Reform agenda and fiscal pressures will put the government to the test
Following the collapse of the technocratic Draghi administration in July 2022, a right-wing coalition secured a comfortable victory (43% of the vote) in the September 2022 snap elections. The new government is led by Giorgia Meloni, whose Fratelli d’Italia (FdI) secured 26% of the vote. She is joined by Forza Italia (8% of the vote) and Lega Nord (9%). After a prolonged period of volatility involving a string of unstable coalitions, the FdI appears to be consolidating the conservative vote. Given the weakness of centrist and progressive parties (Partido Democratico and 5SM), policy pragmatism and the economy’s resilient performance, the Meloni government has a good chance of serving a full mandate that is due to end in 2027. However, if these trends fail to hold and FdI loses significant popular support, snap elections would become probable as coalition partner and Lega leader Matteo Salvini would have an incentive to defect.
The strong dependence on European funds to finance investment is a strong incentive to comply with EU conditionality. Efforts to improve the business environment through structural reforms, fiscal consolidation and public investment are expected to continue. Nonetheless, the coalition’s inexperience in government and lingering populist tendencies create room for foot-dragging and unforced policy mistakes. This was the case with the poorly communicated and subsequently watered-down windfall tax on banks, which harmed investor confidence. Further delays in NGEU fund disbursements are expected as key reforms (taxi market liberalisation, tax evasion, court system efficiency) will be politically challenging, thereby creating fiscal and macroeconomic downside risk. Relationships with EU partners have been more collaborative than initially expected. Persistent and non-trivial risk of tensions regarding immigration and fiscal matters will remain, particularly in light of the fact that EU fiscal rules will reactivate in 2024.
Shrinking twin deficits, but the risk of over-indebtedness remains high
In 2024, the fiscal deficit is expected to remain on a downward trajectory, driven by the recovery in customs and transhipment revenues that accompanies the upturn in port and freight activity. However, public spending will remain high. This will be driven by increased capital expenditure. The government will also continue to support household purchasing power through food and energy subsidy programmes. Debt servicing, which has tripled to around 4% of GDP in 2022, will continue to fuel the deficit. This sharp rise in debt servicing has already led to an accumulation of external arrears, estimated at over 3% of GDP in 2022, and will continue to strain public finances. The financing of infrastructure will continue to weigh heavily on external public debt, more than half of which is owed to China, creating a high risk of over-indebtedness.
The current account deficit should continue to narrow in 2024 due to an improved external situation favourable to the resumption of export activities. Despite a rise in import volumes (mainly oil, fertiliser and palm oil), the trade deficit (25.3% of GDP in 2022) will narrow, and the recovery in port activities will help to widen the surplus on services (14.8% of GDP in 2022). Repatriation of profits by foreign investors will continue to widen the income account deficit. The transfers account will retain its surplus, fuelled by the leasing of land for foreign military bases and installations (notably by France and the United States, China and Japan) aimed at combating terrorist activities and piracy in the region. However, the surplus on the transfers account will shrink slightly as foreign aid declines against the backdrop of the war in Ukraine and a global economic slowdown. That said, foreign exchange reserves should remain at the equivalent of around 3 months of imports over 2023-24, and will be supported by the peg of Djibouti's currency to the US dollar.
Relative political and social stability
Ismaïl Omar Guelleh, in power since 1999, won a fifth term by winning the presidential election in 2021 with over 97% of the vote, in a ballot boycotted by a large section of the opposition. Widespread poverty (with 16.3% of the population living below the poverty line in 2022) is exacerbated by a large refugee population pouring in from neighbouring countries (Somalia, Ethiopia, Yemen and Eritrea), as well as by the food crisis exacerbated by persistent inflationary pressures and drought in the Horn of Africa. Against this backdrop, popular discontent could intensify, but the government's tight grip on power will dissuade any large-scale protests. The government will continue to implement the Vision 2035 development plan, which aims to triple per capita income and improve human and social development indicators. The business environment remains poor, suffering in particular from weak governance and corruption (130th out of 180 in 2022, according to Transparency International). Internationally, tensions with the UAE are being fuelled by the continuing dispute between Djibouti and DP World, owned by the emirate of Dubai. In 2018, the country unilaterally terminated the concession for the Doraleh container terminal in favour of port operator China Merchants Port Holdings, thereby strengthening relations with China, Djibouti's leading economic partner.