The Cambodian economy faces the challenges of higher inflation and a downturn in the global economy, but it is expected to grow 5% this year and 5.5% next year, according to a recent report.
The economy has been buffeted this year by developments in China, the slowdown in consumer demand in advanced countries – notably the US and Europe – and tighter global financial conditions, states the report published by the International Monetary Fund (IMF) after a two-week mission to Cambodia.
Inflation in the country hit 7.8% year-on-year in June, following increases in fuel and fertilizer costs, but receded to 4.9% in August. Export orders for the second half of the year have weakened, and the real estate market is slowing.
"Risks of public debt distress remain low,” the report points out. “However, the level of private debt raises concerns about the drag on the economy if borrowers struggle to meet repayments. The authorities have largely continued with crisis policy responses, such as loans and guarantees, tax breaks, wage subsidies and retraining, and cash transfers.”
In addition, the National Bank of Cambodia has maintained reserve requirements and the level of a capital conservation buffer. But the central bank ended forbearance on restructurings from July.
Strong exports, tourism recovery
“Despite the new pressures, the [economic] recovery is projected to continue,” the IMF notes, highlighting a strong export performance earlier this year. And the faster growth next year is expected to reflect the continued recovery of tourism and ongoing policy support. As well, inflation is expected to peak this year, be lower in 2023, and decline further after that, assuming it remains mostly confined to imported goods.
“Uncertainty around the outlook is particularly high, and risks are tilted to the downside,” the IMF shares, pointing to rising private debt, conditions in key large economies and inflation as the most pressing risks. Private debt in Cambodia is described as “very high” with credit growth surpassing nominal GDP growth for several consecutive years.
Outstanding private sector credit reached 170% of GDP at the end of last year, “a ratio notably above those of other countries in the region”, the report notes. These numbers don’t include credit issued by unsupervised lenders, such as real estate developers and pawn shops, that could be “sizeable”, according to the IMF. Restructured loans in June were an estimated 13% of GDP, and non-performing loans have already risen to nearly 4.5% of GDP.
The National Bank of Cambodia, the report advises, “needs to continue to normalize prudential conditions to pre-pandemic settings, so that the financial system is able to withstand future shocks”. The central bank has already introduced a policy to facilitate restructuring of loans in mid-2020 and taken the “welcome step” of reintroducing provisioning requirements since December of last year.
Heightened supervision needed
The central bank should continue with heightened supervision, including rigorous on-site inspections, according to the IMF. “[The bank] should be prepared to raise provisioning requirements and instruct lenders facing solvency problems to proactively increase capital. The potential for high debt levels to persist emphasizes the importance of implementing corporate insolvency, debt and bank restructuring, and deposit protection frameworks.”
To help rein in credit growth, the central bank “should complement these measures by gradually restoring monetary conditions to pre-crisis levels. Minimum reserve requirements on financial institutions should be increased, with the priority to raise the minimum reserve ratio for foreign currency above that for local currency.”
As for the fiscal environment, the IMF points out that current plans “appropriately balance some continued stimulus in the near term, providing insurance against downside risks to aggregate demand, with steady reductions in the deficit over the medium term.”
But fiscal support needs to be well targeted. “Social protection measures should continue to be used to protect the poor against the effects of inflation, but with some offsetting cuts elsewhere,” the report states. “In case of downside risks materializing in the near term, however, the country currently has fiscal space to provide targeted support.”
Developing sovereign debt market
Demands on public spending were likely to rise in areas like infrastructure, healthcare, education and climate-change adaptation. The IMF comments: “A debt anchor in nominal terms, combined with an overall deficit ceiling, would provide a credible framework, especially important as Cambodia seeks to develop a market for sovereign debt.”
As well, the IMF notes that Cambodia’s current account deficit had “widened significantly” with the external position estimated to remain “substantially weaker” than the level implied by medium-term fundamentals and desirable policies. Financial inflows overall have been steady and foreign exchange reserves are adequate, covering eight months of projected imports.
Trade, investment measures ‘particularly welcome’
There is a need for structural measures to boost productivity, “not only to raise living standards, but also to durably restore external balances, given the pegged nominal exchange rate”, the IMF stresses. Efforts to establish new-free trade agreements and introduce a “one-stop” mechanism for investors under the new investment law are “particularly welcome”, it notes as “the investment environment will also be improved with continued efforts on governance.”