THE PACIFIC ISLANDS - World Bank

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THE PACIFIC ISLANDS FISCAL POLICY TO BUILD RESILIENCE AND ADDRESS VULNERABILIT Y

Pover ty Reduction and Economi c Management East Asia and Pacific Region

The World Bank Pacific Department www.wordbank.org/pi

THE PACIFIC ISLANDS S M A L L A N D I S O L AT E D ( B Y L A N D ) | L A R G E A N D C O N N E C T E D ( B Y O C E A N )

Pacific Islands: Extreme Remoteness from Major Markets

Average GDP-weighted distance from markets (km)

16,000

All Countries 14,000

Pacific Caribbean

12,000

10,000

8,000

6,000

4,000

10k

100k

1m

10m

Population (logarithmic scale)

10bn

OUTLINE Vulnerability to shocks

volatility is the norm

Fiscal policy responses to shocks Building resilience to cope with volatility

FIVE SOURCES OF VOLATILIT Y

Concentration of Exports High Import Dependence

•Shocks to key natural resource or cash crop exports •Economic downturns in tourism source countries

•Fuel price shocks •Food price shocks

Significance of Remittances

•Economic downturns in remittance source countries •Tightening of labour market access •Demographic shifts in diasporas

Importance of Aid

•Can mitigate or contribute to overall economic volatility depending on donor aid policies and project cycles

Vulnerability to Natural Disasters

•Cyclones, floods, earthquakes, tsunamis •Effects of climate change

REVENUE, AID AND EXPENDITURE VOLATILIT Y Pacific Islands: Volatility in Revenue, Aid and Expenditure 0.07

0.06

0.05 PICs 0.04 Other Small States

0.03

Other MICs 0.02

0.01

0 Revenue Volatility

Aid Volatility

Expenditure Volatility

FOUR MAIN FISCAL POLICY RESPONSES

/ Assets

•Trust funds / sovereign wealth funds •Reserves •Cash balances

/ Debt

• Concessional loans from IFIs • Loans from bilateral donors • Domestic borrowing, bank overdrafts

Address Quality of Spending / Grants

• Protects service delivery in the event of revenue shortfalls, without increasing deficits • Augments value of other fiscal buffers • Grants from bilateral donors • Grants from IFIs (for countries at high risk of debt distress)

FIVE AVENUES TO BUILD RESILIENCE

Macro/Budget Management

•Prudent macroeconomic management best positions the economy against shocks and facilitates rapid donor response •Sound budget management maximizes value from resources

Debt Headroom

•Maintaining a cushion between current debt levels and ‘debt distress’ thresholds provides room to use concessional loans to mitigate the impact of shocks on the economy

Asset Buffers

•Sovereign wealth/trust funds can help mitigate the impact of shocks if they are protected from unsustainable drawdowns •Directing windfall gains to these funds or to reserves can help augment the robustness of asset buffers over time

Grants

•Process rigidity and objectives other than shock absorption mean that donor projects can add to volatility •More work is needed to make aid an effective fiscal buffer, to support the public sector’s role as a shock absorber

Sources of Volatility

•Facilitate use of alternative energy to reduce oil dependence •Facilitate natural resource/tourism industry development •Expand labour market access to secure remittances

RULES AND RESILIENCE  Fiscal discipline can be important for building and maintaining the resilience to manage shocks  Fiscal disciplines have tended to work well where –  For deficits, they have been target ceilings (rather than rules) with justification required for breaches of the targets  For debt, they have either been target ceilings, with justification required for breaches, or they have been policy moratoriums on contracting new debt, in contexts where new debt is not justifiable  For sovereign wealth/trust funds, they have been rules for maintaining the value of the funds, in contexts where donors have provided additional grant support in extraordinary circumstances

 In each case, the appropriateness of the form that fiscal discipline has taken has been context specific and it has been only one part of a broader fiscal management approach, including support from development partners

THANK YOU

The World Bank Pacific Department www.wordbank.org/pi

ANNEX 1: DIFFERENT T YPES OF ECONOMY Growth by Source – 1998-2008 60%

153%

50%

Natural resource & cash crops

40%

Low growth, sustained by public sector

Growth driven by inflows of tourists and remittances

30% 20%

10% 0%

Public sector

Agriculture

Other industry

Construction

Services

Natural resources

Structure of Pacific economies reflects the special challenges and opportunities facing small, remote economies.

Overall

FSM

Marshalls

Kiribati

Tuvalu

Palau

Tonga

Fiji

Vanuatu

Samoa

Solomons

PNG

Timor

-10%

ANNEX 2: IMPORTANCE OF AID

Pacific Islands: Aid (Percentage of GNI) 50.0 45.0 40.0 35.0 30.0 25.0 20.0 15.0 10.0 5.0 0.0 FJI

PNG

TON

WSM

KIR

VAN

PLW

MHL

TUV

FSM

SOL

CAR

LMIC

LIC

ANNEX 3: SIZE OF GOVERNMENTS Pacific Islands: Total Expenditure Share of GDP 100% 90%

Pacific Islands: Wage Bill Share of GDP 35% 30%

80% 70% 60%

25% 20%

50% 40% 30%

15% 10%

20% 10% 0%

5% 0%

CASE STUDY: NATURAL DISASTERS IN SAMOA Samoa: Fiscal Responses to Successive Natural Disasters 80

80

60

60

40

40

20

20

0

0

-20

-20 FY06

FY07

FY08

FY09

FY10

tsunami

FY11

FY12

FY13(e)

cyclone

FY14(f)

FY15(f)

CASE STUDY: NATURAL DISASTERS IN SAMOA Samoa: Fiscal Responses to Successive Natural Disasters 80

80

60

60

40

40

20

20

0

0

-20

-20 FY06

FY07

FY08

FY09

FY10

tsunami

FY11

FY12

FY13(e)

cyclone

FY14(f)

FY15(f)

CASE STUDY: NATURAL DISASTERS IN SAMOA Samoa: Fiscal Responses to Successive Natural Disasters 80

80

60

60

40

40

20

20

0

0

-20

-20 FY06

FY07

FY08

FY09

FY10

tsunami

FY11

FY12

FY13(e)

cyclone

FY14(f)

FY15(f)

CASE STUDY: REMITTANCE DECLINE IN TONGA

Tonga: Remittances and Fiscal Situation 350

300

250

200

150

100

50

0 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12 Revenue

Expenditure

Remittances in constant (FY11) TOP

 No new borrowing  Increased grants  Improved quality of spending to mitigate the impact of the decline in revenue on service delivery  Closer alignment of allocations and priorities in the approved budget  Better monitoring and control of budget execution

CASE STUDY: WINDFALL GAINS IN SOLOMON IS Solomon Islands: Paying Down Debt and Building Up Cash Balances in the Good Years 70

35

60 50

25

40 30

15

20 10

5

0 -10

-5

-20 -30

-15 2008

2009

2010

2011

2012

2013(f)

CASE STUDY: WINDFALL GAINS IN SOLOMON IS Solomon Islands: Paying Down Debt and Building Up Cash Balances in the Good Years 70

35

60 50

25

40 30

15

20 10

5

0 -10

-5

-20 -30

-15 2008

2009

2010

2011

2012

2013(f)

CASE STUDY: WINDFALL GAINS IN SOLOMON IS Solomon Islands: Paying Down Debt and Building Up Cash Balances in the Good Years 70

7

60

6

50

5

40

4

30

3

20

2

10

1

0

0

-10

-1

-20

-2

-30

-3 2008

2009

2010

2011

2012

2013(f)

CASE STUDY: GFC ON KIRIBATI AND TUVALU  The sovereign wealth/trust funds of Kiribati and Tuvalu were severely af fected by the GFC  Asset values fell by over 12 percent, on average  Income streams from the sovereign wealth/trust funds have been subdued since the GFC

 Governments were able to increase public spending to mitigate hardship in the wake of the GFC using funds from  Grant receipts  Drawdowns from sovereign wealth/trust funds

 These sources of funds enabled the governments to protect expenditure and service delivery, while avoiding borrowing to finance deficits, thereby supporting short term fiscal and debt sustainability

CASE STUDY: GFC ON KIRIBATI AND TUVALU  Kiribati sought to maintain the real per capita value of its sovereign wealth fund at 1996 levels  Since the early 2000s, drawdowns to fund deficits have exceeded sustainable levels, and Kiribati might benefit from an updated, formal rule to maintain the real per capita value at its current level

 Tuvalu only receives distributions from its trust fund when the market value of the fund exceeds its targeted value (which is linked to the Australian CPI)  Distributions accumulate in a reserve fund, which is available for budgetary spending  Tuvalu seeks to have a sufficient balance in this reserve fund to cover a ‘dry spell’ (four years without trust fund distributions)  In good years, the reserve fund should be built up so that in bad years it can be run down while financing the budget  The reserve fund thus serves as an important fiscal buffer

SAVING IN GOOD TIMES… TO SPEND IN BAD TIMES Tuvalu Trust Fund Value 140.0

Tuvalu Consolidated Investment Fund Value 16.0

A$m

A$m

14.0 130.0 12.0 120.0

TTF Year-end Target Value

10.0

110.0

8.0

CIF Balance

6.0 TTF Year-end Actual Value

100.0

4.0 CIF Balance (without additional donor contributions)

90.0 2.0

80.0 2005

2006

2007

2008

2009

2010

2011

2012

0.0 2005

2006

2007

2008

2009

2010

2011

2012