Journal Issue

São Tomé and Príncipe: Recent Economic Developments and Selected Issues

International Monetary Fund
Published Date:
June 2000
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I. Recent Economic and Financial Developments1

A. Structure of the Economy

1. São Tomé and Príncipe is a small, island country with some 138,000 inhabitants; its resources are limited, and its GDP per capita is estimated at about US$295 (1998). The economy is heavily dependent on cocoa, which accounts for 96 percent of export goods. During 1987-89, São Tomé and Príncipe implemented an adjustment program, supported by a structural adjustment credit and a cocoa rehabilitation credit from the World Bank and an arrangement from the Fund under the Structural Adjustment Facility (SAF). During the 1990s, it liberalized the economy and reduced the role of government in productive activities. Significant structural reforms were implemented, including (1) the contracting out of the agricultural public estates management to private operators under long-term leases; (2) the restructuring of the banking system, with the separation of commercial bank functions from those of the central bank and the establishment of two private banks in 1993 and 1995, respectively; (3) price liberalization; and (4) the introduction of a floating exchange rate at the end of 1994. However, the supply response was disappointing through 1997, and major macroeconomic imbalances developed as a lack of political commitment hindered reforms in the fiscal area. Following a decade of very large macroeconomic imbalances and declining real per capita income, the government successfully implemented a staff-monitored program in 1998-99 that turned around the primary budget balance from a deficit to a surplus, lowered inflation, and helped improve real GDP growth.

2. On the political front, there has been significant liberalization, and São Tomé and Príncipe has enjoyed a democratic political system since 1991 (Box 1), with presidential elections in 1991 and 1996, and parliamentary elections in 1994 and 1998. However, São Tomé and Príncipe faced political tensions in the 1990s, including an aborted military coup in mid-1995, the dissolution of a coalition government in September 1996, and the President’s unilateral decision to establish diplomatic relations with Taiwan Province of China. In January 1999, the new government resulting from the November 1998 legislative elections pledged to seek consensus with the President on the major economic, social, and political issues facing São Tomé and Príncipe.

3. Most of the population earns a living through agriculture-related activities. The agriculture sector contributed 17 percent of GDP in 1999, a share that fell from 23½ percent in 1995 (Tables 17 and 18), reflecting the decline in cocoa production. The country is still heavily dependent on cocoa, although production in recent years has only been at one third of the levels recorded in the mid-1970s (Figure 1). Secondary sector activities depend largely on foreign-financed construction projects. The rudimentary industrial base consists mostly of a few public manufacturing and energy enterprises, which account for about 5 percent of GDP. Commerce and transportation (which include a few newly established private companies), the financial system (composed of two commercial banks), and tourism together contributed another 39 percent, a share that increased from 35 percent in 1995-96, reflecting private sector development, particularly in tourism. Public administration remains important, contributing 23 percent of GDP.

Box 1.Democracy in São Tomé and Príncipe

Since the constitutional reforms of 1990 and the first multiparty elections of 1991, São Tomé and Príncipe has made great strides toward developing its democratic institutions and guaranteeing the civil and human rights of its citizens. The people of São Tomé and Príncipe have freely changed their government through peaceful and transparent elections, with the current President of the Republic receiving the support of a party other than the governing party. While there have been disagreements and political conflicts among the Head of State, the government, and the National Assembly, the debates have been carried out and resolved in open and democratic consultations, in accordance with the provisions of the law. Three major political parties and several minor ones actively participate in the political life and openly express their views.

The constitution provides for a variety of rights and freedoms, including freedom of expression and of the press, the right to assemble and meet, the right to a fair trial, and the prohibition of arbitrary arrest, detention, or exile. These rights are observed in practice. The judiciary is now independent, and has brought decisions against both the President and the government. In practice, the judicial infrastructure suffers from severe budgetary constraints, inadequate facilities, and a shortage of trained judges and lawyers, causing long delays in bringing cases to court and hindering investigations in criminal cases.

Administratively, the country is divided into seven municipal districts, six on the island of São Tomé and one comprising the island of Principe. Governing councils in each district maintain a limited number of autonomous decision-making powers and are elected every five years.

Independent assessments point out that São Tomé and Príncipe enjoys a substantial degree of freedom. The State Department’s Human Rights Report for 1998 rates the country’s respect for human rights as exemplary. The 1998-99 Annual Survey of Freedom by Freedom House rates São Tomé and Príncipe as free, with a combined score of 1.5 (on a scale of 1 to 7, with 1 representing the most free and 7 the least free) for political rights and civil liberties; only 3 of 48 sub-Saharan African countries have a similarly low score—Cape Verde, Mauritius, and South Africa. The 1999 Press Freedom Survey, also by Freedom House, lists São Tomé and Príncipe as having a free press, a designation achieved by only 4 other sub-Saharan African countries.

Figure 1.São Tomé and Príncipe: Prices and Production of Cocoa, 1970-99

Sources: São Tomé and Príncipe authorities; and staff estimates.

4. Annual real economic growth rates averaged less than 1.5 percent during 1994-97 (Table 19), despite substantial investment, mostly financed by foreign lenders and donors; the rate increased to 2.5 percent during 1998-99. As a result, income per capita has deteriorated steadily, and São Tomé and Príncipe’s debt burden has become one of the heaviest in the world (at end-1999, the present value of the debt was estimated to be more than 4 times GDP and 14 times exports of goods and services).

5. The quality of statistical data remains very weak, despite recent improvements in the compilation of monetary statistics, government finance data, and the consumer price index.

B. Developments in 1996-98

Production, demand and prices

6. The moderate recovery in real GDP growth in 1998 and 1999 reflected the rapid development of the tourism sector and the strengthening and diversification of food crop production while cocoa production continued to decline and other export crops stagnated. In 1999, the construction sector also contributed to reinvigorate the economy after it had experienced a marked decline in 1997 and stagnated in 1998.

7. The export-oriented agricultural sector continued to decline in 1996-99. Weather conditions were unfavorable, and most cocoa plantations were damaged by a crop disease. The deteriorating trend in export price of cocoa accelerated in the second half of 1999, which coincided with the harvest season. The potential supply effects of the fall in prices could be significant, particularly for small producers who have no access to storage facilities. The shock also caused financial difficulties for bigger cocoa producers who raised stocks. Cocoa production in 1999 is estimated to have remained at its 1998 level, a significant part of which was stored because of the low export prices. Production of other export crops stagnated during 1996-99. Incentives for agricultural diversification have markedly stimulated food crop production, which increased annually by 18 percent on average during 1996-98. However, deteriorating rural infrastructure limited the access of small producers to the market, and farmers repeatedly abandoned substantial shares of their production.

8. Tourism has driven real growth since 1998. The industry was stimulated by the construction of two new hotel facilities, and both old and new hotels often achieve full capacity utilization. The high content of construction work, induced both by foreign-financed development projects2 and new infrastructure for tourism, also started boosting the construction sector in 1999.

9. Gross domestic expenditure has been unstable since 1996. It contracted by 3 percent in real terms in 1996 and by 8.5 percent in 1998, and increased by 2 percent in 1997 and 6 percent in 1999. These fluctuations reflect changes in the availability of foreign assistance, which continues to determine public sector activity to a very large extent. Public investment and social programs financed from abroad slowed down in 1996 and fell by about 30 percent in real terms in 1998. Public expenditure increased sharply in 1999, following a more than 50 percent growth in disbursement of foreign assistance. Excluding expenditures on projects financed by foreign donors, current public expenditures increased at a rapid pace in 1996-1997 (more than 20 percent per annum in real terms). Fiscal tightening successfully reversed this trend in 1998, but domestically financed public consumption is estimated to have increased by 10 percent in 1999. Although the statistical coverage of private consumption and investment is very limited, private absorption is estimated to have declined from 1996 to 1998, before recovering in 1999 by 3.2 percent.

10. The resource balance improved in 1996-98 because of a strong recovery of exports of goods and services coupled with a contraction in imports (Figure 2 and Table 19). The balance slightly deteriorated in 1999, as the rapid expansion of capital expenditures stimulated imports and the real growth of exports decelerated.

Figure 2.São Tomé and Príncipe: Output, prices, Savings, and Investment, 1990-99

Sources: São Tomé and Príncipe authorities, and staff estimates.

11. Expansionary fiscal and monetary policies caused the rate of consumer price inflation to reach 52 percent in 1996 and to accelerate further to 80 percent in 1997 on an end-of-year basis (Table 26).3 This upsurge in inflation was coupled with a rapid depreciation of the nominal exchange rate vis-á-vis the U.S. dollar, amounting to 61 percent in 1996 and 146 percent in 1997. The adoption of a tight fiscal and monetary policy mix reduced inflation to 21 percent in 1998 and 13 percent in 1999. In the circumstances, the exchange rate of the dobra vis-à-vis the U.S. dollar stabilized in 1998 and only depreciated by 6 percent in 1999 on an end-of-year basis.

12. The terms of trade improved during 1996-98 by an average annual rate of 12 percent as the world cocoa price increased and the world oil price declined. Both trends dramatically reversed in 1999, and indications are that the export price of cocoa for São Tomé and Príncipe fell even more than world prices (Figure 3 and Table 43). As a result, the drop in the terms of trade in 1999 is estimated at 52 percent.

Figure 3.São Tomé and Príncipe: Exchange Rates and Terms of Trade, 1990-99

Sources: São Tomé and Príncipe authorities; IMF, World Economic Outlook database; and staff estimates.

Public finance developments

Recent fiscal performance

13. The weaknesses in the implementation of macroeconomic policies were critical in 1994 when the primary fiscal deficit (excluding grants and foreign-financed capital expenditure) reached 10 percent of GDP (Table 31). To correct these weaknesses, the authorities succeeded in reducing domestically financed expenditure and increasing nontax revenue in 1995, significantly improving the fiscal position, and in particular, eliminating the primary budget deficit. However, fiscal performance was disappointing in 1996-97, as political uncertainties hindered the effective implementation of the government’s intended adjustment policies.

14. In 1996, in the context of a depressed economic envíronment and a decline in foreign assistance, the authorities expanded current primary expenditures in real terms, while government revenue declined in real terms. On the revenue side, the principal problems remained: (1) a weak customs administration and lax control of exemptions (some 37 percent of imports were exempted); and (2) the absence of price adjustments for petroleum products despite a sharp depreciation of the dobra. On the expenditure side, personnel costs increased by 1 percentage point of GDP, while transfers to the electricity company (EMAE) amounted to 3 percent of GDP. In the circumstances, the primary balance turned negative again, with a deficit close to 5 percent of GDP.

15. In 1997, the primary fiscal deficit exceeded 2 percent of GDP. Despite successful efforts to improve operations in the tax audit unit (resulting in the collection of significant amounts of tax arrears), proposed measures to improve the efficiency of operations at customs were not implemented. In particular, customs management was not strengthened, and the use of ad hoc customs exemptions was not curtailed. Excluding the (nonrecurrent) collection of arrears, 90 percent of which came from a single taxpayer, tax revenue remained at the low level recorded in 1996 (9 percent of GDP); on the strength of improvements in tax auditing, and attendant larger transfers from public enterprises, nontax revenue increased slightly to 4 percent of GDP.

16. On the expenditure side, noninterest current outlays exceeded budgetary allocations by over 50 percent in 1997, with every budgetary line showing a substantial excess and the treasury accumulating large domestic arrears (2 percent of GDP). The sharp increase in personnel costs, of some 2 percent of GDP, reflected the decision to grant a general wage increase in mid-1997 with retroactive effects for the first half of the year. Moreover, unbudgeted subsidies to public enterprises were sizable because (1) prices of petroleum products were not adjusted sufficiently by the state-owned oil distribution company (ENCO) to fully reflect changes in import costs, and (2) the financial position of EMAE, which built up arrears on the payment of its oil bills, continued to be weak. Overall, extrabudgetary expenditures accounted for about half of the overruns, owing mostly to spending decisions taken by the Council of Ministers, including the financing of the liquidation of the insolvent National Savings and Credit Institution (CNPC) through central bank credit, and ad hoc current outlays financed through the special grant received from Taiwan Province of China in 1997.

17. In 1998, the authorities adopted a policy framework under which they aimed at eliminating the primary fiscal deficit and at limiting the growth of broad money to 20 percent, thereby allowing inflation to slow to 25 percent (from over 80 percent in 1997). The principal policies underlying the program involved improvements at customs, including commitments to cease granting new exemptions, to implement tighter expenditure controls (including avoiding extrabudgetary expenditures), not to grant a general wage increase, and to settle the cross arrears involving EMAE and ENCO.

18. Fiscal performance turned around for the better in 1998 under the. government policy framework. The primary fiscal balance moved to a surplus of close to 1 percent of GDP, as revenue mobilization was better than forecast, exceeding 19 percent of GDP, and expenditure was contained within budget limits, with noninterest current expenditures remaining at the level of 1997—slightly above 16 percent of GDP—and domestically financed capital expenditures rising slightly to over 2 percent of GDP. Continued improvements in the tax audit units led to better performance in both direct and indirect domestic taxes. Meanwhile, the partial privatization of ENCO resulted in a significant improvement in the collection of customs duties and excise taxes on petroleum products, and allowed the treasury to recover arrears previously accumulated by ENCO. Nevertheless, difficulties at customs continued, as a weak oversight of exemptions and pervasive fraud and evasion led to significant shortfalls in both import duties (excluding petroleum products) and export taxes. Moreover, attempts by customs to impose penalties were effectively frustrated by a 1944 law requiring prior court approval.

19. Regarding primary expenditure, a budget overrun of Db 7.6 billion was recorded in 1998 despite the implementation of stronger spending controls. This overrun resulted from increases in domestically financed investments, the wage bill (owing to a general wage increase and the implementation of the special system for the remuneration of military personnel in 1998), and current spending on goods and services (as the treasury continued to encounter difficulties in monitoring water and electricity bills). However, the primary budget surplus allowed the elimination of the domestic payments arrears, while the partial privatization of ENCO allowed born the elimination of cross arrears (between ENCO, EMAE, and the treasury) and the stricter implementation of the automatic price adjustment mechanism for petroleum products.

Fiscal policy: regional comparison

20. Since 1994, eight West African nations—Benin, Burkina Faso, Côte d’Ivoire, Mali, Niger, Senegal, Togo, and Guinea-Bissau—have attempted to translate their joint participation in the CFA franc zone into full economic integration by establishing the West African Economic and Monetary Union (WAEMU).4 Some of these countries face the same challenges and issues that São Tomé and Príncipe has been addressing, namely the need to improve financial intermediation, liberalize trade policy, improve the climate for private and foreign investment, both domestic and foreign, and streamline a cumbersome regulatory framework. In the circumstances, it is useful to compare economic policy across WAEMU countries with that in São Tomé and Príncipe.5

21. Overall, fiscal policy in São Tomé and Príncipe compares well with results across WAEMU (see table below). Regarding the primary fiscal balance and total government revenue, the averages for 1995-98 are very close, although annual figures for São Tomé and Príncipe are less stable. With respect to the functional distribution of total expenditure, São Tomé and Príncipe compares very favorably, with a higher percentage of GDP allocated to the key social sectors of education and health. In addition, the same percentage-of GDP is allocated to public sector wages on average during 1995-98 in São Tomé and Príncipe as in WAEMU.

São Tomé and Príncipe: Fiscal Policy in a Regional Context, 1995-98(In percent of GDP)
Primary balance1/
São Tomé and Príncipe0.0-4.6-2.20.7-1.5
Total revenue (excluding grants)
São Tomé and Príncipe16.513.415.619.416.2
Functional distribution of total expenditure
São Tomé and Príncipe
Education and culture11.
Wages and salaries
São Tomé and Príncipe3.
Sources São Tomé and Príncipe authorities; and World Economic Outlook (WEO) database.

Excluding foreign-Financed capital expenditures.

Sources São Tomé and Príncipe authorities; and World Economic Outlook (WEO) database.

Excluding foreign-Financed capital expenditures.

22. The treaty governing WAEMU establishes the principle of gradual convergence of economic performance and a set of convergence criteria in the area of public finance:

  • a level of civil service wage bill not to exceed 50 percent of tax revenue;
  • a level of public investment financed by domestic resources equal to at least 20 percent of tax revenue;
  • a primary basic fiscal surplus equivalent to at least 15 percent of tax revenue;
  • declining or unchanged levels of domestic arrears; and
  • declining or unchanged levels of external arrears.

23. The table below shows that São Tomé and Príncipe was broadly in line with the WAEMU criteria in 1998. The first two criteria, on the civil service wage bill and the level of public investment, were met by São Tomé and Príncipe; the primary balance was lower than required but still positive; domestic arrears declined as required; and, while São Tomé and Príncipe did accumulate external arrears, this was limited to reschedulable debt.

São Tomé and Príncipe: Simulation of WAEMU Convergence Criteria, 1998(In percentage of tax revenue, unless otherwise indicated)
Civil service wage bill (less than 50 percent)35.2
Public investment financed by domestic revenue
(at least 20 percent)19.6
Primary fiscal balance (at least 15 percent)5.3
Domestic arrears (declining or unchanged) 1/-3,453
External arrears (declining or unchanged) 1/29,479
São Tomé and Príncipe authorities, and staff estimates.

Change in the level of arrears (in millions of dobras).

São Tomé and Príncipe authorities, and staff estimates.

Change in the level of arrears (in millions of dobras).

Monetary developments


24. As a result of an expansionary credit policy and a lack of supervision exacerbated by severe weaknesses in accounting and administrative procedures, São Tomé and Príncipes’ banking system came close to collapse in early 1993. At that time, it consisted of two banks, the National Bank of São Tomé and Príncipe (BNSTP), which operated as the central bank and as a commercial bank, and the People’s Credit Institution (Caixa Popular de Créditos, or CPC). To avoid a major financial crisis, the monetary authorities embarked in March 1993 on a comprehensive rehabilitation program, involving the liquidation of the BNSTP and CPC, the establishment of the Central Bank of São Tomé and Príncipe (BCSTP), and the liberalization of banking activity. Simultaneously, two new commercial banks, the International Bank of São Tomé and Príncipe (BISTP) and the National Savings and Credit Institution (Caixa Nacional de Poupenca e Crédito, or CNPC), commenced operations, assuming the major part of the assets and liabilities of the commercial branch of the BNSTP and the CPC, respectively. The BISTP is a joint venture of the government and private Portuguese banks which, as majority shareholders, are in charge of the management of the bank; it specializes in short-term trade financing. The CNPC, a state-owned bank that was involved in the financing of the agricultural sector, was liquidated in 1997, following an aggressive and imprudent credit policy that generated large amounts of nonperforming loans. A new private commercial bank owned by local shareholders, the Banco Comercial do Equador (BCE), started operations in late 1995, specializing in the financing of the small and medium-sized cocoa producers.

Developments in 1994-97

25. Developments in 1994-97 reflected the limited effects of the 1993 monetary reform and the expansionary fiscal and monetary policies. Monetary policy, which centered on three instruments—the reserve requirement ratio, credit ceilings, and the central bank discount rate—proved ineffective because the central bank engaged in a continuous financing of large fiscal deficits through unremunerated facilities. As a result inflation soared, exceeding 80 percent in 1997, the exchange rate of the dobra vis-à-vis the U.S. dollar depreciated more than twelve-fold between 1994 and 1997, the dollarization of the economy increased, and foreign exchange transactions became the banks’ main activity. Commercial banks became. very liquid, but bank credit to the private sector was limited, leading the authorities to abandon the use of credit ceilings in 1996. The discount rate was changed several times over the period, but its trend did not follow that of inflation, resulting in negative discount rates during long periods. As a result, commercial banks stopped using it as their reference rate.

26. Reflecting these above developments, monetary trends were characterized by a steep increase money supply, with broad money surging by an annual average of some 60 percent in 1995-96 and by 90 percent in 1997 (Table 34). Net credit to the government rose substantially by 52 percent of end-1995 money stock in 1996, and fell by 113 percent of end-1996 money stock in 1997, following a surge in government deposits resulting from the mobilization of the special grant from Taiwan Province of China. Confronted with deteriorating financial conditions dominated by soaring inflation and a steep depreciation of the dobra, the commercial banks reduced drastically their lending operations, causing credit to the private sector to decline steadily in nominal terms; the banks focused instead on the lucrative foreign exchange intermediation business, which allowed them to reinforce their net foreign assets position. By contrast, the net international reserves position of the central bank, although creditor, was continuously weak, except in 1997 when it was boosted by a substantial inflow of government counterpart funds. Overall, the composition of the money stock was somewhat stable, with the share of currency outside banks fluctuating around 21 percent, and demand deposits averaging 38 percent. Time deposits, which are essentially in foreign exchange, accounted for an average of 41 percent of the total.

Monetary and credit policy in 1998

27. Beginning in 1998, monetary conditions began to improve, reflecting the authorities’ efforts to improve macroeconomic policies and reduce inflation, and their desire to revitalize the banking system. The reserve requirement ratios on foreign and local currency were unified at 22 percent, up from 15 percent for the local currency deposits and down from 30 percent for the foreign currency deposits. The rediscount rate of the central bank was lowered to 29.5 percent from 55 percent in November 1998, as inflation abated but remained positive in real terms. The direct advances to the treasury by the central bank were contained, and, to mop up the excess liquidity of commercial banks, all the government accounts were transferred to the central bank in March 1998. Finally, sustained efforts were undertaken to strengthen bank supervision.

28. These efforts on the monetary front, coupled with a tightening of the fiscal stance, resulted in a substantial improvement in the economic and financial conditions, including the reduction in inflation; the stabilization of the exchange rate, which remained practically constant against the U.S. dollar; and a progressive recovery of public confidence, which boosted bank lending operations and more than doubled credit to the private sector. However, banking activity remained constrained by persistent weaknesses in the judiciary system with respect to contract enforcement, which limited access to bank credit. In addition, despite the stabilization of the exchange rate of the dobra, the narrowing to less than 1.5 percent of the spread between the parallel and the official exchange rates, and the steep decline in inflation, banks continued to charge a large risk premium (up to 27 percentage points) in domestic currency lending.

29. In 1998, broad money increased by some 25 percent, or less than nominal GDP growth. With the drawdown on government deposits, net bank credit to the government rose by 18 percent of beginning-of-period money stock. The net foreign assets of the banking system increased also by some 7 percent of beginning-of-period money stock, as the net accumulation of international reserves by the central bank more than offset the deterioration in the net foreign assets position of commercial banks.

Banking supervision

30. São Tomé and Príncipe adopted a set of prudential ratios in 1992, summarized in Box 2. These prudential ratios are in line with international standards and the Core Principles of the Base! Committee on Banking Supervision.

Box 2.Prudential Ratios

(In percent, unless otherwise indicated)

Minimum capital requirement1US$1.8 million
Minimum capital adequacy ratio28
Division of risk
Individual norm limitation (percent of capital base)10
Economic group limitation (percent of capital base)25
Global limit for loans representing more than
25 percent of the capital base8 times
Minimum coverage of medium- and long-term
liabilities by medium- and long-term assets75
Related lending (as percentage of total lending)20
Portfolio risk structure (percent of low risk loans)60
Ratio of maximum fixed assets and equity investment to100
capital ratio
Ratio of maximum off-balance-sheet fixed assets to capital ratio15
Sources Lei das instituçôes financeiras (9/92); and nota introdutória aos primeiros regulamentos e instruçôes do Banco Central de São Tomé and Príncipe (Diario da República 25,1992).

In line with Basel Committee recommendations, total capital is divided into core capital and supplementary capital (also called tier 1 and tier 2 capital).

The balance sheet and of-balance-sheet risks for the calculation of the capital adequacy ratio comprise four risk weights of 0,20,50, and 100 percent.

Sources Lei das instituçôes financeiras (9/92); and nota introdutória aos primeiros regulamentos e instruçôes do Banco Central de São Tomé and Príncipe (Diario da República 25,1992).

In line with Basel Committee recommendations, total capital is divided into core capital and supplementary capital (also called tier 1 and tier 2 capital).

The balance sheet and of-balance-sheet risks for the calculation of the capital adequacy ratio comprise four risk weights of 0,20,50, and 100 percent.

31. One of the two commercial banks operating in São Tomé and Príncipe, accounting for close to 60 percent of deposits, extends very little credit to the economy and invests mainly in foreign assets. Its reserves at the central bank are well above the official requirements and its solvency ratio was 69 percent in November 1999. The other bank, which had made large medium-and long-term lending in 1996-98, now faces a decrease in deposits. As a result, the liquidity difficulties of this bank have grown since 1998. Regarding solvency, based on the preliminary data for December 1999, the bank appeared to have satisfied the minimum capital requirement with a capital adequacy ratio of 27 percent. However, the composition of loans was excessively concentrated, and related lending reached 36 percent of total credit (or 64 percent of owner equity), far above the 20 percent ceiling. In addition, the coverage of fixed assets and equity investment by capital was close to the legal ceiling.

32. The comparative analysis of the balance sheets of the two banks sheds some light on the limited role of monetary policy and the structural impediments to the allocation of credit. Liquidity is unevenly distributed in the banking sector, and no assets are traded among banks. One of the banks is not directly affected by the prevailing tight monetary conditions because its lending operations are not constrained by the availability of liquidity; for the other, beyond the tightening of monetary conditions, the steady reduction of deposits and the liquidity shortage limits bank lending.

External sector developments

Balance of payments developments

33. The trade deficit gradually narrowed during 1996-98, reflecting a reduction in foreign-financed public investment projects and depressed real income, stemming in part from the steep real depreciation of the dobra. In 1998, the sharper decline of official financial assistance was compensated for by foreign direct investment that financed increased imports of investment goods generated by the construction of new hotel facilities. Agricultural exports stagnated during the three years; cocoa production was stalled by unfavorable weather conditions in 1996 and a crop disease in 1998, and land distribution reforms left many farmers without the appropriate equipment and infrastructure to produce efficiently and at a high quality.6 The service and income balance notably improved in 1998 over 1996 and 1997 because of a marked slowdown of technical assistance and freight costs. Official transfers significantly increased in 1997 not only because of a rise in the share of grants in project and technical assistance financing, but also because of food aid, and most important, exceptional large nonproject grants. Official transfers contracted by 57 percent in 1998, as grants associated with bilateral technical assistance became negligible. Overall, the current account deficit (including official transfers) narrowed from 31 percent of GDP in 1996 to 4 percent of GDP in 1997, before widening to 21 percent of GDP in 1998 (Table 38).

34. The capital balance sharply deteriorated in 1997 as project loan disbursements continued to decline and nonproject loans were totally suspended, following the accumulation of sizable arrears to both multilateral and bilateral donors in 1995-96. However, the improvement in the current account balance that resulted from the large official transfers led to an overall balance of payments surplus in 1997, and, while the authorities continued to accumulate arrears to bilateral creditors, the central bank international reserves position strengthened by more than US$7 million. In 1998, project loans bottomed out, with only US$5.4 million disbursed, and amortization obligations increased to US$4.1 million. The long- and medium-term capital account improved, however, because of higher foreign direct investments; however, there was a substantial short-term capital outflow, and, given the widening in the current account balance, the overall balance of payments turned back into a deficit, that was financed through a further accumulation of arrears and the use of central bank international reserves.

External debt

35. The emerging public consensus on the need to deal effectively with the excessive external debt burden served to raise the domestic profile of external debt policy, leading the government to establish an interagency committee charged with external debt management. At a technical level, the committee has made use of the consultancy services of Debt Relief International to considerably strengthen its technical capacity, including by moving from a manual system in 1997 to a fully computerized system using the debt-management software Debt-Pro. An early round of reconciliation of loan details and outstanding balances with creditors is largely complete, resulting in a significant improvement in the quality of data on both debt stock and future payments. A rescheduling agreement with the Arab Bank for Economic Development in Africa (BADEA) was recently completed, eliminating arrears and releasing new external funds. At a recent seminar held in Mozambique on the Initiative for Heavily Indebted Poor countries (HIPC Initiative), a debt sustainability analysis was prepared, and its results were made widely available in written format in São Tomé.

36. The total outstanding stock of debt, including short-term debt, reached some US$293 million at end-1998, 7 or 721 percent of GDP (Table 44). The proportion of debt owed to multilateral creditors was 56 percent. The stock of arrears continuously increased during 1996-98 because São Tomé and Príncipe stopped servicing its debt to all official bilateral creditors in 1996, except Cape Verde and France, and it also accumulated arrears on maturities due to the African Development Fund and BADEA. New arrears on scheduled debt-service obligations amounted to US$6.5 million in 1997 and US$4.4 million in 1998.8The present value of total external debt amounted to US$191 million at end-1998, or more than 16 times the value of exports of goods and services, implying an average grant element of 34 percent (the average grant element in total external debt excluding arrears was estimated at 45 percent). The present value of multilateral debt alone amounted to 605 percent of exports of goods and services.

37. Scheduled debt-service obligations (before debt relief and including late interest charges) amounted to US$10 million in 1998, or 83 percent of exports of goods and services (Figure 4), with about 42 percent of the debt-service obligations owed to multilateral creditors. The low ratio of debt-service due to debt stock (2.7 percent) reflects both the high degree of concessionality of the debt and the large stock of arrears. Total debt-service obligations increased during 1996-98 as grace periods for many multilateral loans expired.

Figure 4.São Tomé and Príncipe: Public Sector External Debt, 1993-99

Sources: São Tomé and Príncipe authorities; and staff estimates.

1/ Includes IMF.

2/ Includes arrears.

Exchange and payments system

38. The exchange and payments system has been considerably liberalized with (1) the elimination in September 1998 of the obligation to surrender export earnings to the central bank, (2) the elimination in February 1999 of restrictions on allocations of foreign exchange for imports of essential goods, and of limits on payments for invisibles; (3) the issuance in August 1999 of a new law on foreign exchange transactions,9 completely liberalizing current account transactions, (4) the removal at end-1997 of limits on exchange rate movements at the commercial banks, and (5) the adoption of a daily calculation for the official exchange rate as an average of exchange rates in the bureaus de change, parallel market, and commercial banks.10 The strict implementation of the latter measure, together with improved estimates on parallel market activity, has resulted in the elimination of previously large spreads between the official and the parallel market rates. During 1996-99, these spreads narrowed from 6.5 percent to less than 1.5 percent, eliminating the multiple currency practices. These substantial changes should enable São Tomé and Príncipe to accept the obligations under Article VIII of the Fund’s Articles of Agreement in the near future.

Structural reforms

39. During 1996-99, São Tomé and Príncipe pursued an active structural reform agenda, under which the government took the following actions:

  • strengthening budgetary procedures;
  • strengthening the implementation of the current tax code;
  • strengthening internal control at the central bank;
  • enacting legislation on insurance regulation;
  • pursuing economic diversification;
  • deregulating prices;
  • redistributing agricultural land;
  • implementing a privatization program;
  • drafting sectoral strategies for key ministries; and
  • embarking on a program of civil service reform.

40. On budgetary procedures, the treasury has strengthened its capacity to control expenditures by increasing the level of computerization; strictly implementing order and payment procedures; enhancing cash management by means of monthly reconciliations of fiscal and monetary data; more strictly adhering to budgetary appropriations and to end-period cutoff dates for expenditure allocations; curtailing the use of general budgetary allocations to ministries and other levels of government; centralizing the authority to negotiate with donors and creditors in the Ministry of Finance; and producing a unified Budget Law that includes the budgets of the central bank and semiautonomous public enterprises, such as EMAE, and both domestically and externally financed public investment.

41. On the tax code, the auditing capabilities of the tax inspection unit have been enhanced following efforts to scrutinize and apply more strictly the existing provisions, the hiring of more tax auditors, and the awarding of incentive-laden subcontracts for tax audits of both public and private sector firms. The combination of these efforts resulted in the collection of a substantial amount of overdue taxes in 1997 and 1998 and continues to contribute to the recent sharp increases in the revenue collection. The changes in customs management implemented in September 1999, including the appointment of a new director and the adoption of more modern administrative procedures, should serve to consolidate recent improvements in revenue collection.

42. The central bank has now been the beneficiary of technical assistance on internal control procedures, and the ensuing recommendations are being fully implemented. To ensure that internal control is strengthened, and to provide increased assurance as to the reliability of its accounting records, the central bank has also initiated a program of annual external audits by an internationally recognized public accounting firm. The results of these audits will be made public when available.

43. On insurance, following recent requests by private sector firms for insurance licenses and franchises, the authorities have enacted a law (Decree 47/98) regulating the industry. The law sets out both entry and operating conditions for the insurance industry, including limits to areas of operation and regulations of a prudential nature, and entrusts the central bank with supervisory responsibilities, a task for which the central bank is now seeking technical assistance.

44. Regarding economic diversification efforts, foodcrop exports to neighboring countries, and the emerging tourism sector have been expanding with the improvement in incentives for private initiative. In addition, the government has pursued the possibility of establishing duty-free zones in São Tomé and Príncipe. Decrees 61/95,62/95 and 70/95 establish the legal framework for duty-free zones and offshore activities, including the authority of the central bank to supervise offshore banking activities; Díspatch 30/97 formally establishes “the Authority of Free Trade Zones (AFTZ); and Decree 33/98 adopts a code of conduct for such enterprises and approves the AFTZ as the central supervisory body. The Executive Director and the Administrative Council (composed of seven members from various public sector entities) of the AFTZ were appointed in May 1999, and a program of activities and draft budget were quickly drafted. By October 1999, however, political wrangling forced the Executive Director to resign, and the activities of the AFTZ have been severely curtailed. In the circumstances, and notwithstanding the reception of three proposals for free trade zones (Box 3), tangible developments remain scanty.

45. As the importance of internet marketing becomes apparent, and as São Tomé and Príncipe begins to implement efforts to diversify its economy, a negative development has recently come to light: the selling of the country’s top-level internet domain name (.st domain) to foreign parties. The government is unaware of the modalities of this transaction, which has nonetheless been properly registered by the international supervisory body, while the treasury has not received any compensation; in fact, no definitive evidence as to the parties involved in this transaction has yet surfaced.

46. Prices were fully deregulated, including the prices of agricultural produce and inputs, with the notable exception of services provided by EMAE, the public telephone company, and oil prices. Following recommendations in a World Bank study, the oil-importing company (ENCO) adopted an automatic petroleum product retail price adjustment mechanism; several price adjustments took place in 1997-99 in response to changes in both world oil prices and local distribution costs.

Box 3.Free Trade Zone Initiatives

São Tomé and Príncipe signed a memorandum of understanding (MOU) in April 1996 and a concession convention in May 1997 with the West African Development Corporation (WADCO), with the intent of awarding the concession of an area in Príncipe (the Agulhas Bay concession), for a period of 50 years, to be developed as a free trade zone (FTZ). The concessionaire, a wholly foreign-owned company, declared its intention to develop a variety of activities to service the region bordering me Gulf of Guinea, with a particular emphasis on the needs of the oil sector and the expatriate community in the area. Primary business activities under consideration include (1) trading base, for goods and services to foreigners based on duty-free prices; (2) marine and aviation services, including the provision of maintenance and engineering facilities; (3) general services, including financial services and offshore banking, modern telecommunications capabilities, health care facilities, and recreation and leisure services; and (4) stocking and warehousing services, including bulk storage of high-cost spare parts for shipping and aviation. As the area of the concession includes the Sundi agricultural estate, otherwise scheduled to participate in the land redistribution project, WADCO agreed to immediately assume full financial responsibility for the operations, including meeting the payroll of the plantation. WADCO has thus far failed to deliver on this obligation, and living conditions on Sundi continue to deteriorate.

An initial cost-benefit analysis, undertaken by external consultants in 1997, raised some questions as to the reliability of the financial projections by WADCO, which involve a total investment of some US$280 million over three years and achievement of break-even status after ten years; it also suggested that the economic linkages to the rest of the economy would be minimal, while the financial benefits to the treasury would be severely hampered by the initial ten-year tax holiday. A comprehensive study on the environmental implications—significant given the small size of the island of Principe and the several unique species of flora and fauna—is yet to be completed.

In the meantime, two competing bids for free trade zones, including the development of a deep-sea port to be located on the island of São Tomé, was advanced in 1998 by parties initially involved in the promotion of oil exploration activities in São Tomé and Príncipe. A MOU was signed in April 1998 with Environmental Remediation Holding Company (an American-owned promotion company), and there is an agreement in principle with Island Oil Exploration Ltd. (a locally owned company); in both cases, the expressed intent was to pursue an offshore logistics center in São Tomé. At end-1999, these two proposals had not advanced beyond the planning phase, and there were reports of negotiations to merge the two plans. The activities envisioned in these competing plans are similar to the WADCO proposal.

47. A land reform and distribution project was initiated in 1993, with the objective of distributing 20,000 hectares from government agricultural estates to small and medium-sized farms. At end-1992, government estates covered approximately 65,367 hectares (some 67 percent of the country’s surface), of which 33,821 hectares were cultivated. At end-1999, a total of 36,000 hectares had been redimensioned and redistributed to smallholders (39 percent) and medium-sized farms (19 percent), or legally classified as forest.11

48. Under the project, as soon as land is distributed, farmers receive some support from several foreign-financed projects, including food aid, inputs at a subsidized price, and assistance in organizing local associations. Privately managed agricultural marketing companies (SACs) are responsible for distributing foreign-financed input supplies, and they have started to charge market prices for scarce goods.

49. At present, landholders have the right of use under long-term leases, but the issue of land tenure, in particular land ownership with the usual rights and obligations, has not been resolved. Additionally, extension services remain, underdeveloped and the heavy reliance on donors (including for the supply of inputs and the provision of training, research, and extension services) has not been relaxed.

50. Regarding public enterprise reform and privatization, the authorities liquidated the national savings and loans institution (CNPC) in 1997, and, in 1998, they partially privatized ENCO and placed two hotels (Miramar and Pousada Boa Vista) under private management. In October 1999, the government adopted a new public enterprise reform and privatization program aimed at liquidating two companies, a meat processing concern (ENCAR) and a medicine distribution company (ENAMED); fully privatizing the main coffee plantation (Monte Café) and an hotel (Pousada Boa Vista); and conducting studies on the best strategy to restructure and possibly privatize three companies - the palm oil development company (EMOLVE), a construction materiel distribution company (Cunha Gomes), and the national airlines (Air São Tomé).

51. Sectoral strategies for agriculture, education, and health have recently been drafted, although the documents are still not completely operational. The rural development strategy laid out in the agriculture policy paper (Carta de Politicas Agricolas e Desenvolvimento Rural) lists four main goals: to improve the living conditions of the rural population, increase and diversify agricultural production, develop food production for internal consumption, and promote the preservation and rational management of natural resources. The binding constraints are currently the lack of (1) an effective transportation network, (2) a coherent strategy on input supply and extension services, and (3) a rational system of land ownership.

52. The education sector strategy is guided by the recent National Forum on Education and emphasizes that system-wide reforms are necessary because of the profound degradation over the last decade. The main objectives of the proposed strategy are to enhance equality of access; improve the quality of teaching; and rehabilitate the institutional apparatus. Two key issues for the sector are the need to eliminate the current practice of double and triple shifts, which exists principally in the districts of Água Grande, Mé-Zochi, and Lobata, and the need to operationalize a policy to increase the number of qualified teachers.

53. The strategy for the health sector outlines the necessary reforms and complies with the guidelines of the United Nations’ Special Initiative for Africa (March 1996) in stressing: the promotion of geographical equity in the delivery of health services; improvement in the efficiency of resource management, reinforcing in particular decentralization and enhancement of administrative capacity at the regional level; improvement in the quality of health care services; and improvement in the communication with, and involvement of, patients in the health care system. At the moment, an excessive amount of the health budget is spent on the central hospital, at the expense of regional health centers.

54. In the area of civil service reform, progress has been modest. The strategy formulated in 1997 established a comprehensive salary scale for the civil service, increased the base salary (to the equivalent of US$10 per month), and provided for the retrenchment of 1,000 positions through a combination of compulsory retirements and voluntary departures. In the event, a UN-sponsored project determined that the decree establishing the retirement ages from 1998 at 56 for men and 51 for women turned out to affect only 300 employees, and the government has thus far been unable to secure funding for the voluntary departure program. In 1999, the government did establish a Ministry of Civil Service and Employment, and work proceeded on the preparation of organizational and staffing plans for the ten ministries that compose the executive branch of government. However, the downsizing resulting from the implementation of these plans is being assessed, and the authorities would need external financial and technical assistance to proceed.

1Prepared by Vincent Moissinac, Carlos Leite, and Ramdane Abdoun
2The projects executed under the cooperation program with Taiwan Province of China are almost exclusively in public infrastructure construction or renovation.
3During 1996-98, the rise in prices was strongest for health services (317 percent), housing and electrical equipment (296 percent), energy (288 percent), and education services (256 percent).
4Guinea-Bissau joined WAEMU only in 1997; for information on current conditions in the WAEMU region, see Ernesto Hernandez-Cata and others. The West African Economic and Monetary Union: Recent Developments and Policy Issues, Occasional Paper No. 170 Washington: International Monetary Fund, 1998).
5As noted in the chapter on the evaluation of trade reform, recent efforts at liberalizing customs tariffs in São Tomé and Príncipe have been closely paralleled by similar measures undertaken by WAEMU.
6In 1999, the decline in exports accelerated in the midst of a sharp fall in world cocoa prices, the main export product, and foreign-financed imports soared, owing to continued expansion in construction and tourism development. As a result, the estimated trade balance deteriorated by 49 percent in dollar terms.
7This includes arrears to Italy worth US$19 million, a loan that remains in dispute.
8The stock of arrears fell in 1999 as the BADEA rescheduled in February some US$7.8 million of debt with a grant element of 34 percent.
9Consequently, import and export registration is currently done solely for statistical purposes; the applicable licenses are granted automatically by the Directorate of External Commerce.
10The weights are based on the recorded dollar value of the previous day’s transactions in the commercial and bureaus de change markets, and an estimate of the dollar value of transactions in the parallel market. According to the central bank data, the vast majority of foreign exchange transactions are effected through commercial banks, while the market share of the bureaus de change is virtually nil.
11In response to the redistribution of land to smaller farms, the government’s new emphasis on agricultural diversification, and the recent price deregulation measures, production of food for local consumption has increased significantly (Table 21).

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