The Reserve Bank of Malawi (RBM) has said curtailing fiscal dominance on a sustainable basis could be key to achieving and maintaining long-term price stability in Malawi.
Fiscal dominance loosely refers to a situation where the government maintains persistently high levels of fiscal budget deficits, prompting the central bank to act to ensure that the government’s inter-temporal budget is balanced.
Over the past 10 years, Malawi’s budget deficit has been steadily growing as expenditures far outweigh revenue, leaving the government with no option but to craft national budgets with huge deficits.
In the 2020/21 fiscal year, the budget deficit is estimated at K810.7 billion, or 8.8 percent of gross domestic product.
Finance Minister Felix Mlusu said in his mid-year budget review statement that the deficit is expected to be covered through foreign financing of K246.3 billion, with the balance of K564.4 billion programmed to be financed through domestic borrowing.
In a policy brief released on Thursday, RBM says, under fiscal dominance, the monetary authority is forced to print money— technically known as seigniorage revenues— to satisfy the inter-temporal fiscal budget balance condition.
The policy brief says, given that seigniorage and inflation are positively related, it may be inferred that maintaining persistently high fiscal budget deficits creates inflation.
RBM says curtailing fiscal dominance requires credible and sustained fiscal adjustment, supported by an appropriate monetary policy.
“As Malawi is transitioning to a more forward-looking monetary policy framework [that is, inflation targeting], it is important that the independence of the central bank be enhanced,” RBM says.
Looking at trends between 1980 and 2020, the policy paper says fiscal budget deficit and seigniorage have been moving in the same direction.
Centre for Research and Consultancy Director Milward Tobias said there was a need to gradually reduce the budget deficit, adding that this was a focus during the late Bingu wa Mutharika’s administration but it was lost with the change of political administration.
Tobias said national budget revenue and expenditure targets should be realistic and adhered to.
He said, quite often, by the end of the year, revenue is lower than projected and expenditure is higher than projected. This, Tobias said, results in the budget deficit being higher than planned, hence persistent higher borrowing than planned.
“The study findings confirm the fact that economic fundamentals are interrelated. You mess up on one area [and] the consequences spill over to many areas.
“ E c o n o m i c management requires completeness of thought. Fiscal policy decisions affect monetary policy management and ultimately the whole economy,” Tobias said.
Treasury spokesperson Williams Banda said he needed time to consult before he could comment on the RBM Policy Brief.