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Papua New Guinea

Author(s):
International Monetary Fund
Published Date:
June 2012
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INTRODUCTION

1. Papua New Guinea (PNG) has seen solid GDP growth over the past decade. This owes much to sound macroeconomic policies, improved public finances, moderate inflation, and attractive conditions for foreign investors in the mining and petroleum industries.

2. PNG must manage its current resource investment boom and prospective resource revenues in ways that benefit the whole country. This is a challenging adjustment task, and will require structural and other policies to assist the required transition in the economy. Prudent fiscal and monetary policies have achieved macroeconomic stability. To preserve these achievements and promote inclusive development, it will be important to combine steady, affordable growth in government spending with improvements in public financial management and expenditure effectiveness, as well as structural reforms.

RECENT ECONOMIC DEVELOPMENTS AND OUTLOOK

3. Real GDP is estimated to have expanded by about 9 percent in 2011. Elevated commodity prices, the construction of a liquefied natural gas (LNG) project, and government spending are boosting the economy and generating inflation pressures (Box 1). The temporary closure of key mines, caused by natural disasters, and dwindling oil production dampened overall output growth. Headline inflation peaked just below 10 percent in the second quarter of 2011, but subsequently eased to 7 percent at year-end in line with declining international food prices and a 21 percent appreciation of the kina in nominal effective terms, although the full effects of the exchange rate appreciation may not have been fully passed through to consumers. Capacity pressures and sector-specific skilled labor shortages have increased underlying inflation (Figure 1).

Figure 1.Papua New Guinea: Macro Performance

Sources: Bank of Papua New Guinea; International Financial Statistics, World Economic Outlook; and IMF staff calculations.

Box 1.Papua New Guinea: Liquefied Natural Gas Projects

PNG LNG Project (ExxonMobil)

Project construction began in 2010 and the first liquefied natural gas (LNG) shipment is scheduled for 2014. Esso Highlands, a subsidiary of ExxonMobil, is operating the project. Building work accelerated in 2011 and is expected to peak in the second quarter of 2012. The main components of the project include:

  • Natural gas wells in the Southern Highlands. The first of two drilling rigs has been delivered and earthworks at some sites have been completed.
  • Construction of a gas conditioning plant at Hides. Delivery of supplies was complicated by a mudslide in January, and landowner unrest in March led to temporary suspension of work.
  • Construction of the main LNG plant site outside Port Moresby. Construction is ahead of schedule and the jetty is more than 50 percent complete.
  • Offshore and onshore pipelines connecting the plants. The offshore portion is ahead of schedule, while the onshore portion has been delayed by weather disruption and landowner protests.

More than 14,300 workers are employed by the project, with PNG nationals accounting for 60 percent. Two thousand nationals have been trained through the National Training College. LNG-related goods imports amounted to US$2 billion in 2011. Mineral sector service and income payments to foreign workers increased by US$3½ billion between 2008 and 2011.

The US$15.7 billion construction costs are financed by a mix of 30 percent equity and 70 percent debt, with the government responsible for funding its share of costs (including cost increases). The largest private sector equity participants are ExxonMobil affiliates (33.2 percent) and Oil Search (29 percent). The PNG government owns a 16.8 percent stake, mostly through the Independent Public Business Corporation, and landowners own 2.8 percent. The government also owns shares amounting to 15 percent of Oil Search. To fund initially estimated construction costs, these shares were pledged to Abu Dhabi’s International Petroleum Investment Company through an exchangeable bond. They are due to be transferred in 2014, with additional compensation required if the shares are worth less than the initial borrowing of $A 1.68 billion. The government’s share of cost increases in 2011 was financed through domestic debt issuance.

LNG production will reach full capacity in 2015 and boost real GDP by about 20 percent. The annual output of 6.6 million tons is fully contracted to buyers from Japan, mainland China and Taiwan POC. The LNG price is linked to the oil price (Japan Crude Cocktail). Production costs will include goods imports and payments to foreign workers, projected at about US$1 billion annually. The expected operational life of the project is 30 years.

Fiscal revenues from the LNG project are projected to begin in 2018 and peak in 2024. LNG-related government revenues are projected to grow to around 10 percent of non-mineral GDP by 2024 as extended depreciation allowances are used up.

Future Developments

Esso Highlands plans additional phases of LNG development. The Hides plant will undergo improvements in 2019. New wells are planned at Angore over 2017–18 and Juha over 2021–22.

InterOil and Talisman have independent plans to develop additional gas resources in PNG. InterOil plans to develop the Elk and Antelope gas fields, with estimated construction costs of US$7 billion and annual production of 7.6-10.6 million tons. Talisman Energy found gas reserves at exploratory wells in 2010 and will spend US$800 million on further exploration over 2012-15.

Staff’s Views

4. The medium-term growth outlook is positive. In 2012, real GDP is projected to grow at 8 percent. LNG construction-related activity will continue at peak levels and mining output is expected to recover. In 2013, however, growth is likely to weaken to about 4 percent, as LNG construction winds down and output at maturing mines slows. LNG production is expected to start in 2014, raising real GDP by about 20 percent when LNG production reaches full capacity in 2015, although GNI will rise by less because of dividend outflows. Thereafter, annual GDP growth is projected to average around 5 percent.

5. Inflation pressures are likely to persist. Underlying inflation is driven by elevated election-year public spending and large private sector investments related to the upgrading of mines and mineral exploration activity.

6. The risks to the outlook are broadly balanced. Although the European debt crisis has so far had only a limited impact, it constitutes a major downside risk. Lower commodity prices would reduce government revenue, and tighter financing conditions for multinational companies could deter future FDI. Weaker trading-partner activity could reduce traditional exports and rural incomes. The main domestic downside risks include delays or disruptions to the mining sector and the LNG project. On the upside for growth, the elections could lead to higher-than-planned public spending in 2012, and a number of additional mining and LNG projects may be realized in the medium term.

Authorities’ Views

7. The authorities broadly agreed with staff’s assessment of the economic outlook and inflation. They noted that intensification of the European debt crisis would negatively impact global commodity prices and hurt PNG’s growth. They agreed that inflation pressures are likely to persist in the medium term, and pointed to increased capital inflows and heightened economic activity related to the LNG project. Their tolerance for inflation is higher than in the pre-LNG construction period.

MANAGING ECONOMIC VOLATILITY

A. Fiscal Policy

8. After a large fiscal deficit in 2009, the budget returned to surplus in 2010. Higher-than-expected commodity prices boosted government revenue and greater spending discipline, including on spending out of trust accounts, resulted in a budget surplus (Figure 2).

Figure 2.Papua New Guinea—Fiscal Performance

Sources: Papua New Guinea authorities; APDLISC, and IMF staff calculations.

9. Gross public debt has declined further, and PNG’s risk of debt distress rating has been upgraded from moderate to low (Appendix III). It declined to 25 percent of GDP in 2011 from over 70 percent of GDP in 2002. Taking into account superannuation arrears and financing of the government’s LNG equity stake, gross public debt and non-contingent liabilities amounted to 45 percent of GDP in 2011. The LNG project completion guarantee was another 18 percent of GDP (text table).

Table:Public Debt and Liabilities(in percent of GDP)
20062007200820092010201120172020
Est.Proj.Proj.
Gross public debt39.633.731.731.525.625.212.56.5
Of which: public domestic debt18.216.918.519.115.215.45.40.0
Of which: public external debt21.416.713.212.510.49.87.16.5
Non-contingent liabilities 1/8.69.38.726.523.619.62.72.0
Of which: superannuation arrears8.69.38.79.17.27.02.72.0
Of which: LNG equity finance17.416.412.6
Gross public debt and non-contingent liabilities48.342.940.458.149.244.815.28.5
Government assets8.512.516.821.322.325.95.57.5
Of which: government deposits and SWF8.512.516.811.512.415.95.57.5
Of which: stake in Oil Search9.89.910.0
Net public debt 2/39.830.423.636.726.918.99.71.0
Memorandum items
Contingent liabilities 3/30.325.018.0
Nominal GDP (Kina, billions)16.918.821.622.326.430.277.1104.7
Sources: PNG authorities and IMF staff calculations.

Does not include guarantees to state-owned enterprises (SOE), which were estimated at 2.5 percent of GDP in 2008 (no updates available).

Gross public debt and non-contingent liabilities less government assets.

Government completion guarantee for LNG project.

Sources: PNG authorities and IMF staff calculations.

Does not include guarantees to state-owned enterprises (SOE), which were estimated at 2.5 percent of GDP in 2008 (no updates available).

Gross public debt and non-contingent liabilities less government assets.

Government completion guarantee for LNG project.

Staff’s Views

10. For 2012, staff projects a fiscal deficit of 2½ percent of GDP. The government targets a balanced budget. However, their revenue projections are based on an optimistic commodity price forecast for 2012 (although projections for 2013 and beyond are conservative). Moreover, unlike staff, the authorities do not include net withdrawals from trust accounts in their calculation of fiscal deficits. One-off administrative expenditures for the 2012 elections amount to 1 percent of GDP, and tax policy measures are estimated to cost 0.3 percent of GDP. Staff recognized that election-related spending is needed, but raised concerns about the inflationary impact of high overall spending growth, and advised a reduction in planned spending growth by 1½ percent of GDP in 2012, for instance by delaying some non-critical infrastructure projects and reducing spending out of trust accounts.

11. The increasing importance of resource revenues warrants an adaptation of the fiscal framework. The 2008-2012 Medium-Term Fiscal Strategy (MTFS) helped reduce public debt but was less successful in insulating public spending from volatility in commodity prices. Real public spending per head has fluctuated substantially (text figure), with negative implications for stability in public service provision and investment. To address expenditure volatility, the authorities plan to introduce medium-term budgeting and a sovereign wealth fund (SWF). The 2013–17 MTFS is currently being discussed and should outline guiding principles for future spending.

12. Staff advised moving away from a quasi-balanced budget approach toward a steady real expenditure path. Medium-term projections foresee a temporary slowdown in revenue growth over 2013–17, mainly owing to lower mining and oil production in the period before LNG tax revenues materialize. Over this period, following current budget policy, the authorities plan to implement matching spending reductions, resulting in average annual cuts to real spending per head of about 1½ percent. Staff advised instead to a medium-term strategy that targets a smooth path for real public spending growth commensurate with medium-term revenue projections. This approach, which should be reflected in the new MTFS, would include:

  • Reducing planned spending in 2012 and preserving trust account balances for use in later years.
  • Increasing real spending per head at a steady rate until 2020 to provide stable financing for essential services and delivery of development targets, and to help smooth domestic consumption. Staff assesses that increasing real spending per head by about 1½ percent per year is consistent with stabilization of gross public debt and non-contingent liabilities. The spending increase can be financed by limited borrowing should revenues be insufficient during 2013–17, without hurting PNG’s debt sustainability.
  • Revising the planned medium-term expenditure path periodically in future MTFSs in line with updated estimates of government revenues, in particular when there is more certainty on LNG revenues.
Papua New Guinea: Medium-Term Fiscal Outlook
2011201220132014201520162017
Baseline Scenario
Total revenue (in millions of Kina)899494311012510908123361358415070
(In percent of nonmineral GDP)36.733.632.531.431.430.630.1
Total expenditure (in millions of Kina)8856102851086511568127221334314052
(In percent of nonmineral GDP)36.136.634.933.332.430.128.1
Development expenditure (In percent of nonmineral GDP) 1/12.012.311.29.35.74.94.3
Nonmineral overall balance (percent of GDP)-6.6-8.0-7.1-5.7-4.1-3.0-1.8
Overall balance (in percent of GDP)0.5-2.5-2.0-1.5-0.60.31.3
Trust accounts balance (in percent of GDP)6.04.42.00.80.50.00.0
Gross public debt (in percent of GDP)25.223.221.318.413.513.012.5
Real per capita spending (in Kina)262278269262263253244
Alternative Scenario
Total revenue (in millions of Kina)899494351013310922123351360115140
(In percent of nonmineral GDP)36.733.632.631.531.430.730.3
Total expenditure (in millions of Kina)885698491093412128134491490016512
(In percent of nonmineral GDP)36.135.135.134.934.233.633.0
Development expenditure (In percent of nonmineral GDP)12.011.011.510.66.86.97.2
Nonmineral overall balance (percent of GDP)-6.6-6.7-7.2-6.9-5.2-5.1-4.9
Overall balance (in percent of GDP)0.5-1.2-2.1-2.7-1.7-1.8-1.8
Trust accounts balance (in percent of GDP)6.05.73.00.60.00.00.0
Gross public debt (in percent of GDP)26.624.222.619.615.516.417.2
Real per capita spending (in Kina)262266270274278283287
Sources: Papua New Guinea authorities; and IMF staff calculations.

Development expenditure follows the authorities’ classification and includes capital spending, aid, and trust account spending.

Sources: Papua New Guinea authorities; and IMF staff calculations.

Development expenditure follows the authorities’ classification and includes capital spending, aid, and trust account spending.

Fiscal Impulse 1/

(In percent of nonmineral GDP)

1/ Adjusted for cycle and mineral revenues.

Real per Capita Spending

(In Kina)

Overall Fiscal Deficit

(In percent of GDP)

Gross public debt and non-contingent liabilities

(In percent of GDP)

13. The authorities could generate additional revenue by streamlining existing tax concessions, which are currently on a case-by-case contract basis. Preliminary findings by staff suggest that the average effective tax take in the resource sector corresponds to the low side of fiscal regimes in the world1. Since the issuance of the 2003 Oil and Gas Policy regulation, the Additional Profits Tax (APT) has not been payable for oil and gas activities, except for specific arrangements made for activities in the gas sector, such as the LNG project. Similarly, the APT is not applicable for the mining sector. Significant tax revenues from the LNG project are not expected before 2021–22, largely owing to accelerated depreciation allowances.

Authorities’ Views

14. The authorities pointed out that the commodity price assumptions were based on consensus forecasts2. The past use of conservative assumptions triggered questions by Parliament about the ability of the government to make accurate budget projections, since revenue under-projections had led to supplementary budget submissions in each of the last four years. Nonetheless, the government remains mindful of commodity price volatility, in particular given the substantial risk of a commodity downturn in the current global environment.

15. The authorities broadly agreed with staff’s advice to move toward steady and affordable real expenditure increases. However, they noted that containing public spending in an election year is a challenge. They will monitor closely the implementation of public investment projects and, if required, consider ways to control expenditure. This will include oversight and careful management of trust accounts funds, including district improvement funds. Looking forward, the authorities believe that moving toward more sustainable and effective medium-term budgeting will enable better planning and smoothing of public spending.

16. The authorities agreed that the resource sector could make a larger contribution to public revenues. In that regard, the authorities expressed their interest in Fund technical assistance to review their current resource taxation regime and, if necessary, present reform proposals.

B. Monetary Policy

17. Inflation slowed down following the Bank of PNG’s monetary tightening in 2011. The Bank of PNG raised its KFR policy rate by 75 basis points to 7¾ percent, increased commercial banks’ cash reserve requirements (CRR) by 200 basis points to 6 percent, and issued central bank bills (CBBs) to mop up banking sector liquidity (Figure 3). Most importantly, the kina appreciated by 21 percent in nominal effective terms throughout 2011. The stronger kina, combined with the decline in global food prices in late 2011, dampened import price inflation. As a result, annual headline CPI inflation declined to about 7 percent at the end of the year from near 10 percent in the second quarter.

Figure 3.Papua New Guinea—The Monetary Stance

Sources: Bank of Papua New Guinea; International Financial Statistics, and IMF staff calculations.

18. Over the medium term, in the absence of further tightening, inflation is projected to remain above the Bank of PNG’s 5 percent reference value. During 2012, election-year government spending and continued LNG construction will generate inflation pressures. Staff projects that entrenched expectations will keep inflation at about 7 percent over the medium term.

19. Inflation expectations should be anchored at the Bank of PNG’s reference value. Anchoring expectations would help reduce the cost of fighting future inflationary shocks, and could be achieved by continuing the Bank of PNG’s tight policy stance. In the short term, the authorities can raise the CRR for commercial banks. This measure is less costly for taxpayers than the issuance of CBBs, and has been used to sterilize capital inflow-driven liquidity growth in other countries (Box 2).

Box 2.Papua New Guinea and China: Similarities in Quantitative Monetary Policies

Over the past decade, both Papua New Guinea (PNG) and China have seen large capital inflows. Although PNG experienced a temporary capital outflow in 2008, capital inflows resumed afterwards and were over 5 percent of GDP in most years. As in the case of the Chinese renminbi, inflows caused persistent appreciation pressure for the kina.

Both central banks opted for foreign exchange intervention. As central banks were the sole market clearers, they accumulated large amounts of foreign exchange reserves and injected the equivalent amount of liquidity in local currency into domestic financial markets. The Bank of PNG allowed more flexibility of the kina in 2011, and the kina appreciated 22 percent against the U.S. dollar, but reserve accumulation remained high.

Cash reserve requirements (CRR) and central bank bills (CBBs) were used to absorb excessive liquidity. China used CRRs aggressively, raising the CRR ratio from 7.5 percent in September 2004 to 20.5 percent in December 2011, while outstanding CBBs were raised by a factor of 3 during the same period. PNG relied more on expensive CBBs, the outstanding amount of which grew by a factor of 32, while the CRR ratio was only increased from 3 percent to 6 percent. The sterilization ratios, calculated as the percentage of liquidity absorbed by the CRR and CBBs, stayed at around 70 percent in both countries in 2011.

The Bank of PNG can achieve the same sterilization effect by further raising the CRR ratio. At the same time, the amount of CBBs can be reduced, so as to lower the cost of liquidity management.

Capital Inflow 1/

1/ Capital inflow=current account + capital and financial account.

Source: WEO.

Quantitative Monetary Policies

Sources: International Financial Statistics, and IMF staff calculations.

Exchange Rate and Reserve Accumulation

Source: International Financial Statistics.

Sterilization ratio 2/

(In percent)

2/ Central bank sterilization as a percentage of total foreign reserves.

Sources: International Financial Statistics, and IMF staff calculations.

20. The authorities should pursue measures to enhance the effectiveness of interest rate-based monetary policy. Current interest rate policy has only limited sway on market rates as long as liquidity remains abundant. A more flexible exchange rate, appropriate combination of quantitative tools including the CRR and CBBs to mop up domestic liquidity, and a SWF that reduces liquidity build-up in the banking system, would help achieve an effective interest-rate transmission channel over the medium term.

21. Greater exchange rate flexibility would provide a buffer against external and domestic demand shocks. While some intervention may be appropriate to limit short-term exchange rate volatility, a more flexible exchange rate can be an important shock absorber, for instance when sustained global commodity price rises and capital inflows cause inflationary pressures, as has recently been the case.

22. Coordination between fiscal and monetary policy is crucial to reduce the cost of inflation control. Maintaining expenditure discipline in 2012 would reduce excess demand, while holding trust accounts at the Bank of PNG instead of commercial banks, and rationalizing the use of government working accounts in banks, would facilitate liquidity management. The authorities’ plans to issue guidelines for cash management of trust-account holdings at commercial banks are a positive step.

Authorities’ Views

23. The Bank of PNG agreed that inflation is likely to remain above the 5 percent reference value, but is concerned that allowing the exchange rate to appreciate further would hurt traditional exporters. The Bank of PNG sees a risk of elements of Dutch disease developing, because LNG construction-driven exchange rate appreciation may hurt the rural sector if agricultural prices are unable to keep up. This could develop into a bigger problem in the future and the Bank of PNG is of the view that monetary policy should help alleviate the adjustment, at least temporarily. Moreover, the Bank of PNG is comfortable with an inflation rate below 10 percent at a time of high economic growth.

24. The Bank of PNG projects banking sector liquidity to remain elevated. Foreign exchange inflows will continue to be high as LNG construction continues and commodity tax revenues accrue to the government.

25. The authorities have instructed commercial banks to transfer all trust accounts to the Bank of PNG. However, they noted that transferring funds from committed projects’ accounts at commercial banks to the central bank is difficult. To improve coordination, the authorities are developing a finance instruction to guide the use and management of trust accounts, particularly working accounts (under current rules, government departments have opened trust accounts at the central bank but then swiftly moved funds to working accounts at commercial banks). These procedural guidelines are short-term solutions, and trust accounts will cease to exist once the SWF is established.

C. Exchange Rate Assessment and External Stability

26. The current account deficit widened to 36 percent of GDP in 2011. The rise in imports of LNG construction materials worsened the trade balance, and the compensation of foreign workers led to large negative balances for services and income.

27. The kina appreciated by 27 percent in real effective terms during 2011, despite some reserve accumulation by the Bank of PNG. This was helped by a 15 percent appreciation in PNG’s terms of trade driven by a spike in the prices of gold, copper, and agricultural commodities. LNG construction-related inflows kept the exchange rate appreciating even during late 2011, when global uncertainty related to the European debt crisis generated volatility, and eventually a decline, in commodity prices. The Bank of PNG allowed the kina to appreciate while continuing to accumulate foreign exchange reserves. Its reserves rose by 40 percent to US$ 4.3bn by end-2011.

28. Private external debt grew to 82 percent of GDP in 2011. As LNG project partners and subcontractors drew down on loans to finance construction inputs, the level of private external debt has jumped by 70 percent of GDP since 2008.

Staff’s Views

29. The current account deficit is projected to remain high at 28 percent in 2012 and then fall as the LNG construction phase comes to an end. The mineral balance will turn positive in 2014, and LNG production will generate an overall current account surplus from the following year, although dividend outflows will also increase.

30. The real exchange rate is assessed to be on the weak side relative to medium-term fundamentals (Box 3). The external assessment for PNG is complicated by the lack of reliable data on real wages and non-tradables. Staff’s judgment of a modest undervaluation is based on the assessment that the increase in LNG-related exports will dominate the reversal in construction-related capital inflows over the medium-term. This assessment is sensitive to commodity price assumptions and fiscal policy – the current exchange rate is even more undervalued relative to a medium-term scenario where the authorities implement staff’s recommended expenditure profile.

Box 3.Papua New Guinea: Exchange Rate Assessment

Papua New Guinea’s real effective exchange rate appreciated by 27 percent during 2011. The kina appreciated by 22 percent against the U.S. dollar and 24 percent against the Australian dollar.

Owing to the projected structural change in the PNG economy, standard CGER methodologies disagree on the exchange rate assessment, with an average overvaluation assessed around zero. For the MB approach, staff used coefficients estimated from a standard CGER regression, but to account for the importance of mineral exports for PNG (including LNG production from 2015), the norm was calculated by substituting PNG’s entire mineral balance (export revenues less wage and dividend payments) in place of the traditional oil trade balance variable. This method indicates an 8½ percent undervaluation. The ERER approach predicts the exchange rate directly from movements in the terms of trade and net foreign assets, and estimates an overvaluation of 13 percent, reflecting the large appreciation over 2011.

Over the medium term, the equilibrium real exchange rate will depend on the precise balance between large trade surpluses and a reversal of LNG investment-related capital inflows, and fiscal policy. Neither of the CGER approaches captures all the details of this specific trade-off (which is sensitive to commodity price assumptions). Staff’s external sector analysis (Table 3) projects a medium-term buildup of reserves at the 2012 real exchange rate, indicating undervaluation. If authorities follow staff’s advice of higher medium-term fiscal spending, the current account norm would decline, pushing toward further undervaluation of the kina today. However, this assessment is tempered by the fact that the real appreciation has pushed up rents and other non-tradable input costs relative to other countries, damaging the competitiveness of the non-mineral sector. This calls for structural reform and infrastructure improvements to raise efficiency and ease structural adjustment.

Exchange Rate Assessment: Baseline Results 1/
CA/GDPREER
NormProj.Overvaluation
MB approach 2/6.28.3-8.4
ERER approach 3/12.9

All results are expressed in percent.

Based on a semi-elasticity of the CA/GDP with respect to the REER of -0.25.

Overvaluation is assessed relative to April 2012.

All results are expressed in percent.

Based on a semi-elasticity of the CA/GDP with respect to the REER of -0.25.

Overvaluation is assessed relative to April 2012.

Papua New Guinea: MB Approach

Papua New Guinea: ERER Approach

ERER Approach: Contributions to Equilibrium REER

(Log scale)

31. Staff’s public external debt sustainability assessment for PNG has improved (Appendix 3). This is the result of sustained progress in developing fiscal institutions and public debt reduction over the past decade. Regarding the private sector, the recent increase in external debt is related to operations by large multi-national companies (construction is being undertaken by an ExxonMobil subsidiary), and staff projects that it will be repaid steadily once LNG production begins in 2014.

Authorities’ Views

32. The authorities agreed that the current account deficit will remain substantial until LNG construction is completed. For the medium-term, they use more conservative price assumptions than staff and project that the current account will remain in deficit owing to substantial income outflows in the form of mineral company dividends.

33. The authorities agreed that there is low risk of debt distress from the declining ratio of public external debt to GDP, or from the recent growth in private external debt. LNG project completion should result in paydown of private sector debt from 2014, and it should accelerate public debt reduction after 2020, when substantial LNG revenues materialize.

USING RESOURCE REVENUES TO SUPPORT BROAD-BASED DEVELOPMENT

A. Managing Resource Revenue

34. The establishment of the SWF will help manage resource revenue volatility. Implementation details are still to be determined, in particular the relationship between the SWF withdrawal rules and the new MTFS. However, the institutional framework is guided by international best practice adapted to the PNG context: a single governance framework, offshore investment and onshore management, integration with the fiscal framework and the budget, and accountability and transparency rules based on the Santiago principles (Box 5).

Box 4.Papua New Guinea: Medium-Term Fiscal Strategies and the Sovereign Wealth Fund 1/

Over the past 10 years, fiscal policies were guided by Medium-Term Fiscal Strategies (MTFS). The 2002–07 MTFS was a stabilization and structural reform program. Its balanced budget target was achieved in 2004, three years ahead of schedule, but progress on structural reforms was slow. The 2008–12 MTFS added rules to limit the fiscal impact of volatility in resource revenue. It required that resource revenue above a ‘normal’ level (4 percent of GDP) be used for infrastructure development (70 percent) and debt reduction (30 percent). Annual spending out of trust accounts was capped at 4 percent of GDP. Together these rules imposed an 8 percent of GDP limit on the non-mineral budget deficit.

To address the challenge of smoothing government expenditure and decoupling it from the short-term volatility of natural resource revenues, the authorities decided to establish a Sovereign Wealth Fund (SWF). The Parliament approved the Organic Law on the SWF in late February 2012. The law envisages a consolidated pool of two offshore funds, stabilization (SF) and development (DF). The SWF model, design, and institutional framework were guided by international best practice with consideration of domestic features: a single governance framework to manage the two funds, offshore investment and onshore management, integration with the fiscal framework and the budget, and accountability and transparency rules based on the Santiago principles.

The law provides guidelines for contributions to, and withdrawals from, the funds. It stipulates that contributions to the SF will include all mineral and petroleum revenues, earnings from its investments, and other government contributions. Withdrawals from the SF will go through the budget process and should not exceed 15-year moving average of mineral and petroleum revenues as a share of non-mining revenues. Annual contributions to the DF will be no less than the guaranteed minimum allocation based on the expected average of the LNG project dividends determined by the parliament, earnings from its investments, and other government contributions. There is no clear rule defining withdrawals from the DF except that funds are to be made available to support the development plans of the government in accordance with an act of parliament. Implementation details are still to be determined, in particular the relationship between the SWF withdrawal rules and the new MTFS.

The authorities intend to publish a new MTFS in late 2012 in connection with the planned SWF. Based on the SF withdrawal rule, the drawdown of funds would be equal to about 6 percent of non-mineral GDP in 2011, largely corresponding to the lower revenue scenario in the 2011 FAD TA report. This report assumes a decline in non-LNG natural resource revenue to a long-run level of 3 percent of non-mineral GDP. On top of this, LNG revenue are projected to average about 3½ percent of non-mineral GDP over 2015–30 in the low revenue scenario, yielding a ‘new normal’ of about 6½ percent of non-mineral GDP. In a higher revenue scenario the new normal could reach 14 percent of non-mineral GDP.

1/ Fiscal Advice on Establishing a Sovereign Wealth Fund, FAD TA report August 2011.

Staff’s Views

35. Staff support the setting up of an SWF. Staff recommend setting withdrawal rules in conjunction with the new MTFS. Moreover, the integration of the development fund with the budget process should be clarified and the risk of creating a “parallel budget” minimized. Once the SWF is established, all existing trust accounts should be consolidated with the fund.

36. Medium-term resource revenues may not be substantially higher than in the recent past. Moreover, the SWF in itself will not solve all long-standing problems of expenditure management. Expenditures need to be better aligned with development priorities.

Authorities’ Views

37. The authorities emphasized that the SWF should address economic and social development in line with the development goals of the government. They noted that withdrawals would finance specific projects instead of providing cash hand-outs.

B. Structural Reforms and Public Service Delivery

38. PNG’s consumers suffer from continued monopolies in staple products such as petroleum and sugar, and the business environment for small- and medium-sized enterprises (SMEs) is poor. PNG was ranked 101 out of 183 countries regarding the ease of doing business by the World Bank’s Doing Business 2012, with particularly negative performance regarding the enforcement of contracts and obtaining construction permits.

39. Revenues from LNG production provide an opportunity for development but direct employment effects will be small. To generate a broad-based improvement in the living standards of PNG citizens, the government needs to spend more effectively, and structural reforms to improve the efficiency of the private sector and state-owned enterprises (SOEs) should be accelerated. It will also be important to continue with initiatives to address long-running allegations of corruption.

Staff’s Views

40. The government initiated critical SOE reforms. Measures to strengthen the Independent Public Business Corporation and its mandate are important for improving professional management, commercial orientation, accountability and transparency of SOEs. Moreover, the authorities plan to introduce a robust framework for public-private partnerships (PPPs), with a potential application to electricity generation.

41. Staff recommends further steps to improve competition in sectors with established monopolies, within both the private and public sectors. A more competitive environment would improve consumer welfare by lowering prices and enhancing product variety, while improved infrastructure and lower production costs would enhance the competitiveness of the non-mineral sector and encourage export diversification. In particular, plans to improve competition in broadband services by replacing PNG Telikom’s monopoly with an updated regulatory framework are positive and can build on successes in the deregulation of the telecommunications industry. Staff also supports the government’s tariff reduction program. A better-resourced Independent Consumer Competition Commission is instrumental to enforcing competitive behavior, especially in sectors with long-established dominant firms.

42. However, the rice project currently under consideration is concerning, as it is anti-competitive and detrimental to the welfare of consumers. While staff has no objection to supporting rice-growing in PNG, for example by providing transportation infrastructure, the introduction of exclusive production rights and the proposed import levy are counter-productive and run the risk of replicating inefficient arrangements in other sectors of PNG’s economy.

Authorities’ Views

43. The authorities are committed to reforming SOEs, improving their administration, enhancing competitiveness and removing corruption. Their package of initiatives to combat graft, for example Taskforce Sweep, should help improve the functioning of public enterprises.

44. The authorities agreed that the proposed rice project has substantial flaws, but intended to get involved in making rice production viable in PNG. They are of the view that rice exports to East Asia could provide jobs for PNG, and that the government should facilitate such large-scale projects. They would welcome advice from development partners regarding more efficient ways to foster such sectors in PNG.

Box 5.State Owned Enterprise Reform1,2

The government of Papua New Guinea (PNG) owns nine State Owned Enterprises (SOEs) which are managed by the Independent Public Business Corporation (IPBC) and vested in the General Business Trust (GBT)3. These SOEs play a significant role in the domestic economy, with a total net asset value of $US 870 million and responsibility for providing essential public services such as power, water, postal services, banking, telecommunications, air travel, and seaports.

Yet the performance of SOEs in providing services to the people of PNG continues to be poor. Just 12% of households have access to power, and only 15% of schools are connected to the electricity grid. Moreover, while about 47% of the population had access to improved water and sanitation facilities in 1990, only 45% had access in 2008. In 2007, the Port Traffic League ranked the Moresby port 313th out of 365 world ports in terms of efficiency and cost. In 2010, only 12 of PNG’s 22 national airports met the International Civil Aviation Organization safety and security standards.

SOE Net Asset Value and Dividends

List includes only 100% government-owned

PNG’s SOEs impose a significant fiscal burden. Between 2002 and 2010, public investments are estimated to have more than doubled SOEs’ asset value, but they paid just $US 17 million in dividends to the government.

Improving the performance of SOEs has been a policy goal for governments over the last decade. However, with deeply entrenched interest groups and changing government ideologies, progress has been mixed.

Significant SOE reforms were initiated during 1999-2002, including a privatization program, establishment of the Independent Consumer and Competition Commission and implementation of a policy introducing competition into sectors previously reserved for SOEs. However, with a change of government in 2002 came a new policy focused on the consolidation and growth of the SOE portfolio. While progress was made in introducing competition for the telecommunications and airlines sectors, privatization activities were halted and in some cases reversed, and accountability and transparency gradually eroded. During the subsequent period from 2002 to 2010, PNG’s SOE portfolio grew rapidly in asset size while generating steadily declining returns.

In the past six months the SOE policy framework has again shifted, with the 2012 National Budget identifying a number of reform priorities. These include setting out the government’s dividend expectation for the SOEs, a Community Service Obligation (CSO) policy to ensure SOEs identify and deliver CSOs on a commercial basis, the development of Public Private Partnership (PPP) legislation to complement existing arrangements, and an on-lending policy to ensure a level playing field between SOEs and the private sector.

In addition, a number of initiatives have also been identified to strengthen the role of the IPBC as an independent and transparent manager of SOEs. These initiatives include amending the IPBC Act to clarify IPBC’s governance and accountability frameworks; and developing a long-term SOE strategy which identifies opportunities for public-private partnerships, and strengthened SOE monitoring mechanisms.

1/ This box was contributed by Aaron Batten, Asian Development Bank.2/ Asian Development Bank. 2011. ‘Papua New Guinea: Critical Development Constraints’, Growth Diagnostics Studies Series, Manila, Philippines.3/ In 2010, SOEs had a net asset value equivalent to 30% of GDP and comprised between 10-15% of total fixed assets in the economy.

C. Financial Stability and Development

45. The financial sector remains profitable, but vulnerabilities have increased. Returns on equity exceed 100 percent and the capital adequacy ratio is over 20 percent of total assets (Figure 5), while exposure to the heated real estate sector continues to fall. However, the non-performing loans (NPL) ratio increased to 2.3 percent in September 2011 from 1.8 percent in September 2010, and provisioning of commercial banks dropped to around 130 percent from over 230 percent in the same period. Foreign investment positions of the Authorized Superannuation Funds (ASFs)—the largest non-bank financial institutions—were hit by the kina appreciation and global stock market downturn in 2011, and the ASFs are likely to record a net loss for the first time since 2006. Growth in bank credit decreased in 2011 after several years of rapid expansion, in line with limited demand for domestic loans as enterprises opted for cheaper internal financing and overseas borrowing.

Figure 4.Papua New Guinea—The External Position

Sources: Bank of Papua New Guinea; Bloomberg; Information Notice System; and IMF staff calculations.

Figure 5.Papua New Guinea—The Banking Sector

Sources: Bank of Papua New Guinea; International Financial Statistics, and IMF staff calculations.

Staff’s Views

45. The Bank of PNG has strengthened its supervision framework. The Bank imposed stricter limits on financial institutions’ exposure to risk (particularly to the heated property sector), increased on-site inspections, carried out stress tests, and took the initiative in improving coordination with supervisory authorities for life and general insurance products. The aim is to conduct regular meetings with all relevant authorities so they can update one another and obtain an overview of systemic risks.

46. The government has taken several initiatives to support inclusive financial development. They include development of a regulatory environment for mobile banking, capital injection into the National Development Bank, tax incentives for banks to invest in regional branches, setting up a program to improve access to credit for small and medium sized enterprises, and expanding microfinance projects. The government also released draft legislation to facilitate loans secured by personal property.

47. The authorities are making progress in implementing Fund’s 2011 FSSA recommendations. The Bank of PNG’s Strategic Plan aims to improve financial supervision and develop financial infrastructure. The introduction of a real-time settlement system is a step toward improving the efficiency of the clearance and settlement infrastructure. Legislation to update the payment system law will be presented to Parliament in 2012. Staff encourages implementation of the recommendations made in the July 2011 Asia-Pacific Group on Money Laundering assessment report on anti-money laundering and combating the financing of terrorism (AML/CFT). The Financial Intelligence Unit indicated having issued guidelines on customer due diligence.

Authorities’ Views

48. The authorities considered systemic risks to the financial sector to be low. The NPL ratio increased owing to one large enterprise, which temporarily fell back on debt-servicing. Moreover, banks were able to absorb a moderate increase in non-performing loans given their provisioning. The loss of the ASFs was judged to be a one-off event, and the Bank of PNG has been working with ASFs on reviewing overseas investment risks. The authorities also welcomed the slowdown in credit growth from high rates in past years. The Bank of PNG is reviewing new applications for bank licenses to promote competition and financial inclusiveness.

STAFF APPRAISAL3

49. We commend the authorities for achieving macroeconomic stability and a sustainable fiscal position. To preserve these achievements and promote inclusive development, it will be important to combine steady, affordable growth in government spending with improvements in public financial management and expenditure effectiveness. This should be accompanied by structural reforms and a flexible monetary policy.

50. After 10 years of uninterrupted economic growth, the medium-term outlook remains positive. Risks to the outlook are broadly balanced and predominantly related to the resource sector.

51. Further monetary tightening would likely be needed to anchor inflation expectations at the Bank of PNG’s 5 percent reference value. Reducing excess liquidity by raising banks’ cash reserve requirements and limiting reserve accumulation would be the most effective ways to achieve tighter monetary conditions. Going forward, greater exchange rate flexibility would provide an important buffer against external shocks.

52. Fiscal policy should target a smooth expenditure path. Such a policy would help sustain solid economic growth with moderate inflation, and provide reliable funding for essential public services. It could be implemented through tighter control of expenditure growth in the current election year, and steady increases in real spending per capita over the medium term.

53. PNG’s resource sector could make a larger contribution to public revenues. Efforts to promote this could include strengthening revenue collection, reinforcing the internal revenue and customs services, streamlining existing tax concessions, and applying the Additional Profits Tax to mining activities, given that the average effective tax take from resources appears to be on the low side of fiscal regimes across the world.

54. The SWF provides a strong framework for insulating public expenditure from volatility in resource revenue, and for improving transparency, accountability, and good governance. Withdrawal rules should be set in accordance with the new Medium-Term Fiscal Strategy. Once the SWF is established, all existing trust accounts should be consolidated with the fund.

55. We welcome the government’s agenda for better public services. Plans to increase the expenditure share of key development priorities—education, health, law and order, and infrastructure—go in the right direction. However, to deliver better public services marked gains in the effectiveness of public spending are needed. Therefore we encourage the authorities to develop a multi-year budget for selected expenditures and invest in the reform of key ministries responsible for planning and service delivery.

56. More competition would benefit consumers and raise efficiency. We encourage the authorities to strengthen enforcement of competitive behavior and replace existing monopolies. The introduction of exclusive production rights and import protection for rice would go in the wrong direction and hurt consumers. The authorities should proceed with SOE reforms.

57. The current account deficit is largely financed by FDI and is not expected to threaten external stability. The exchange rate is estimated to be modestly undervalued and reserves are adequate to address potential balance-of-payments needs.

58. The financial sector remains sound. Banks have high capital adequacy ratios and should be resilient to contagion from the Euro area, but need to maintain appropriate lending standards and further reduce exposure to the real estate sector. Financial supervision has been of high quality, and the planned enhanced cooperation among supervisors is welcome. The authorities should implement the remaining 2011 FSAP recommendations.

59. The authorities need to urgently tackle structural deficiencies in the provision of national statistics. Gaps in macroeconomic data provision complicate PNG’s public policy-making and Fund surveillance. This requires immediate reform and strengthening of the relevant government agencies.

60. It is recommended that the next Article IV consultation be held on the standard 12-month cycle.

Box 6.Papua New Guinea—Key Risks and Policy Responses1

1/ Risk of event (high = red, medium = orange, low = yellow) indicated by color of oval; magnitude of projected impact on each sector indicated by thickness of arrows; recommended policy responses are indicated, with most important policies underlined.

Figure 6.Papua New Guinea—The Cross-Country Context

Sources: Bank of Papua New Guinea; International Financial Statistics, World Economic Outlook; and IMF staff calculations.

Table 1.Papua New Guinea: Selected Economic and Financial Indicators, 2008–12

Nominal GDP (2010): US$10 billion 1/

Population (2010): 6.5 million

GDP per capita (2010): US$1,521

Quota: SDR 131.6 million

2008200920102011 Est.2012 Proj.
(Percent change)
Real sector
Real GDP growth6.66.17.68.97.7
Mineral-1.4-1.7-2.0-11.813.7
Nonmineral7.67.08.510.87.2
CPI (annual average)10.76.96.08.46.8
CPI (end-period)11.25.77.86.96.8
(In percent of GDP)
Central government operations
Revenue and grants32.627.331.329.827.5
Expenditure and net lending30.136.928.229.430.0
Overall balance (including grants)2.5-9.63.10.5-2.5
Nonmineral balance-7.4-13.3-3.6-6.6-8.0
Gross public debt31.731.525.625.223.2
Domestic18.519.115.215.413.5
External13.212.510.49.89.7
(Percent change)
Money and credit (percentage change)
Domestic credit15.737.34.9-5.218.2
Credit to the private sector29.515.118.17.37.5
Broad money7.821.310.217.413.3
Interest rate (182-day T-bills; period average)5.97.26.46.8
(In millions of U.S. dollars)
Balance of payments
Exports, f.o.b.5,6854,5115,8437,0477,788
Of which: Mineral4,2753,4414,4445,2155,968
Imports, c.i.f.-3,140-3,258-4,261-6,186-6,463
Current account (including grants)674-1325-2532-4605-4374
(In percent of GDP)8.4-16.4-25.6-36.4-28.4
Exceptional financing (net)0.00.00.00.00.0
Gross official international reserves20952623309243234296
(In months of nonmining imports, c.i.f.)911101614
(In months of goods and services imports)56555
Public external debt
Public external debt-service-ratio (percent of exports) 2/3.41.81.41.31.5
Public external debt-to-GDP ratio (in percent) 2/13.212.510.49.89.7
Exchange rates
US$/kina (end-period)0.3730.3700.3790.467
NEER (2005=100, end-period)117.9101.5100.1121.4
REER (2005=100, end-period)125.7111.7114.8146.1
Nominal GDP (millions of kina)21,60122,33126,39530,16734,297
Sources: Papua New Guinea authorities; and IMF staff estimates and projections.

Based on period average exchange rate.

Includes central government external debt.

Sources: Papua New Guinea authorities; and IMF staff estimates and projections.

Based on period average exchange rate.

Includes central government external debt.

Table 2.Papua New Guinea: Summary Operations of the Central Government, 2008-17
2008200920102011201220132014201520162017
Est.BudgedProj.Projection
(In millions of Kina, unless otherwise indicated)
Revenue70416097826189941030294311012510908123361358415070
Taxes3903438850956101685268997497826392341035811689
Mineral revenue2136831177521432060188119251884227923382433
Grants100287813917501391652702761823888948
Expenditure649882387441885610430102851086511568127221334314052
Expense376941844162522361236077661773889030985910700
Net acquisition of non-financial assets27294054327936344307420842484180369234843351
Gross operating balance32721912409937714179335435083520330637254370
Overall balance (Net lending (+)/borrowing (-))543-2141820138-128-854-740-660-3862411018
Nonmineral overall balance-1593-2972-955-2005-2188-2735-2665-2544-2665-2097-1414
CASH FLOWS FROM FINANCING ACTIVITIES:
Net acquisition of financial assets-12761066-697-1726-819-3083663696-441-1216
Net incurrence of liabilities445171-3301659947884-9624291200198
(In percent of GDP)
Revenue32.627.331.329.830.327.526.824.319.019.219.6
Taxes18.119.719.320.220.220.119.818.414.214.615.2
Mineral revenue9.93.76.77.16.15.55.14.23.53.33.2
Grants4.63.95.32.54.11.91.91.71.31.31.2
Expenditure30.136.928.229.430.730.028.825.819.618.818.2
Expense17.418.715.817.318.017.717.516.513.913.913.9
Net acquisition of non-financial assets12.618.212.412.012.712.311.29.35.74.94.3
Gross operating balance15.18.615.512.512.39.89.37.85.15.35.7
Overall balance (Net lending (+)/borrowing (-))2.5-9.63.10.5-0.4-2.5-2.0-1.5-0.60.31.3
Nonmineral overall balance-7.4-13.3-3.6-6.6-6.4-8.0-7.1-5.7-4.1-3.0-1.8
CASH FLOWS FROM FINANCING ACTIVITIES:
Net acquisition of financial assets-5.94.8-2.6-5.7-2.4-0.12.21.40.1-0.6-1.6
Net incurrence of liabilities2.10.8-1.35.52.82.6-0.30.10.40.30.3
Difference between above and below the line1.34.00.8-0.20.00.00.00.00.00.00.0
(In percent of nonmineral GDP)
Revenue44.834.640.336.737.033.632.531.431.430.630.1
Taxes24.824.924.924.924.624.624.123.823.523.423.4
Taxes on income, profits, and capital gains8.29.08.37.98.17.97.97.87.87.87.8
Taxes on payroll & workforce7.17.07.39.08.79.19.19.19.19.29.3
Taxes on property0.20.00.20.20.30.20.20.20.20.10.1
Taxes on goods & services6.26.05.84.74.54.84.84.94.94.94.9
Taxes on international trade & transactions2.62.22.82.72.62.21.81.61.11.00.9
Other taxes0.60.60.50.40.50.40.40.40.40.40.4
Mineral revenue13.64.78.78.77.46.76.25.45.85.34.9
Mineral and petroleum taxes12.53.97.28.06.75.85.55.03.83.83.5
Mining and petroleum dividends1.10.81.50.80.70.90.70.52.01.51.3
Grants6.45.06.83.15.02.32.32.22.12.01.9
Expenditure41.446.836.336.137.436.634.933.332.430.128.1
Expense24.023.820.321.322.021.721.321.323.022.221.4
Compensation of employees10.110.19.010.28.58.58.38.17.87.57.2
Purchases of goods and services7.77.66.26.58.38.38.28.711.010.610.2
Interest2.42.51.71.31.71.41.31.11.01.00.9
Subsidies1.61.51.41.31.31.31.31.31.31.31.3
Grants0.70.80.70.70.80.70.70.70.60.60.5
Other payments1.41.21.21.31.41.51.41.41.31.31.2
Net acquisition of non-financial assets17.423.016.014.815.515.013.712.09.47.96.7
Gross operating balance20.810.920.015.415.011.911.310.18.48.48.7
Overall balance (Net lending (+)/borrowing (-))3.5-12.24.00.6-0.5-3.0-2.4-1.9-1.00.52.0
Nonmineral overall balance-10.1-16.9-4.7-8.2-7.9-9.7-8.6-7.3-6.8-4.7-2.8
Memorandum items:
Additional priority expenditure (in percent of GDP)5.310.63.33.60.04.03.52.00.30.00.0
Government deposits (in percent of GDP)16.811.512.415.912.112.08.75.93.94.25.5
Gross public debt (in percent of GDP)31.731.525.625.216.723.221.318.413.513.012.5
Domestic (in percent of GDP)18.519.115.215.46.913.511.59.36.45.95.4
External (in percent of GDP)13.212.510.49.89.89.79.89.27.17.17.1
Non-contingent liabillities (in percent of GDP)8.726.523.619.618.017.816.54.73.23.02.7
Net public debt (in percent of GDP) 1/23.629.220.516.310.717.318.217.212.811.79.7
Nonmineral GDP at current prices (in millions of Kina)1570617616204792451127862280713110734704392824434850041
GDP at current prices (in millions of Kina)2160122331263953016733991342973777744874648517091477065
Sources: Papua New Guinea authorities; and IMF staff estimates.

Gross public debt and non-contingent liabilities less government assets including LNG equity stake.

Sources: Papua New Guinea authorities; and IMF staff estimates.

Gross public debt and non-contingent liabilities less government assets including LNG equity stake.

Table 3.Papua New Guinea: Balance of Payments, 2008–17(In millions of U.S. dollars)
2008200920102011201220132014201520162017
Est.Proj.
Current account balance674-1,325-2,532-4,605-4,374-3,247-2,3652,3372,3832,260
Mineral1,980502-584-3,308-2,613-1,122704,8515,0495,001
Nonmineral-1,307-1,827-1,948-1,297-1,762-2,125-2,436-2,515-2,666-2,741
Trade balance2,5451,2531,5828611,3252,1112,9498,8259,4629,481
Exports (f.o.b.)5,6854,5115,8437,0477,7888,0048,81413,75414,17314,302
Mineral4,2753,4414,4445,2155,9686,1036,81111,74212,15812,292
Nonmineral1,4101,0701,3991,8321,8191,9012,0022,0122,0152,010
Imports (c.i.f.)-3,140-3,258-4,261-6,186-6,463-5,893-5,865-4,929-4,711-4,821
Mineral-1,182-1,356-1,866-3,897-3,877-3,060-2,738-1,741-1,415-1,426
Nonmineral-1,958-1,902-2,396-2,290-2,585-2,833-3,126-3,188-3,296-3,395
Services-1,388-1,998-3,499-3,419-3,937-3,652-3,540-2,358-2,374-2,445
Income-644-754-808-2,204-1,875-1,810-1,855-4,169-4,704-4,845
Current Transfers1611731931581131048139-170
Official172267276315292300309318327334
Private-10-94-83-157-180-196-228-279-328-264
Capital and financial account balance-6961,6633,0555,9574,3473,6352,498-640-160-250
Direct investment-314208581,7501,2039901,908378443454
Other investment-6651,2442,1974,2073,1442,645590-1,018-603-704
Medium- and long-term loan212,4752,1765,0992,8382,382-1,022-823-418-528
Official (net)-43-351131610279861127677
Private capital flows (net)632,5102,1644,7832,7362,304-1,109-935-494-606
Commercial banks-110988976-26-69-88-95-99-100
Other-576-1,330-68-9683323321,700-100-87-76
Net errors and omissions33-5-55-121000000
Overall balance113334691,231-273881321,6962,2232,010
Financing-11-333-469-1,23127-388-132-1,696-2,223-2,010
Reserve assets-8-529-469-1,23127-388-132-1,696-2,223-2,010
Use of IMF credit0000000000
Other foreign liabilities-219600000000
Memorandum items:
Current account (in percent of GDP)8.4-16.4-25.6-36.4-28.4-20.2-13.09.39.18.3
Mineral24.86.2-5.9-26.1-17.0-7.00.419.419.318.4
Nonmineral-16.3-22.5-19.7-10.3-11.4-13.2-13.4-10.0-10.2-10.1
Net international reserves (end-year)
In millions of U.S. dollars2,0932,4262,8954,1264,0994,4874,6196,3158,53810,548
Gross official reserves (end-year)
In millions of U.S. dollars2,0952,6233,0924,3234,2964,6844,8166,5138,73510,745
In months of imports of goods and services5.15.84.65.24.75.55.89.813.316.0
Public external debt-service-exports ratio (in percent) 1/3.41.81.41.31.51.41.20.80.70.7
Public external debt-GDP ratio (in percent) 1/13.212.510.49.89.79.89.27.17.17.1
Sources: Data provided by the Papua New Guinea authorities; and IMF staff estimates and projections.

Public external debt includes central government external debt.

Sources: Data provided by the Papua New Guinea authorities; and IMF staff estimates and projections.

Public external debt includes central government external debt.

Table 4.Papua New Guinea: Summary Accounts of the Depository Corporations, 2008–12
2008200920102011

Est.
2012

Proj.
Bank of Papua New Guinea(In millions of kina; end of period)
Net foreign assets5,5666,5547,6528,84710,322
Foreign assets5,6087,0918,1709,26610,773
Foreign liabilities42536518419451
Net domestic assets-3,946-4,741-5,636-5,589-6,705
Domestic credit-1,774-220-639-1,459-1,116
Net credit to government-1,827-2611,3852,3282,073
Claims107333367395439
Central government deposits-1,934-5931,0191,9331,634
Credit to other sectors5340137979
Other items, net-2,172-4,520-4,997-4,130-5,588
Of which: Central Bank Securities (CBBs)2,1364,1174,5945,6876,445
Reserve money1,6201,8142,0163,2593,617
Currency in circulation8501,0021,1931,5321,737
Deposits of other depository corporations7678088101,7241,878
Required reserves3033695149451,073
Excess reserves464440296779805
Other deposits331333
Depository Corporations Survey(In millions of kina; end of period)
Net foreign assets6,1477,9248,96810,11811,762
Net domestic assets3,5533,8463,9995,1035,490
Domestic credit4,8546,6656,9936,6327,838
Net credit to central government-400574-202-1,073-438
Claims on other sectors5,2546,0917,1957,7058,276
Claims on the private sector5,1285,9026,9717,4798,039
Other items, net-1,301-2,820-2,994-1,529-2,348
Broad money9,70011,77012,96715,22117,252
Narrow money5,5206,2337,6449,62010,979
Currency outside other depository corporations6767899551,1891,332
Demand deposits4,8445,4446,6898,4319,647
Quasi money4,1815,5375,3235,6016,273
(Annual percentage change)
Net foreign assets-12.628.913.212.816.2
Net domestic assets81.08.24.027.67.6
Net domestic credit15.737.34.9-5.218.2
Of which: Private sector29.515.118.17.37.5
Broad money7.821.310.217.413.3
Memorandum items:
Reserve money (percentage change)-12.011.911.161.711.0
Gross international reserves (in millions of US dollars)2,0952,6233,0924,3234,296
Nominal nonmineral GDP/Broad money1.61.51.61.61.6
Sources: Data provided by the Papua New Guinea authorities; and Fund staff estimates and projections.
Sources: Data provided by the Papua New Guinea authorities; and Fund staff estimates and projections.
Table 5.Papua New Guinea: Indicators of External Vulnerability, 2008–12(In percent of GDP, unless otherwise indicated)
20082009201020112012
Est.Proj.
Financial indicators
Gross public debt 1/2/31.731.525.625.223.2
Broad money (percent change, 12-month basis)7.821.310.217.413.3
Private sector credit (percent change, 12 month basis)29.515.118.17.37.5
Interest rate (182-day T-bills; period average)5.97.26.46.8
External indicators
Exports (percent change, 12-month basis in U.S. dollars)18.0-20.629.520.610.5
Imports (percent change, 12-month basis in U.S. dollars)19.43.830.845.24.5
Current account balance8.4-16.4-25.6-36.4-28.4
Capital and financial account balance (millions of U.S. dollars)-695.91663.43055.35957.44347.2
Of which: Inward foreign direct investment-30.6419.8857.91750.11203.0
Gross official reserves (millions of U.S. dollars)2094.82623.53092.24322.84295.9
Central Bank short-term foreign liabilities (millions of U.S. dollars)1.51.72.72.8197.2
Commerical bank foreign assets (millions of U.S. dollars)263.5578.1579.0646.5697.1
Commerical bank foreign liabilities (millions of U.S. dollars)46.571.280.961.966.7
Gross official reserves (months of nonmineral imports, c.i.f.)8.810.910.415.813.8
Broad money to gross reserves (ratio)1.71.71.61.61.8
Total short-term external debt to reserves (percent) 3/2.22.72.61.41.6
Public external debt to GDP ratio (in percent)13.212.510.49.89.7
Exchange rate (per U.S. dollar; period average)2.72.72.62.2
Financial market indicators
Foreign currency long-term government debt rating 1/
Moody’s 4/Ba2Ba2Ba2Ba2
Standard & PoorsB+B+B+B+
Sources: Department of Treasury; Bank of Papua New Guinea; and IMF staff estimates and projections.

End of period.

Includes central government external debt.

Covers only banking system short-term external debt.

Sources: Department of Treasury; Bank of Papua New Guinea; and IMF staff estimates and projections.

End of period.

Includes central government external debt.

Covers only banking system short-term external debt.

Table 6.Papua New Guinea: Medium-Term Scenario, 2008–17
2008200920102011201220132014201520162017
Est.Projections
Growth and prices (change in percent)
Real GDP6.66.17.68.97.74.07.720.05.44.9
Mineral-1.4-1.7-2.0-11.813.75.045.8145.22.50.3
Nonmineral7.67.08.510.87.23.94.76.26.16.0
CPI (period average)10.76.96.08.46.86.76.66.56.56.5
CPI (end-period)11.25.77.86.96.86.76.66.56.56.5
Central government operations (in percent of GDP)
Total revenue and grants32.627.331.329.827.526.824.319.019.219.6
Total revenue28.023.426.027.325.624.922.617.817.918.3
Of which: Mineral tax revenue9.13.15.66.54.84.53.82.32.42.3
Grants4.63.95.32.51.91.91.71.31.31.2
Total expenditure30.136.928.229.430.028.825.819.618.818.2
Primary balance4.3-7.64.41.5-1.3-0.9-0.60.00.91.9
Nonmineral balance-7.4-13.3-3.6-6.6-8.0-7.1-5.7-4.1-3.0-1.8
Overall balance2.5-9.63.10.5-2.5-2.0-1.5-0.60.31.3
Gross public debt (in percent of GDP) 1/31.731.525.625.223.221.318.413.513.012.5
Domestic18.519.115.215.413.511.59.36.45.95.4
External13.212.510.49.89.79.89.27.17.17.1
Balance of payments (in millions of U.S. dollars)
Exports, f.o.b.5,6854,5115,8437,0477,7888,0048,81413,75414,17314,302
Of which: Mineral4,2753,4414,4445,2155,9686,1036,81111,74212,15812,292
Imports, c.i.f.-3,140-3,258-4,261-6,186-6,463-5,893-5,865-4,929-4,711-4,821
Current account674-1,325-2,532-4,605-4,374-3,247-2,3652,3372,3832,260
(In percent of GDP)8.4-16.4-25.6-36.4-28.4-20.2-13.09.39.18.3
Overall balance (including exceptional financing)113334691,231-273881321,6962,2232,010
Net official reserves (in millions of U.S. dollars)2,0932,4262,8954,1264,0994,4874,6196,3158,53810,548
(In months of goods and services imports, c.i.f.)5.15.44.34.94.55.35.59.513.015.7
(In months of nonmining imports, c.i.f.)8.810.19.815.113.112.712.016.021.025.2
Public external debt service-export ratio (in percent) 2/3.41.81.41.31.51.41.20.80.70.7
Memorandum items:
Nominal GDP (in millions of U.S. dollars)8,0008,1059,88512,65515,39316,11418,19225,04626,13827,152
Assumed commodity prices: 3/
Gold (U.S. dollars per ounce)8729731,2251,5691,7111,7311,7591,7891,8251,872
Copper (U.S. dollars per ton)6,9635,1657,5388,8238,4608,5018,4368,3498,2468,150
Oil (U.S. dollars per barrel)976279104115110103979391
Sources: Department of Treasury; Bank of Papua New Guinea; and IMF staff estimates and projections.

Includes central government external debt.

Includes changes in check float.

April 2012 WEO projections.

Sources: Department of Treasury; Bank of Papua New Guinea; and IMF staff estimates and projections.

Includes central government external debt.

Includes changes in check float.

April 2012 WEO projections.

Table 7.Papua New Guinea: Millennium Development Goals Progress, 1990-2010
19901995200020052010
Goal 1: Eradicate extreme poverty and hunger
Target 1.A: Halve, between 1990 and 2015, the proportion of people whose income is less than $ 1 a day
Poverty gap at $1.25 a day (PPP) (%)..12 ....
Poverty headcount ratio at $1.25 a day (PPP) (% of population)..36 ......
Income share held by lowest 20%..5 ......
Target 1.B: Achieve full and productive employment and decent work for all, including women and young people
Employment to population ratio, 15+, total (%)7069707171
Employment to population ratio, ages 15-24, total (%)5753565756
Target 1.C: Halve, between 1990 and 2015, the proportion of people who suffer from hunger
Malnutrition prevalence, weight for age (% of children under 5)......18 ..
Goal 2: Achieve universal primary education
Target 2.A: Ensure that, by 2015, children everywhere, boys and girls alike, will be able to complete a full course of primary schooling
Literacy rate, youth female (% of females ages 15-24)....64 ..70
Literacy rate, youth male (% of males ages 15-24)....69 ..65
Primary completion rate, total (% of relevant age group)485255 ....
Total enrollment, primary (% net)65 ........
Goal 3: Promote gender equality and empower women
Target 3.A: Eliminate gender disparity in primary and secondary education, preferably by 2005, and in all levels of education no later than 2015
Proportion of seats held by women in national parliaments (%)00211
Ratio of female to male enrollments in tertiary education
Ratio of female to male primary enrollment
Ratio of female to male secondary enrollment
Share of women employed in the nonagricultural sector (% of total nonagricultural employment)27.9 ..32.1 ....
Goal 4: Reduce child mortality
Target 4.A: Reduce by two-thirds, between 1990 and 2015, the under-five mortality rate
Immunization, measles (% of children ages 12-23 months)6742626355
Mortality rate, infant (per 1,000 live births)6560555147
Mortality rate, under-5 (per 1,000)9081746761
Goal 5: Improve maternal health
Target 5.A: Reduce by three quarters, between 1990 and 2015, the maternal mortality ratio
Maternal mortality ratio (modeled estimate, per 100,000 live births)340300290270250
Births attended by skilled health staff (% of total)..424153 ..
Target 5.B: Achieve, by 2015, universal access to reproductive health
Contraceptive prevalence (% of women ages 15-49)..26 ..36 ..
Adolescent fertility rate (births per 1,000 women ages 15-19)..76736965
Pregnant women receiving prenatal care (%)..78 ..79 ..
Goal 6: Combat HIV/AIDS, malaria, and other diseases
Target 6.A: Have halted by 2015 and begun to reverse the spread of HIV/AIDS
Prevalence of HIV, female (% ages 15-24)........0.8
Prevalence of HIV, male (% ages 15-24)........0.3
Prevalence of HIV, total (% of population ages 15-49)0.10.10.40.80.9
Target 6.C: Have halted by 2015 and begun to reverse the incidence of malaria and other major diseases
Incidence of tuberculosis (per 100,000 people)303303303303303
Tuberculosis cases detection rate (all forms)
Goal 7: Ensure environmental sustainability
Target 7.A: Integrate the principles of sustainable development into country policies and programmes and reverse the loss of environmental resources Target 7.B: Reduce biodiversity loss, achieving, by 2010, a significant reduction in the rate of loss
Forest area (% of land area)69.6..66.56563.4
CO2 emissions (kg per PPP $ of GDP)00000
CO2 emissions (metric tons per capita)10010
Marine protected areas, (% of surface area)
Terrestrial protected areas (% of total surface area)
Target 7.C: Halve, by 2015, the proportion of people without sustainable access to safe drinking water and basic sanitation
Improved sanitation facilities (% of population with access)4747464745
Improved water source (% of population with access)4141394140
Goal 8: Develop a global partnership for development
Target 8: Various
Net ODA received per capita (current US$)9979514462
Debt service (PPG and IMF only, % of exports, excluding workers’ remittances)1810861
Internet users (per 100 people)000.81.71.3
Mobile cellular subscriptions (per 100 people)000128
Telephone lines (per 100 people)11112
Other
Fertility rate, total (births per woman)55544
GNI per capita, Atlas method (current US$)83010406206801300
GNI, Atlas method (current US$) (billions)3.44.93.34.28.9
Gross capital formation (% of GDP)24.421.921.919.817.8
Life expectancy at birth, total (years)5556586062
Literacy rate, adult total (% of people ages 15 and above)....57..60
Population, total (millions)4.14.75.46.16.5
Trade (% of GDP)89.6104.7115.4137.7108.9
Source: World Development Indicators database, 2011.
Source: World Development Indicators database, 2011.
APPENDIX I: PAPUA NEW GUINEA—AUTHORITIES’ RESPONSE TO FUND POLICY ADVICE1
Fund RecommendationsPolicy Actions
Monetary and Exchange Rate Policy
Monetary policy needs to be tightened to contain inflationary pressures and reduce the risk of higher inflation becoming entrenched in expectations.The BPNG increased its policy rate twice to 7.75 percent last year. In addition to issuing CBBs to mop up liquidity, the cash reserve requirement has been increased twice by a total of 200 basis points to 6 percent. The nominal effective exchange rate appreciated by 21 percent.
Fiscal Policy
Tighter fiscal policies during the construction phase of the LNG plant are needed to reduce inflationary pressures.A small budget surplus was achieved. Spending outside the budget was in line with the MTFS, and is expected to be under the MTFS threshold of 4 percent of GDP.
The government’s decision to allocate funds to meet its superannuation obligations should be implemented as planned. It should develop a payment schedule for remaining unfunded superannuation liabilities.The authorities met their current obligations but did not allocate funding for the outstanding arrears prior to 2010, which stands at about K2 billion.
The decision to move all new trust accounts to the BPNG should be fully implemented.Little progress has been made so far. The authorities plan to further strengthen financial and reporting systems. They intend to closely monitor spending from trust accounts and, if required, consider ways to exercise expenditure control. They plan to develop a finance instruction to guide the use of DSIP trust accounts.
The SWF needs to be integrated into the macro framework and supported by other fiscal institutions, such as the MTFS and the Fiscal Responsibility Act.The authorities plan to review the current MTFS in 2012. They have indicated that the new MTFS will incorporate new guiding principles governing SWF revenue.
It will be important to invest its assets offshore; fully integrate withdrawals into the budget process; and ensure transparency, accountability, and good governance by adopting the internationally accepted Santiago Principles.The authorities proposed a draft organic SWF law with offshore investments, full integration with the fiscal and budget framework, and transparency, accountability, and good governance in line with international best practices.
Financial Sector Policy
Banks should be encouraged to maintain strict lending standards. Furthermore, all financial institutions need to guard against overexposure to the property sector.Lending interest rates have increased somewhat and credit growth has slowed. Financial institutions have reduced their exposure to real estate.
Structural Reforms
Addressing current supply constraints requires a more supportive environment for the private sector and a revival of the structural reform agenda.The authorities carried out reviews of all state-owned enterprises in 2011. They announced a removal of remaining telecommunications monopolies and are preparing PNG Power toward being a commercially-oriented business.
Source: IMF Staff.

Advice from the 2011 Article IV Consultation.

Source: IMF Staff.

Advice from the 2011 Article IV Consultation.

APPENDIX II: PAPUA NEW GUINEA—2011 FSSA RECOMMENDATIONS AND AUTHORITIES’ RESPONSES1
FSAP recommendationsAuthorities’ responses
MeasurePriorityTime frame 1
Banking Sector
Credit Risk
  • Monitor current and emerging NPLs with regard to loan duration and sectoral impacts of macroeconomic changes;
  • Conduct a thorough analysis of counterparty exposure concentrations, with a full definition of interconnectedness; and
  • Conduct a thorough analysis of collateral and related lending exposures to property loans.
High



Medium



Medium
Medium term



Short term



Short term
1. The BPNG SDP 2012-2015 stress to improve financial system stability by:

1) Consolidate and improve the current staff strength, and enhance staff skills and supervisory methods and practices of the Bank.
Liquidity Risk
  • Develop monitoring systems and conduct stress tests that assume alternative definitions of liquid assets;
  • Ensure that any withdrawal of government deposits from the banking system is done with careful planning and adequate consultation; and
  • Formalize bank liquidity support arrangements with the BPNG, including through repurchase agreements for government securities stock.
High



High



High
Short term



Short and Medium term



Short term
2) A two-way process of effective supervision by the Central Bank and compliance by the intermediaries to prudential framework is maintained and enhanced through the application of best market practices.

3)Continue to encourage and require financial institutions to strengthen their risk management capabilities.
Regulation and Supervision
  • Centralize data management systems;
  • Conduct and document a full risk assessment as the basis for the supervisory strategy;
  • Publish a full set of prudential standards, starting with risk management, market and liquidity risk, but also including governance, credit, and operational risk. Financial statement reporting also needs further standardization;
  • Increase the range of administrative sanctions and make compliance with prudential standards compulsory; and
  • Enhance the capacity of the supervisory staff through training, so that the BPNG can move to full risk-based supervision.
Medium



Medium



High



High



High
Medium term



Short term



Medium term



Medium term



Medium term
4) Develop an analysis of financial system stability and resilience of systematically important institutions, to enable the Bank to monitor developments.

2. The BPNG plans to create a unit for financial stability analysis. Stress test will be conducted to conduct risk assessment on the financial sector.

3. The BPNG has standing discount facilities to support banks and other financial institutions with liquidity. However, currently the financial insitutions, especially the major commercial banks, have ample liquidity, and the facilities have not been used.
Systemically important institutions
  • Make arrangements for liquidity improvement and contingency planning that reduce the risk profile.
MediumMedium term
Crisis Management
  • Establish a discount window lending program, including repurchase agreements;
  • Strengthen BPNG’s crisis preparedness by developing a contingency planning framework, including internal procedures on emergency liquidity assistance; and
  • Consider the development of a deposit protection scheme.
High



High



Low
Short term



Short term



Long term
The BPNG SDP 2012-2015 plans to introduce new open market operation measure.



Discount window has been established.



Currently there is no plan on deposit protection scheme.
Government Debt Markets
  • Estimate the scale of broader public-sector debt obligations, such as borrowing and guarantees;
  • Issue BPNG guidelines to market participants on sound procedures for repurchase transactions;
  • Review the regulatory infrastructure, keeping in mind principles to ensure market integrity and price reporting, to allow seamless over-the-counter trading;
  • Introduce a noncompetitive segment of the auction for smaller investors.
High



High



Medium



Medium
Short Term



Short Term



Medium Term



Medium Term
The authorities plan to include debt borrowed by the Independent Public Business Corporation (IPBC), the governing body of PNG’s state-owned enterprises, to the government debt. This helps to estimate the broader public-sector debt obligations.



The BPNG SDP 2012-2015 aims to support the development of the secondary market and enhance liaison with market participants.



BPNG plans to use the TAP facility for trade of securities in small amounts to encourage small investor participation.
Payment Systems
  • Implement the proposed National Payment System Development Program;
  • Establish a Payment Systems Department in the BPNG, and exercise oversight of all payment and securities settlement systems; and
  • Develop regulations/guidelines for mobile payments and securities settlements.
High



High



Medium
Medium term



Medium term



Medium term
The BPNG SDP 2012–2015 envisages reforming the current payment system, and improving related supervision.
Insurance Sector
  • Enhance the supervisory functions regarding offsite reporting and monitoring and onsite inspections;
  • Develop guidance on governance, risk management, and internal controls; and.
  • Implement the International Association of Insurance Supervisors’ principles, as appropriate to the PNG setting.
High



Medium



Medium
Short term



Medium term



Medium term
1. The BPNG increased onsite inspections on superannuation funds and life insurance companies.



2. The BPNG is working with the Office of Insurance Commissioner to strengthen the cooperation in general life insurance supervision.
Financial Inclusion
  • Establish a functional coordination mechanism on financial inclusion, including all the government departments and agencies;
  • Set up a national consultative process; and
  • Commence specific data collection on financial inclusion.
Medium



Medium



Medium
Short term



Short term



Medium term
1. The BPNG SDP 2012–2015 aims to increase focus on the regulation and supervision of small institutions that cater for Papua New Guineans’ involvement in financial inclusion;



2. The Ministry of Finance plans to inject 130 million Kina to the National Development Bank and providing tax incentives for banks to invest in regional branches to improve services in rural areas.



3. The IFC and the government have agreed to establish a
AML
  • Give BPNG responsibility for enforcing financial institutions’ obligations;
  • Complete the customer due diligence regime (especially with more focus on monitoring accounts); and
  • Issue regulations on customer due diligence.
High



High



High
Short term



Short term



Short term
The FIU is currently under the Police Department. The BPNG has not got the enforcing authority, but the FIU will conduct regular meeting with BPNG to get information.



The FIU has issued guidelines on customer due diligence under s14 of the Proceeds of Crime Act 2005.
Sovereign Wealth Funds
  • The authorities should decide on the funding and withdrawal rules, institutional arrangements, including organizational structure, roles and responsibilities, and investment strategy for the funds decided by the Government.
HighShort termSWF bill has been passed by the Parliament in February 2012.

The Financial System Stability Assessment (FSSA) is based on the FSAP mission to PNG during May 12–26, 2010, and was updated after an MCM mission during February 16–21, 2011.

The Financial System Stability Assessment (FSSA) is based on the FSAP mission to PNG during May 12–26, 2010, and was updated after an MCM mission during February 16–21, 2011.

APPENDIX 3: PAPUA NEW GUINEA—DEBT SUSTAINABILITY ANALYSIS1

Papua New Guinea (PNG) has reduced its risk of public debt distress from moderate to low since the 2011 Article IV Consultation. This reflects both PNG’s reduction in public external debt over the past decade, and an enhanced debt capacity under the DSA following an upgrade of the country’s policy and institutional rating by the World Bank2. Under the baseline scenario, all external debt sustainability indicators remain well below their applicable thresholds. Stress tests indicate that unstable debt dynamics only occur if prices of copper, gold and natural gas collapse and remain low over a decade, and the government borrows abroad to finance current expenditure plans. Total public debt continues its downward path under the baseline, and assets are accumulated after domestic debt is paid off in 2020. In a low risk but high impact scenario, cancellation of the LNG project would derail progress in debt reduction if current expenditure plans are maintained.

Background

1. PNG has successfully reduced its public and publicly guaranteed (PPG) debt burden over the past decade. Total public debt declined from 71 to 25 percent of GDP from 2001 to 2011 (Table III.1). External public debt fell from 50 to 10 percent of GDP during this period (Tables III.1 and III.3). Multilateral lenders such as the World Bank and the AsDB account for about 75 percent of PPG external debt, and bilateral creditors account for the bulk of the remainder.

Table III. 1:Papua New Guinea: Public Sector Debt Sustainability Framework, Baseline Scenario, 2009–2032(In percent of GDP, unless otherwise indicated)
ActualEstimateProjections
200920102011Average5/Standard Deviation5/2012201320142015201620172012-17 Average202220322018-32 Average
Public sector debt 1/31.525.625.223.221.318.413.513.012.5-1.4-24.3
o/w foreign- currency denominated12.510.49.89.79.89.27.17.17.16.24.5
Change in public sector debt-0.2-5.9-0.4-2.0-1.9-2.9-4.9-0.6-0.5-3.5-2.0
Identified debt-creating flows8.7-8.2-5.3-0.20.2-1.2-3.9-1.4-2.3-4.0-2.5
Primary deficit7.6-4.4-1.5-3.85.11.30.90.60.0-1.0-1.90.0-4.1-4.4-3.8
Revenue and grants27.331.329.827.526.824.319.019.219.622.322.6
Of which: grants3.95.32.51.91.91.71.31.31.21.00.3
Primary (noninterest) expenditure34.926.928.328.827.724.919.018.217.618.118.3
Automatic debt dynamics1.1-3.8-3.8-1.5-0.7-1.8-3.9-0.4-0.30.11.9
Contribution from interest rate/growth differential0.5-2.6-1.9-1.5-0.7-1.8-3.9-0.4-0.30.11.9
of which: contribution from average real interest rate2.3-0.40.20.20.2-0.3-0.80.30.30.21.3
of which: contribution from real GDP growth-1.8-2.2-2.1-1.8-0.9-1.5-3.1-0.7-0.6-0.10.6
Contribution from real exchange rate depreciation0.6-1.2-1.90.00.00.00.00.00.0
Other identified debt- creating flows0.00.00.00.00.00.00.00.00.00.00.0
Privatization receipts (negative)0.00.00.00.00.00.00.00.00.00.00.0
Recognition of implicit or contingent liabilities0.00.00.00.00.00.00.00.00.00.00.0
Debt relief (HIPC and other)0.00.00.00.00.00.00.00.00.00.00.0
Other (specify, e.g.bank recapitalization)0.00.00.00.00.00.00.00.00.00.00.0
Residual, including asset changes-8.92.34.8-1.7-2.1-1.7-1.00.81.80.50.5
Other Sustainability Indicators
PV of public sector debt24.021.919.917.112.511.911.4-2.3-25.0
o/w foreign-currency denominated8.68.48.47.96.16.16.15.33.8
o/w external8.68.48.47.96.16.16.15.33.8
PV of contingent liabilities (not included in public sector debt)
Gross financing need 2/17.64.55.08.45.93.91.90.8-0.2-3.7-4.1
PV of public sector debt-to-revenue and grants ratio (in percent)80.479.774.470.465.662.258.5-10.3-110.4
PV of public sector debt-to-revenue ratio (in percent)87.785.679.975.770.366.662.4-10.8-111.7
o/w external 3/31.432.933.834.834.233.933.224.817.0
Debt service-to-revenue and grants ratio (in percent) 4/14.49.78.810.08.97.66.46.05.71.81.3
Debt service-to-revenue ratio (in percent) 4/16.911.79.610.89.58.26.96.46.01.91.3
Primary deficit that stabilizes the debt-to-GDP ratio7.81.5-1.13.32.83.54.9-0.4-1.5-0.6-2.4
Key macroeconomic and fiscal assumptions
Real GDP growth (in percent)6.17.68.95.02.77.74.07.720.05.44.98.33.03.03.2
Average nominal interest rate on forex debt (in percent)2.01.61.62.60.71.61.71.81.92.02.01.82.12.22.1
Average real interest rate on domestic debt (in percent) 6/12.7-2.51.73.15.82.01.7-2.4-10.44.65.20.1-0.4
Real exchange rate depreciation (in percent, + indicates depreciation)4.7-10.1-19.8-8.47.60.0
Inflation rate (GDP deflator, in percent) 6/-2.69.94.96.14.45.65.910.320.43.83.68.35.05.05.3
Growth of real primary spending (deflated by GDP deflator, in percent)0.4-0.20.10.10.20.10.00.0-0.10.00.00.00.00.00.0
Grant element of new external borrowing (in percent)26.926.124.425.623.223.424.925.425.4
Sources: Country authorities; and staff estimates and projections.

Gross debt of central government less assets in sovereign wealth fund. State-owned enterprises are not included due to data limitations. Deposits held at the Bank of PNG are not included.

Gross financing need is defined as the primary deficit plus debt service plus the stock of short-term debt at the end of the last period.

Revenues excluding grants.

Debt service is defined as the sum of interest and amortization of medium and long-term debt.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

The GDP deflator increases sharply in 2014–15 owing to a base year effect as the share of real activity accounted for by the oil and gas sector (which has experienced high inflation since the base year of 1998) increases sharply. Rebasing the national accounts to a more recent year is recommended. This would push up projected real GDP growth in 2014–15, reduce the GDP deflator and increase the imputed average real interest rates.

Sources: Country authorities; and staff estimates and projections.

Gross debt of central government less assets in sovereign wealth fund. State-owned enterprises are not included due to data limitations. Deposits held at the Bank of PNG are not included.

Gross financing need is defined as the primary deficit plus debt service plus the stock of short-term debt at the end of the last period.

Revenues excluding grants.

Debt service is defined as the sum of interest and amortization of medium and long-term debt.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

The GDP deflator increases sharply in 2014–15 owing to a base year effect as the share of real activity accounted for by the oil and gas sector (which has experienced high inflation since the base year of 1998) increases sharply. Rebasing the national accounts to a more recent year is recommended. This would push up projected real GDP growth in 2014–15, reduce the GDP deflator and increase the imputed average real interest rates.

Table III. 2:Sensitivity Analysis for Key Indicators of Public Debt, 2012–2032(In percent)
Projections
20122013201420152016201720222032
PV of Debt-to-GDP Ration
Baseline222017121211-2-25
A. Alternative scenarios
A1. Real GDP growth and primary balance are at historical averages221581-3-5-24-44
A2. Primary balance is fixed to zero2219161112131746
A3. Permanently lower GDP growth 1/22201813131342
A4. Superannuation arrears, SOEs and LNG project cancellation2220182123221733
B. Bound tests
B1. Real GDP growth is at historical average minus one standard deviations in 2013-20142221211718191311
B2. Primary balance is at historical average minus one standard deviations in 2013-2014222018141313-1-24
B3. Combination of B1-B2 using one half standard deviation shocks2218141011112-8
B4. One-time 30 percent real depreciation in 20132224211615141-21
B5. 10 percent of GDP increase in other debt- creating flows in 20132230272121207-13
PV of Debt-to-Revenue Ration 2/
Baseline807470666259-10-110
A. Alternative scenarios
A1. Real GDP growth and primary balance are at historical averages8055313-15-27-106-193
A2. Primary balance is fixed to zero807164706968178
A3. Permanently lower GDP growth 1/80757359616877204
A4. Superannuation arrears, SOEs and LNG project cancellation80757411311811290183
B. Bound tests
B1. Real GDP growth is at historical average minus one standard deviations in 2013-2014807676716864-5-104
B2. Primary balance is at historical average minus one standard deviations in 2013-20148078858892955748
B3. Combination of B1-B2 using one half standard deviation shocks8088858277733-91
B4. One-time 30 percent real depreciation in 20138066565455569-36
B5. 10 percent of GDP increase in other debt- creating flows in 20138011311211210810433-59
Debt Service-to-Revenue Ratio 2/
Baseline109866621
A. Alternative scenarios
A1. Real GDP growth and primary balance are at historical averages1095-5-6-12-23-19
A2. Primary balance is fixed to zero10975541773
A3. Permanently lower GDP growth 1/1098777730
A4. Superannuation arrears, SOEs and LNG project cancellation1011151525242470
B. Bound tests
B1. Real GDP growth is at historical average minus one standard deviations in 2013-2014109899111640
B2. Primary balance is at historical average minus one standard deviations in 2013-2014109887733
B3. Combination of B1-B2 using one half standard deviation shocks1010988857
B5. 10 percent of GDP increase in other debt- creating flows in 2013109132116181314
Sources: Country authorities; and staff estimates and projections.

Assumes that real GDP growth is at baseline minus one standard deviation divided by the square root of the length of the projection period.

Revenues are defined inclusive of grants.

Sources: Country authorities; and staff estimates and projections.

Assumes that real GDP growth is at baseline minus one standard deviation divided by the square root of the length of the projection period.

Revenues are defined inclusive of grants.

Table III. 3:External Debt Sustainability Framework, Baseline Scenario, 2009-2032 1/(In percent of GDP, unless otherwise indicated)
ActualHistorical Average 6/Standard Devision 6/Projections
2009201020112012201320142015201620172012-2017 Average202220322018-2032 Average
External debt (nominal) 1/55.067.291.995.0105.687.960.656.452.432.427.5
o/w public and publicly guaranteed (PPG)12.510.49.89.79.89.27.17.17.16.24.5
Change in external debt30.112.224.73.110.6-17.7-27.3-4.1-4.1-3.2-0.1
Identified net debt- creating flows10.87.07.914.810.4-4.7-23.6-13.9-12.7-8.9-6.9
Non-interest current account deficit15.224.435.43.616.126.918.511.2-10.5-10.2-10.44.3-8.5-7.3-8.5
Deficit in balance of goods and services9.219.420.217.09.63.2-25.8-27.1-25.9-21.4-17.2
Exports57.962.359.254.053.351.957.757.255.748.039.4
Imports67.181.779.471.062.955.231.930.129.726.722.2
Net current transfers (negative = inflow)-2.1-2.0-1.2-4.12.5-0.7-0.6-0.4-0.20.0-0.3-0.4-1.00.2-0.5
o/w official-3.3-2.8-2.5-1.9-1.9-1.7-1.3-1.3-1.2-1.0-0.3
Other current account flows (negative = net inflow)8.16.916.510.69.58.415.516.915.813.89.8
Net FDI (negative = inflow)-5.2-8.7-13.8-4.34.5-7.8-6.1-10.5-1.5-1.7-1.7-4.9-1.5-1.2-1.4
Endogenous debt dynamics 2/0.8-8.7-13.8-4.3-1.9-5.5-11.7-2.0-0.61.11.6
Contribution from nominal interest rate1.21.31.01.51.71.81.11.12.02.22.3
Contribution from real GDP growth-1.5-3.4-4.7-5.8-3.6-7.2-12.8-3.1-2.7-1.0-0.8
Contribution from price and exchange rate changes1.2-6.5-10.0
Residual (3-4) 3/19.25.216.9-11.70.2-13.0-3.79.88.65.66.8
o/w exceptional financing0.00.00.00.00.00.00.00.00.00.00.0
PV of external debt 4/90.793.7104.286.659.555.451.331.526.8
In percent of exports153.3173.4195.4166.7103.196.892.365.668.1
PV of PPG external debt8.68.48.47.96.16.16.17.25.33.84.8
In percent of exports14.515.615.815.110.510.610.913.111.09.710.5
In percent of government revenues31.432.933.834.834.233.933.233.824.817.023.0
Debt service-to-exports ratio (in percent)13.414.715.716.515.331.019.617.019.922.723.5
PPG debt service-to-exports ratio (in percent)1.81.41.31.51.41.20.80.70.71.10.80.70.8
PPG debt service-to-revenue ratio (in percent)4.43.32.73.13.02.82.42.32.32.71.91.31.7
Total gross financing need (Billions of U.S. dollars)1.42.53.94.33.33.1-0.2-0.6-0.30.30.4
Non-interest current account deficit that stabilizes debt ratio-14.912.210.723.87.928.916.9-6.1-6.3-5.3-7.2
Key macroeconomic assumptions
Real GDP growth (in percent)6.17.68.95.02.77.74.07.720.05.44.98.33.03.03.2
GDP deflator in US dollar terms (change in percent)-4.513.417.510.08.013.00.74.814.7-1.0-1.05.21.91.91.8
Effective interest rate (percent) 5/4.72.81.83.30.82.01.91.91.81.93.72.26.48.97.4
Growth of exports of G&S (US dollar terms, in percent)-22.331.121.614.618.111.13.310.053.03.51.013.62.62.62.6
Growth of imports of G&S (US dollar terms, in percent)11.248.424.419.515.28.8-7.3-0.9-20.4-1.52.6-3.13.03.03.0
Grant element of new public sector borrowing (in percent)26.926.124.425.623.223.424.925.425.425.2
Government revenues (excluding grants, in percent of GDP)23.426.027.325.624.922.617.817.918.321.222.421.2
Aid flows (in Billions of US dollars) 7/0.30.60.70.40.40.40.40.40.40.40.2
o/w Grants0.30.50.30.30.30.30.30.30.30.40.1
o/w Concessional loans0.00.10.40.10.10.10.10.10.10.10.1
Grant-equivalent financing (in percent of GDP) 8/2.32.11.91.51.41.41.10.30.8
Grant-equivalent financing (in percent of external financing) 8/70.072.972.972.275.976.079.663.674.2
Memorandum items:
Nominal GDP (Billions of US dollars)8.19.912.715.416.118.225.026.127.235.156.7
Nominal dollar GDP growth1.322.028.021.64.712.937.74.43.914.24.94.95.0
PV of PPG external debt (in Billions of US dollars)1.21.31.31.41.51.51.61.82.1
(PVt-PVt-1)/GDPt-1 (in percent)0.60.40.40.50.30.30.40.10.00.1
Gross workers’ remittances (Billions of US dollars)-0.1-0.1-0.2-0.2-0.2-0.2-0.3-0.3-0.30.0-0.2
PV of PPG external debt (in percent of GDP + remittances)8.78.58.58.06.16.16.15.33.8
PV of PPG external debt (in percent of exports + remittances)14.815.916.215.510.710.811.111.09.8
Debt service of PPG external debt (in percent of exports + remittances)1.31.51.41.20.80.70.80.80.8
Sources: Country authorities; and staff estimates and projections.

Includes both public and private sector external debt.

Derived as [r - g - ρ(1+g)]/(1+g+ρ+gρ) times previous period debt ratio, with r = nominal interest rate; g = real GDP growth rate, and ρ = growth rate of GDP deflator in U.S. dollar terms.

Includes exceptional financing (i.e., changes in arrears and debt relief); changes in gross foreign assets; and valuation adjustments. For projections also includes contribution from price and exchange rate changes. Large residuals in 2009-14 are due to a difference in timing between LNG-related debt disbursements and the shipping of imported component purchases to PNG. Long-run residuals reflect BPNG reserve accumulation.

Assumes that PV of private sector debt is equivalent to its face value.

Current-year interest payments divided by previous period debt stock.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Defined as grants, concessional loans, and debt relief.

Grant-equivalent financing includes grants provided directly to the government and through new borrowing (difference between the face value and the PV of new debt).

Sources: Country authorities; and staff estimates and projections.

Includes both public and private sector external debt.

Derived as [r - g - ρ(1+g)]/(1+g+ρ+gρ) times previous period debt ratio, with r = nominal interest rate; g = real GDP growth rate, and ρ = growth rate of GDP deflator in U.S. dollar terms.

Includes exceptional financing (i.e., changes in arrears and debt relief); changes in gross foreign assets; and valuation adjustments. For projections also includes contribution from price and exchange rate changes. Large residuals in 2009-14 are due to a difference in timing between LNG-related debt disbursements and the shipping of imported component purchases to PNG. Long-run residuals reflect BPNG reserve accumulation.

Assumes that PV of private sector debt is equivalent to its face value.

Current-year interest payments divided by previous period debt stock.

Historical averages and standard deviations are generally derived over the past 10 years, subject to data availability.

Defined as grants, concessional loans, and debt relief.

Grant-equivalent financing includes grants provided directly to the government and through new borrowing (difference between the face value and the PV of new debt).

2. Private external debt has risen sharply in the run-up to LNG construction (Table III.3). Private external debt jumped to an estimated 82 percent of GDP in 2011 from 12 percent of GDP in 2008,3 driven by medium- and long-term debt draw-downs by the mineral and gas sectors and mainly related to the LNG project (construction is being undertaken by Esso Highlands, an ExxonMobil subsidiary).

Economic Outlook and Underlying DSA Assumptions

3. Until full scale LNG production in 2015, PNG’s economic performance will be driven by LNG construction, commodity price developments, and spending associated with the 2012 elections. Real GDP growth increased to 9 percent in 2011 as LNG construction approached its peak phase, and growth is projected to remain high at 8 percent in 2012 before slowing to 4 percent in 2013. Large current account deficits (about 30 percent of GDP) during 2010–12 are being mostly financed by a combination of FDI and loan drawdowns by the mineral sector, and private sector external debt is expected to peak at 96 percent of GDP in 2013. The European debt crisis led to fluctuation in commodity prices in 2011, and although the global outlook has improved, risks remain. PNG’s current account is most sensitive to the price of gold, while mineral tax revenues for the government derive mostly from the copper and oil sectors before 2015.

4. From 2015, real GDP and the current account will move in line with the LNG sector. LNG production will push up real GDP by 20 percent in 2015, and generate a persistent current account surplus. LNG revenues will be used to pay down the mineral sector’s external debt and provide dividend payments to shareholders located abroad and in PNG. Fiscal revenues from LNG are projected to materialize from 2018 and total mineral revenues will reach around 10 percent of non-mineral GDP by 2024 (between the low and moderate revenue scenarios identified in FAD’s technical assistance report for PNG’s sovereign wealth fund). Box III. 1 contains the medium-term macroeconomic framework for the DSA.

Box III.1.Macroeconomic Assumptions Underlying the DSA

  • Real GDP growth is projected to be 8 percent on average over the medium term, above the historical average of 4 percent, and slow gradually to 3–4 percent in the long run. Over the medium term, growth in the LNG and non-mineral sectors will offset the decline in copper and petroleum production.
  • Construction of the LNG project will pass its peak phase in 2013, and be finished by 2014. Production and exports are expected to start in 2014 and reach full capacity in 2015, with a maximum capacity of 6.6 million tons of LNG produced annually. Staff estimates that LNG production will raise the level of real GDP by about 20 percent in 2015. However, accounting for substantial income outflows, the LNG project is expected to increase annual GNI by about 8 percent.
  • Inflation is projected to decline to 7 percent in the near term due to the end of PNG production. It will stabilize at 6.5 percent by 2017, and at around 5 percent in the long run (after 2021).
  • The current account is in deficit in 2011 and the deficit is expected to remain sizeable until 2015, reflecting strong import growth as well as services and income deficits associated with LNG construction. FDI and medium-to long-term debt inflows are financing most of the imports.
  • The grant element of loans is expected to decline. As GDP per head rises, the share of external financing provided on concessional terms is expected to decline slightly over the projection period.1/
  • The primary fiscal balance is estimated to be in surplus of 1.5 percent of GDP in 2011, accounting for spending from the trust accounts. Over the medium term small primary deficits are anticipated, but these turn into large surpluses especially after 2022, as LNG tax revenues are realized.
1/ Grant-equivalent financing (in percent of GDP) decreases over time. From 2016 onwards, the majority of new AsDB disbursements are through OCR facilities, which carry a higher interest rate than ADF loans.

External Debt Sustainability Analysis

5. In the baseline scenario, all PPG external debt and debt service indicators stay well below the policy-dependent debt burden thresholds (Figure III.1 and Table III.3). The PV of PPG external debt as a percentage of GDP is on a declining path and stays under 10 percent in the medium term, far below the 40 percent threshold. The PVs of PPG external debt-to-exports and debt-to-revenue ratios are also expected to stay below their applicable thresholds. After 2015, the external debt burden is expected to fall even faster due to the large projected increase in GDP, exports and revenue from LNG production.

Policy-based PPG External Debt Burden Thresholds for PNG
Thresholds2011PNG’s ratios

2012–17
2018–32
PV of debt in percent of
GDP408.67.24.8
Exports15014.513.110.5
Revenues25031.433.823.0
Debt service in percent of
Exports201.31.10.8
Revenues202.72.71.7

6. Public external debt sustainability is maintained under all standard stress tests, and would be threatened only in a staff-constructed scenario with a very poor fiscal policy response to a substantial terms of trade shock (Table III.4). Consistent with WEO commodity price forecasts, the baseline scenario predicts PNG’s terms of trade to improve in 2012 before settling at a permanently high level. This, combined with the boost from LNG production, makes PNG resilient to a wide range of GDP growth and depreciation shocks. Staff can only generate unstable public external debt dynamics if we instead use the PNG authorities’ conservative estimates for export prices for the post-2013 period, impose a permanent reversal of the WEO-projected 16 percent gas price increase between 2011 and 2012,4 and then combine these developments with a government decision to borrow extensively abroad to finance the baseline levels of real consumption and imports, instead of allowing economic adjustment to the terms of trade change. Even in this very low probability scenario, the PV of PPG external debt breaches the threshold of 40 percent of GDP only in 2018. Until 2015, the prices of gold and copper are the most important prices for external sustainability; thereafter, the LNG price is the dominant factor.

Table III. 4:Sensitivity Analysis for Key Indicators of Public and Publicly Guaranteed External Debt, 2012–2032(In percent)
Projections
20122013201420152016201720222032
PV of debt-to GDP ratio
Baseline88866654
A. Alternative Scenarios
A1. Key variables at their historical averages in 2012-2032 1/8-4-806122937
A2. New public sector loans on less favorable terms in 2012-2032 289877776
A3. Strong price decline for Gold, Copper, Oil and Gas from 2013 onwards.8121620293876127
B. Bound Tests
B1. Real GDP growth at historical average minus one standard deviation in 2013-201488866664
B2. Export value growth at historical average minus one standard deviation in 2013-2014 3/81322171717148
B3. US dollar GDP deflator at historical average minus one standard deviation in 2013-201489977764
B4. Net non-debt creating flows at historical average minus one standard deviation in 2013-2014 4/81217131313116
B5. Combination of B1-B4 using one-half standard deviation shocks81020151515137
B6. One-time 30 percent nominal depreciation relative to the baseline in 2013 5/8121188875
PV of debt-to-exports ratio
Baseline1616151111111110
A. Alternative Scenarios
A1. Key variables at their historical averages in 2012-2032 1/16-8-15-111216093
A2. New public sector loans on less favorable terms in 2012-2032 2/1616161112121415
A3. Strong price decline for Gold, Copper, Oil and Gas from 2013 onwards.152434436386210456
B. Bound Tests
B1. Real GDP growth at historical average minus one standard deviation in 2013-2014161515101011119
B2. Export value growth at historical average minus one standard deviation in 2013-2014 3/1627584040414027
B3. US dollar GDP deflator at historical average minus one standard deviation in 2013-2014161515101011119
B4. Net non-debt creating flows at historical average minus one standard deviation in 2013-2014 4/1622332323242316
B5. Combination of B1-B4 using one-half standard deviation shocks1620392727272719
B6. One-time 30 percent nominal depreciation relative to the baseline in 2013 5/161515101011119
PV of debt-to-revenue ratio
Baseline3334353434332517
A. Alternative Scenarios
A1. Key variables at their historical averages in 2012-2032 1/33-17-34-23465137165
A2. New public sector loans on less favorable terms in 2012-2032 2/3334363737373126
A3. Strong price decline for Gold, Copper, Oil and Gas from 2013 onwards.324770114162206361566
B. Bound Tests
B1. Real GDP growth at historical average minus one standard deviation in 2013-20143334373636352718
B2. Export value growth at historical average minus one standard deviation in 2013-2014 3/3352999594926635
B3. US dollar GDP deflator at historical average minus one standard deviation in 2013-20143334383737362719
B4. Net non-debt creating flows at historical average minus one standard deviation in 2013-2014 4/3347777473725229
B5. Combination of B1-B4 using one-half standard deviation shocks3342878483815932
B6. One-time 30 percent nominal depreciation relative to the baseline in 2013 5/3347484747463523
Debt service-to-exports ratio
Baseline11111111
A. Alternative Scenarios
A1. Key variables at their historical averages in 2012-2032 1/11100114
A2. New public sector loans on less favorable terms in 2012-2032 2/11111111
A3. Strong price decline for Gold, Copper, Oil and Gas from 2013 onwards.122122725
B. Bound Tests
B1. Real GDP growth at historical average minus one standard deviation in 2013-201411111111
B2. Export value growth at historical average minus one standard deviation in 2013-2014 3/12222233
B3. US dollar GDP deflator at historical average minus one standard deviation in 2013-201411111111
B4. Net non-debt creating flows at historical average minus one standard deviation in 2013-2014 4/11111121
B5. Combination of B1-B4 using one-half standard deviation shocks11111122
B6. One-time 30 percent nominal depreciation relative to the baseline in 2013 5/11111111
Debt service-to-revenue ratio
Baseline33322221
A. Alternative Scenarios
A1. Key variables at their historical averages in 2012-2032 1/33112238
A2. New public sector loans on less favorable terms in 2012-2032 233322222
A3. Strong price decline for Gold, Copper, Oil and Gas from 2013 onwards.3333461230
B. Bound Tests
B1. Real GDP growth at historical average minus one standard deviation in 2013-201433333221
B2. Export value growth at historical average minus one standard deviation in 2013-2014 3/33344453
B3. US dollar GDP deflator at historical average minus one standard deviation in 2013-201433333321
B4. Net non-debt creating flows at historical average minus one standard deviation in 2013-2014 4/33343343
B5. Combination of B1-B4 using one-half standard deviation shocks33344443
B6. One-time 30 percent nominal depreciation relative to the baseline in 2013 5/34433332
Memorandum item:
Grant element assumed on residual financing (i.e., financing required above baseline) 6/2323232323232323
Sources: Country authorities; and staff estimates and projections.

Variables include real GDP growth, growth of GDP deflator (in U.S. dollar terms), non-interest current account in percent of GDP, and non- debt creating flows.

Assumes that the interest rate on new borrowing is by 2 percentage points higher than in the baseline., while grace and maturity periods are the same as in the baseline.

Exports values are assumed to remain permanently at the lower level, but the current account as a share of GDP is assumed to return to its baseline level after the shock (implicitly a an offsetting adjustment in import levels).

Includes official and private transfers and FDI.

Depreciation is defined as percentage decline in dollar/local currency rate, such that it never exceeds 100 percent.

Applies to all stress scenarios except for A2 (less favorable financing) in which the terms on all new financing are as specified in footnote 2.

Sources: Country authorities; and staff estimates and projections.

Variables include real GDP growth, growth of GDP deflator (in U.S. dollar terms), non-interest current account in percent of GDP, and non- debt creating flows.

Assumes that the interest rate on new borrowing is by 2 percentage points higher than in the baseline., while grace and maturity periods are the same as in the baseline.

Exports values are assumed to remain permanently at the lower level, but the current account as a share of GDP is assumed to return to its baseline level after the shock (implicitly a an offsetting adjustment in import levels).

Includes official and private transfers and FDI.

Depreciation is defined as percentage decline in dollar/local currency rate, such that it never exceeds 100 percent.

Applies to all stress scenarios except for A2 (less favorable financing) in which the terms on all new financing are as specified in footnote 2.

7. Delays to the LNG project would generate adverse public and private debt dynamics, even if PPG external debt indicators remain within the thresholds. The historical scenario graphs in Figure III.1 can be interpreted as representing PNG’s external public debt dynamics in the absence of LNG construction and production, assuming that historical levels of real GDP growth are maintained. As for private sector external debt, staff projects that when LNG production begins, this debt will be paid down, falling to 21 percent of GDP by 2024. Delays to the project, or a fall in LNG prices, would set back the private sector amortization schedule envisaged in the DSA.

Figure III.1.Papua New Guinea: Indicators of Public and Publicly Guaranteed External Debt under Alternative Scenarios, 2012-2032 1/

Sources: Country authorities; and staff estimates and projections.

1/ The most extreme stress test is the test that yields the highest ratio in 2022. In all figures it corresponds to a catastrophic price decline shock.

Public Debt Sustainability Analysis5

8. Over the medium and long term, staff’s baseline projections for PNG show a full pay-down of domestic public debt by 2020, followed by asset accumulation (Figure III.2 and Table III.1). The projected downward trend in public debt is aided by the jump in real GDP owing to full-scale LNG production from 2015. Under the authorities’ budget assumptions, the transitional period of low mineral revenues during 2013–17 is associated with low government expenditure, so any deficits remain small and the PV of public sector debt continuously declines from 24 percent of GDP in 2011 to 11 percent of GDP in 2017. From 2018 onwards, large projected LNG-related revenues enter the budget without a commensurate increase in government expenditure, resulting in long-term surpluses of about 4 percent of GDP. Domestic public debt is paid off in 2020 and assets are accumulated in a sovereign wealth fund, which measures 29 percent of GDP by 2032.

Figure III.2.Papua New Guinea: Indicators of Public Debt Under Alternative Scenarios, 2012-2032 1/

Sources: Country authorities; and staff estimates and projections.

1/ Gross domestic and external central government debt less assets in sovereign wealth fund.

The most extreme stress test is the test that yields the highest ratio in 2022.

In all figures this corresponds to the failure of the LNG plant.

2/ Revenues are defined inclusive of grants.

9. Economic growth and saving of commodity tax revenues are the key factors for the projected public debt path as shown in alternative scenarios and bound tests (Figure III.2 and Table III.2). The PV of public debt to GDP would remain at 11 percent by 2032 if there is a temporary negative shock to real GDP growth in 2013-14 followed by permanently lower revenues and unchanged expenditures.6 Such a scenario would likely not materialize because the authorities would adjust fiscal policy. Keeping the primary fiscal deficit at zero from 2012 through 2032, instead of moving into large surpluses over the medium term as in the baseline, would result in the PV of public debt being at 13 percent of GDP by 2017 and rising to 46 percent of GDP by 2032. This scenario is unrealistic but quantifies the sensitivity of the public debt outlook to the LNG revenue projections.

10. Realization of non-contingent liabilities related to superannuation arrears and SOEs, together with the cancellation of the LNG project, would generate unstable debt dynamics (Figure III.2 and Table III.2). The government’s unfunded superannuation liabilities are estimated to be 7 percent of GDP by end-2011, and staff assumes that SOEs’ debt-to-GDP ratio is equal to the 2.5 percent of GDP estimated in 2008.7 The government has issued a completion guarantee for the LNG project of K 5.4 billion, amounting to 18 percent of GDP in 2011, and the public balance sheet would have to absorb this loss if the project is abandoned. Realizations of the above liabilities would not of themselves derail the downward trend in public debt ratios, but the loss of LNG revenues would put public debt on an upward path under current expenditure plans (to a PV of 33 percent of GDP by 2032).

Conclusion

11. Since the 2011 SR, PNG has successfully reduced its risk of public external debt distress from medium to low, and the commendable public debt performance is projected to continue. The authorities’ spending plans indicate sustained reduction in both domestic and external public debt over the medium and long term, even during the 2013–17 period of transitionally low fiscal revenues. For expositional purposes in this report, it is assumed that domestic debt is fully paid down first and after that, assets accumulated in a sovereign wealth fund.

12. PNG’s debt dynamics remain stable under standard stress-testing, and would only become unstable in the aftermath of low probability catastrophic shocks. Staff calculate that a severe and permanent shock to gold, copper, oil and gas prices, coupled with a loss of fiscal discipline and extensive foreign borrowing to maintain consumption and imports at baseline levels, would generate an unsustainable debt path. Realization of non-contingent liabilities related to superannuation arrears and SOEs would delay any progress in debt reduction. In the low risk but high impact scenario where the LNG project is cancelled, loss of associated fiscal revenues would ratchet up public debt, assuming that current expenditure plans remain unchanged. In that event, staff would advise that expenditure plans be curbed sharply downward.

1

Fiscal Advice on Establishing a Sovereign Wealth Fund, FAD TA report August 2011.

2

Energy & Metals Consensus Forecasts’ forecasts are the result of a comprehensive quarterly survey of over 30 of the world’s most prominent commodity forecasters covering over 25 individual commodities.

3

See Box 6 for key risks to the PNG economy, and recommended policy responses by the authorities.

1

Since Papua New Guinea is an IBRD/IDA blend country, this DSA is prepared by Fund staff in consultation with the World Bank and the Asian Development Bank (AsDB) under the IMF-WB DSA framework for Low-Income Countries. The fiscal year of Papua New Guinea is the calendar year.

2

The latest Country Policy and Institutional Assessment (CPIA) rating for PNG was 3.30 in 2010 and the average over 2008-10 was 3.27, leading to a policy performance rating upgrade from poor (CPIA <= 3.25) to medium (3.25 < CPIA < 3.75).

3

Staff apportioned the funds flowing into PNG to finance the LNG project in line with Esso Highlands’ financing plans (30 percent equity, 70 percent debt).

4

The authorities’ projected prices for gold, copper and oil are used. Together with the imposed gas price decline, this amounts to a substantial negative shock to the mineral balance relative to the baseline, growing to 12 percentage points of GDP by 2016 and remaining at that level afterward.

5

Public debt includes domestic and external debt issued by the central government, less assets in the sovereign wealth fund.

6

Growth rates during 2013–14 are set to 2 percent, the historical average minus one standard deviation.

7

This estimate in the 2008 Article IV DSA was based on end-2007 financial statements of nine SOEs. Off-balance sheet liabilities, which may be significant, were not considered. Since 2008, data updates have been unavailable.

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