Papua New Guinea: 2019 Article IV Consultation and Request for Staff Monitored Program—Press Release; Staff Report; and Statement by the Executive Director for Papua New Guinea

2019 Article IV Consultation and Request for Staff Monitored Program-Press Release; Staff Report; and Statement by the Executive Director for Papua New Guinea


2019 Article IV Consultation and Request for Staff Monitored Program-Press Release; Staff Report; and Statement by the Executive Director for Papua New Guinea

Macroeconomic Developments and Outlook

A. Economic Activity, Inflation, and Balance of Payments

1. Papua New Guinea (PNG), notwithstanding great natural resource wealth, remains a low-income country with significant vulnerability to shocks. Since 2014, PNG became an exporter of liquified natural gas (LNG), but has been hit by large shocks, including lower commodity prices, a severe drought in 2015–16 and a major earthquake in 2018, which cut growth, boosted inflation, and undermined public finances and the balance of payments. The end of the gas project boom in 2014 and lower commodity prices resulted in lower fiscal revenues, significant fiscal deficits and a shortage of foreign exchange (FX). Cuts in capital spending, to cover current spending slippages, and import compression from FX shortages, have inhibited investment and growth in the non-resource sector.

2. The economy is estimated to have rebounded in 2019 following the contraction triggered by the large earthquake in 2018. Real GDP is projected to have grown by 5.0 percent in 2019, underpinned by recovery in energy and mineral production following the earthquake. In the absence of major new resource projects, real GDP growth is projected at 2 percent in 2020 and an average of 3 percent in the medium term, largely driven by the non-resource sector, and supported by easing exchange restrictions. The prospects for major new gas and mining projects remain upside risks to the outlook.

3. Inflation is projected to fall in 2019 but to pick up temporarily thereafter. At end-2018, inflation was 4.8 percent, little changed from 2017, as pass-through from kina depreciation offset the impact of lower betelnut prices. In 2019, inflation is projected to have slowed further to 3.5 percent by year-end, reflecting limited exchange rate depreciation, lower commodity prices and trading-partner inflation. Going forward, and assuming a gradual adjustment in the kina to eliminate overvaluation, inflation is expected to pick up temporarily to 6.3 percent between 2020 to 2022 before tapering off to 3.9 percent by 2024.

4. Despite a large current account surplus, PNG’s non-resource sector continues to face a shortage of foreign exchange (FX). In 2019, PNG’s large exports of LNG and minerals are estimated to have generated a current account surplus of 24 percent of GDP, down slightly from 2018. However, as in the past, the current account surplus has been almost entirely offset by financial outflows associated with resource sector investments. As a result, the non-resource sector faces a chronic shortage of FX. Going forward, some improvement in FX inflows is projected, associated with external loans and a pickup in foreign investments around less uncertainty. This is expected to be reflected in some increase in imports as the foreign exchange orders backlog is gradually cleared, as well as an increase in international reserves that diminishes gradually over the projection horizon.

B. Fiscal Policies and Financing

5. Fiscal consolidation has stalled, and debt has been revised upwards. Despite higher-than-expected revenues in 2018, the fiscal deficit widened to 2.6 percent of GDP from 2.5 percent in 2017, largely reflecting personnel cost over-runs and higher spending on goods and services for the hosting of the APEC summit. The public debt-to-GDP ratio rose from 33 percent in 2017 to 38 percent in 2018, above the government’s long-term target of 30 percent of GDP. This increase partly reflects revisions to public debt in line with the Fiscal Responsibility Act (FRA), which require the central government to recognize three SOE project loans for which it has taken over the servicing (Solwara, Motu-Kea Port, and NCD Roads), adding debt of about 1.4 percent of GDP. The authorities have also taken IMF advice to revalue foreign currency debt at current exchange rates, in line with best international practice, which raises the debt ratio by about 1.8 percent of GDP.

6. The budget deficit for 2019 is projected to have deteriorated significantly. This reflects a disappointing outcome for revenues, as well as significant spending over-runs. Tax revenues are well below 2018 levels, reflecting a subdued economy in 2018 and lower commodity prices. Non-tax revenue is also underperforming as dividends and Public Monies Management Regularization (PMMR) revenues are projected to come in below budget.1 On the expenditure side, the main overruns are due to personal emoluments, which are expected to come in at around 1 percent of GDP over the budget. In response, the authorities passed a Supplementary Budget in November 2019 including cuts in current spending, savings in the public investment program, and cuts in Service Improvement Program grants (SIPs), and additional payments on arrears in current and capital spending. The net effect is that the budget deficit for 2019 is expected to come in at 4.1 percent of GDP, significantly higher than the 2.3 percent in the original Budget. This larger deficit was financed through domestic borrowing, and multilateral and bilateral external loans.

C. Monetary and Foreign Exchange Policies

7. Progress on monetary and exchange rate policy reforms has been mixed. In 2018, the Bank of Papua New Guinea (BPNG) began to restore exchange rate flexibility, including by eliminating guidance to banks on the allocation of FX, allowing some depreciation of the kina, and supplying FX to banks to reduce the large backlog of unfilled FX orders. Since late 2018, however, the pace of depreciation has slowed and the kina remains overvalued. PNG’s net international reserves rose to $2.3 billion (5.6 months of imports) at end-2018, owing to a successful sovereign bond placement of $500 million, commercial loans of $180 million, and World Bank and ADB loans of $250 million. Some of the external borrowings have been used to reduce the backlog of FX orders. This contributed to some reduction in the backlog and waiting times for FX orders in early 2019, but the backlog has increased again in recent months, to an estimated K1.2–1.3 billion for trade-related orders. Progress in strengthening liquidity management and the effectiveness of domestic interest rate transmission has been slow. Liquidity forecasting has been hampered by lack of information on prospective government spending, and liquidity management has also been complicated by maldistribution of liquidity across institutions.

8. On current policies, the PNG financial system is likely to continue to see FX shortages, weak credit growth, and excess liquidity. Recent political turmoil, as well as uncertainties in the global trading environment, appear to have dampened local business confidence and reduced the likelihood of significant resource project-related investment inflows. In view of this, and the limited movement in the exchange rate, the shortage of FX is likely to continue, with adverse effects on investment and growth.2 The FX shortage also contributes to the buildup of excess liquidity, as bank deposits have been bolstered by funds intended for imports or dividend payments abroad. In such circumstances, the BPNG’s ability to affect monetary conditions is likely to remain very limited.

D. Risks

9. Risks surrounding the outlook are identified in Appendix I.

  • Near-term risks are predominantly on the downside, stemming from possible declines in commodity export prices, a deterioration in the investment climate stemming from domestic or external political developments, or a deterioration in domestic or external financing conditions. Spread of the Corona virus to PNG would also have a large negative impact.

  • Over the medium-term risks are mainly on the upside, reflecting the potential impact, from 2021, of major new natural resource project investments, and the beneficial effects of exchange rate adjustment and revenue reforms.

Authorities’ Views

10. The authorities broadly agreed on the near-term outlook and risks in the absence of policy adjustments. They indicated that measures had been taken in the 2020 Budget to address the fiscal deterioration while meeting the need to pay down arrears and implement strong capital spending priorities to reignite growth.

Policies for Macroeconomic Stability and Development

11. Staff policy advice addresses both near-term and longer-term issues. In the near term, the focus should be on resuming fiscal consolidation and restoring exchange rate flexibility. Measures are also needed to strengthen policy frameworks to promote sustainable growth of the non-resource sector and to be well-positioned to manage the next resource boom.

A. Staff-Monitored Program (SMP)

12. In view of the deterioration in the fiscal situation, the authorities requested an SMP to help guide their policy response and catalyze financing. The SMP provides a broad macroeconomic framework within which to pursue reforms. It also allows the PNG authorities to build a track record of success in implementing reforms and laying the foundation for a Fund-supported program. To this end, the SMP includes a large number of structural benchmarks which reflect the authorities’ reform priorities and their sense of urgency to begin cementing the reform process. The draft outline of the SMP was endorsed by the National Executive Council in late November. The text of the SMP is appended to this Report for information only.

B. Fiscal Policy

13. A sustained program of fiscal consolidation is needed to put the deficit on a downward path and reduce the public debt ratio, while protecting social spending and much needed public investment. The authorities’ program aims to bring the core deficit down gradually from 4 percent of GDP in 2019 to 2 percent of GDP in 2023–24. The core deficit excludes expenditure in 2020 and 2021 to clear payments arrears from previous years, including separation payments for retirees still on the government payroll (see below), and additional capital investment projects in 2020 financed by international development partners (Text Table 1). The authorities consider these contingency expenditures important for reinvigorating growth, as they restore private sector liquidity, improve confidence in public finances, and allow space for well managed infrastructure investments. However, they will implement them only if arrears can be verified carefully and transparently, and if these expenditures can be appropriately financed at relatively low cost.3 Under the scenario with all contingent spending on arrears and capital investments, the public debt ratio is projected to rise to 45.4 percent of GDP in 2021 and then fall back to 44 percent of GDP by 2024. Continued fiscal consolidation will be required in the medium-term to reach their intermediate debt target of 35 percent under the revised Fiscal Responsibility Act (FRA) (see below).

Text Table 1.

Papua New Guinea, Core and Non-core Fiscal Deficit

(In percent of GDP)

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Sources: PNG authorities and IMF staff calculations.

Includes K430 million in separation arrears, K200 million in goods and services arrears in 2020 and 2021, and K300 million in capital spending arrears in 2020.

Includes K500 million of IFI-financed capital project expenditures.

14. There is some uncertainty as to the total stock of arrears outstanding. To this end, the authorities have established an interagency office in the Treasury dedicated to identification, verification and clearance of central government payments arrears (Memorandum on Economic and Financial Policies (MEFP) paragraph 8 bullet 3). Estimates of the overall envelope of arrears and their distribution are presented in Text Table 2. Arrears on compensation of employees consist of payments of previous year’s salary increases and separation payments (retirement costs) for personnel over 65 (see below). Remaining arrears are on goods and services, and represent unpaid utility and rent bills, and arrears on capital expenditure.

Text Table 2.

Estimated Stock of Arrears Outside the Core Program

(In millions of kina)

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Sources: PNG Authorities and IMF Staff calculations.

15. As the benefits of the MTRS will be small in the near term, fiscal adjustment will require bringing current expenditure under better control. In particular, this includes measures to limit the growth of the compensation of employees and expenditure on goods and services:

  • Limiting the growth of compensation of employees (MEFP paragraph 8 bullet 4). This will be achieved by linking the payroll process to the issuance of warrants in the Integrated Financial Management System (IFMS) to better control personal emoluments, including by placing a ceiling on payments for essential new staff, and the better control of non-salary payments, particularly supplements and allowances (Text Table 3). Reduction of overall personnel payments (and expenditure on goods and services) will also be achieved through the amalgamation/elimination of a number of agencies (MEFP paragraph 8 bullet 4).

  • Paying down retirement costs to reduce public employment. Currently there are approximately 4000 public workers over the retirement age still on the payroll because the authorities have not budgeted for the payment of separation costs. Allowing these workers to retire has an immediate budgetary cost (Text Table 1), but will result in savings going forward of about 0.1 percent of GDP in 2021 and 0.2 percent of GDP from 2022 onward.

  • A detailed audit of government employment and payroll practices by an independent organization (MEFP paragraph 8 bullet 5) to identify inappropriate hiring practices and payments and to develop a program of reforms to better track and control public service hiring and compensation practices.

  • Limiting the growth of expenditure on goods and services. This will be achieved through the amalgamation/elimination of a number of agencies (MEFP paragraph 8 bullet 4), as well as through elimination of waste and better control of current spending.

Text Table 3.

Personnel Emoluments Payments in the Core Program 2019–2022

(In millions of kina)

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Sources: PNG authorities and IMF staff calculations.

Includes payments for previous year’s salary increases and superannuation payments.

16. The authorities will redouble efforts to implement the updated MTRS. Measures include organizational and institutional arrangements for the Internal Revenue Commission (IRC), and the implementation of the new Tax Administration Act (TAA) which was passed in 2018 (MEFP paragraph 10). However, these measures may take some time to bear fruit, and to ensure that the revenue targets for 2020 under the program are met, the authorities will introduce the following measures (MEFP paragraph 8 bullet 7), which are expected to provide about 0.3 percent of GDP in revenue:

  • A one-off increase in cigarette excise taxes and for alcohol and social drinks;

  • Increased compliance for international taxes (imports) from the introduction of container examination facilities at the main Port of Lae;

  • Capturing resource rents on export of unprocessed old-growth logs by increasing the progressive duty rate from the current average of 32 percent to an average of 50 percent;

  • Compliance efforts in collecting fees and services, including rent due the central government.

17. Revising the fiscal framework to include an expenditure rule will help achieve the fiscal targets. The medium-term fiscal strategy is anchored by a debt target in the Fiscal Responsibility Act (FRA) of 30 percent of GDP over the long term. The recent amendment to the FRA raises the upper limit on debt temporarily to 45 percent of GDP to accommodate the absorption of recent contingent liabilities, but targets an intermediate debt ratio of 35 percent to be achieved in no more than ten years. To reduce the pro-cyclicality of fiscal policy, reconcile the debt target with revenue objectives under the MTRS, and encourage an integrated approach to development spending, the authorities have introduced a rule to limit current expenditure calibrated in terms of non-resource GDP in the 2020 Budget (MEFP paragraph 12). This rule will also serve as a guide in budget formulation.

18. An update of the debt sustainability analysis (DSA) to end-2018 indicates that PNG remains at moderate risk of debt distress. Nevertheless, risks have risen related to the large increase in debt in 2018, and the shift in debt towards external lending, without a proportionate reduction in domestic short-term debt. The main risks stem from significant increases in the ratio of debt servicing costs to revenue, the concentration of domestic debt in short-term instruments, unfunded superannuation liabilities, and government guarantees of SOE debt. This further underscores the need for the authorities to pursue sustained fiscal consolidation and, in particular, rein in current spending) to reduce the debt ratio and debt-servicing costs over the medium term. The authorities also need to improve their capacity for medium-term financial planning and debt management to lengthen maturities and lower interest rates to help reach their debt targets.

Authorities’ Views

19. The authorities concurred on the need for fiscal consolidation and agreed that personal emoluments were an important challenge to fiscal management. They noted that the 2020 budget addresses the problem of retirees and wage arrears. They cautioned, however, that expenditure consolidation needed to leave room for social spending, infrastructure investments and the clearance of arears.

C. Monetary and Exchange Rate Policies

20. The main challenges are to restore exchange rate flexibility and move towards money market operations to implement monetary policy. In parallel with measures to re-establish an interbank FX market, steps should be taken to enhance the effectiveness of BPNG money market operations. IMF technical assistance (TA) has been provided on these issues, but additional TA will be needed, preferably including a resident advisor. The mission recommends actions in the following areas:

  • Restoring exchange rate flexibility and eliminating overvaluation of the kina (MEFP paragraph 14 and Table 2). The External Sector Assessment (Box 1) suggests that PNG’s external is moderately weaker than implied by fundamentals and desirable policies, and that the kina is overvalued by around 11 to 18 percent. This overvaluation could be largely eliminated over the next three years without boosting inflation excessively.4

  • Continuing an orderly reduction in the FX orders backlog (MEFP paragraph 14 and Table 1). Although the backlog in FX orders declined in early 2019, more recently it has been growing. BPNG should continue to provide monthly injections of FX until the backlog is substantially cleared, and consider introducing auctions of FX.

  • Strengthening liquidity and debt management (MEFP paragraphs 14 and 15, and Table 2). To enhance functioning of the domestic interbank market and liquidity management, Treasury should improve its cooperation with BPNG on liquidity forecasting. In addition, BPNG should encourage banks to use the interbank market as their preferred source for meeting liquidity needs, by raising the spread between the rate on its overnight lending facility and the policy rate.

Authorities’ Views

21. The authorities agreed with the need to restore exchange rate convertibility and to clear the FX orders backlog, but believe that the overvaluation of the kina is towards the lower end of the range estimated by IMF staff, and also believe that the true backlog of FX orders is smaller than reported by banks. BPNG also emphasized the importance of having on-the-ground technical assistance to support their efforts to strengthen the FX market and monetary operations. Staff will seek to assist in meeting this request.

D. Financial Supervision and AML/CFT issues

22. The financial system appears to be adequately capitalized, and non-performing loans moderate, but banks may be vulnerable (MEFP paragraph 16). As BPNG moves towards greater exchange rate flexibility, it is important to ensure that the banking system is able to manage exchange rate risks. Recent stress-testing by BPNG of banks’ balance sheets suggests that they can manage significant exchange rate adjustment. A larger concern is with the financial health of large SOE clients of banks. Several SOEs are essentially bankrupt, and banks will need to be adequately provisioned to deal with insolvencies.

23. PNG has made substantial progress in strengthening its AML/CFT framework, but challenges remain (MEFP paragraph 17). In particular implementation of measures to mitigate money laundering (ML) and terrorism financing (TF) risks and maintain robust correspondent banking needs to be strengthened. Recent progress focused on upgrading the legislative and institutional framework through the establishment of the Financial Analysis and Supervision Unit (FASU) and improving domestic coordination through the National Coordinating Committee. The FASU should continue enhancing its risk-based supervision of banks to improve AML/CFT compliance. Law enforcement agencies should step up their efforts in prosecuting and sanctioning ML cases and confiscating ill-gotten proceeds.

Development Strategy

24. PNG has ambitious objectives for economic development, diversification, and raising living standards. The authorities’ Medium-Term Development Plan III, underscores their commitment to national development through infrastructure investment, improving law and order, and better education and health services. Staff agree with the strategy focusing on development of the non-resource sector, and would highlight the need for three complementary areas of reform:

  • A reinvigorated and updated Medium-Term Revenue Strategy is essential to achieve the government’s fiscal and development targets in the medium term. Development of the non-resource sector requires substantial public investment in infrastructure, education, healthcare, clean water, electricity, and telecommunications. Providing such public goods will require sustained increases in government revenues, underscoring the importance of the MTRS, and careful prioritization of projects. However, implementation of the MTRS has lagged and additional oversight is required by the Treasury to ensure progress. Important measures for the coming year include:

    • Strengthening Internal Revenue Commission (IRC) management and accountability. Appointment of a permanent Commissioner General (CG) will give the CG the necessary authority to drive the structural and management changes needed (MEFP paragraph 10 and Table 2). At the same time, the accountability of IRC for progress in reforms needs to be strengthened through clarifying deliverables and reporting on progress to the MTRS Steering Committee on a monthly basis (MEFP paragraph 18 and Table 2).

  • Implementing tax legislation. In particular, IRC should begin to implement the provisions of the new Tax Administration Act (TAA) from mid-2020 (MEFP paragraph 10 and Table 2). Adequate implementation will require the establishment of a separate implementation unit at the IRC with dedicated resources to lead and implement the program of reform. In addition, the Income Tax Act (ITA) should be passed by end-June 2020, and come into effect in 2021 (MEFP paragraph 10 and Table 2).

    • Strengthened oversight and accountability of SOEs and Statutory Authorities (SAs) (MEFP paragraph 18).5 PNG’s SOEs include companies in sectors that are crucial for development of the economy, including air transportation, telecommunications, and power generation. Poor performance in these companies hinders development. To promote efficient service delivery in SOEs, strong transparency and accountability is essential. Without these, incentives for efficiency and ethical conduct are greatly weakened, undermining implementation of government policies and squandering scarce resources. To this end, Staff recommend:

    • Requiring that SAs and SOEs provide audited financial statements, as required by law, and that the Auditor General have adequate resources to review and clear these statements promptly so that the Public Accounts Committee of Parliament can exercise meaningful oversight;

    • Restoring strong, non-political oversight of SOEs by Kumul Consolidated Holdings (KCH), while ensuring that KCH is held to high standards of transparency and accountability (MEFP paragraph 18 and Table 2). The effectiveness of KCH in exercising the government’s shareholder rights in most SOEs (notably excepting the resource sector) has been undermined by the appointment of ministers to oversee individual companies, as well as by some KCH Board appointments. Restoring KCH’s role, however, needs to be accompanied by enhanced accountability for its own performance.

  • Strengthening governance and reducing corruption (MEFP paragraph 18 and Table 2). Weak governance and corruption undermine efficiency, equity, and the rule of law, undermining achievement of PNG’s development objectives. Specific areas for action include:6

    • Public investment procurement. Enactment of the National Procurement Act (NPA) is welcome, but the National Procurement Commission will need adequate staffing and training to perform effectively. Efforts should also be made to bring bilateral aid projects into conformity with NPA requirements and national standards for construction.

    • Independent Commission Against Corruption (ICAC). Passage of the revised legislation should be expedited as ICAC can become an important body for reducing corruption and promoting good governance in the public service.

    • Police Fraud and Anti-Corruption Directorate. The Directorate has a key role in pursuing investigation and prosecution of fraud and corruption. To do its job properly it needs adequate resourcing and effective public oversight to limit scope for political interference.

Authorities’ Views

25. The authorities agreed with the Staff’s main recommendations. Both Treasury and IRC agreed that a reinvigorated implementation of a revenue strategy is needed, and that stronger IRC accountability will help in achieving this. With regard to addressing SOE performance issues, the authorities agreed and indicated that they have a very ambitious reform agenda including not only governance reforms, but divestiture of assets. With respect to governance issues, the authorities indicated that this is a high priority area and that they will be enunciating a comprehensive governance strategy.

Other Issues

26. The National Statistical Office (NSO) faces major governance challenges. Problems with management, accountability, and cooperation with key stakeholders have severely jeopardized NSO effectiveness and credibility, and the sustainability of NSO capacity. These management problems have undermined NSO’s already weak capacity. Authorities are urged to restore a National Statistics Council or NSO reform committee to oversee reforms to NSO management, establish strong accountability, and ensure close cooperation between agencies in the production of core macroeconomic statistics. Staff support the NSO database management initiative to develop templates which can be replicated within various agencies for the collection of administrative data.

27. Staff encourage the authorities to eliminate all multiple currency practices (MCPs) and exchange restrictions.7 While the ending of guidance to banks on FX allocation priorities is welcome, FX rationing continues as BPNG provides only limited amounts to meet banks’ FX requests for current international transactions. Staff does not recommend Fund approval of the retention of exchange restrictions arising from FX rationing and from the tax clearance certificate requirement, and of the MCPs, given that they are not temporary and in the absence of a timetable for their elimination.

28. Risks to the SMP program. The successful implementation of the SMP is subject to important risks. Macroeconomic risks and natural disasters could seriously disrupt the process of fiscal consolidation and impair the capacity to implement structural reforms. There are also important implementation risks. Many of the reforms will require capacity development to implement, which could lead to delays in implementation. Additionally, sustained political support is essential to maintaining momentum behind reforms.

Staff Appraisal

29. Since 2014 Papua New Guinea (PNG) has been affected by a series of adverse developments, including softer export commodity prices and natural disasters, which have affected economic performance. These strains have exposed weaknesses in domestic macroeconomic policy management, leading to sluggish growth, shortages of foreign exchange, weak investment, and escalating public and external debt. The External Sector Assessment (Box 1) points to overvaluation of the kina, while the Debt Sustainability Analysis suggests that the risk of debt distress remains moderate. At the same time, Papua New Guinea faces significant structural challenges, including: large development spending needs; promoting economic and financial inclusion, especially for women; addressing widespread corruption and weaknesses in governance; and political volatility.

30. To address these macroeconomic and structural challenges, IMF staff propose that the authorities implement comprehensive measures to promote fiscal sustainability, exchange rate flexibility, state-owned enterprise (SOE) reform, and strong governance. Together, these can lay the foundation for a sustainable economic recovery and restore domestic and external investor confidence. This advice also forms the basis for the measures in the proposed SMP. Key elements of the package include:

  • Fiscal consolidation to gradually reverse the buildup of public debt and reduce external debt risks. Personal emoluments need to be brought under strict control, while government and SOE arrears need to be cleared to support private sector growth, and social spending needs to be protected. At the same time, MTRS reforms need to be expedited to improve the revenue flows that can support much needed investments and social spending. These reforms need to be expedited and maintained over a sustained period of time to fully achieve the authorities’ debt targets under the revised Fiscal Responsibility Act.

  • Restoring kina convertibility and flexibility by clearing the backlog of foreign exchange orders and eliminating overvaluation of the kina, which inhibits competitiveness, employment, and growth in the non-resource sector;

  • Strengthening liquidity management as the first step in reforming the monetary policy framework; and

  • Structural reforms to ensure sustainable medium-term growth, including:

    • Vigorous implementation of an updated Medium-Term Revenue Strategy (MTRS) to finance PNG’s development needs;

    • Extensive reform in the SOE sector to strengthen performance in industries such as power generation and telecoms, which have a keystone role in enabling development of the non-resource sector;

    • Improving governance and reducing corruption, as they hamper growth in all sectors of the economy by undermining investor confidence and efficiency.

31. The successful implementation of these policies under the SMP will open the door to additional development financing and further reforms. Bilateral donors have signaled their willingness to support PNG’s transition to a more sustainable growth path, in the context of the SMP. In addition, the authorities have indicated their interest in seeking support under an IMF-supported program at the conclusion of the SMP. This would provide the opportunity to continue to strengthen the macroeconomic policy framework for medium-term growth. Throughout this process other development partners and financial institutions will remain fully engaged. Nonetheless, there are also important risks to the success of the program, both from exogenous developments with adverse macroeconomic consequences, and from slippages in implementation of reforms.

32. A critical element of the program continues to be the provision of TA and training. Papua New Guinea has received significant TA in the context of the updated MTRS, and this is expected to continue through 2022. There has also been TA in PFM, financial sector regulation and supervision, statistics and macroeconomic analysis from PFTAC. This is expected to be complemented by TA from MCM and/or other international partners on development of the monetary policy framework. On the authorities’ side, the upgrading of capacity related to TA depends critically on implementation, which has been slow in some areas.

33. It is proposed that the next Article IV consultation with PNG be held on the standard 12-month cycle.

External Assessment

Staff’s judgement is that PNG’s external position is moderately weaker than implied by fundamentals and desirable policies, given its weak gross foreign reserve position and overvalued real effective exchange rate (REER).

The External Balance Assessment methodology (EBA-lite) based on preliminary data for 2019 suggests that the currency is moderately overvalued. The unadjusted current account surplus of 24.2 percent of GDP suggests a large undervaluation. However, such an analysis is distorted by problems in classifying large income account outflows, including external debt service payments related to resource projects, under financial account rather than the current account. Staff estimates that adjusting the current account surplus for these flows should result in a current account deficit close to zero. In this case, the REER is assessed to be overvalued by around 12 percent according to the current account balance (CAB) analysis metric.1 Alternatively, if the non-resource current account balance of -6.1 percent of GDP is used, the analysis indicates that the REER is overvalued by 18 percent. These results are supported by the EBA-lite REER index model, which suggests an overvaluation of 11 percent. Import compression, resulting from FX shortages, also implies a larger underlying current account deficit, and a higher degree of overvaluation. The assessment of an overvaluation is consistent with limited exchange rate adjustment to international inflation differentials or terms of trade movements.2 In 2019, the real effective exchange rate (REER) appreciated by 3 percent as the nominal effective exchange rate (NEER) experienced little change throughout the year.

The reserves-to-import ratio declined to 4.7 months of imports at the end of 2019. Although well above the 3-months import cover norm, it is below the level of 6.9 months’ cover considered appropriate for low-income countries.

EBA-lite Results

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Current account balance has been adjusted to reflect the mis-measurement of income outflows related to resource projects.

Source: IMF staff estimates and projections.

Reserve Adequacy Assessment

(In months of imports end-2019)

Citation: IMF Staff Country Reports 2020, 095; 10.5089/9781513539706.002.A001

1 It is presumed that the misclassified outflows exceeded the current account surplus in 2019. A recent reclassification exercise by Fund staff and the authorities with 2015 data has resulted in a reduction in the current account surplus of almost 40 percent for that year, while the dividend and interest payments are estimated to have more than doubled since 2016 from company level data.2 Elasticities of exports (-0.44) and imports (0.29) are estimated in Nakatani (2017) ‘External Adjustment in a Resource-Rich Economy: The Case of Papua New Guinea’ IMF Working Paper No.17/267.
Figure 1.
Figure 1.

Papua New Guinea: Real Sector

Citation: IMF Staff Country Reports 2020, 095; 10.5089/9781513539706.002.A001

Figure 2.
Figure 2.

Papua New Guinea: Balance of Payments

Citation: IMF Staff Country Reports 2020, 095; 10.5089/9781513539706.002.A001

Figure 3.
Figure 3.

Papua New Guinea: Fiscal Sector

Citation: IMF Staff Country Reports 2020, 095; 10.5089/9781513539706.002.A001

Figure 4.
Figure 4.

Papua New Guinea: Monetary Sector

Citation: IMF Staff Country Reports 2020, 095; 10.5089/9781513539706.002.A001

Table 1.

Papua New Guinea: Selected Economic and Financial Indicators, 2016–2024

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

Based on period average exchange rate.

Resource sector includes production of mineral, petroleum, and gas and directly-related activities such as mining and

quarrying, but excludes indirectly-related activities such as transportation and construction.

Public external debt includes external debt of the central government, the central bank, and statutory authorities.

Table 2a.

Papua New Guinea: Summary Operations of the Central Government, 2016–2024

(In millions of Kina)

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Sources: Department of Treasury; and IMF staff estimates and projections.

The 2015 other revenue includes infrastructure tax credit, recoveries from former years (mainly fees and charges) and asset sale.

Withdrawals from the Stabilization Fund (mining and petroleum taxes; mining, petroleum and gas dividends.)

As the authorities integrated the recurrent and development budgets from 2014 there is a discontinuity in the classification.

Grants include spending on wages and salaries, goods and services, and capital expenditure.

Discrepancies between the overall balance and financing arise because of data coverage gaps in revenue and expenditure for extrabudgetary units, and payment arrears and cash withdrawals from trust accounts which are not fully accounted for due to data weaknesses.

Contingent liabilities include future unfunded superannuation liabilities with Nambawan Super and SOE borrowing.

Table 2b.

Papua New Guinea: Summary Operations of the Central Government, 2016–2024

(In percent of GDP)

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Sources: Department of Treasury; and IMF staff estimates and projections.

The 2015 other revenue includes infrastructure tax credit, recoveries from former years (mainly fees and charges) and asset sale.

Withdrawals from the Stabilization Fund (mining and petroleum taxes; mining, petroleum and gas dividends.)

As the authorities integrated the recurrent and development budgets from 2014 there is a discontinuity in the classification.

Grants include spending on wages and salaries, goods and services, and capital expenditure.

Discrepancies between the overall balance and financing arise because of data coverage gaps in revenue and expenditure extrabudgetary units, and payment arrears and cash withdrawals from trust accounts which are not fully accounted for due to data weaknesses.

Contingent liabilities include future unfunded superannuation liabilities with Nambawan Super and SOE borrowing.

Table 3.

Papua New Guinea: Balance of Payments, 2016–2024

(In millions of U.S. dollars)

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

Includes staff’s estimates related to the PNG LNG project.

Includes money transfer via offshore accounts.

Public external debt includes external debt of the central government, the central bank, and statutory authorities.

Table 4.

Papua New Guinea: Monetary Developments, 2016–2024

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