A new customs duty and excise tax introduced last year has driven import prices up causing inflation to hit significantly high levels in Tonga. Annual inflation rose by 10% over the year to May 2017 - well above the Reserve Bank's reference rate of 5%.

According to a statement from the National Reserve Bank of Tonga (NRBT) on August 2, inflationary pressures continued to rise.

"The annual headline inflation rose by 10.0% over the year up to May 2017. This was due mainly to a 11.8% rise in imported prices, which largely reflected the impact of the new customs duty and excise tax, introduced in July 2016."

"Similarly, the domestic inflation rose by 7.8%, driven by seasonality of local food, rise in electricity price, and the continued short supply of kava-Tonga”.

The Reserve Bank says the new customs duty and excise tax will continue to drive inflationary pressure upward, but expects it to fall below its inflation reference rate of 5% in 2017/18. However, it warned the projections could be affected by “adverse weather conditions and higher import prices”.

Mixed growth

On a brighter note, local partial indicators during May 2017 showed “mixed growth” in the domestic economy with the primary sector recording increases in agriculture exports largely due to the higher exports of root crops.

The NRBT was optimistic. "The Reserve Bank's expectation for strong economic activity remains in the near term."

Growth in the secondary sector continued with increases in housing loans supporting the construction industry. The services sector also enjoyed strong growth with container registrations increasing by 24.5%, and international air arrivals rising by 21.0%.

Foreign reserves also rose by $20.6 million to $392.3 million in May “due to the receipt of the budgetary support and grants by government” which is “equivalent to 7.2 months of import cover” above the bank’s minimum range of 3-4 months.

In light of this, foreign reserves are expected to remain adequate in the future with estimated increases in remittances and foreign aid, partially offset by the expected increase in imports.

The Reserve Bank also announced that it would maintain current monetary policy measures to encourage further lending because of excess liquidity [cash flows into the banking system exceed withdrawals], which in turn will support economic growth.

The Governor said that the bank will closely monitor developments in the domestic and global economy and for early signs of vulnerabilities, which may indicate overheating of the economy.