Laos (Lao People's Democratic Republic)

Persistent economic woes amid external vulnerabilities

The Laotian economy continues to struggle with macroeconomic instability and structural challenges, resulting in growth significantly below pre-Covid-19 levels. Although growth is projected to accelerate in 2024 and sustain the pace in 2025, it should remain well below its historical average of 7.2% between 2010 and 2019. In 2024, the service sector, which accounts for around 40% of GDP, has been the main driver of growth, and should continue to be so in 2025. Tourism, transport, and logistics are notable key contributors. The tourism sector (10.4% of GDP in 2019) saw significant improvement with over 1.1 million foreign visitors in the first quarter of 2024, a 36% increase compared to the same period in 2023. While tourist arrivals reached 3.4 million in 2023, they remained 30% below pre-Covid levels in 2019. With solid first-quarter 2024 results, tourism is expected to continue to recover but is unlikely to reach 2019 levels before 2025. Tourists come mainly from neighbouring countries, principally Thailand and Vietnam, followed by China. The sector has benefited from the “Visit Laos Year 2024” campaign. The rail link between Laos and China, launched in December 2021, has also improved transport options, reduced travel times, and lowered logistical costs, thereby enhancing Laos's appeal as a regional tourist destination. Consequently, the transport sector has grown substantially, contributing significantly to the economy.

However, Laos faces severe currency depreciation, persistently high inflation rates, and excessive external debt servicing, in addition to foreign exchange reserves which are low. Inflation reached 32.1% in 2023 and averaged 25.4% from January to July 2024. Rising prices, coupled with slower wage growth, have eroded household purchasing power and weakened private consumption. In response to high inflation, the central bank raised its benchmark interest rate twice in 2024 to 10% (at July 2024) and increased reserve requirements for commercial banks. In spite of these measures, the kip’s value continues to fall, and inflation remains high. Economic hardship in the country has triggered a significant brain drain, with skilled professionals leaving for better opportunities abroad. Also, labour-intensive sectors are heavily impacted by worker shortages while the lack of skilled experts and a reduction in public sector employment is affecting management quality. Additionally, high debt levels restrict fiscal capacity, leading to limited public spending. Exports fell by 13.6% year-on-year in the first half of 2024, with electricity exports, which form an essential source of foreign currency, were negatively impacted by the low rainfall that impacted hydroelectric power generation. Nevertheless, the electricity sector remains an attractive destination for foreign direct investment, particularly from China and Thailand. Another attractive sector is the mining industry due to the rich natural resources (gold, zinc, copper, silver, etc.). The mining sector has been a growth driver but faces challenges including resource depletion and non-compliance with social and environmental regulations.

Uncertainties over debt sustainability

The slight improvement in economic activity in 2024 has improved fiscal revenue collection. However, the gain has been more than offset by increased public spending, which has widened the budget deficit. The government introduced several tax policy reforms to boost revenue, including raising the VAT rate to 10% in March 2024 after it had been reduced to 7% in January 2022 to support household spending. Although the primary balance (excluding interest payments) is positive, the rising cost of external debt servicing and a weakened kip are limiting the government's ability to increase non-interest expenditure effectively. Capital spending has risen, partly due to currency depreciation affecting payments for projects financed by external loans. Support for poor households continues to be limited despite the high inflation that is eroding purchasing power. Spending on civil servants' salaries has decreased due to modest wage increases and reduced recruitment. Additionally, funding for education and healthcare has declined sharply, falling from 4.9% of GDP in 2013 to 2.3% in 2023. As debt servicing costs remain high, the budget balance is set to remain in deficit in 2025, albeit at a slightly smaller level.

In 2022, total public debt and state-guaranteed debt surpassed 100% of GDP, with foreign debt comprising the majority. This debt is highly vulnerable to currency fluctuations, with over 87% denominated in foreign currencies, particularly USD, which makes up 59% of the total external public debt. Consequently, Laos’ public debt has reached critical levels and its sustainability is uncertain. The state-owned enterprise Electricité du Laos (EDL), which generates and distributes electricity, has been a major contributor to debt accumulation, representing nearly 45% of the total public and publicly guaranteed debt in 2022. This led to the adoption of a 25-year concession agreement between EDL and China Southern Power Grid, resulting in the joint venture Electricite du Laos Transmission Company Limited. The agreement enables the Chinese company to manage and control EDL. The difficulty in repaying debt is exacerbated by significant foreign currency debt servicing requirements and inadequate foreign currency reserves, which cover only two months of imports. Debt servicing costs rise as the kip sharply depreciates against the US dollar. China, as Laos' primary creditor, held nearly 48% of total external debt as at 2023, largely due to investments under the Belt and Road Initiative. In response to Laos' liquidity issues, China has allowed debt payment deferrals since 2020, and Laos made no debt payments to China in 2023. Although official data indicate a current account surplus for 2023 and early 2024, the World Bank suggests that import figures may be underestimated compared to trading partners' data, and export-related foreign exchange reserve inflows may be overstated when unrepatriated earnings are factored in. Adjusting for these discrepancies, the current account is probably in deficit, reflecting persistently low foreign exchange reserve inflows.

Growing foreign influence

The Laotian political landscape is dominated by a single political entity: the Lao People's Revolutionary Party (LPRP), which holds exclusive control over the state as enshrined in the Constitution. In January 2021, the LPRP elected President Thongloun Sisoulith as the country's leader for a five-year term. The LPRP won 158 out of 164 seats in the National Assembly, with the remaining 6 seats won by independent candidates approved by the LPRP. The party, which adheres to Marxist-Leninist principles, oversees all political and civil matters. Diplomatically and economically, Laos maintains strong relationships with China, Russia, and Vietnam, with China’s influence growing notably due to the Belt and Road Initiative. The country relies heavily on Beijing for major infrastructure projects and, in the event it fails to meet its debt obligations, may be compelled to enter into concession agreements such as the Electricité du Laos and China Southern Power Grid agreement signed in 2021. Moreover, since the Mekong first crosses China and its dams before entering Laos and Thailand, China controls the upstream flow of water. As a result, Laos is even more dependent on China's water management and weather conditions. Also, following El Niño-induced low rainfall levels so far in 2024, dependence on China's water flow restrictions is even greater.

Last updated: August 2024