A long road to recovery for the tourist-dependent archipelago

The Maldivian economy is extraordinarily dependent on tourism, which in a regular year accounts directly for 25% of GDP, 60% including related sectors such as food suppliers. The broader services sector represents 78% of the GDP. As such, the economy will significantly benefit from the gradual withdrawal of mobility restrictions in Europe, India, and China, which account for the lion’s share of visitors. Key to the country’s recovery is the remarkable success of the vaccination campaign, whose speed rivals that of Singapore or most European countries. Indeed, vaccinations have even been offered to attract foreign visitors. Therefore, tourism has been able to reopen quickly: 2021 tourist arrivals are estimated at 65% of those in 2019, double the numbers in 2020. Restoration of tourist arrivals and overall GDP to pre-pandemic levels is expected for early 2023. Other vital services sectors, such as retail and transport, will follow the pace of tourism. Inflation will intensify, boosted by rising import prices, but price subsidies will alleviate the punch to consumers. Infrastructure investment is expected to be one of the pillars of recovery, as projects aimed at developing new resorts and substantially expanding capacity at the Hanimaadhoo International Airport (new terminal and runway) remain on track. Exports of critical agricultural goods like fish products and coconuts will stay high and resilient, and the growth of imports will not outpace the tourism recovery, so net exports will continue to have a small but positive contribution to development. 

External and fiscal imbalances will moderate but remain a severe threat

The sovereign risk situation has deteriorated, as reflected by Moody’s decision to downgrade the country from B to Caa1 in August 2021, sinking it further into speculative-grade territory. Infrastructure spending, though suitable for potential output, represents a fiscal burden. Expenditures are therefore expended to rise by 3.8%, a large part of which is due to higher debt service costs. Despite a significant reduction related to increasing tax revenues, the budget deficit will still be double its pre-pandemic figure. Almost half of the public debt is external, and 82% is denominated in foreign currency. Finally, the maturity structure of the debt is heavily front-loaded, and 51% of it is on variable rate terms. This all makes for a high risk of debt distress. Tourism is recovering too slowly to rebuild foreign currency buffers, with foreign reserves depleting to 1.7 months of imports in 2021 and 2022. The Maldives Monetary Authority has only maintained the rufiyaa’s peg to the U.S. dollar thanks to a USD 400 million currency swap line afforded by the Reserve Bank of India, of which around half has been expended. Significant external financing needs make the peg vulnerable and the country dependent on concessional financing. Tourism receipts on the income side and imports of goods and services on the expenditure side essentially drive the wide, structural external deficit. It has been mostly financed through a combination of FDI and concessional financing (including the recent IMF’s rapid credit facility and 20 million SDR allocation). However, the role of private creditors is set to grow in the coming years, making the country increasingly vulnerable to a sudden stop and increasing debt service costs, which already stand at around 4% of GDP.

Despite signs of division, the ruling party’s grip on power is solid 

Political instability eased with the election of Ibrahim Mohamed Solih of the Maldivan Democratic Party (MDP) in September 2018. Under his predecessor, Abdulla Yameen, the country underwent an authoritarian shift, accompanied by a security deterioration and business climate. The new government, which secured a 74% majority in the April 2019 parliamentary elections (65 out of 87 seats), has set its sights on improving the institutional framework, including steps to strengthen the rule of law and press freedom, major infrastructure projects, and industrial diversification. Cracks have opened within the MDP, and unity behind Solih is not guaranteed. The next rounds of elections (presidential in late 2023, parliamentary in early 2024) will prove more competitive. After being unexpectedly acquitted of corruption charges in late 2021, Yameen has returned to the political scene and will be a formidable challenger in 2023. The Maldives is a prized geostrategic partner due to its position on international trade routes in the Indian Ocean. China has established its influence through a free trade agreement and significant infrastructure investments (over USD 1.2 billion) under the Maritime Silk Roads project. Moreover, loans from China make up 45% of the country’s national debt. However, the new administration seeks a diplomatic pivot towards India, manifested in a USD 400 million loan to finance various infrastructure projects. The signing of a military agreement with the U.S., which announced plans to open an embassy, signals a trend of geopolitical rapprochement with the West.