On behalf of the Macao SAR authorities, I would like to thank staff of the Article IV team for the candid and constructive dialogue held during the mission, and their thoughtful assessment and advice. The Macao SAR authorities appreciate this consultation with the Fund, which has been the first for Macao SAR since its establishment in December 1999. I broadly agree with staff’s assessment of the economic outlook and macroeconomic policies, and endorse staff’s recommendation to place Macao SAR on a 24-month Article IV cycle. I am pleased to confirm the authorities’ intention to publish the staff report.
Economic development and outlook
Between 1999 and 2013, the Macao SAR economy experienced a compound growth rate of 11.8 percent per annum. The slowest growth rate of 1.7 percent was in 2009 due to the global financial crisis, but it rebounded strongly with a record-high growth of 27.5 percent in the subsequent year. This pattern of relatively large swings in growth was shared by some emerging market economies. Since 2010, the Macao SAR economy has grown strongly and consistently. Real GDP rose by 11.9 percent in 2013 while nominal GDP per capita reached an all-time high of US$87,306, which was the fourth highest in the world. In terms of PPP-based per capita GDP, Macao SAR ranked the second highest in the world, just behind Qatar. A high degree of resilience and sustained growth are two outstanding features of the Macao SAR economy.
In 2014, continuous growth in both domestic and external demand is expected to underpin a steady development in economic activities. Gross fixed capital formation would expand faster, driven mainly by private tourism-related construction projects and public sector infrastructure investment. Net external demand would grow at a positive-yet-slower pace upon rising visitor arrivals, which reached 29.3 million in 2013. In the medium term, the Macao SAR economy is likely to ride on an expansionary trend, primarily attributable to new tourism and infrastructure facilities to be established within the next few years.
The general price level of Macao SAR is rising. The domestic factor has been a major driver of inflation over the last few years, along with a limited supply of domestic production resources in a growing economy. The unemployment rate fell to a historical low of 1.8 percent in 2013 from 6.8 percent in 2000, uplifting employment earnings. Foreign workers, which took up 38.2 percent of employment in 2013, have been playing a major role in alleviating labor shortage. Furthermore, both prices and rentals of commercial properties have risen at a fast pace. All these factors have pushed operating costs of local businesses up and swiftly passed onto prices of final products and services in a buoyant economy. Macao SAR’s consumer price inflation is likely to stay above 5.0 percent for 2014, while the unemployment rate would be below 2.0 percent.
The Macao SAR economy has been mainly driven by exports of tourism services, while the share of the tertiary sector in GDP has been close to 95.0 percent. The authorities agree with staff’s assessment that economic diversification is beneficial to Macao SAR as it mitigates the concentration risk of the economy by nurturing new sources of growth to promote sustainable development.
The authorities have set a policy agenda to develop Macao SAR into a world tourism and leisure center, aiming at a balanced development in a variety of services. Policy priorities have been given to accelerate the development of nongaming entertainment, conventions and exhibitions, cultural and creative businesses, commercial and trade services, and traditional Chinese medicine. The ongoing rebalancing of the Mainland economy and Macao SAR’s increasing integration with neighboring economies would help create a demand for these new services, while the continuous liberalization of China’s capital and financial account would promote the RMB and other financial businesses in Macao SAR.
Institutional mechanisms have been put in place for regional integration, with a view to capitalizing on the expanded production capacity and the consistently strong growth in the region. The Mainland and Macao Closer Economic Partnership Arrangement (CEPA) and its supplement agreements have been playing a significant role in creating new opportunities for local businesses. Under the Framework Agreement on Cooperation between Guangdong and Macao, the Macao SAR authorities have commenced intensive collaboration with Guangdong province, including further liberalization of services trade between the two places and joint development of the province’s Hengqin Island. Taking advantage of Macao SAR’s historical background, the authorities are strengthening Macao SAR’s unique role as the commercial and trade platform between China and Portuguese-speaking countries (PSCs). Major initiatives include hosting the Ministerial Conference of the Economic Cooperation Forum between China and PSCs; providing exchange and training programs for personnel from PSCs; and establishing a Cooperation and Development Fund for relevant projects and business transactions.
The authorities agree to staff’s recommendations about nurturing Macao SAR’s comparative advantages for economic diversification by investment in infrastructure, social sectors, and human capital, given the consistently large surplus in the fiscal accounts.
Linked exchange rate system and external sustainability
The authorities welcome staff’s strong endorsement for the Linked Exchange Rate System (LERS) as the best arrangement for Macao SAR, which is properly managed under a credible currency board arrangement. The positive assessment by staff on Macao SAR’s fulfillment of the prerequisites for the LERS would help strengthen public confidence in the LERS and, hence, the monetary stability of Macao SAR.
The authorities agree with staff’s assessment that Macao SAR has been able to maintain external sustainability with a fully open capital and financial account and exchange rate regime. The current account surplus is expected to sustain over the medium term with a strong travel account of the balance of payments. Macao SAR is a net exporter of capital and has not experienced major non-FDI capital inflows due to the persistent surplus position and lack of domestic money or capital market instruments. Macao SAR’s real exchange rate is assessed to be broadly in equilibrium, owing to sufficient price flexibility. It has a strong net foreign assets position for both the public and private sectors, which serves as an effective buffer against external shocks. Macao SAR’s healthy financial institutions, together with robust supervision and macroprudential regulation, also help contain risks from capital flows.
The authorities agree with staff’s analysis of Macao SAR’s external debt sustainability and its projections, under both baseline and most-stressed scenarios, of a downward trajectory of private external debts in GDP terms over the medium term.
Fiscal policy and Fiscal Reserve
Fiscal prudence, as stipulated in the Basic Law of the Macao SAR, is the key principle for the Macao SAR authorities to formulate its fiscal policy. It is also a requirement for a credible LERS. The Macao SAR authorities have reported fiscal surpluses, on an annual average of 11.5 percent of GDP in its central account over 2000–2013. The contractionary fiscal stance of the surplus budget, under the LERS, is deemed as appropriate for the macroeconomic situation of strong growth, relatively high inflation, and extremely low unemployment.
The balance sheet of the public sector has been strengthening due mainly to a continuous accumulation in fiscal-related assets and debt-free position. Accumulated fiscal surpluses had been part of Macao SAR’s foreign exchange reserves. In February 2012, Macao SAR established a standalone Fiscal Reserve, which solely absorbs surpluses in the public accounts. The Fiscal Reserve, currently with an asset amount equivalent to about 400.0 percent of total government expenditure of 2013, serves as a strong cushion for future cyclical downturns and financial backup for long-term fiscal commitments in an aging society.
The Fiscal Reserve, which is now separated from foreign exchange reserves and has its own legal mandate as specified in the Fiscal Reserve Act, has acquired certain institutional characteristics of a Sovereign Wealth Fund, as pointed out by staff. The authorities agree to staff’s suggestion to raise the risk-return profile by adopting a more aggressive investment strategy for a portion of the Fiscal Reserve that has a longer-term horizon, higher toleration of risk, and a better return target. The size of the portfolio with a more aggressive investment strategy shall be consistent with the principle of prudent fiscal management and the legal framework of Macao SAR’s Fiscal Reserve System. The authorities started to invest in equities through external fund managers in 2014 and would continue to diversify asset allocation of the Fiscal Reserve with the objective of raising the returns in the long term and, hence, strengthen the fiscal buffer. The authorities also reckon the importance to work out the uses and sources of public funds based on the Macao SAR authorities’ medium-term budget projections with allowance for stress scenarios.
Property prices have sustained their upward trend over the last decade. The rapid growth pace has been underpinned by strong economic fundamentals, scarce supply of land and housing units, as well as the loose global monetary condition since 2009. The rise in property prices has been particularly pronounced in recent years, with the average growth outpacing nominal GDP growth and employment income growth. The housing affordability has correspondingly deteriorated.
Property-related credit activities remain a significant portion of bank lending, although their growth has moderated. The share of property-related loans in total private-sector loans dropped to 38.1 percent at end-2013 from 43.5 percent at end-2009. In addition, the asset quality of these loans holds up well in line with the strong economy. The delinquency ratio of property-related loans edged down from 0.21 percent at end-2009 to 0.05 percent at end-2013, while the amount of negative equity and write-off ratios both stayed at negligible levels.
Following the implementation of macroprudential and demand management measures since 2010, trading activities have shrunk and nonresident buyers have withdrawn from the market with their share in transactions dropping from over 10.0 percent a few years ago to less than 5.0 percent. On the supply side, the recent completion of public housing units has helped met the demand for dwellings of the low-to-middle-income group of Macao SAR residents. The supply of new private housing units is also expected to pick up in the coming years.
The authorities will stay vigilant of the risk of overvalued properties upon shift in demand fundamentals and abrupt rise in interest rates. We agree with staff’s recommendations that adjustments in policy measures should be promptly implemented in response to any significant rise in downside or upside risks to be observed in the future through close monitoring of market developments.
While the Macao SAR banking sector is currently in solid health with reference to key financial soundness indicators, the authorities agree with staff that risks associated with rising property prices and increasing external exposures of banks to a few jurisdictions would require close and continuous monitoring, especially against a background of withdrawal of U.S. unconventional monetary policy and slowdown in emerging market economies in the region.
A sharp correction in the property market is unlikely, given the strong economic fundamentals. Nevertheless, the authorities will stay vigilant and fine-tune the macroprudential and demand-management measures whenever deemed necessary to safeguard financial stability. For risk control and regulatory compliance, Macao SAR’s banks have conducted stress tests, particularly on mortgage loan portfolios and liquidity under certain crisis scenarios.
With an anticipated exit from unconventional monetary policy in advanced economies, the global monetary condition would be normalized and interest rates would rise at a gradual pace. It could bring about a certain impact on Macao SAR banks’ Mainland-related exposure and households’ debt-servicing ability for personal lending, including housing loans. However, alongside the developments of cross-border cooperation and implementation of “going abroad” strategy by the Mainland authorities, loan portfolios of Macao SAR banks have been increasingly diversified. It is also noted that some Mainland-related loans are approved by the head offices of Macao SAR banks and, hence, according to Macao SAR’s regulatory practices, the authorities could request those loans to be transferred out from the books of local banks, if necessary.
There have not been a significant flow of funds from advanced economies to Macao SAR as a result of the unconventional monetary policy. However, as the MOP maintains a stable exchange rate relationship with the U.S. dollar under the LERS, ultra-low U.S. interest rates have created lending business opportunities for Macao SAR banks. Coupled with a close economic relationship between the Mainland and Macao SAR, Macao SAR banks, particularly those with Mainland background, have utilized their close connections with parent/head offices and affiliates, and have expanded their lending associated with evolving financial and credit environments in the Mainland.
There have been loans granted, mainly trade-orientated, in US$ and RMB for companies referred by banks’ parent/head offices or affiliates in the Mainland. As part of the ongoing monitoring process, the authorities conduct regular examinations on banks’ lending policies and risk management practices to check if loans are granted for real economic purposes, and if the collateral is duly formalized and enforceable. Any banks with relatively high concentration in Mainland-related loans will be called upon to diversify its loan portfolios and to reset a more appropriate portfolio-based limit for Mainland-related exposure. So far, the authorities have not observed any major heightened risks on this front. For supervisory purposes, the authorities have established internally a three-tier monitoring system of banks’ capital adequacy ratios to help ensure that Macao SAR banks’ capital positions are in good shape.
It is expected that the low interest rate environment and strong economic growth will continue to support lending businesses. For personal credit, the debt-servicing ratio and portfolio-based limit could be introduced by the authorities if significant risks are observed. Meanwhile, a study on constructing a database for sharing customer credit data within the banking industry has been initiated. This could effectively help banks to assess borrowers’ repayment ability, which would be useful for banks in monitoring and containing their credit risks.
Efforts on anti-money laundering and combating the financing of terrorism
The authorities share staff’s views on the importance of persistent strengthening of the anti-money laundering (AML) and combating the financing of terrorism (CFT) framework. Macao SAR is assessed to have achieved substantial progress on this front and such efforts are conducive to Macao SAR’s long-term development. Macao SAR would continue to promote international AML/CFT standards and requirements through various channels, including legislating laws, drafting and revising guidelines, participating in international organizations and forums, and organizing training workshops/meetings for relevant parties.