Cambodia continues to benefit from strong growth and stable inflation, but faces significant uncertainties, according to the latest IMF report for Cambodia.

The IMF Article IV report released on December 26, last year, finds that stable macroeconomic environment, strong growth and ongoing structural reforms have contributed to significant progress towards Sustainable Development Goals (SDGs).

At the same time, uncertainties, including from slower global growth and potential suspension of preferential market access under the EU’s Everything But Arms (EBA) scheme, highlight the importance of maintaining macroeconomic stability while meeting still large development needs, addressing elevated financial sector vulnerabilities and accelerating structural reforms.

Strong growth has been associated with robust revenue performance and the medium-term outlook remains positive. Growth accelerated to 7.5 per cent in 2018, led by garment-related exports and construction activity and supported by strong external demand and credit growth.

On the fiscal front, robust revenue performance continues, and, thanks to strong administrative efforts, the 2018 fiscal balance (following the Government Finance Statistics Manual 2014 format) shows a surplus close to one per cent of GDP in 2018.

The fiscal position is projected to remain in surplus also in 2019. Deterioration of external conditions is expected to slow down economic growth to seven per cent last year and 6.8 per cent this year. Export growth is expected to moderate, contributing to a further widening of the current account deficit to 13.5 per cent of GDP in 2019.

However, suspension of trade preferences presents a significant downside risk. The review by the EU – Cambodia’s primary export partner – could lead to a possible suspension of preferential trade access later in 2020, which could have a large negative impact on economic activity.

The 2020 budget aims to mitigate this negative impact with a significant increase in government spending to support job creation and human capital development through a cash-for-work programme and vocational training, as well as a scale-up in infrastructure investment.

Other risks to growth are also tilted to the downside. Concerns about credit quality, increasing concentration in the real estate sector and consumer lending, reliance on external funding, and growing importance of microfinance institutions (MFI) continue to pose risks to financial and macroeconomic stability. Fiscal spending pressures and potential slowdown in revenue growth risk eroding policy space over the medium term.

On the external front, significant downside risks include spillovers from rise in protectionism, which could hamper exports and dent investors’ confidence. Weaker than expected growth in China would have significant negative spillovers through FDI, banking, and tourism channels, while a further growth slowdown in advanced economies could significantly reduce exports.

Extreme weather events could reduce agricultural production. Despite the downside risks, Cambodia’s growth potential can be reinforced by reform actions. An overarching structural reform plan is needed to set economic direction, and support investment and job creation.

The National Strategic Development Plan (NSDP) 2019- 2023 is a welcome development, and identifies a number of reform priorities, reflecting large and multi-dimensional development needs. While further work is needed to specify reform sequencing and integration with the medium-term fiscal framework, the NSDP is a good step towards setting reform direction aimed at improving competitiveness and diversification.

Meeting the SDG targets by 2030 will require sustained policy efforts. Cambodia’s significant progress towards SDGs has been mainly due to its strong economic growth and structural reforms. Going forward, further policy efforts are needed, particularly in improving education and health outcomes and investing in infrastructure.

Our estimates suggest that more investment is required to meet selected SDGs and improve the daily lives of all Cambodians. The quantity and quality of health and education services, as well as physical infrastructure, in particular, need to be improved further.

IMF staff estimates that total additional spending of about 7.5 per cent of Cambodia’s projected 2030 GDP is needed to help fund priority SDGs, with education and health accounting for about two thirds of the total needs. While spending needs for reaching water and sanitation goals are smaller, achieving universal access to electricity and roads would require total additional annual spending of at least 2.5 per cent of projected 2030 GDP.

To fully tap Cambodia’s potential, the immediate task is to maintain macroeconomic stability while advancing reforms to support growth and sustainable development. Key policy actions include:

Safeguarding fiscal sustainability and promoting inclusion

Continued strong revenue mobilisation efforts and a prudent fiscal stance supported by restraining non-development current spending will allow additional spending to address development needs. Expenditures should be oriented towards supporting inclusive growth through priority infrastructure investment, as well as health and education spending.

Fiscal governance should be further strengthened through reforms aimed at improving revenue administration, public financial management and spending efficiency. Managing fiscal risks from contingent liabilities calls for strengthening the Public-Private Partnership (PPP) framework.

Addressing macro-financial risks

Prompt actions are needed to address elevated financial sector vulnerabilities and to improve the external position through moderating credit growth and implementing targeted macroprudential policies.

This includes a prompt, broad-based policy response to address risks associated with the real-estate sector. Enhancing regulation and supervision, promptly introducing a comprehensive crisis management framework and improving financial sector oversight, including through closing gaps in the anti-monetary laundering/countering the financing of terrorism (AML/CFT) regime, would help build financial resilience. Policies should continue to encourage local currency use and further financial development.

Supporting progress towards SDGs

Policies should be geared towards addressing sizeable spending needs to reach SDG targets in health, education and infrastructure, with support from the private sector and international donors. Accelerated implementation of structural reforms is needed to remove structural constraints to growth, correct external imbalances, address governance and three corruption weaknesses and promote sustainable and inclusive development.

While steady progress has been made, additional efforts are needed to address data gaps, and improve data quality and transparency. The IMF will continue to assist Cambodia in undertaking these and many other reforms.

The Fund maintains a productive dialogue with the authorities on policy issues and has provided substantial technical assistance and training to Cambodia. The Fund is encouraged by Cambodia’s commitments to reforms and looks towards continued cooperation with the authorities.

Jarkko Turunen is IMF mission chief for Cambodia. Yasuhisa Ojima is IMF resident representative for Cambodia.