less than MVR 20,000 were not affected. Wages were reinstated at the end of 2020. 126 153 employees were removed from the analysis due to repeat or blank Personal ID Numbers. 127 While the MoF provided some supplementary data on atoll-based public employees, it only contained information for health and education employees, and excluded the main allowances (overtime and holiday allowances). 128 General SOE employee compensation is determined by the respective Boards of Directors. For the Managing Director and Board members, the PCB within MoF issues guidelines for their compensation. Maldives Public Expenditure Review: Restoring fiscal health Page 66 Table 10: Wage Bill Management Framework Principle Question Affordable Is the wage bill affordable and sustainable, or does it crowd out other critically important expenditures? Is the wage bill transparent and simple? Does the base salary equal at least 80 percent of total take Transparent home pay? Fair Does the principle of equal pay for equal work apply? Competitive Is public sector compensation commensurate with private sector wages? Institutional Coordination Is there institutional coordination in wage bill management across the whole of government? 140. There is also a sixth principle, performance, the distribution of health care staffing, investing in which is beyond the scope of this chapter. The better equipment, or employing new technologies wage bill can be considered as an input to productivity such as telemedicine may deliver a higher return (see growth, as the employees are hired to perform certain Chapter 2). An in-depth human resource management functions and deliver certain services. If the intent is review could shed further light on public sector to improve health outcomes, hiring more doctors and performance, although better data on outputs and nurses – and thus increasing the health sector wage outcomes, especially in the atolls, would be needed bill – may not be the best response. Rather, reviewing (see Chapter 2 and World Bank 2021d). 5.2 Is the wage bill affordable? 141. About a third of Maldives’ annual budget – spending indicates a high level of budget rigidity, about half a billion dollars – goes to public sector which implies that the government has little room to salaries and allowances. Over the past decade, adjust expenditures in a crisis (see section 1.2). About Maldives spent an average of US$433 million annually 40 percent of total revenue collections (excluding on the salaries and allowances of public sector grants) go towards the public sector wage bill, rising employees (Figure 68). This is equivalent to 11 percent to 57 percent during the COVID-19 pandemic in 2020 of GDP or a third of total expenditures. The wage bill is (Figure 69). This means that the size and trend of the typically the largest share of government expenditure, wage bill has a significant impact on the fiscal balance, except between 2016-2018 when it was second to public debt levels, and other indicators of macro-fiscal capital expenditures (Figure 69; see also Chapter 2). stability. The large proportion of the wage bill in total public Figure 68: Maldives spends about 11 percent of GDP or half a billion dollars annually on the public wage bill Left axis: US$ millions, right axis: share of GDP, percent Source: MoF, staff calculations Maldives Public Expenditure Review: Restoring fiscal health Page 67 Figure 69: About 40 percent of total revenues Figure 70: Real growth in salaries and allowances excluding grants goes towards the wage bill have outpaced real GDP growth Share of total, percent Year-on-year growth in real terms, percent Source: : MoF, staff calculations. Source: MoF, staff calculations 142. The public wage bill has grown faster than 143. Maldives’ wage bill is higher than other the economy. Between 2012 and 2019 the wage income and regional peers as a share of GDP, but bill grew at a compound average annual growth rate is comparable to other small island developing (CAGR) of 7.3 percent in real terms.129 This outpaced states. Looking at 2017–2019, Maldives’ public wage real GDP, which expanded 6.1 percent annually on bill as a share of GDP (9.6 percent on average) is average over the same period (Figure 70). Allowances significantly higher than the average for other upper have grown faster (with a CAGR of 7.9 percent over middle-income countries and for the South Asia the same period) than basic salaries (with a CAGR of region; however, it is within the middle range of other 6.9 percent). While basic salaries were temporarily SIDS (Figure 71). As noted in Chapter 1, small states reduced for certain public servants in 2020 due to are unable to benefit from economies of scale in the pandemic, resulting in muted real growth of 2.2 the public sector, which provides minimum functions percent, allowances continued to grow by double digits and basic services regardless of population size (14 percent). This reflected the payment of additional (Horscroft 2014). Basic services, such as health care overtime and other compensation allowances to front and education, must be provided in all locations line workers.130 All in all, Maldives’ wage bill has nearly despite the costs. That is why most small island states, doubled in real terms over the past decade. including Maldives, have relatively large public wage bills. Figure 71: Maldives’ wage bill is on par with small Figure 72: …but higher than most peers as a share of island peers as a share of GDP… total revenues. Share of GDP, percent Share of total revenues excluding grants, percent Source: World Bank WDI. Data refer to average of 2017-2019. Source: World Bank WDI. Data from 2017-2019. Note: Unweighted averages of upper middle-income countries and South Note: Unweighted averages of upper middle-income countries and South Asia, excluding Maldives. Asia, excluding Maldives. 129 Deflated using the Consumer Price Index (August 2019=100). 130 According to 20222024 Fiscal Strategy, wage expenditures increased in the first half of 2021 “as the previously discontinued frontline allowance for workers engaged in the Covid-19 response was reinstated due to the emergence of new waves of Covid-19, and due to additional staffing for MPS [Maldives Police Service], MNDF [Maldives National Defense Force] and the education sector.” Maldives Public Expenditure Review: Restoring fiscal health Page 68 144. However, looking at wage bill as a share of 146. However, controlling the growth of the revenues, Maldives’ wage bill is higher than other wage bill is important in the current context. upper middle-income and most small island While Maldives is recovering robustly from the peers. The wage bill as a share of domestic revenues pandemic, several factors have exacerbated wage can often provide a better barometer on the fiscal bill management challenges. First, the minimum sustainability of the public wage bill as this metric wage has started to be implemented since January illustrates the real pressure on government finances. 2022, which is expected to lead to an increase in the In this case, Maldives is significantly above the upper public wage bill by 13 percent in 2022. Second, the middle-income country average and on the higher government has begun to implement a new public range of SIDS. Even before the pandemic, in 2019, it sector pay framework starting in May 2022. The pay spent 38 percent of total revenues (excluding grants) framework aims to harmonize public sector salaries on the public wage bill (Figure 72). and tackle the pay inequities highlighted in this chapter, but it is expected to result in a large, one-off 145. There is no ideal threshold for the size of the increase in the wage bill. Third, the uncertain global wage bill expressed as a share of GDP. This cross- environment and the increase in global fuel prices due country comparison provides only a snapshot in to the Russia-Ukraine war has put further pressure time and does not on its own indicate good or bad on public finances. To prevent any additional shock performance, nor whether this level is sustainable.131 from causing the wage bill to be a source of fiscal Furthermore, there is no international consensus on instability, Maldives needs to ensure that the wage the “right size” of the public wage bill. Countries differ bill is prudently managed to contain its future growth, by the size of their revenue base, the nature of the while also addressing the underlying issues that have economy, and the effectiveness of governance, and caused inequities and inefficiencies in public wage bill smaller states tend to have larger governments. A management. large wage bill to GDP ratio could be sustainable if a country has a large revenue base, ample fiscal space or highly effective governance. Denmark, for example, regularly has a wage bill ratio exceeding 20 percent of GDP, but satisfaction with public services is among the highest in OECD countries (OECD 2019a). 5.3 Outsized role of allowances 147. The transparency of Maldives’ public wage COVID-19 pandemic. This proportion is significantly bill system could be significantly improved. A higher than international norms. In most OECD transparent public wage system is the basis for countries, the base salary accounts for at least 80 horizontal equity, predictability, and facilitates wage percent of total compensation, with the remainder bill management and control (van Acker and Hasnain made up of allowances (World Bank 2020b). Basic 2019). A simpler pay system with fewer allowances salary is prioritized because it should capture the level leads to more transparency, which in turn promotes of qualifications, experience, responsibility, and risk horizontal pay equity (where public employees are required for each job. In turn, allowances should only paid the same amount for the same job). A simpler exist to supplement the basic salary for very specific and more transparent wage bill system also improves or short-term reasons. This is not the case in Maldives, the accuracy of wage bill growth forecasting, which where allowances play an outsized role. can better inform policy decisions and trade-offs. 149. There are currently 54 different allowances 148. Currently, nearly half of compensation is from in Maldives, which is high by international allowances (Figure 73). The share of allowances in standards. While the number of allowances is high, total compensation averaged about 43 percent of only 9 allowances contribute more than 1 percent total compensation between 2014 and 2019, and each to the total wage bill (Figure 74). The largest increased to 47 percent132 in 2020-2021 due to allowance was the Service Allowance (18 percent), higher payouts of the overtime allowance during the followed by the Exclusive Job Allowance (8.5 percent), 131 For example, in a sample of Europe and Central Asia countries, Eckardt and Mills (2014) found there to be a weak, but insignificant relationship between the level of wage bill spending and the fiscal balance, both measured as a share of GDP. 132 For Malé-based employees, the proportion of allowances was even higher at 50 percent on average from 2014-2019, increasing to 54 percent of total compensation in 2020. Maldives Public Expenditure Review: Restoring fiscal health Page 69 Figure 73: Allowances make up nearly half of total Figure 74: There are 54 different allowances in compensation Maldives Share of total compensation, percent Share of the total wage bill, percent Source: : MoF, staff calculations Source: SAP Payroll database for Malé-based public employees, staff calculations Figure 75: Allowances form part of almost every employee’s compensation Share of all employees receiving 0-11 allowances, percent Source: SAP Payroll database for Malé-based public employees, staff calculations Table 11: Compensation from allowances increases in tandem with basic salaries Basic Salary (MVR) Number of Employees Average Allowances (MVR) 0-10000 20,333 8,479 10000-20000 3,169 12,562 20000-30000 294 13,143 30000-40000 178 14,747 40000-50000 130 31,662 50000-60000 10 27,418 70000-80000 1 0 90000-100000 1 0 Grand Total 24,116 9,250 Source: MNPHI Malé Region Housing Need and Demand Assessment the Overtime Allowance (6.9 percent), and the Living 150. Allowances form part of almost every Allowance (6.3 percent). Conversely, there are 45 employee’s compensation. Only 1.2 percent of allowances that collectively contribute only 7.2 percent employees did not receive any allowance (Figure of the wage bill, which suggest that many allowances 75). Conversely, 64 percent of employees receive are only received by a select few individuals. The high 4 or more allowances. One employee received 11 number of allowances contributes to pay inequities, different allowances, which accounted for 66 percent discussed below. of their total compensation. In addition, total monthly Maldives Public Expenditure Review: Restoring fiscal health Page 70 compensation from allowances increases in step 151. Allowances, however, are not distributed with increases in basic salary. For example, while evenly. For example, in the job title of “teacher”,133 employees who earn a monthly basic salary of MVR there were 661 permanent employees134 that averaged 10,000-20,000 (US$650-US$1300) receive an average MVR 4,813 (US$312) in monthly allowances. Within allowance of MVR 8,402 (US$546), employees whose this unique job category, three teachers received zero monthly basic salary falls in the MVR 40,000-50,000 allowances, while nine teachers received 5 allowances (US$2,600-US$3,250) receive an average allowance that collectively averaged MVR 9,192 (US$597) of MVR 30,923 or US$2,008 (Table 11). Allowances additional monthly salary per employee (Figure 76). also differ across payroll areas: civil servants receive For permanent teachers in the same job title with the an average of MVR 5,933 (US$385) per month in total same job responsibilities, each additional allowance allowances, whereas personnel of uniformed bodies adds an average MVR 1,700 (US$110) to take home and politicians receive double this amount. compensation. Whether this difference is warranted and fair is a question that merits further investigation. Figure 76: The number of allowances and total allowances received by teachers vary widely Distribution of teachers according to number of Average monthly compensation from allowances allowances received according to number of allowances received, MVR Source: SAP Payroll database for Malé-based public employees, staff calculations Table 12: New allowances are periodically introduced in Maldives Year Changes to Salaries and Allowances Sep 2009: Pay cuts introduced for 3 months due to the fiscal situation. 2009 Dec 2009: Pay cuts introduced in September are re-established.home pay? April: Salaries and wages that were deducted in 2010 were given back to the staff under the new 2012 administration. July: Bonus given to civil service employees that have maintained a high level of performance in 2013 as 2014 per the performance appraisal framework. November: Service Allowance and Special Duty Allowance introduced. July: Bonus given to civil service employees that have maintained a high level of performance as per the 2015 performance appraisal framework. Note: This is supposed to be given once every 2 years but has not been given since 2015. 2018 February: Technical Core Allowance and Supporting Core Allowance 1 and 2 introduced. January: Salaries and Allowances set for the position of Secretary General (the highest administrative 2020 position in local councils). The salaries and wages are set by the National Pay Commission. April: The Parliamentary Committee on Public Accounts approved a new pay structure for local 2021 councilors. Source: Source: Local consultations and circulars issued by Maldives Civil Service Commission 133 Teacher is a unique job title. There were 40 other job titles that also contained the word “teacher”. 134 For all analysis of job categories in this chapter, only permanent employees were considered. Contract, part-time, and temporary employees were omitted due to differences in terms of service and working hours. Maldives Public Expenditure Review: Restoring fiscal health Page 71 Figure 77: The work week for public servants in Maldives is shorter than in EU/OECD countries Number of hours worked per week Source: World Bank. 152. Allowances have played this prominent role in for government employees to spend quality time with part because there is no institutional mechanism their families, to work in the private sector apart from to adjust basic salary. There is no legal requirement the government, and to facilitate youth to be more for the government to make annual adjustments to involved in sports activities, further education and salaries and allowances. In practice, adjustments are technical professions.”136 made in an ad hoc manner, and are often tied to political 154. This shorter work week has created upward commitments. In 2018, the government introduced pressure on the overtime allowance, which two new allowances, the Technical Core Allowance accounts for 7 percent of the total wage bill. As for technical staff (28 percent of basic salary) and the official working hours were reduced, the amount the Supporting Core Allowance for supporting staff of work remained the same. For example, employees (varies from MVR 700-1,500 or US$45-97 per month), who work on shift base duty (such as nurses, doctors, which was the last time there was an adjustment to immigration staff) still operate for 8 hours shifts, civil service wages.135 The previous adjustment to which means that they are now compensated with salaries was made in July 2015 (Table 12). Without an 2 hours at the overtime pay rate137, an additional objective framework to increase basic salary year-to- cost to the budget. With no cap on the overtime year, pressure will keep building to use allowances as allowance, and with the continued need to perform the mechanism to increase remuneration. official duties, 40 percent of Malé-based public 153. The outsized role of allowances has developed employees currently receive overtime (Figure 78). For in part by a reduction in public sector working 16 percent of Malé-based employees, it accounts for hours to only 30 hours per week, which is more than 20 percent of their total salary. In addition, considerably low by international standards (see it is concentrated heavily for employees who earn a Figure 77). On October 1, 2015, the official public monthly basic salary less than MVR 10,000 or US$649 sector working hours were reduced from 35 hours per month, and towards female employees where 50 per week to 30 hours per week. The official release percent receive overtime allowance compared to 33 stated the reduction was “to provide the opportunity percent of males (see Table 13 and Table 14).138 135 The announcement was made via a Civil Service Commission circular, announcing the 6th amendment to the Civil Service Staff Allowances. 136 https://presidency.gov.mv/Press/Article/15989 137 The overtime allowance is 1.25 times an employee’s hourly rate. For overtime performed on Fridays and Public Holidays, the overtime allowance is 1.5 times the hourly rate of an employee’s salary. Source: Maldives Civil Service Regulation 2014. 138 According to the NPC, the overtime allowance will be capped at 10 percent of the basic salary, and can only be claimed after 8 hours of work per day (while the official working duration is still set at 6 hours per day) Maldives Public Expenditure Review: Restoring fiscal health Page 72 Figure 78: Overtime allowance plays an important role for nearly half of all public servants in Malé Y-axis: number of employees; X-axis: overtime allowances as share of total salary, percent Table 13: Overtime Distribution by Basic Salary Table 14: Overtime Allowance by Gender Receive Receive Employees Average Overtime (MVR) Employees Average Overtime (MVR) Overtime Overtime No 14,661 0 Female 9,987 - No 4,626 0 Yes 9,455 2,770 Yes 5,361 2,739 0-10000 8,654 2,650 10000-20000 792 4,052 Male 14,129 - 20000-30000 7 6,142 No 10,037 0 30000-40000 2 3,389 Yes 4,092 2,811 Source for Figure 78, Table 13 and Table 14: SAP Payroll database for Malé-based public employees, staff calculations 155. This short working week has also potentially influence the performance of their official duties facilitated conflicts of interest. According to and responsibilities (OECD 2004). However, Maldives analysis of the 2019/20 HIES, 10 percent of public does not have any conflict-of-interest provisions for employees currently have a second private sector job. civil service employees as per the Civil Service Act or Globally, most governments prohibit public sector regulation.139 employees from working in the private sector to avoid a potential conflict of interest that could improperly 5.4 Same job, different pay 156. The guiding principle of fairness is equal pay excessive pay variation indicates that pay inequities for equal work. Equal pay represents the full range likely exist. In the Malé-based SAP payroll database, of payments and benefits, including basic salary, 60 percent (15,974 of the 26,216 employees) had a allowances, bonuses, and non-salary payments. unique total monthly salary. This excessive variation Without this principle in place, it can lead to low creates inequities among employees performing morale, low productivity, and high rates of turnover. the same job, but who are not paid the same. It also makes the wage bill more difficult to control. 157. This principle does not hold in Maldives as more than 1 in 2 employees have a unique take-home 158. Consequently, the pay compression ratio in salary.140 Pay variation on its own is not necessarily Maldives is extremely high. The pay compression is bad if there is an objective, merit-based system the ratio between the highest and lowest total take that assigns pay based on performance. However, home pay.141 Overall, Maldives has a pay compression 139 The Act (Article 33) says that civil service employees should follow the code of conduct which is part of the Regulation), but the code of conduct does not have any conflict-of-interest provisions. 140 A unique take-home salary is defined as having a total monthly salary (basic salary plus allowances) that is different from everyone else. 141 In Maldives’ case, this includes allowances. Maldives Public Expenditure Review: Restoring fiscal health Page 73 ratio of 36 (Figure 79), significantly higher than employees (953 of 1,237) had a unique take-home the European average of 7.5 (Vlady 2017). While monthly salary (Figure 81). The difference is strongly compression ratios are high across the board, except influenced by the payroll area of the employee (see for consultants, payroll for the health and judiciary Annex 5a). Administrative Officers in Constitutional sectors, as well as the politicians and uniformed Bodies, the Judiciary, and Uniformed Bodies earn bodies, tend to have especially wide variation in on average considerably more than Administrative monthly salaries (Figure-80). Officers in the Civil Service for the same job. This difference is not primarily due to differences in the 159. This excessive pay variation is derived from Overtime Allowance. While the Overtime Allowance the differences in eligibility for allowances. For does play a role, there were still 522 employees (or example, while 94.7 percent of employees receive 42 percent of all permanent employees) receiving the Service Allowance, only 8.7 percent of employees a unique take-home salary without including the receive the Commuting Allowance (see Annex 5a). Overtime Allowance. Notably, 27 allowances are received by fewer than 100 employees, signifying more compensation inequity. 161. Similarly, for the job category of “teacher”, 33 Most allowances pay different amounts, which further percent of permanent employees had a unique contributes to the variation in take-home pay. take-home monthly salary (Figure 82). While this 160. The differences in allowance eligibility drive percentage is lower than Administrative Officer and pay inequities. For example, in the job category Registered Nurse, it is still very high by international of Administrative Officer, 77 percent of permanent standards. If the Overtime Allowance is excluded, Figure 79: Pay compression is extremely high in Figure 80: …especially amongst health and judiciary Maldives… workers, political appointees, and uniformed bodies Pay compression ratio Total monthly salary by payroll area, MVR Source: SAP Payroll database for Malé-based public employees, staff calculations Note: Only permanent employees with a basic salary larger than zero were considered. The compression ratio was calculated by the maximum total monthly salary by the minimum total monthly salary. Figure 81: Three-quarters of administrative officers had a unique take-home salary Distribution of administrative officers by monthly compensation Source: SAP Payroll database for Malé-based public employees Maldives Public Expenditure Review: Restoring fiscal health Page 74 there were 118 unique monthly take-home salaries 162. This trend of extreme pay variance persists (18 percent). For the job category of Registered Nurse, across the public sector, which results in nearly all (94 percent) of permanent employees in the significant pay inequities. A small degree of pay Malé SAP database had a unique monthly take-home variance due to objective measures of performance salary for the same job position (Figure 83).142 If the to reward performance can be justified, but without a Overtime Allowance is excluded, there were still 399 compelling or objective justification, these widespread (or 68 percent) unique monthly take-home salaries. inequities violate the principle of “equal pay for equal work”, and affect employee morale, effort, and teamwork. Eliminating these inequities should be a priority for government. Figure 82: A third of teachers had unique take-home Figure 83: ...and almost all registered nurses had salaries… different salaries. Distribution of teachers according to monthly Distribution of registered nurses according to monthly compensation compensation Source: SAP Payroll database for Malé-based public employees 5.5 Competitiveness143 163. As is typical of small island states, the public cover Maldivians working on resort islands, which sector is the largest employer in Maldives outside were estimated at 21,000 at end-2019. However, of tourism. Half of all full-time workers were employed it contains a comprehensive labor force module in the public sector in 2019. Because the public sector that includes the different components of total offers job security and generous benefits, it is the monthly income, including the basic salary or wage, employer of choice of many Maldivians, especially allowances, bonuses, overtime payments, etc. The among youth. This strong preference to work for analysis is restricted to the sub-sample of 7,002 full- the public sector can distort incentives in the labor time workers (see Annex 5b for more details of the market, making it more difficult for private firms to data and methodology and the full set of regression attract top talent. The incentives to find a private results). sector job would be even lower if the public sector 165. Public sector employees are indeed paid pays a premium in the form of higher compensation significantly more than private sector employees to similar workers. in Maldives. After controlling for education, gender, 164. To investigate whether public employees also age, and location, being a public sector employee earn a wage premium in Maldives, and whether results in a 28 percent increase in average total the size of the premium has increased over monthly take-home pay compared to a private sector time, we use data from the Household Income employee (excluding resort employees). This premium and Expenditure Survey (HIES). The HIES is not remains positive but becomes smaller in magnitude a comprehensive labor force survey as it does not when considering only formal sector employees.144 142 Note that there is a separate job title of Senior Registered Nurse. 143 This section is based on De Silva 2021 (a background paper for Maldives Public Expenditure Review). 144 According to Statistics Maldives’ definition, employees who do not receive social protection contributions by their employer or do not receive paid annual and paid sick leave are not considered formal sector employees. Maldives Public Expenditure Review: Restoring fiscal health Page 75 For hourly take-home pay, the divergence is even 167. The premium also benefits females and higher considering the reduced work schedule in employees with fewer years of experience (Figure the public sector — public sector employees earn 85). The analysis finds that the negative effect of being on average 40 percent more than private sector female on earnings (both total income and basic salary) employees.145 The premium is largely driven by the are significantly smaller in the public sector. In other allowances component.146 words, females earn closer to males when working in their public sector, compared to their private sector 166. The public sector premium is largest for low- counterparts. Moreover, contrary to findings of a skilled employees. Lower skilled formal employees larger premium for older, more experienced workers have the highest premium, earning on average in upper middle-income countries (Gindling et al 22 percent more in monthly take-home pay than 2019), the returns to age are significantly lower in the their formal private sector counterparts (Figure 84). public sector compared to the private sector. Given The premium is also significant and positive when that age is commonly used as a proxy for experience, looking at hourly pay. For more skilled employees, these results suggest that the rewards for experience however, the premium reduces and turns negative are significantly higher in the private sector. in the case of the highest skilled workers. Managers and professionals in the public sector earn, on 168. These findings suggest that pay increases average, 15 percent less after controlling for personal are not needed for most of the public sector. characteristics. This finding is to be expected, as Despite the negative premium for earners in the public sector pay is often capped for the highest top quintile, degree holders and highly skilled skilled employees. These results are also consistent workers, employees in the public sector tend to be with estimates from quantile regressions – the more highly educated (24 percent have a degree or public sector earnings premium decreases with total higher qualification as opposed to 10 percent in the income, becoming negative at the highest quantiles of private sector), and the public sector tends to have the income distribution (see Annex Table A12). a higher share of high-skilled jobs (professionals, Figure 84: Lower-skilled public employees Figure 85: …as well as females and less experienced benefit from a larger premium… employees. Public sector wage premium, percent Estimated returns to education, age, gender and location on monthly total income for formal sector employees, percent Source: De Silva 2021 Source: De Silva 2021 Note: Asterisks refer to significance levels (p-values) of estimated Note: The graph plots the estimated returns to public and private sector employment premia. *** is strongly significant (1% level), ** denotes 5%, and obtained from a specification where each of the controls is interacted with the public sector * denotes 10%. dummy variable. *, ** and *** indicate that the difference between public and private Skill levels 1 (low) to 4 (high) correspond to the International sector returns to a given variable is significantly different from zero at 10%, 5% and 1% Standard Classification of Occupations definitions.147 levels, respectively. O/L and A/L refer to O-levels and A-levels, respectively. 145 Note that private sector employees working at resorts were not included in this analysis. 146 When allowances are excluded, a formal public sector employee earns, on average, 15 percent less in terms of monthly basic salary than her private sector counterpart, controlling for background characteristics. There is virtually no difference in hourly basic salaries when allowances are excluded. 147 Skill level 1 occupations correspond to simple and routine physical or manual tasks. Skill level 4 occupations, on the other hand, correspond to tasks that require complex problem-solving, decision-making, and creativity based on an extensive body of theoretical and factual knowledge in a specialized field. (ILO 2012, 12). Maldives Public Expenditure Review: Restoring fiscal health Page 76 managers, etc). This suggests that the public sector of youth unemployment (Gindling et al 2019). There is already able to compete with the private sector is some indication that this is occurring in Maldives for top talent, and that degree holders are attracted (World Bank 2021b). While analysis of the HIES data to government jobs for reasons unrelated to wages. shows that the size of the public sector premium has Additional wage increases therefore may crowd out declined by 10.6 percent on monthly income between more productive spending. The large public wage 2016 and 2019, the government may want to review premium can also lead to unintended consequences; potential disincentives that public sector pay creates for example, it may encourage youth to queue for for the growth and productivity of the private sector. public sector jobs, which could cause higher rates 5.6 Institutional Fragmentation 169. Wage bill management is fragmented 171. The number of filled public sector positions across multiple government institutions. follows both a top-down and bottom-up process. This fragmentation presents coordination and The top-down organizational structure is set by harmonization challenges as the responsible the Civil Service Commission (CSC). A ministry, institutions have different policy objectives and department, or agency can, however, fill a vacancy priorities. It could also inhibit the government’s ability that already exists within its organizational structure to contain wage bill growth. if they budget for it. Once funds are allocated, these ministries/departments/agencies are free to publicly 170. For example, there is no single institutional announce and recruit for the position, without any body that sets pay policy. While the National involvement of the CSC. 150 Pay Policy Act (11/2016) states that the National Pay Commission (NPC), which resides within the 172. This institutional fragmentation of wage Ministry of Finance, has the general responsibility bill policies and practices has contributed to to determine the salaries, allowances,148 policies, weaknesses in affordability, transparency, and standards, and benefits to public servants, they are fairness. Sustainable, corrective action to ensure not the final decision-makers. The NPC is chaired by a fair and affordable public wage bill will require the Minister of Finance, which means that budgetary addressing this fragmentation. To enhance wage bill and fiscal consequences are considered before a control, the NPC should be setting wages for all public wage adjustment is proposed. Any proposed wage sector employees to ensure coherence and fairness. adjustment must first be approved by the Minister If policies continue to be set by different actors of Finance, be included in the MoF Fiscal Strategy, with different objectives, it can lead to short-term and subsequently submitted to the cabinet for approaches that undermine the principles of wage bill consideration and approval. Since the budget is management. For example, wages determined by the approved by Parliament, decisions on the public wage Parliament may be more influenced by the electoral bill are subject to further amendments. Furthermore, cycle than wages determined by NPC, which is a the Constitution (Article 102) states that the President, technocratic body. Furthermore, the new public sector Vice President, members of the Cabinet, members pay framework should be complemented with the of Parliament (including the Speaker and Deputy development of a web portal and mobile application Speaker), members of the Judiciary, and members to ensure full transparency and consistency of salary of the Independent Commissions and Independent structures for all jobs. Offices shall be paid a salary and allowances as determined by the Parliament.149 148 While the announcements of new allowances for civil service staff are made by the Civil Service Commission (CSC), the actual decision to establish the new allowance is made by the NPC who must consult with MOF on budget availability. The MOF's role is to advise on whether the new allowance can be funded and to secure the resources. For other public entities, like independent institutions for instance, their Board can decide on the new allowance and write to MOF for the budget. MOF will consult with NPC before they decide. 149 There is no formal written process on how these wages are decided. The current process is that the Parliament writes to MOF for advice, who in turn will consult with NPC, consider other benchmarks and give a recommendation. The final decision is with the Parliament. 150 If a change is required in the organizational structure (for example, a new position or a new department is being established), the agency can propose it to the CSC with justification, and the Commission will decide. In some rare cases the CSC may do a full review before making a final decision. Maldives Public Expenditure Review: Restoring fiscal health Page 77 5.7 Options for Reforming the Public Wage Bill 173. Maldives’ public wage bill system needs the amounts set by the new policy. If the intent is to structural reform. The fiscal shock from the global ensure no one receives less compensation than the COVID-19 pandemic has exposed weaknesses that amount they are currently paid, then there will be a has exacerbated affordability concerns. Short-term large net fiscal cost. This cost will result from the boost wage cuts provided temporary savings that were to compensation for employees currently earning less reallocated to more pressing needs to tackle the than the amount prescribed by the new policy. MoF pandemic, but they were ultimately reinstated and did (2021c) estimates an additional US$78 million or 2.1 not address existing structural issues. The main issues percent of 2019 GDP would be needed to implement are extensive pay inequity, institutional fragmentation, the new pay harmonization framework in 2022 (more limited transparency, and lack of wage bill controls. recent estimates from NPC indicate that this figure is even higher, from US$162-227 million).153 This is 174. The government recognizes these issues in addition to the costs that will already be incurred and has tasked the NPC with developing a pay this year due to the implementation of the minimum harmonization framework.151 The NPC has been wage (MVR 7,000 or US$455 for full-time permanent tasked to develop a new public service pay framework civil servants) that began on January 1, 2022.154 and has completed a comprehensive job evaluation152 to harmonize jobs across the public sector to ensure 176. It would be fiscally prudent for the government fairness and equity in compensation. The end to phase-in the new pay framework over multiple objective is that pay is set objectively for each job, years to avoid a large increase in the public wage not the employee. This reform is very important: by bill. Given the persistence of the wage bill at a third setting pay objectively for each job, it should eliminate of total expenditures and 11 percent of GDP, any the pay inequities that persist across the public additional cost to the wage bill is likely to persist sector. A new, simpler, and more transparent public over the medium term and beyond. While this cost pay system could ensure the principle of fairness is would, in principle, be a one-off expense, the absence upheld and simultaneously provide much greater of institutional wage bill controls in Maldives could wage bill control. mean that the reform may fail to address issues of pay inequity and the proliferation of unique salaries, 175. Notwithstanding the good intentions of thus leading to higher overall wage bill expenditures these reforms, the new pay framework is likely over the medium term. NPC also does not have the to lead to a significant increase in the public mandate to oversee SOE employee compensation. wage bill. During a pay reform, typically there are Furthermore, there is a risk that a one-off increase employees who earn compensation above and below in wage expenditures could compromise other Figure 86: A quarter of employees are working at least 30 hours of overtime per month Distribution of employees according to number of overtime hours worked per month Source: SAP Payroll database for Malé-based public employees 151 The new Public Service Pay Framework was launched on May 1, 2022, after analysis for this report had been completed. 152 The job evaluation used a factor analysis to assess job positions based on four key attributes: (i) skills and knowledge (45 percent); (ii) responsibility (35 percent); (iii) physical effort (10 percent); and (iv) environmental working conditions (10 percent). Across the public sector, 9 major job families were identified and the multiplier to determine the salary for each job title was obtained through regression analysis on microdata from the labor market. 153 According to NPC, the fiscal burden would be mitigated by the fact that employees would be migrated to the new pay framework in stages. The new pay structure proposal also includes lead, lag and meet options for each profession and job matrix. 154 The minimum wage implementation is estimated to add an additional US$26 million or 0.5 percent of 2019 GDP to the annual wage bill. MoF (2021c) had estimated US$25 million based on a minimum wage of MVR 6,700. Maldives Public Expenditure Review: Restoring fiscal health Page 78 government priorities during this global period of bill management in the long term. The target could slower growth and rising energy and food prices. A also help, over time, to reduce the wage premium strong commitment not to deviate from the new pay for public sector jobs compared to similar jobs in the framework would be imperative for the reform to private sector. Without a target, pressures on the succeed in strengthening wage bill controls. wage bill may be challenging to offset. 177. As part of this reform, the NPC could 179. A new pay system will have pension consider consolidating or eliminating most of the implications, which will require a simultaneous allowances. The pay reform presents an opportunity pension reform to mitigate fiscal liabilities. to address the proliferation of allowances in the Currently, the Maldives Retirement Pension Scheme current system. Each allowance should be evaluated (MRPS) is based on the basic salary, not total take on whether it meets the criteria of a supplementary home pay, and mandates a contribution rate of 7 form of compensation beyond what has already been percent for employers and employees (see Chapter assessed in the job factor analysis. If not, it should 6). Therefore, if the new pay structure shifts most of be eliminated. Any allowance that remains should employee compensation away from allowances and serve a clear, justifiable purpose, and set strict and to the basic salary, by default the fiscal liabilities of fair eligibility criteria. Remaining allowances should pensions will increase unless additional reforms to also be consolidated to ensure a simpler and more the pension scheme are undertaken. cost-effective allowance system. Nonetheless, the 180. Finally, the government could consider basic salary should still form the dominant part of consolidating the institutional responsibilities compensation. of wage bill management under one body. 178. The overtime allowance needs to be capped Centralizing this function would ensure that and standardized. The comparatively low working approaches to negotiating, planning, and budgeting hours in the public sector has led to a large share pay policies are consistent across all of government. of employees (39 percent of Malé based employees) Otherwise, coordination and harmonization earning overtime. A third of Malé-based employees challenges may persist, which could lead to a scenario are working at least 30 hours of overtime per month where reforms undertaken by NPC are subsequently (Figure 86). This number is too high. If there is a not implemented or reversed, such as in the current consistent need to pay overtime, the government framework where pay and allowances for certain job could consider increasing the official working hours positions are determined by parliament. In addition, back to its previous working schedule of 35 hours integrating wage bill controls under one institution per week. If not, for most employees, this additional for the entire public sector, including SOEs, would compensation could be captured in the basic salary improve the government’s oversight of personnel under the new pay system. For example, if shift and payroll growth. This would accelerate ongoing workers continue to work in 8-hour shifts, 2 hours reforms such as developing a single, digital payroll beyond the official working day, their salary could register that includes timely information on atoll- and be structured to account for this responsibility. island-based staff (GoM and WBG 2021). Furthermore, the overtime allowance could be capped 181. Ultimately, wage bill management is about to ensure commitments remain within the available having the controls, authority, and necessary fiscal space.The government could consider setting information to make the best decisions going a wage bill target, both in the short run and over forward. There will always be pressures to spend more the medium-term. To prevent unanticipated and and more on the wage bill. Unfortunately, spending large increases in wage bill growth, the government more on the wage bill does not necessarily lead to could consider setting a wage bill target, expressed better outputs and outcomes when the underlying as a share of domestic revenues (excluding grants).155 system suffers from structural weaknesses. While This would help provide an anchor against multiple these reforms need to be carefully sequenced as pressures that come with managing the wage bill and Maldives recovers from the COVID-19 pandemic, now avoid the need for more drastic measures such as a is an opportunity to undertake reforms to recalibrate hiring or wage growth freeze. A target could help the the public wage bill so it is on a more equitable and government to assess whether policy proposals help sustainable path.156 or hinder progress towards more sustainable wage 155 Expressing the target as a share of GDP could cause challenges due to sudden fluctuations in output or rebasing the GDP. 156 Pay harmonization for the education sector came into effect starting May 1, 2022. Maldives Public Expenditure Review: Restoring fiscal health Page 79 CHAPTER 6 Pensions Summary Maldives only spends an average of US$100 million or 2 percent of annual GDP on pensions, but the pension scheme faces several challenges: (i) fiscal costs are projected to increase as the population ages, largely due to the costs of the Old Age Basic Pension; (ii) it is inequitable, with select groups of civil servants receiving “double pensions”; and (iii) private sector coverage is low. Using the World Bank Pension Reform Options Simulation Toolkit (PROST), this chapter explores options to constrain the long-term costs and increase the coverage of Maldives’ pensions system. These include using inflation-based indexation, prohibiting new defined-benefit schemes for select civil servants and reversing the existing "double pensions". To increase coverage, Maldives could improve compliance oversight, link the pension scheme to the proposed unemployment insurance scheme, and possibly provide additional incentives for contributions. 6.1 Introduction 182. Maldives is undergoing a dramatic about a 1-year increase per decade (Figure 88), along demographic transformation. Over the next four with a rapid drop in the fertility rate. This has two decades, the elderly population is anticipated to implications: (i) more households will need to support increase almost ninefold, while the working age the elderly that are not able to work and (ii) the level population will decline by almost a quarter (Figure of old age vulnerability could increase. 87). Maldives began an aging process in 2020 when both the total dependency ratio and the old-age 183. Maldives will need a strong pension system, dependency ratio157 reached a low point. Prior to this, both in terms of coverage and adequacy,158 Maldives could draw upon a demographic dividend. to support the aging population in the context A sharp escalation in the old-age dependency ratio of a shrinking workforce. There are three main is projected, doubling from 4.9 percent in 2020 to challenges with Maldives’ current pension system: almost 10 percent in 2030 and rising to 16.8 percent (i) it poses rising fiscal costs over the long term; (ii) it by 2040. The rapid growth in the number of elderly is is inequitable: about a third of government retirees attributed to projected increases in life expectancy of receive both a ‘double pension’ (an old age basic Figure 87: The aging process has begun in Maldives… Figure 88: …as Maldivians are living longer and Thousands of people; percent (right axis) having fewer children. Projected life expectancy at age 65 Source: World Population Projections, 2019 revision. Source: World Population Projections, 2019 revision. 157 The total dependency ratio is the number of individuals aged 0-19 and 65 or older (“dependents”) over the working-age population (defined as those between the ages of 20 and 64). The old-age dependency ratio is the number of individuals aged 65 and over per the working-age population (20-64). 158 Coverage is defined as the share of the labor force actively contributing to pension schemes. There is no universal definition of adequacy of retirement income, but it refers to whether the total pension entitlement is sufficient (e.g. satisfying basic needs/allowing retirees to maintain the same standard of living prior to retirement). Adequacy refers to how much pension benefits serve to replace pre-retirement income and protect retirees from poverty. Maldives Public Expenditure Review: Restoring fiscal health Page 80 pension or OABP, as well as a pension from their estimated that only two-thirds of the labor force will respective agencies); and (iii) coverage is limited to receive only the OABP benefit in spite of rapid aging. only a third of the labor force who actively contribute The chapter explores these challenges and potential to the pension scheme, of which most are civil reform directions. servants. Unless coverage can be increased, it is 6.2 Description of the Maldives Retirement Pension Scheme (MRPS) 184. Maldives substantially reformed its pension data management, communications, benefit scheme in 2009 by establishing a mandatory calculations and disbursement, whereas the CMDA defined contribution (DC) scheme for public and is responsible for compliance monitoring, risk-based private sector workers. The Maldives Retirement inspections, and overall oversight. Contributions Pension Scheme (MRPS) was meant to replace made to the scheme are invested in asset classes existing civil service pension schemes and to provide stipulated under the Pension Act. Three funds are a unified framework for private sector workers. State offered during retirement, and two pre-retirement employees who were not yet of pensionable age investment funds are offered (the Investment Fund at the time of the reform had their accrued rights and the Sharia Fund). The investment fund has had an deposited in their Retirement Savings Account (RSAs) average annual return of 6.5 percent since inception, as “recognition bonds” of the government. Under the much higher than the average deposit interest rate MRPS, both employers and employees contribute 7 in the banking system (3.8 percent) over the same percent of basic salary (see Annex 6 for details). The period. retirement age is 65, but workers can retire at age 55 186. Regardless of whether they contribute to provided that the balance in their RSAs is sufficient.159 MRPS, Maldivians also receive an Old Age Basic The MRPS also allows for pre-retirement disbursement Pension (OABP). Since the inception of the MRPS to pay for 80 percent of obligatory Hajj pilgrimage in 2009, the government has provided an OABP to expenses,160 and a Housing Loan Collateralization retirees with a "clawback" or reduction of 50 percent scheme which was established in 2016.161 for the amount received from the MRPS and 100 185. The MRPS has offered attractive returns percent of the amount received from any other state- over the past decade. The MRPS is managed by funded scheme.162 The initial OABP amount was MVR the Maldives Pensions Administration Office (MPAO), 2,000 (US$130) per month, subsequently increasing with support from the Capital Markets Development to MVR 2,300 (US$149) per month in 2012. However, Authority (CMDA). The MPAO is responsible for from 2014–2019 the government also provided a investment management, collections, accounting, "Senior Citizen Allowance" (SCA) to all retirees. The Figure 89: A Maldivian earning the average wage would receive 59 percent of their income after retirement Source: World Bank staff calculations using the OECD Apex model. Note: The real rate of return is assumed to be 6 percent per year. 159 Provided a lifetime monthly payment more than twice the OABP amount prevailing at the time of retirement. 160 Provided a member has an RSA balance sufficient to pay for an MVR 2000 monthly benefit at pension age. 161 Under the program, individual retirement savings can be used to collateralize against the 20 percent down payment requirement for bank housing loans. The collateralized amount is used as a last resort in case of default on an individual’s mortgage loan. 162 This means that the OABP is adjusted or deducted according to the amount an individual receives from MRPS and other state pension systems. Maldives Public Expenditure Review: Restoring fiscal health Page 81 Figure 90: Maldives’ pension system is highly adequate and generous, even more than the OECD Replacement rate, percent Source: Adapted from OECD: Pensions at a Glance 2021, Table 4.1. Statlink: https://stat.link/b2f0ws Note: : Retirement ages are listed in parentheses. Countries marked with * have different retirement ages/replacement rates for men and women. Gross replacement rates represent the total retirement income before deductions for taxes or social insurance as a proportion of the individual's gross income prior to retirement. minimum combined OABP and SCA was MVR 5,000 percent of male retirees and 93 percent of females or US$325 per month at age 65. In March 2019, the retirees receive a monthly retirement benefit of MVR government eliminated the SCA, increased the OABP 5,000. The relatively high level of the OABP and the to MVR 5,000 per month, and linked the entire OABP 50 percent clawback from the contributory benefit to the clawback. adversely affect the incentives to contribute to the MRPS scheme and to correctly report current basic 187. The combination of the OABP, a universal wages. The effective tax rate after consideration of the basic pension and the MRPS, a contributory DC clawback is substantially negative for most retirees. scheme, results in a generous redistributive pension benefit. The replacement rate measures 189. The OABP provides a much higher how effectively a pension system provides a replacement rate when compared with OECD retirement income to replace earnings, the main and G20 comparators. The OABP provides a benefit source of income before retirement (OECD 2021). equal to about 73 percent of the monthly average In Maldives, the replacement rate for a full career basic wage for workers contributing to the MRPS.165 worker earning the average basic wage is estimated at This is much higher than in OECD and G20 countries, 59 percent (Figure 89). This is considered generous by where the average non-contributory basic benefit most international metrics and higher than the OECD and the contributory-based basic benefit are 22 average of 52 percent for the average wage worker and 14 percent respectively (left panel in Figure 91). (Figure 90). These replacement rates are progressive: Moreover, the universality of the OABP means that a worker earning only half of the average wage is almost all of the elderly are covered by a benefit that estimated to receive 107 percent of such an individual is generous by international standards, similar to worker's wage (Figure 89).163 Only Denmark provides OECD countries (right panel in Figure 91). a higher replacement rate (125 percent) for someone 190. The adequacy of OABP benefits are, however, earning half the average wage (Figure 90). lower when compared with total individual 188. As the defined contribution scheme is compensation in the public sector because relatively new,164 there are very few new retirees contributions are levied only on basic salaries, not from the scheme and most retirees receive total compensation. In Maldives, the basic salary the minimum MVR 5,000 (US$325) per month. for government employees at end-2020 made up According to MPAO data in December 2020, 90 about 57 percent of total compensation on average, 163 In DC schemes, the annual rate of return on pension assets impacts the replacement rate at retirement. 164 Maldives did not have a mandatory contributory scheme for private sector workers until implementation of the MRPS in 2011. 165 As of December 31, 2020. Source: MPAO. Maldives Public Expenditure Review: Restoring fiscal health Page 82 Figure 91: Maldives’ basic pension scheme is extremely generous compared to OECD countries Share of average wage earnings / share of population aged 65+, percent Source: World Bank staff elaboration based on OECD (2021). while the remainder comprises non-pensionable differences would apply to those with more (or fewer) allowances (see Chapter 5). As such, the replacement allowances as a proportion of total compensation rates shown in Figure 89 would be roughly 50 percent (Figure 92). For example, a civil servant whose basic lower in the case of about two-thirds of government salary makes up only half of total compensation would retirees when compared to their total compensation have a replacement rate of only about 30 percent, including allowances at the end of 2020.166 There i.e., she would receive a benefit equivalent to only a is also considerable variation in the individual third of her total take-home compensation prior to proportions of total compensation consisting of retirement. basic salary and allowances.167 Even more substantial Figure 92: As suggested by this stylized example, replacement rates could be lower or higher depending on the proportion of basic salary as share of total compensation Source: World Bank staff simulations. 166 The authorities do not have data on the distribution between basic wage and allowances for private sector workers, so we are not able to estimate the total replacement rate when measured against total pre-retirement compensation. 167 One standard deviation variation was about 14.5 percent of total compensation. Maldives Public Expenditure Review: Restoring fiscal health Page 83 6.3 Description of the Maldives Retirement Pension Scheme (MRPS) 6.3.1 Is the Rent-to-Own program effective? 191. Given the generosity of Maldives’ OABP 192. The projected costs of the MRPS and especially and the aging demographics, pension costs are the OABP are heavily reliant on the indexation projected to rise, even though the MRPS is a method adopted and there is no framework for defined contribution scheme. Pensions cost the the indexation of OABP benefits. Much of the state US$100 million annually on average (5.3 percent increase in fiscal costs is attributed to the projected of total expenditures or 1.8 percent of GDP; see Figure costs of the OABP as the number of eligible retirees 93). However, total costs of the pension system are grows substantially in the years ahead. This, in projected to reach an average of 2.6 percent of GDP turn, depends on the indexation method used. The per year over the coming decade and progressively baseline projection assumes a combination of price- rise to over 5 percent of GDP by 2060 (Figure 94). and wage-based indexation. Wage-based indexation This projection assumes OABP benefits are indexed alone would result in a projected escalation of costs at about half by prices and half by wages (“Swiss” up to 8 percent of GDP by 2060, whereas automatic indexation), even though there is no legal requirement adjustment of the OABP according to the growth in for annual adjustments. It includes the projected consumer prices would roughly stabilize the costs fiscal costs of government contributions on behalf of at under 2 percent of GDP (Figure 95). The trade- civil servants, payment of civil servant defined-benefit off, however, is that inflation-based indexation will pensions,168 encashment of recognition bonds and gradually reduce the individual replacement rate for payment of the OABP.169 It does not, however, include the old-age basic pension because wages tend to the costs of additional civil service or uniformed grow faster than prices, as illustrated in Figure 96. services pensions which could be established in the future, nor the impact of the recent minimum wage reform.170 Figure 93: Pensions have not been a big fiscal burden… US$ millions (left axis); pensions’ share of total expenditure & GDP (right axis) Source: MoF, staff calculations. 168 This includes benefits for government retirees prior to 2009 as well as defined-benefit pensions or so-called “double pensions” for some retiring civil servants since then, discussed later in the chapter. 169 This is based on a projection undertaken using the PROST. This does not include the costs of additional civil service or uniform services pensions which could be legislated in the meantime. Recognition bonds were established in 2009 to provide a means of pre-funding the accrued rights of civil servants which were translated into initial balances in the MRPS at that time. . 170 The mandatory minimum wage began on January 1, 2022 (after these estimates were completed). Its impact on the long-term projected costs is not expected to be material. Maldives Public Expenditure Review: Restoring fiscal health Page 84 Figure 94: …but they will begin to rise over the long term. Projected total fiscal costs for all pensions, percent of GDP Source: World Bank PROST Projections Note: The OABP is represented by the combination of dark and light blue bars. The projection assumes OABP benefits are indexed at half by prices and half by wages (“Swiss” indexation). “Social pension outside MRPS” refers to the OABP for those who do not contribute to the MRPS; “social pension inside MRPS” refers to the OABP provided to contributors. “DB pension” refers to existing public pensioners at the time of the 2009 reform, who received a DB pension from the old system. Government contribution refers to the payment for service prior to 2009 for public sector workers. The so-called “double pension” is not included in these projections. Figure 95: The projected costs of OABP differ depending on the indexation method adopted OABP replacement rate as share of average covered wage, percent Source: World Bank staff projections using PROST (base year: 2020). Note: Details as to the assumptions used for the projections are indicated in the Annex. Figure 96: Inflation indexation would gradually reduce the individual replacement rate for OABP OABP replacement rate as share of average covered wage, percent Source: World Bank staff projections using PROST (base year: 2020). Note: Details as to the assumptions used for the projections are indicated in the Annex. Maldives Public Expenditure Review: Restoring fiscal health Page 85 6.3.2 Civil service pensions: double coverage and rising costs 193. About a third of government retirees receive projected the same distribution between public sector a so-called “double pension”. Although the Maldives workers receiving both MRPS benefits and public Pensions Act in 2009 replaced previous ‘defined service DB pension benefits (as was observed for new benefit’ (DB) government pension schemes and retirees in 2020), i.e., about 30 percent continue to the Government Provident Fund with the ‘defined receive double pensions.173 Second, all public sector contribution’ MRPS, various government institutions retirees are assumed to receive double pensions have subsequently established DB pension schemes (based on a 2.5 percent accrual rate).174 Finally, the alongside the MRPS (MoF 2019). In this way, about 30 last scenario assumes all new civil servant retirees percent of government retirees have received double receive only MRPS DC benefits, i.e., eliminating the coverage – namely, coverage both by the MRPS double pensions problem. The results (Figure 97) and by non-contributory defined-benefit schemes suggest the following: established after 2009. This was not supposed to occur, as MRPS intended to provide a framework for • The "Baseline" projects an increase in pension costs all government pensions, including recognition of from about 2 percent of GDP in 2022 to about 3 pre-2009 service.171 For most civil servants, however, percent of GDP over about 25 years. the MRPS reform represented a decrease in the • The second scenario, which assumes that all new anticipated replacement rate when compared with government retirees receive double pensions, the equivalent replacement rates for similar service leads to an increase in costs to 6 percent of GDP under the earlier pay-as-you-go DB scheme. by 2060. This assumes that no fiscal costs are incurred for accrued rights or transition costs. 194. Unless the government undertakes reforms to eliminate double coverage,172 civil service • The last scenario, assuming that all new government pension costs are expected to increase. To model retirees only receive MRPS DC benefits, indicates a the effect of the ‘double pensions’ issue, three cost reduction of 0.3 to 0.6 percent of GDP per scenarios were considered. First, the baseline scenario annum from the baseline up until 2060. Figure 97: Civil service pension costs are expected to rise under no reform scenarios Percent of GDP Source: World Bank PROST projections. Baseline – Existing & new public employees (70% of the total public sector headcount) are assumed to receive a DC pension + OABP. The remaining public employees from the old system who joined the MRPS are assumed to receive new DB + DC pensions (“double pension”) + OABP. Existing public pensioners received a DB pension. All DB – Existing and new public workers receive DB pension with pre-2009 parameters and all private-sector workers receive a DC pension + OABP. All DC - All public employees receive only the DC benefit + OABP; all private receive DC pension + OABP. 171 The formula for recognition of accrued rights is: Basic salary (at the time of retirement) × 93% ×14% × service period up to 30 April 2010. The pre-2009 pension parameters varied by service group. However, most retirees had effectively a 2.5 percent per year accrual rate with a replacement of final basic salary of 50 percent received and paid out with an additional 50 percent paid out after 40 years (effectively, a 100 percent accrual rate after 40 years). 172 The new Public Service Pay Framework, introduced in May 2022, included substantial reforms to the defined benefit pension for civil servants. This analysis was completed before the reform. 173 About 70 percent of total public sector workers retiring in 2020 received only MRPS benefits while about 30 percent received both MRPS and additional DB benefits. As the legal documents for the double coverage pensions were not made available, the application of a 2.5 percent per year accrual rate for the entire work history of projected government retirees in addition to the projected MRPS benefits is assumed. 174 This was a common accrual rate used in the PAYG DB schemes prior to 2009, but may not be the precise rate used for each of the schemes established since 2009. Maldives Public Expenditure Review: Restoring fiscal health Page 86 195. The projected costs of public sector pensions marginally from about 9 percent of GDP in 2021 to could increase further depending on growth in about 11 percent of GDP in 2035 (Figure 98)175 and headcount, basic salaries and changes in the stabilize thereafter. Should headcount increase, these benefit formula leading to double coverage. In a costs are expected to rise, and would subsequently scenario where the public sector headcount remains lead to an increase in public sector pensions. constant as a share of the working-age population, the public sector wage bill is expected to increase Figure 98: Public pension costs could increase further if headcount increases Left axis: share of GDP, percent; Right axis: Thousands of people employed in the public sector Source: World Bank projections. Assumes salaries and allowances are a constant share of GDP. 175 The projections of salaries and allowances are heavily dependent upon the assumptions of compensation growth and changes in headcount. Growth in public sector salaries is assumed to be in accordance with the real growth of GDP per capita. The public sector headcount is assumed to remain a fixed percentage of the working-age population until 2045 when it reaches a peak; after that, we assumed that there is no net new hiring, i.e., the number of new entrants equates to the number of new retirees. Maldives Public Expenditure Review: Restoring fiscal health Page 87 6.3.3 Coverage 196. Only a third of the labor force actively newness of the scheme; there have only been about contributes to the MRPS (Figure 99). About 10 years of civil service cohorts retiring since the 40 percent of these are civil servants, including implementation of the MRPS in 2009. In addition, very teachers and health workers. All employers and few private sector workers had both registered and employees paid a salary or wage by their employer retired over this period. Disbursements to existing are required to contribute to the scheme. Looking and new retirees under the civil servants' scheme at the correlation between the proportion of the covered 40 percent of retirees in 2020 (Figure 101). working age population covered by contributions to a retirement scheme on the one hand and GDP per Figure 99: MRPS coverage is low capita, the coverage of Maldives’ pension scheme Share of the labor force contributing to retirement underperforms many other countries of a similar per pension scheme, percent capita income (Figure 100). Low coverage, combined with rapid aging, suggest that Maldives might need to consider measures to increase contributory coverage or alternative retirement savings arrangements. 197. All elderly Maldivians are covered by a benefit that is generous by international standards, but not many receive the DC benefit. All elderly receive about three-quarters of the average covered basic salary – a relatively generous proportion compared to, for example, the elderly pension in Chile (Box 6). In 2020, only 7 percent of retirees received a contributory (DC) Retirement Pension in addition to the OABP. This low level of retiree coverage reflects the relative Source: Statistics Maldives 2021c and World Bank WDI. Figure 100: Coverage of the MRPS is low, compared to countries of a similar per capita income level Note: Data from 2010-2018 (most recent available); Maldives’ data from 2020. Source: Staff calculations from World Bank WDI. Maldives Public Expenditure Review: Restoring fiscal health Page 88 Figure 101: Virtually all retirees receive the old age basic pension (OABP), but few receive the retirement pension (MRPS) Elderly coverage by type of pension, share of population aged 65+ (%) Note: Data from 2010-2018 (most recent available); Maldives’ data from 2020. Source: Staff calculations from World Bank WDI. Box 6: A Comparison of Chile's Solidarity Pension and the Maldives OABP In July 2008, the Chilean authorities established a means- month (about 73 percent of the average reported basic tested non-contributory basic solidarity pension known as salary). The implicit tax on pension benefits is 50 percent the Basic Solidarity Pension (Pensión Básica Solidária, PBS) because of the clawback for private sector retirees and 100 which was meant for individuals without any other pensions. percent because of the clawback for public sector retirees. The benefit initially covered retirees at age 65 in the bottom Three key differences are evident between the Chilean and 40 percent of the welfare distribution of households, but Maldivian basic pensions: was gradually extended to the bottom 60 percent by 2012. The authorities also established a supplementary pension • The Chilean benefit is allocated based on a means- known as a “solidarity complement” (Aporte Previsional testing formula to the bottom 60 percent of the Solidário, APS) targeted to individuals with low pensions. welfare distribution while the Maldivian benefit is not The means testing criteria is the same for both. The PBS subject to any means-testing criteria; was about US$157 per month in September 2018 or • Both the Chilean benefits for the elderly with no about 7 percent of the average wage. The APS is a benefit pensions (the PBS) and the benefit for those with low on a sliding scale which has a maximum of the value of pensions (the APS) represent a very small proportion the solidarity complement (US$463/month or about 21 of the average wage. In the Maldivian case, however, percent of the average wage) and the PBS. The implicit tax the benefit is almost three-quarters of the average on pension benefits is 33.7 percent up to a threshold for covered wage. those who qualify for the APS benefits. • The implicit tax through the clawback is higher in The Maldives OABP is universal to all individuals aged 65 Maldives (50 percent) than in Chile (33.7 percent). and above and is a benefit of MVR 5,000 or US$325 per Source: World Bank 2020c. Maldives Public Expenditure Review: Restoring fiscal health Page 89 198. Increasing coverage of the MRPS is even more 199. The distribution of covered wages in October important in light of the minimum wage reform. 2021 suggests that a substantial proportion of The establish ment of a minimum wage starting workers may have pensionable wages which are January 2022 will make compliance more costly for lower than the minimum wage requirements for employers and workers to the degree to which some January 2022. The median monthly basic salary for basic salaries are increased. To the extent that labor private sector workers was MVR 5,050 or US$328. costs are higher, some businesses may have even Moreover, about 34 percent of men and 39 percent of less incentive to contribute to the pension scheme. women had pensionable wages reported which were Therefore, stronger compliance oversight by the below the MVR 4,500 (US$292) level stipulated as authorities (particularly CMDA) will become even the minimum wage for small businesses, while more more important to ensure that coverage does not than 68 percent of men and women had pensionable decline further. wages below the MVR 7,000 (US$455) level stipulated for medium businesses. 6.4 Options for reforming Maldives’ pension system 200. Old Age Basic Pension. The parameters of the • Establish means-testing criteria limiting OABP need to be changed to make the benefit more beneficiaries to those in households which are fiscally affordable and strengthen the incentives to poor or vulnerable. This might be perhaps the work and save for retirement. The government may bottom 40-50 percent of the welfare distribution, want to consider the following options (not mutually although the authorities should examine the precise exclusive): effects of different thresholds. This provision could be phased-in over a transition period of perhaps • Index the benefit level to the growth in the five years. This would target minimum benefits to consumer price index. This will modestly reduce the poor or vulnerable elderly and thus would be the growth in costs as wages tend to grow faster the most equitable. It could also reduce costs by as than prices. As seen in Figure 96, this would stabilize much as half, depending upon the indexation of the costs at about one percent of GDP for more than benefit level applied. two decades. At the same time however, the benefit 201. Eliminate double pensions. The government would gradually decline as a proportion of average may want to consider revising the framework for wages, because wages tend to grow faster than pension benefits for those government workers who prices. For example, the OABP, when measured both benefit from the post-2009 MRPS as well as the against the average covered wage for MRPS, would additional benefits legislated since its establishment. fall from almost 90 percent in 2020 to 30 percent in Possible reform options are as follows: 2040. This decline in the replacement rate is driven by the difference in the assumed real wage and • Credit for pre-2009 service. One option would price growth in the projections. be to provide credit for pre-2009 service based on the applicable benefit formula in place at the time of the 2009 reform. In this way, the pension • Freeze the benefit level at MVR 5,000 for existing calculation would be the combined sum of: (i) a and new retirees. As and when the benefit level defined-benefit pension based on pre-2009 service reaches 50 percent of median individual total multiplied by the applicable accrual rate multiplied expenditures (the national poverty line), begin to by the salary basis at retirement; and (ii) a benefit adjust the benefit on the basis of growth in the based on individual account accumulations since consumer price index. This option would bring 2009 at retirement. In this case, none of the OABP expenditures to below one percent of account accumulations made for pre-2009 service GDP but would also find benefits declining as a under the MRPS would be provided. This option proportion of average wages at a pace even faster would increase the government's pension costs than for the CPI-based indexation scenario. The when compared with the self-funded MRPS, but it OABP is projected to decline somewhat more than would also provide for a smoother transition in the the scenario assuming CPI-based indexation above. replacement rates between cohorts. Maldives Public Expenditure Review: Restoring fiscal health Page 90 Figure 102: Impact of Establishment of a Top-up for Civil Servant Retirees Percent of GDP Source: World Bank staff projections using PROST (base year: 2020). • Government financed top-up. Another option i. Unemployment insurance. Earmark would be to provide a select government-financed some pension contributions and/or defined-benefit top-up for service since 2009 (Figure account accumulations to the provision 102). For example, this might be an accrual rate of of unemployment insurance benefits. The 0.75 percent per year for this service period. This government has already announced their additional top-up could be applied only to select intent to establish an unemployment insurance workers such as those in the uniformed forces scheme, although at the time of publication and judiciary. A retiree under this arrangement they are still in the process of formulating the would therefore receive: (i) a defined-benefit precise design and financing. pension based on pre-2009 service multiplied by ii. Permanent disability. Establish criteria for the applicable accrual rate multiplied by the salary withdrawals of pension savings accumulations basis at retirement; plus (ii) the benefit based on in the event of the certification of disability individual account accumulations at retirement; including an inability to work. Disability coverage plus (iii) a pension based on post-2009 service could also include partial withdrawals for life- multiplied by the supplemental applicable accrual threatening illnesses. rate (possibly 0.75 percent per year) multiplied by the salary basis at retirement. iii. Survivorship. In addition to withdrawal of accumulated balances, the authorities could • Separate retirement eligibility conditions for consider evaluating the establishment of special groups of government employees. a voluntary state-sponsored life insurance Another issue which may need to be addressed is program based on voluntary supplementary the retirement age for select government retirees premiums. such as uniformed forces.176 The authorities may want to permit an early retirement window for iv. Financing of mortgage down payments. The select uniformed forces based on the employment authorities may want to review the existing conditions and risks specific to each profession. financing facility for home mortgages to provide additional flexibility while also ensuring 202. Several policy and institutional measures will that beneficiaries repay the amount withdrawn. be needed to strengthen the overall incentive framework to ultimately expand coverage. The • Enhance the window for voluntary contributions. following options are suggested for consideration: The MRPS already has in place a program of voluntary contributions for the self-employed. It • Broaden the menu of individual social risks may be possible to enhance this facility by enabling covered by the MRPS to make participation in the employers or employees to increase their benefits scheme more attractive. These could include the through supplementary contributions as well as following: 176 Many government workers could retire at age 55 prior to the 2009 reform. Maldives Public Expenditure Review: Restoring fiscal health Page 91 contributions during temporary employment. This 203. This chapter has suggested that the key might take the form of matching contributions challenges facing the Maldives Retirement such as has been proposed for informal workers Pension Scheme are the design, level and in the unemployment insurance program under implicit tax associated with the Old Age Basic development. Some countries have also enhanced Pension, double pensions for some government the incentives for voluntary contributions by employees, and weak contributory coverage. segregating such contributions into separate In response to these challenges, some options are accounts which are much more liquid – where suggested for consideration. These include inflation- workers can make withdrawals under much more based indexation for the OABP to constrain costs, lenient conditions. Such accounts provide a vehicle prohibiting new defined-benefit schemes for select more for financial inclusion than for retirement civil servants, while developing a means of reversing savings per se. Contributions to a voluntary window existing "double pensions". Several options were should also be flexible both with respect to the suggested for improving coverage, they include amount and the frequency. improving compliance oversight, linking the pension scheme to a recently-announced unemployment • Strengthen incentives for contributions. These insurance scheme, and possibly providing additional might include: (a) an auto-enrollment mechanism incentives. Further analysis will be needed to refine for employees; (b) bi-monthly text reminders to these options into a comprehensive reform strategy, registered workers who are not contributing; (c) as the authorities will also need to consider the linkages to lottery tickets for minimum recurrent institutional implications of the measures proposed. contributions; and (d) small matching contributions targeted to low-income workers. • Measures to enhance compliance. The CMDA is responsible for supervising the MRPS. Several measures could be explored to enhance compliance. These might include: (i) establishing a process of reconciliation between wage reporting for the purposes of corporate income tax on the one hand, and declared wages for the purposes of determining pension contributions, on the other; (ii) requiring pension registration for all companies which directly or indirectly carry out government contracts; (iii) link pension registration to business licensing and renewal; and (iv) if possible, introduce risk-based compliance monitoring which includes review of corporate bank records. • Investment management. Over the medium term, the authorities may want to investigate the possibility of enabling contributors to decrease the risk of their portfolios as they get closer to retirement. Members can already choose to place their funds in the Investment Fund or the Sharia Fund, but a growth fund and an income preservation fund could provide additional choices. 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COVID-19 Crisis Response Approach Paper.” Accessed on May 8, 2022. https://www.unwto.org/ https://documents1.worldbank.org/curated/ tourism-data/international-tourism-and-covid-19 en/136631594937150795/pdf/World-Bank-Group- COVID-19-Crisis-Response-Approach-Paper-Saving- Lives-Scaling-up-Impact-and-Getting-Back-on-Track. pdf __________. 2020b. “World Bank Uzbekistan Public Expenditure Review.” March 3, 2020. https://documents.worldbank. org/en/publication/documents-reports/ documentdetail/471601582557360839/ uzbekistan-public-expenditure-review Maldives Public Expenditure Review: Restoring fiscal health Page 96 Annex 1: PSIP Projects Table A1: PSIP projects financed by external loans in 2021-2024 (projected disbursements, US$ millions) Description Status Funding Source 2021B 2021B 2021B 2021B SUM Saudi Fund 17 8 8 13 Govt. of Abu Dhabi 17 8 6 1 Velana International Ongoing OFID 10 8 8 14 Airport terminal expansion Kuwait Fund 9 8 8 11 189 Unspecified 0 3 5 6 Velana International EXIM China 18 0 0 0 Completed Airport terminal expansion Malé-Thilafushi Bridge (under Greater Malé Ongoing EXIM India 23 35 22 61 Connectivity Project) Gulhifalhu land ING Bank 6 1 1 4 196 Ongoing reclamation Gulhifalhu port EXIM India 29 1 6 6 Pre-tendering development Land reclamation & shore EXIM India 17 7 6 7 Ongoing protection in Addu City 73 Developing roads in Addu EXIM India 13 7 8 8 Ongoing City Water and sewerage EXIM India 14 14 14 5 Ongoing projects on 34 islands 119 Other water, sewerage, waste management Ongoing Various, mostly OFID 26 15 12 20 projects Construction of tertiary Ongoing/ and cancer hospitals in pre- EXIM India & ING Bank 6 4 7 8 Gan (Addu Atoll) tendering 92 New hospital buildings in Kuwait Fund, EXIM 0 11 44 11 New India, ING 13 islands Renewable energy projects Ongoing Mostly ADB & AIIB 8 14 21 40 84 Upgrading regional Ongoing EXIM India 5 4 4 9 22 airports Youth and sports projects Ongoing EXIM India 9 8 5 11 31 Housing and urban Ongoing Mostly Saudi Fund 10 10 8 8 35 development Other projects Various Various 17 7 3 9 35 Total financed by 876 253 175 197 252 external loans Total PSIP budget 548 411 504 572 2035 Source: Ministry of Finance Budget 2021 and Budget 2022 website. Maldives Public Expenditure Review: Restoring fiscal health Page 97 Annex 2: Performance of Maldives’ Largest SOEs Table A2: SOE statistics (All in US$ millions, unless otherwise noted) 2019 2020 Name Sector % state Total Loans and Total 2019 2020 net net ownership assets borrowings liabilities revenue revenue profit profit HDC Housing 100 2,374 694 896 4 21.6 21.8 174.3 BML Finance 50.8 2,041 59 1,585 67.5 21.1 179.9 174.3 MACL Transport 100 1,490 502 1,120 75.3 6.3 348.3 142.2 STO** Retail 81.6 429 110 266 19.7 23.3 605.1 468.1 STELCO** Utilities 100 346 193 254 7 8.5 124.9 124 Greater Malé - 31.1 8.7 6.9 Other 100 315 2 2.7 Industrial Zone MIB Finance 28 287 - 247 5.5 4.9 13.4 16.6 Dhiraagu Tele- communications 41.8 267 - 105 61.2 47.6 185.6 161.2 MWSC** Utilities 80 172 9 66 20.1 21 65.6 64.1 MTCC Transport 64.2 161 21 86 3.4 12.1 73.8 88.3 (transport)** HDFC Housing 49 135 41 93 5.9 6.2 13.9 14.6 Maldives Transport 100 115 13 53 7.6 0.7 49.2 34.9 Ports 1.2 MTDC Other 47 78 - 38 1.2 1 3.7 3.7 (tourism) AIA** Transport 70 38 30 47 -3.9 -5 4.2 2.3 SDFC* Finance 100 37 - 6 -0.1 -0.1 0.4 1.2 Maldives Hajj Other 100 11 - 13 -0.8 -0.1 5.2 0 Corporation* Aasandha * Health 100 2 - 2 -0.4 -0.2 0.2 1.1 FDC* Housing 100 0 - 0 -0.2 -0.4 0 0 Maldives Centre for 100 0 - 0 -0.4 -0.3 0 0 Islamic Finance* Maldives Sports Other 100 0 - 0 -0.3 -0.3 0 0.6 Corporation Ltd* TOTAL 8,298 1,671 4,878 275 199 1,704 1,358 Source: PCB FY2020 Annual Review, 2021. Note: SOEs marked with * receive capital contributions from the government; those marked with ** receive subsidies. Does not include 12 other fully government-owned SOEs: FENAKA, Island Aviation Services, Maldives Marketing & Public Relations Corporation, Kadhdhoo Airport, Maldives Integrated Tourism Development Corporation, Waste Management Corporation Ltd, Business Center Corporation Ltd, Public Service Media, Maldives Fund Management Corporation Ltd, Road Development Corporation, Maldives Post Ltd and Regional Airports Company Ltd. SDFC is partially owned (15 percent) by local councils. Maldives Public Expenditure Review: Restoring fiscal health Page 98 Annex 3a: Methodology and Operation of the SOE Model The SOE Model projects both gross income and operating the demand for oil, goods and utilities tends to fluctuate expenses by multiplying the previous year’s figure with with the economic cycle; and 2.1 for MACL, since tourism annual changes in volumes and prices. Gross income arrivals declined by 2.1 times the GDP downturn during excludes government subsidies/dividends, while operating 2020). expenses include overhead costs177 and exclude CAPEX. For gross income, the price change is a weighted average The volume change of both gross income and operating of variations of domestic prices (proxied by inflation expenses depends on real GDP growth multiplied by the rate) and import prices pass-through to the domestic demand-elasticity (e.g., a sensitivity parameter, assumed market (proxied by oil price inflation and exchange rate to be one for STO, FENAKA, STELCO, MTCC and HDC since depreciation). The table below describes the weights for each SOE. Formula to project SOEs’ Gross Income GI: Gross income (MVR million) OP: Oil prices (US$ per barrel) : Sensitivity of sales volume to real GDP growth Ο: Share of oil sales in terms of total sales (%) : Share of non-oil foreign exchange sales in terms of ∆CPI: Consumer price index annual variation (%) total sales (%) Ω: Share of domestic sales in terms of total sales (%) ER: Exchange rate (MVR/US$) Table A3: Gross income weights for each SOE % sales related % sales related to to domestic domestic prices Explanation prices STO 1.9 98.1 The bulk of STO sales are related to the exchange rate, mainly comprising imported fuel and lubricants, and goods such as staple foods, medical equipment, and construction materials. 61.2 percent of sales are related to oil prices, of which 59.2 percent is fuel and lubricants and 2 percent is gas. Both oil price inflation and exchange rate depreciation are passed through to utility companies and consumers. MACL 8 92 Most sales are denominated in foreign currency and partially related to oil prices. Sales related to domestic prices are catering, room revenue, cabin handling and food and beverages. 92 percent of the sales prices are related to exchange rate, of which 50 percent are imported fuel and 42 percent are exported traffic and non-traffic services (e.g., ground handling charges, landing, navigation and parking fees, duty-frees sales, cargo income). 50 percent of the sales prices are imported fuel and hence related to oil prices. 177 Overhead Costs correspond to management and marketing expenses and are recorded separately from the operational expenses in the Financial Statements. Maldives Public Expenditure Review: Restoring fiscal health Page 99 1,12 MTCC 60 40 Sales are partially denominated in foreign currency. 60% of sales are related to domestic prices and mainly comprise infrastructure development (harbors, shore protection and related works, road and airport construction, water and sewerage infrastructure and electrification). 40 percent of the sales are related to exchange rate, of which 22.8 percent are imported goods and 17.2 percent are imported equipment for dredging. MACL 100 0 All sales are domestic. There is zero oil-price inflation and exchange-rate depreciation pass-through to consumers. For the operating expenses and overhead costs, as well as for the gross income, the price change is a weighted average of variations of domestic prices (proxied by inflation rate) and import prices (proxied by oil-price inflation and exchange-rate depreciation). Formula to project Operating Expenses and Overhead Costs : Operating expenses and overhead costs (MVR costs (%) million) ER: Exchange rate (MVR/US$) : Real GDP growth (%) OP: Oil prices (US$ per barrel) : Sensitivity of operating expenses and overhead Κ: Share of total costs related to oil and foreign costs to real GDP growth exchange (%) ∆CPI: Consumer price index annual variation (%) Χ: Share of total costs related to foreign exchange and non-oil inputs (%) Β: Share of domestic inputs costs in terms of total Table A4: Gross income weights for each SOE % of input costs % of input costs that are related to that are related to Explanation domestic prices domestic prices STO 14 86 The bulk of input costs are related to the exchange rate (57% imported fuel and lubricants, 16.5% imported goods, 3% imported gas and 8% purchase of fish in the domestic market). Domestic input costs comprise administrative costs (6.8%), sales and marketing costs (5.6%), and insurance services (1.6%). 60% of all input costs are related to oil prices. MACL 57.6 42.4 Production inputs and costs are partially imported and related to oil. 57.6 percent of the input costs are related to domestic prices, mostly employee benefit and other administrative expenses. 42.4 percent of the input costs (mostly fuel) are related to the exchange rate. MTCC 52.6 47.4 Production inputs and costs are partially imported and related to oil. Input costs related to domestic prices comprise utilities, sales and marketing expenses, and employee benefit expenses. The remaining input costs are related to the exchange rate. These comprise other imported materials and consumables, repair and maintenance expenses, and fuel. Maldives Public Expenditure Review: Restoring fiscal health Page 100 1,12 FENAKA 43.6 56.4 Production inputs and costs are mostly imported and related to oil. 56.4 percent of the input costs are related to the exchange rate – mostly diesel and lubricant oil costs. STELCO 19.5 80.5 Practically all production inputs are imported (mostly diesel and lubricant oil costs, also related to oil prices). Input costs related to domestic prices mostly comprise employee benefit expenses. HDC 100 0 All production inputs are local, mainly related to employee benefit expenses, project expenses, utilities and selling and marketing expenses. Subsidies and dividends reflect policy decisions and so SOE’s financial terms of major debt obligations, warrants are treated as exogenous variables, whose values are treating debt service obligations due as exogenous assumed based on figures observed in recent years variables.180 For this reason, and for simplicity, debt service (2017-2020) and sensitive to inflation. Gross income is assumed to remain constant at 2020 levels, except for and operating expenses are more sensitive to market MACL, STELCO and HDC whose debt stock is projected to conditions.178 grow significantly over the projected horizon based on the high level of projected losses.181 Capital expenses (CAPEX) are recorded separately from the operational expenses in the Financial Statements. Debt service obligations due are assumed to be paid by CAPEX projections are based on companies’ investment the SOE (e.g., no default) either with own funds or with plans. CAPEX is also treated as an exogenous variable. borrowed funds. Corporate profits provide the company with own (non-borrowed) funds which can be utilized for Taxes are estimated by an average effective Business paying debt amortizations/dividends and accumulating Profit Tax (BPT) rate of 15 percent and applied to a proxy financial assets. On the other hand, corporate losses for the BPT tax base (e.g., corporate net income before require the company to borrow funds for financing taxes) of the previous year. expenses in excess of incomes, paying debt amortizations Interest Payments are computed by multiplying the (e.g., rollover maturing liabilities), and accumulating previous year’s debt stock by the implicit interest rate financial assets. In the SOE Model if there is profit, it goes on outstanding debt at end-2020. Interest expenses are automatically to debt service or dividends payments; sensitive to interest rates on sovereign debt, a company’s if there is a loss, SOEs need to borrow. Hence, the SOE risk spread, and the level of corporate debt. Model abstracts from financial-asset accumulation. Profit/loss account – expressed on a cash basis – reflects Borrowing flows reflect indebtedness and sources of selected operating, investment, and financing cash flows. borrowed funds. Borrowings correspond to cash flows The profit/loss account reflects: (i) revenues (gross income, from financing activities and emerge from imbalances government subsidies) and expenses from operating between various cash outflows and inflows (operating activities and overhead costs; (ii) CAPEX from investing expenses, CAPEX, overhead, taxes, interests, and activity; and (iii) interest payments from financing activities. amortizations in excess of gross income and subsidies). For simplicity, the SOE Model accommodates two sources Debt-service flows reflect the interest and amortization of borrowed funds: financial markets and the Central obligations due and indicate the liquidity flow that must Government. It is nevertheless assumed that the five be secured from financial markets or the government SOEs borrow from financial markets only. to ensure smooth financing of business operations.179 Amortization payments depend on maturities and Corporate debt refers to interest-bearing financial redemption profiles. Lack of detailed information on the obligations and excludes other liabilities, e.g., trade 178 The SOE Model can reverse the causality and calibrate what amount of government subsidies would be necessary for an SOE to achieve a target value for its profit/loss account. Thus, the government support is ‘endogenized’ and the profit/loss account is ‘exogenized’ 179 In the normal operation of business, it is expected that access to financial markets will permit to rollover maturing debt obligations—thus avoiding asset liquidation and drastic adjustments to corporate’s revenue and expenses. 180 The Financial Statements of a Public Corporation do not provide the full set of information that is required for projecting debt-service obligations due in the next few years. 181 For these cases amortizations are calculated as the debt stock divided by the outstanding debt maturity. Maldives Public Expenditure Review: Restoring fiscal health Page 101 payables. Corporate debts are denominated in local and minus amortization payments effectuated) and the foreign currencies.182 Corporate debt stock is computed valuation effect to the previous year’s debt stock. The in two ways that are complementary and deliver identical valuation effect is computed by multiplying the previous results: (i) by adding the profit/loss account and the year’s foreign-currency debt stock by the absolute annual valuation effect to the previous year’s debt stock; and variation in the exchange rates between local and foreign (ii) by adding the net borrowings (i.e., gross borrowings currencies. Annex 3b: Financial Performance of SOEs in Baseline and Alternative Scenarios 1. State Trading Organization (STO) – Financial Performance Indicators – Million MVR 2. Maldives Airports Company Limited (MACL) –Financial Performance Indicators – Million MVR 3. State Electric Company (STELCO) – Financial Performance Indicators – Million MVR 182 For valuation purposes, they are all expressed in local currency, using the prevailing exchange rates between local and foreign currencies whenever appropriate. Maldives Public Expenditure Review: Restoring fiscal health Page 102 4. Fenaka Corporation – Financial Performance Indicators – Million MVR 5. Maldives Transport and Contracting Company (MTCC) – Financial Performance Indicators – Million MVR 6. Housing Development Corporation (HDC) – Financial Performance Indicators – Million MVR Maldives Public Expenditure Review: Restoring fiscal health Page 103 Annex 4: Housing Table A5: External loans and guarantees contracted by the government to finance public housing Year Name of project Amount (US$ million) Creditor 2010 1000 Housing Units in Hulhumalé 74.4 GoM EXIM China 2011 485 Housing Units in Maldives 40.0 GoM EXIM India 2012 1500 Housing Units in Maldives 152.0 GoM EXIM China 2017 7000 Housing Units Development Project 368.9 HDC ICBC 2017 1530 Housing Units in Hulhumalé 159.0 HDC China Development Bank 2017 1530 Housing Units in Hulhumalé Phase II 14.3 HDC Seylan Bank Plc 2017 7000 Housing Units in Hulhumalé Phase II 65.1 HDC Credit Suisse (Singapore) 2018 2500 Social Housing Units Project 20.0 HDC Bank of China (London) 2020 Affordable Housing Scheme Project 25.0 GoM Saudi Fund 2021 2000 Social Housing Units in Hulhumalé 116.5 FDC EXIM India 2021 2000 Social Housing Units in Hulhumalé Phase II 110.5 FDC EXIM India Total external loans 1145.6 2016 Hulhumalé Phase II Road Development 34 HDC EXIM India 2018 Electricity System & Open Access Network of Hulhumalé Phase II 17 HDC Seylan Bank Plc 2018 Design & Construction of the Link Road Connecting Hulhule and Hulhumalé 31 HDC ICBC (China) 2018 Design & Construction of Electricity System and Open Access Network of Hulhumalé Phase II 67 HDC Browns-CMEC (China) 2020 Development of Hulhumalé Phase I Remaining Roads and Phase II Stage 2 Roads 19 HDC EXIM India Total external guarantees 169 Total external loans and guarantees 1,314 Source: MoF Table A6: FDC Social Housing Pipeline (2020–2022) Description Typology N° of units Unit price (US$) Market Estimated funding requirements (US$ million) Southern Atolls 3-BR 5,000 42,700 Social 213.5 Northern Atolls 3-BR 3,000 51,700 Social 155.1 Hulhumalé Phase 2 3-BR 2,100 51,700 Social 108.6 Hulhumalé Phase 2 2-BR 2,100 42,900 Social 90.1 Hulhumalé Phase 2 3-BR 2,000 51,700 Social 103.4 Mixed Housing Project 2-BR 301 TBD Mid-Range 3-BR 529 Mixed Housing Project 2-BR 593 TBD Social 3-BR 609 Sinohydro 2-BR 680 TBD Social 3-BR 1,020 Sinohydro n/a 620 TBD Social 3,500 units 2-BR 1,226 TBD Social 3-BR 2,099 TOTAL 14,200 670.7 Source: WB MURDP study (2020/2021). Maldives Public Expenditure Review: Restoring fiscal health Page 104 Annex 5a: Methodology and Operation of the SOE Model Table A7: FDC Social Housing Pipeline (2020–2022) Location Malé Payroll Area Malé Employees 26,063 Atoll Hospitals 1,018 Permanent 24,116 Civil Servants* 7,519 Contract 1,817 Constitutional Bodies 2,716 Temporary 127 Consultants 50 Other 3 Health Sector 3,270 Payroll Month November, 2020 Judiciary Sector 1,822 Non-payroll-relevant 16 Politicians 970 Uniform Bodies 8,682 *Malé-based Civil Servants includes the Education Sector. Table A8: Number of permanent employees receiving each allowance in dataset # Allowance Name Employees # Allowance Name Employees 1 Service Allowance 22,843 28 Practice Allowance 98 2 Exclusive Job Allowance 13,148 29 Auxiliary Allowance 93 3 Overtime 9,455 30 Qualification Allowance 91 4 Living Allowance 7,996 31 Committee Allowance 81 5 Special Allowance 6,148 32 Legal Support Allowance 72 6 Long Service Allowance 5,387 33 Hardship Allowance 63 7 Supporting Co Allowance 5,282 34 Night Court Allowance 59 8 Mobile Phone Allowance 5,166 35 Religious Service Allowance 51 9 Holiday Allowance 4,784 36 Travel Allowance 42 10 Uniform Washing Allowance 3,715 37 Travel Food Allowance 40 11 Risk Allowance 3,268 38 Misc. Allowances 34 12 Food Allowance 2,981 39 Car Allowance 33 13 Commuting Allowance 2,105 40 Acting Allowance 32 14 Professional Allowance 1,875 41 Scholarship Allowance 30 15 Technical Allowance 1,710 42 Fixed Hardship Allowance 24 16 Shift Duty 1,679 43 Tenureship Allowance 16 17 Judiciary Allowance 1,605 44 Socks & Shoes Allowance 8 18 Technical Co Allowance 1,336 45 Toll Free Allowance 8 19 EQ Allowance 707 46 Marriage Allowance 5 20 Uniform Sewing Allowance 691 47 Delivery Service 4 21 Rent Allowance 534 48 On Call Allowance 4 22 Other Allowance 530 49 Tie & Clothes Allowance 3 23 Chit Allowance 258 50 Bank Charges & Commission 3 24 Leave Encashment 219 51 Migration Allowance 2 25 Petrol Allowance 134 52 Clothing Allowance 1 26 Special Constabulary Allowance 120 53 Social development Allowance 1 27 Administrative Support Allowance 114 54 Utilities Allowance 0 *: SAP Payroll database for Malé-based public employees, staff calculations Maldives Public Expenditure Review: Restoring fiscal health Page 105 Table A9: Administrative Officer Average Salary by Rank and Payroll Area Rank Atoll Hospitals Civil Servants Constitutional Bodies Health Sector Judiciary Sector Politicians Uniform Bodies AO 17,11 14,614 CO/GR2 15,400 CS06 14,440 CS10 25,218 CS8 25,739 GS1 11,815 GS2 11,067 6,662 10,150 9,993 GS3 9,263 8,800 14,949 10,239 11,577 GS4 8,559 8,691 13,477 11,220 13,966 11,818 MS1 10,237 14,134 10,465 13,510 17,254 MS2 10,858 MS3 11,350 16,801 OTHERS 5,020 11,237 SPINE10 6,854 SPINE17 8,254 SPINE18 8,643 SPINE19 8,773 SPINE20 9,044 SPINE23 9,910 SPINE24 10,503 SPINE25 10,532 SPINE27 11,318 SPINE31 13,814 SS1 8,757 SS3 7,375 12,313 SS4 13,625 Average 9,438 8,791 10,957 10,376 12,097 16,711 25,674 Source: SAP Payroll database for Malé-based public employees, staff calculations Annex 5b: Estimation of the Public Sector Wage Premium To estimate the public sector premium, we use data calculated by scaling down monthly pay by the reported from the 2019/20 and 2016 Household Income and hours worked). The data from the HIES 2016 are inflated Expenditure Survey (HIES) by the Maldives National using the CPI to allow comparisons of the monetary Bureau of Statistics. These surveys are representative at variables over time. the level of the 20 atolls as well as the capital island Male. While the HIES 2019 covers a sample of 9,630 individuals The HIES includes a comprehensive labour force module who report being employed, including contributing family in the absence of a separate national labour force survey. workers and group workers, we restrict our analysis to the Given that allowances and additional payments form a sub-sample of 7,002 full-time workers (defined as working significant component of remuneration, particularly in 30 hours or more per week) excluding contributing family the public sector, we examine determinants of both total workers. This sub-sample corresponds to 75 percent of income or take-home pay and basic salary. Moreover, to the total employed population. The HIES also collects data account for differences in the average hours worked in on primary and secondary occupations; we restrict our the private and public sectors, we also analyze monthly analysis to the primary occupation only. pay and hourly pay separately (where the hourly pay is Maldives Public Expenditure Review: Restoring fiscal health Page 106 Empirical strategy To examine the public sector wage premium (or penalty), We do not include occupational dummies in our we estimate a standard Mincerian wage regression, Mincerian regressions, following the Angrist and Pischke with a dummy variable indicating whether the worker is (2009) argument that the inclusion of this variable will employed in the public sector. The specification we use is: result in the coefficients on education becoming biased (described as the “bad control” problem). Instead, we logY_i=β_0+β_1 Public_i+X_i γ+u_i estimate the Mincerian regressions separately for To examine the public sector wage premium (or penalty), different occupational categories (following the skill we estimate a standard Mincerian wage regression, categorization of occupations provided in ILO [2012, pp. with a dummy variable indicating whether the worker is 12-13]) to examine the sensitivity of the wage premium employed in the public sector. The specification we use is: to differences in the type of job between public and Where Y_i is monthly or hourly total income or monthly private sectors. We also estimate additional specifications or hourly basic salary of individual i, Public_i is a dummy that interact Public_i with all the controls in the model variable taking the value 1 if the individual is a public to explore whether returns to these variables are also sector employee, and X_i is a vector of standard controls different between the public and private sectors as well including gender, age, age-squared, level of education, as quantile regressions that estimate the public sector and area of residence. Standard errors are adjusted for premium at different points in the conditional earnings clustered survey design. The regressions only include distribution. workers reporting positive income/wages. Table A10: Mincerian regression results – regressions with all employees Hourly total Monthly basic Hourly basic Monthly total income income salary salary Public sector worker 0.249*** 0.388*** -0.088** 0.064 [8.08] [12.67] [-2.32] [1.53] Less than O/L 0.115** 0.123*** 0.170*** 0.169*** [2.58] [2.61] [3.77] [0.57] O/L 0.317*** 0.377*** 0.416*** 0.463*** [7.05] [7.88] [7.79] [8.14] A/L to certificate/diploma 0.399*** 0.468*** 0.501*** 0.556*** [7.42] [8.42] [9.03] [9.03] 0.681*** 0.786*** 0.819*** 0.914*** [15.85] [16.76] [13.79] [15.22] Age 0.060*** 0.055*** 0.043*** 0.040*** [9.79] [8.73] [4.91] [4.15] Age-squared -0.001*** -0.001*** -0.000*** -0.000*** [-9.87] [-8.64] [-3.67] [-3.05] Female -0.409*** -0.275*** -0.263*** -0.139*** [-16.36] [-11.01] [-9.81] [-5.71] Location FE Yes Yes Yes Yes Observations 6508 6508 4143 4143 R-squared 0.325 0.331 0.296 0.277 Source: De Silva 2021 using HIES 2019 data. Note: t-statistics based on standard errors adjusted for clustered survey design in brackets. Significance levels: * 0.1 ** 0.05 *** 0.01 Maldives Public Expenditure Review: Restoring fiscal health Page 107 Table A11: Mincerian regression with public sector dummy interactions – regressions with formal sector employees only Monthly total income Public sector worker 0.524* [1.71] Less than O/L 0.082 [0.56] O/L 0.372** [2.50] A/L to certificate/diploma 0.296** [2.00] Degree or higher 0.784*** [4.77] Public sector*Less than O/L 0.054 [0.34] Public sector*O/L -0.04 [-0.24] Public sector*A/L 0.165 [1.07] Public sector*Degree -0.113 [-0.61] Age 0.068*** [5.57] Public sector*Age -0.032** [-2.29] Age-squared -0.001*** [-5.05] Public sector*Age-squared 0.000** [2.39] Female -0.399*** [-6.35] Public sector*Female 0.200*** [3.05] Male 0.303*** [6.40] Public sector*Male -0.008 [-0.13] Constant 7.474*** [26.18] Location FE Yes Observations 3671 R-squared 0.319 Source: De Silva 2021 using HIES 2019 data. Notes: t-statistics based on standard errors adjusted for clustered survey design in brackets. Significance levels: * 0.1 ** 0.05 *** 0.01 Maldives Public Expenditure Review: Restoring fiscal health Page 108 Table A12: Public sector premium estimated with quantile regression – formal sector employees only Monthly total income Hourly total income Percentile Coefficient p-value Coefficient p-value 10th percentile 0.081 0.045 0.232 0.000 25th percentile 0.038 0.220 0.178 0.000 50th percentile 0.024 0.351 0.138 0.000 75th percentile -0.001 0.973 0.109 0.000 90th percentile -0.093 0.030 -0.043 0.411 Source: De Silva 2021 using HIES 2019 data. Notes: The table reports the public sector wage premia estimated from quantile regressions at the 10th, 25th, 50th, 75th, and 90th percentiles of the monthly and hourly total earnings distributions for formal sector employees. All regressions include the full set of controls and location fixed effects. P-values are based on standard errors adjusted for clustered survey design. Annex 6: PROST Methodology, Assumptions And Key Data This annex summarizes key parameters, reviews replaced the two pension schemes operating solely for trends in the underlying administrative data, and government employees in 2009 and was extended to the describes the key assumptions and process to entire formal sector labor force in 2011. It is also open establish a baseline of financial projections. The World to self-employed workers who can subscribe to MRPS Bank PROST model was used to project the MRPS funds voluntarily. Key parameters of the MRPS are described flows as well as to simulate the continuation of so-called below. double pensions for select civil servants. PROST was also B. Profile of the working age population, contributors used to project costs of the OABP. and retirees A. Key Parameters The age profile of civil servants, covered private sector The Maldives Pension Act (2009) establishes a two-pillar employees and the working age population is summarized pension system which includes a mandatory defined in Figure A1. A graph of the age distribution of civil servants contribution (DC) scheme for all employees, an ongoing and private sector employees counts by age, as of 2020 unfunded defined benefit pension for civil servants, and (Figure A1) shows a bulge in the number of employees a non-contributory OABP aimed at providing an income at ages 26 to 46, which is in line with the working-age floor for all Maldivians (retirees of the MRPS and those population in Maldives. outside the scheme) aged 65 and above. The MRPS first Maldives Public Expenditure Review: Restoring fiscal health Page 109 Table A13: Maldives Retirement Pension Scheme Basic parameters Contribution Rate 7% of Basic Salary for employer; 7% of Basic Salary for employee Treatment of accrued Workers in state employment in 2009 under age 65 eligible for Accrued Pension Rights: Basic salary pension rights prior to the (13/5/2019) × 93% ×14% × service period up to 30 April 2010. 2009 reform Administrative fees 0.6% of Retirement Savings Account (RSA) annually Investment options • MRPS default Investment portfolio • MRPS Sharia portfolio • MRPS Conservative portfolio - Default Portfolio for members age 65+ • MRPS Retirees Shariah Portfolio: Age 65+ Eligibility Conditions Eligibility Age 65 Early retirement eligibility Age 55+, provided the balance in the RSA is sufficient to provide a lifetime monthly payment > twice the amount of the Old Age Pension prevailing at the time of retirement. Old Age Benefits Balance in the member's RSA at time of retirement divided by life expectancy at that age at time of retirement. Survivorship benefits Lump sum distribution of RSA accumulation. Housing Loan • MRPS balances can be used to collateralize housing loans according to a sliding scale by the age of collateralization & Hajj the contributor. disbursement •The scheme provides for pre-retirement disbursement to pay for 80% of obligatory Hajj provided that the member has a balance necessary to pay for a MVR 2000 monthly benefit at pension age. Old Age Basic Pension OABP amount is MVR 5000. For pensioners receiving pension benefits the following adjustments are (OABP) made to the OABP: • 50% of the amount received from MRPS. • 100% of the amount the amount received from any other state funded pension scheme • Pensioners receiving more than double the amount of Basic Pension (MVR 10000) as a pension from the MRPS and pensioners receiving more than MVR 5000 from any state funded pension scheme are not eligible for Basic Pension Figure A1: Age distribution of CS, Private Sector and Working Age Population Source: MPAO administrative data and Maldives Bureau of Statistics. Maldives Public Expenditure Review: Restoring fiscal health Page 110 C. PROST Projections The financial projections of the pension system were made using the Pension Reform Options Simulation Figure A2: PROST Projection Methodology Toolkit (PROST). PROST is a modeling program with an Excel-based interface developed by the World Bank and licensed without cost to country client users. PROST follows the methodology depicted in the figure below for carrying out the projections and arriving at the inflows and outflows of a pension system. The base year for the analysis was 2020. The simulation period runs from 2020 to 2080 to capture the full life cycle of those currently entering the pension system. PROST projects both the profile of the covered population, existing and new retirees using the flow of contributors from the previous year. The retirement pattern is estimated from the data using the contributor age/wage/gender profile and the age/gender/benefit level to increase in line with real GDP growth assumptions, distribution of existing and new pensioners. adjusted according to the projected changes in the Using projections of the population, contributors, working age population. This relationship has been and beneficiaries, PROST determines the cash in- validated from cross-country experience. Real wages flows (contribution revenues and investment income) are strongly correlated with productivity growth and and outflows (pension payments, miscellaneous thus overall economic growth. payments). All three components are projected, the civil • Real rates of return on investments. The real rates of service defined-benefit scheme, the MRPS DC scheme, return on investments over the long-run are assumed and the OABP. to be about 1.5 percent higher than real GDP growth. Table A13 shows the most important assumptions This is in line with what has been observed across used for the projections. countries. • Real GDP growth. World Bank projections current as Inflation. Inflation assumptions are not material to the of April 1, 2022 are used as the basis for the short- model since the key assumptions are in real terms. term real GDP growth assumptions. For the long term, Inflation assumptions are used in the calculations of net it is assumed that Maldives will gradually converge on present values, but this has not been done here. a real GDP growth rate of 3 percent per annum. This Age/wage/gender profile. To estimate the Pension is the approach that the World Bank has used in many due at the time of retirement, PROST creates an age/ countries. wage/gender profile using (a) distribution of wages by • Real wage growth per capita. Real wages are assumed age and gender and (b) the number of people by wage Table A14: Key Assumptions for PROST Projections 2021 2022 2030 2040 2050 2060 2070 2080 Real GDP growth rate 31% 7.6% 5.2% 4.2% 3.8% 3.50% 3.00% 3.00% Real wage growth per capita 29.8% 6.4% 4.4% 3.5% 3.2% 3.3% 3.2% 3.4% Inflation rate 0.5% 3.5% 1.3% 1.0% 1.0% 1.0% 1.0% 1.0% Real investment returns 17.3% 11.3% 6.7% 5.7% 5.3% 4.7% 4.5% 4.5% Net rate of increase in workforce 1.2% 1.2% 0.8% 0.7% 0.6% 0.2% -0.2% -0.4% Note: In the private sector, an increase consistent with a projected increase in GDP/capita is assumed. A gradual increase in line with a constant share of working- age population growth in the public sector is assumed. 183 The wage brackets are chosen by us after looking at the distribution of wages, the minimum and maximum and dividing the brackets such that we have at least 3–7% of all individuals fall within each bracket. Maldives Public Expenditure Review: Restoring fiscal health Page 111 Figure A5: Maldives Actual and Projected Fertility Rates (Number of children per woman) Source: UN Population Projections. Table A15: Number of Covered Workers and Retirees184 Table A16: Distribution of Covered Wages (As at end-2020) Monthly wage distribution (civil servants and private sector), MVR per month Contributors (base year) Males Females Civil servants 21,191 20,951 Male Female Private sector 40,265 12,593 MVR Freq. % Freq. % Beneficiaries (base year) 3100 9742 16% 6252 19% Only DB pension 6,154 Civil servants 3544 5312 24% 2477 26% Only DC pension 386 Private sector 4300 5751 34% 4500 39% DC + DB pensions 950 Civil servants 4950 7481 46% 2645 47% DC + DB 15,556 Out of MRPS 5789 7063 58% 3070 56% OABP 2,811 Top-up in MRPS 6837 6716 68% 3466 67% 8042 6077 78% 4099 79% brackets.183 PROST includes age/gender profiles both for 9620 5539 87% 4655 93% the covered population (from administrative data) and 19055 7780 100% 2385 100% for the overall population using UN population data and demographic projections, i.e., population projections, fertility, mortality, and mortality improvement. Fertility Median basic wage, MVR per month rates in Maldives (Figure A5) show a sharp decline from 7.26 births (on average) per adult female in 1980 to about Female Male Total two births from 2010 which, along with life expectancy Civil servants 6400 6185 6295 have profound implications for pension systems. Private sector 5300 4700 5050 Projected mortality assumptions are derived from the All 5500 5520 5500 UN Population Projections. Mortality rates at all ages are expected to decline over the projection period, consistent with expectations of countries with similar levels of development. The combined effect of fewer births and • Assumptions from UN Population Projections are used longer life expectancy on the long-term sustainability of to project changes in the working-age population. the pension system is that more households will have to The projections are developed in accordance with support the elderly that are not able to work. census data. Civil servants' headcounts are assumed Headcount projections are a function of the demographic to remain a fixed percentage of the working-age profile of the working age population and the anticipated population until 2045, when it reaches a peak; after worker coverage and contribution density during the that, we assumed that there is no net new hiring, i.e., projection period. Table A15 summarizes the headcount the number of new entrants equates with the number of workers and pensioners as at end-2020. The following of new retirees. are the key assumptions used in the coverage/headcount • No change in labor force participation. projections: 184 Individual data on survivors was not available. Survivor pension is received as a lump sum from the individual account accumulation. Maldives Public Expenditure Review: Restoring fiscal health Page 112 • The coverage of private sector workers is assumed to Contribution density. The contribution density for public gradually converge on the relationship between GDP sector employees was about 92 percent, reflecting the per capita and working age population coverage, as relatively stable employment in the public sector. The indicated in Figure 100. contribution density for private sector employees is lower at 73 percent of private-sector employees who The median monthly basic salary from the individual contributed throughout the whole year and 13 percent data was about MVR 6,300 for civil servants and MVR contributing six months or less. 5,050 for private-sector workers, and a median of MVR 5,500 for the entire covered population (Table A16). As of 2020, the average old-age DB pension was about MVR 2700 while the average old-age DC pension was about MVR 5200. About 93 percent of all pensioners received the OABP of MVR5000. Table A17: Pension Distribution (DB and DC pension) as at end-2020 a) DB Pension (Civil Servants) Male Female Benefit Bracket (MVR/month) Retirees Cumulative Percent Retirees Cumulative Percent 446 356 7% 56 3% 621 430 16% 174 11% 882 481 25% 285 24% 1118 447 34% 308 39% 1478 523 45% 281 52% 1960 442 54% 274 65% 2733 478 64% 283 78% 3755 566 75% 229 89% 5583 601 87% 125 95% 14349 647 100% 113 100% b) DC Pension (Post-2009 retirees) Male Female Benefit Brackets (MVR/Month) No. Of Retirees Cumulative Percent No. of Retirees Cumulative Percent 5000 955 90% 249 92.6% 5204 22 91.5% 3 93.7% 5765 20 93.4% 7 96.4% 6790 22 95.5% 5 98.1% 7942 24 97.75% 3 99.2% 10946 24 100% 2 100% Source: MPAO. Maldives Public Expenditure Review: Restoring fiscal health Page 113 Maldives Public Expenditure Review: Restoring fiscal health Page 114