mongolia swf eric parrado
TRANSCRIPT
Natural Resource Booms and Fiscal ResponsibilityEric ParradoUniversidad Adolfo Ibáñez
Sovereign Wealth Management for Mongolia - A YPAD FocusMongolia YGL Learning Journey
Terelj Hotel, MongoliaSeptember 10, 2011
Agenda
•Motivation•Fiscal rules•Fiscal stabilization in Chile:
▫Management of flows▫Management of stocks
• Institutional arrangement and investment policy
•A commitment to transparency•Common and unique features of Mongolia
“Fiscal Stability Law” (FSL)•Some lessons that I learned regarding SWFs•Concluding remarks
Motivation: Importance of copper• In terms of Chilean GDP, copper has
represented more than 6% of GDP in recent years, while the mining sector accounted for almost 7.5%
• In terms of exports, copper contributed with
almost 30% of total exports
• In terms of fiscal revenues, copper accounted for more than 15% of government’s revenues.
• Internationally, Chilean copper production represented more than 35% of global production.
Real Copper Price (Jan.90-Dec.03)March 2011 US$ per pound
0,00
0,50
1,00
1,50
2,00
2,50
3,00
3,50
4,00
4,50
5,00
Jan-
90Ja
n-91
Jan-
92Ja
n-93
Jan-
94Ja
n-95
Jan-
96Ja
n-97
Jan-
98Ja
n-99
Jan-
00Ja
n-01
Jan-
02Ja
n-03
Jan-
04Ja
n-05
Jan-
06Ja
n-07
Jan-
08Ja
n-09
Jan-
10Ja
n-11
Real Copper Price (Jan.90-Apr.08)March 2011 US$ per pound
0,00
0,50
1,00
1,50
2,00
2,50
3,00
3,50
4,00
4,50
5,00
Jan-
90Ja
n-91
Jan-
92Ja
n-93
Jan-
94Ja
n-95
Jan-
96Ja
n-97
Jan-
98Ja
n-99
Jan-
00Ja
n-01
Jan-
02Ja
n-03
Jan-
04Ja
n-05
Jan-
06Ja
n-07
Jan-
08Ja
n-09
Jan-
10Ja
n-11
Real Copper Price (Jan.90-Dec.08)March 2011 US$ per pound
0,00
0,50
1,00
1,50
2,00
2,50
3,00
3,50
4,00
4,50
5,00
Jan-
90Ja
n-91
Jan-
92Ja
n-93
Jan-
94Ja
n-95
Jan-
96Ja
n-97
Jan-
98Ja
n-99
Jan-
00Ja
n-01
Jan-
02Ja
n-03
Jan-
04Ja
n-05
Jan-
06Ja
n-07
Jan-
08Ja
n-09
Jan-
10Ja
n-11
Real Copper Price (Jan.90-Mar.11)March 2011 US$ per pound
0,000,501,001,502,002,503,003,504,004,505,00
Jan-
90Ja
n-91
Jan-
92Ja
n-93
Jan-
94Ja
n-95
Jan-
96Ja
n-97
Jan-
98Ja
n-99
Jan-
00Ja
n-01
Jan-
02Ja
n-03
Jan-
04Ja
n-05
Jan-
06Ja
n-07
Jan-
08Ja
n-09
Jan-
10Ja
n-11
Fiscal Rules•They anchor expectations for sustainable
public finances•In early 1990s only a few countries
adopted fiscal rules: 7 countries. Right now more than 80 countries had in place these rules: 21 advanced, 33 emerging markets, and 26 low income countries
•The use of fiscal rules is associated with improved fiscal performance: contribution to prudent fiscal policy
Fiscal Rules
•A rule has to be credible with regard its ability to help deliver the required adjustment and put debt on a sustainable path
•But it should also have adequate flexibility to respond to shocks
Fiscal stabilization: Chile’s fiscal policy framework
•Flow management: ▫The fiscal structural surplus rule
•Stock management: ▫Fiscal asset funds:
Pension Reserve Fund (PRF) Economic and Social Stabilization Fund
(ESSF)
10
Fiscal stabilization: the fiscal structural surplus rule• The fiscal rule aims to protect Government spending
from the effects of the economic and copper price cycles
• Structural (i.e. medium term or trend) government income is calculated for the following year
• This requires the input of three key parameters: the medium term price of copper, the economy’s long term output, and the returns of financial assets
• Yearly fiscal expenditure is then set so that Structural Revenue – Fiscal Expenditure = X% of GDP
11
Fiscal stabilization: the fiscal structural surplus rule
• The long-term copper price defines permanent income, contributing to have a countercyclical policy
Lon-term copper price
Copper Price
Savings
Use of savings
Example: All income comes from copper
Fiscal stabilization: fiscal balance and copper price
-3
-2
-1
0
1
2
3
4
5
-6%
-4%
-2%
0%
2%
4%
6%
8%
10%
1990
1991
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
(P)
Copp
er p
rice
(US$
per
pou
nd)
% o
f GD
P
effective structure copper price
Fiscal stabilization: the fiscal responsibility Law
• Complements Fiscal Rule by focusing on the management of the stocks of financial assets generated by the Rule
• Provides for the creation of two funds: ▫ the Pension Reserve Fund (Feb. 11: US$ 3.9 billion) and ▫ the Economic and Social Stabilization Fund (Feb. 11: US$
12.8 billion)
• These government funds are separate from Central Bank reserves, which are managed by the independent Central Bank
• Permits the re-capitalization of the Central Bank over 5 years
14
Fiscal stabilization: Funds’ objectives
•Pension Reserve Fund : supplement the financing of future contingent liabilities related to pensions
•Economic and Social Stability Fund: to finance potential fiscal deficits and to amortize public debt
15
Fiscal stabilization: virtues of the fiscal policy framework
Counter-cyclical effect on the business cycle: under the rule Government spending is counter-cyclical
Ensures the financial sustainability of government policies, allowing for long-term planning, reduced spending volatility, and secure financing of ambitious social agendas
Protects export competitiveness during copper price booms by avoiding unsustainable fiscal spending increases and the resulting transitory exchange rate appreciations
Boosts public saving, reducing the need for historically volatile external financing in times of crisis or recession, thus eliminating a source of macroeconomic risk
16
Source: Ministry of Finance
14.9
16
15.2
23
17.1
92
17.2
51
17.1
32
18.7
70
19.7
71
19.4
60
19.2
68
18.7
91
19.1
64
20.2
11
19.5
41
19.3
34
19.6
18
17.9
80
17.5
07
15.7
67
15.0
15
14.3
43
13.7
09
12.9
28
12.6
04
11.2
85
11.2
57
11.2
37
11.1
30
11.1
00
10.8
88
10.7
99
11.1
04
12.4
72
12.8
52
12.9
88
12.5
82
12.7
20
12.7
92
12.8
34
200
1.75
0
2.70
0
4.37
7
5.25
7
6.09
7
6.93
7
7.77
7
8.33
7
9.27
8
9.27
8
9.27
8
9.27
8
9.27
8
9.27
8
9.42
8
9.42
8 9.42
8
9.42
8
9.42
8
9.42
8
9.42
8
9.42
8
9.42
8
0
5000
10000
15000
20000
25000
Jan-
08
Feb-
08
Mar
-08
Apr
-08
May
-08
Jun-
08
Jul-
08
Ago
-08
Sep-
08
Oct
-08
Nov
-08
Dec
-08
Jan-
09
Feb-
09
Mar
-09
Apr
-09
May
-09
Jun-
09
Jul-
09
Ago
-09
Sep-
09
Oct
-09
Nov
-09
Dec
-09
Jan-
10
Feb-
10
Mar
-10
Apr
-10
May
-10
Jun-
10
Jul-
10
Ago
-10
Sep-
10
Oct
-10
Nov
-10
Dic
-10
Ene
-11
Feb-
11
Cumulative Withdrawals Fund Balance
US
Mill
on
Fiscal stabilization: Accumulation of assets - ESSF
Source: Ministry of Finance
1.50
6
1.53
7
1.57
4
1.54
3
1.52
5
2.45
2
2.45
2
2.41
4
2.39
0
2.33
1
2.37
6
2.50
7
2.42
3
2.39
8
2.45
8
2.44
8
2.51
5
2.50
3
3.36
7
3.40
7
3.45
7
3.47
2
3.53
6
3.42
1
3.41
3
3.40
6
3.37
4
3.36
5
3.30
0
3.31
9
3.75
9
3.76
3
3.87
7
3.91
8
3.79
5
3.83
7
3.85
9
3.87
1
0
500
1000
1500
2000
2500
3000
3500
4000
4500
Jan-
08
Feb-
08
Mar
-08
Apr
-08
May
-08
Jun-
08
Jul-
08
Ago
-08
Sep-
08
Oct
-08
Nov
-08
Dec
-08
Jan-
09
Feb-
09
Mar
-09
Apr
-09
May
-09
Jun-
09
Jul-
09
Ago
-09
Sep-
09
Oct
-09
Nov
-09
Dec
-09
Jan-
10
Feb-
10
Mar
-10
Apr
-10
May
-10
Jun-
10
Jul-
10
Ago
-10
Sep-
10
Oct
-10
Nov
-10
Dic
-10
Ene
-11
Feb-
11
US
Mill
onFiscal stabilization: Accumulation of assets - PRF
Fiscal stabilization: Reduction of gross debt (% of GDP)
0%
5%
10%
15%
20%
25%
30%
35%
1992
1993
1994
1995
1996
1997
1998
1999
2000
2001
2002
2003
2004
2005
2006
2007
2008
2009
2010
Source: Ministry of Finance
Fiscal stabilization: the accumulation rule (% of GDP)
0
0.5
1
1.5
2
2.5
3
3.5
-0.5 -0.2 0.1 0.4 0.7 1 1.3 1.6 1.9 2.2 2.5 2.8
Effective fiscal balance
Cont
ribu
tion
s
ESSF CBC's capitalization PRF
Institutional arrangement
Minister of Finance
Financial Committee
Central Bank
Investment Policy definition
Execution
Custodian
Investment guidelines
Investment policy
66,5%
45%
30%
5%
3,5%
15%
20%
15%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Initial Proposed
Sovereign and agency bonds Liquid assets
Inflation-linked bonds Corporate bonds
Equities
A commitment to transparency•The funds have operated in a very
transparent manner since their establishment in 2006
•To ensure that the public has access to the relevant information, the ministry of finance has created an exclusive website that holds all of the funds’ monthly, quarterly, and annual reports, the legislation pertaining to the funds, and the recommendations of the Financial Committee and its annual reports
A commitment to transparency•Chile has actively engaged in international
initiatives to foster the transparency of SWFs
• In particular, the SWFs of the world reached
its transparency landmark agreement in Santiago in 2008
•The so-called “Santiago Principles” reflect the commitment to enhance transparency with regard to the policies and activities of sovereign wealth funds
A commitment to transparency
•Chile gets the maximum ranking in international transparency index elaborated by Sovereign Wealth Funds Institute (first quarter 2011)
Some lessons that I learned regarding SWFs
•SWFs are mechanisms for attaining and retaining fiscal discipline
•They are a mechanism for self-insurance in a volatile and unfriendly world economy
Common and unique features of Mongolia FSL
•The current draft of the FSL includes these best international practice features:▫Structural revenue of major minerals▫Expenditure rule▫Fiscal consolidation:
Reduction of government deficits Sustainable debt accumulation
Structural revenue of major minerals
Long term price of copper
Price of copper
Savings
Use of savings
• Long term price of copper defines fiscal returns in the long term (permanent income hypothesis) and foster a countercyclical fiscal policy
Example: All fiscal revenues come from copper
Structural revenue of major minerals
•Alternatives:▫Council that estimates long-term price of
minerals ▫Formula that takes the possible subjectivity
out
Structural revenue of major minerals
•Formula option:▫ A combination of both historical data and
projections long-term trend•The estimation of long-term price of
minerals should consider credible data sources: ▫IMF Commodity Prices database (history)▫Bloomberg (projections)
Structural revenue of major minerals: Comparison
Long-term price of copper
0
1000
2000
3000
4000
5000
6000
7000
Current Price Formula Chile Council
US
$ pe
r to
n
Expenditure rule
•Alternative: “Total budget expenditure growth shall not be more than the GDP growth rate of a particular year”
•It sounds very prudent, but it has a problem when GDP growth is weak
•Key idea: keep fiscal expenditure despite the business cycle (countercyclical fiscal policy)
Expenditure rule
•The rule should tackle two issues:▫Having a sustainable fiscal expenditure▫Avoiding sudden jumps in the transition period
•Proposal: “Total budget expenditure growth of a particular year shall not be more than the maximum between non-mineral GDP growth and non-mineral GDP growth trend (average)
Expenditure rule
Non-mineral GDP growth
Non-mineral GDP growth trend
Rule: Expenditure should be less than the Max (actual GDP growth; GDP growth trend)
Expenditure rule
Non-mineral GDP growth
Non-mineral GDP growth trend
Rule: Expenditure should be less than the Max (actual GDP growth; GDP growth trend)
Maximum fiscal expenditure
Rate of growth
Years
Fiscal consolidation: fiscal deficits
•Reduction of government deficits▫2% or surplus later from 2013
Fiscal consolidation: debt accumulation•Sustainable debt accumulation•Alternative: Hump shaped debt
accumulation▫40% from 2013
Some lessons that I learned regarding SWFs
• Keep it legitimate!▫Main risk of any fiscal discipline device:
political illegitimacy▫ Investment policy: shared decision, with
autonomous body playing lead role▫Government does not administer a penny!▫Financial insurance needs political
insurance!
Some lessons that I learned regarding SWFs
• Keep it transparent!▫Everyone should know what is going
on, all the time▫Report a lot▫Obligatory, regular and external
audits
Some lessons that I learned regarding SWFs
•Keep it simple!▫Boring but useful principle: one
instrument, one target▫If macro stabilization is the goal, then
must have simple, safe and relatively liquid portfolio
▫Invest everything outside the country: avoid Dutch disease
Some lessons that I learned regarding SWFs
•Keep it fiscal!▫Avoid overload of tasks: social
programs, public infrastructure, socially-responsible investments are desirable goals: that is why they should be funded out of budgets
Concluding remarks
• The successful Chilean experience to manage commodity booms has contributed to reduce economic volatility and increase the resilience of the economy
• An important general lesson of this process is that governments should avoid short-term temptations to spend significant temporary surpluses
• Paradoxically, this policy gains legitimacy in the rainy days when governments need additional resources to support their economies
Concluding remarks
•If natural resource booms are well managed they must be a blessing for any country
•Today many nations have recently developed or are developing SWFs
•To them a simple message: ▫Keep it legitimate!▫Keep it transparent!▫Keep it simple!▫Keep it fiscal!
Natural Resource Booms and Fiscal ResponsibilityEric ParradoUniversidad Adolfo Ibáñez
Sovereign Wealth Management for Mongolia - A YPAD FocusMongolia YGL Learning Journey
Terelj Hotel, MongoliaSeptember 10, 2011