THE PACIFIC ISLANDS FISCAL POLICY TO BUILD RESILIENCE

AND ADDRESS VULNERABILITY

Pover ty Reduction and Economic Management

East Asia and Pacific Region

T h e W o r l d B a n k

P a c i f i c D e p a r t m e n t

w w w . w o r d b a n k . o r g / p i

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

4,000

6,000

8,000

10,000

12,000

14,000

16,000

Ave

rag

e G

DP

-we

igh

ted

dis

tan

ce

fro

m m

ark

ets

(k

m)

Population (logarithmic scale)

All Countries

Pacific

Caribbean

10k 100k 1m 10m 10bn

Pacific Islands: Extreme Remoteness from Major Markets

Vulnerability to shocks volatility is the norm

Fiscal policy responses to shocks

Building resilience to cope with volatility

OUTLINE

FIVE SOURCES OF VOLATILIT Y

•Shocks to key natural resource or cash crop exports

•Economic downturns in tourism source countries

Concentration of Exports

•Fuel price shocks

•Food price shocks

High Import Dependence

•Economic downturns in remittance source countries

•Tightening of labour market access

•Demographic shifts in diasporas

Significance of Remittances

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

Importance of Aid

•Cyclones, floods, earthquakes, tsunamis

•Effects of climate change

Vulnerability to Natural Disasters

REVENUE, AID AND EXPENDITURE VOLATILIT Y

0

0.01

0.02

0.03

0.04

0.05

0.06

0.07

Revenue Volatility Aid Volatility Expenditure Volatility

PICs

Other Small

States

Other MICs

Pacific Islands: Volatility in Revenue, Aid and Expenditure

FOUR MAIN FISCAL POLICY RESPONSES

•Trust funds / sovereign wealth funds

•Reserves

•Cash balances / Assets

• Concessional loans from IFIs

• Loans from bilateral donors

• Domestic borrowing, bank overdrafts / Debt

• Protects service delivery in the event of revenue shortfalls, without increasing deficits

• Augments value of other fiscal buffers

Address Quality of Spending

• Grants from bilateral donors

• Grants from IFIs (for countries at high risk of debt distress)

/ Grants

FIVE AVENUES TO BUILD RESILIENCE

•Prudent macroeconomic management best positions the economy against shocks and facilitates rapid donor response

•Sound budget management maximizes value from resources

Macro/Budget Management

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

Debt Headroom

•Sovereign wealth/trust funds can help mitigate the impact of shocks if they are protected from unsustainable drawdowns

•Directing windfall gains to these funds or to reserves can help augment the robustness of asset buffers over time

Asset Buffers

•Process rigidity and objectives other than shock absorption mean that donor projects can add to volatility

•More work is needed to make aid an effective fiscal buffer, to support the public sector’s role as a shock absorber

Grants

•Facilitate use of alternative energy to reduce oil dependence

•Facilitate natural resource/tourism industry development

•Expand labour market access to secure remittances

Sources of Volatility

RULES AND RESILIENCE

Fiscal discipline can be important for building and

maintaining the resilience to manage shocks

Fiscal disciplines have tended to work well where –

For deficits, they have been target ceilings (rather than rules) with

justification required for breaches of the targets

For debt, they have either been target ceilings, with justification

required for breaches, or they have been policy moratoriums on

contracting new debt, in contexts where new debt is not justifiable

For sovereign wealth/trust funds, they have been rules for

maintaining the value of the funds, in contexts where donors have

provided additional grant support in extraordinary circumstances

In each case, the appropriateness of the form that fiscal

discipline has taken has been context specific and it has been

only one part of a broader fiscal management approach,

including support from development partners

T h e W o r l d B a n k

P a c i f i c D e p a r tm e n t

w w w . w o r db a n k . o r g / p i

THANK YOU

ANNEX 1: DIFFERENT T YPES OF ECONOMY

-10%

0%

10%

20%

30%

40%

50%

60%

Tim

or

PN

G

Solo

mo

ns

Sam

oa

Va

nu

atu Fiji

To

ng

a

Pa

lau

Tu

valu

Kir

iba

ti

Ma

rsh

alls

FSM

Public sector Agriculture Other industry Construction Services Natural resources Overall

Growth driven by inflows of tourists and remittances

Low growth, sustained by public sectorNatural resource

& cash crops

153%

Growth by Source – 1998-2008

Structure of Pacific economies reflects the special challenges and

opportunities facing small, remote economies.

ANNEX 2: IMPORTANCE OF AID

0.0

5.0

10.0

15.0

20.0

25.0

30.0

35.0

40.0

45.0

50.0

FJI PNG TON WSM KIR VAN PLW MHL TUV FSM SOL CAR LMIC LIC

Pacific Islands: Aid (Percentage of GNI)

ANNEX 3: SIZE OF GOVERNMENTS

Pacific Islands: Wage Bill Share of GDP

Pacific Islands: Total Expenditure Share of GDP

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

0%

5%

10%

15%

20%

25%

30%

35%

CASE STUDY: NATURAL DISASTERS IN SAMOA

Samoa: Fiscal Responses to Successive Natural Disasters

tsunami cyclone

-20

0

20

40

60

80

-20

0

20

40

60

80

FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13(e) FY14(f) FY15(f)

CASE STUDY: NATURAL DISASTERS IN SAMOA

Samoa: Fiscal Responses to Successive Natural Disasters

tsunami cyclone

-20

0

20

40

60

80

-20

0

20

40

60

80

FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13(e) FY14(f) FY15(f)

CASE STUDY: NATURAL DISASTERS IN SAMOA

Samoa: Fiscal Responses to Successive Natural Disasters

tsunami cyclone

-20

0

20

40

60

80

-20

0

20

40

60

80

FY06 FY07 FY08 FY09 FY10 FY11 FY12 FY13(e) FY14(f) FY15(f)

No new borrowing

Increased grants

Improved quality of spending to mitigate the impact of the decline in revenue on service delivery

Closer alignment of allocations and priorities in the approved budget

Better monitoring and control of budget execution

CASE STUDY: REMITTANCE DECLINE IN TONGA

Tonga: Remittances and Fiscal Situation

0

50

100

150

200

250

300

350

FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10 FY11 FY12

Revenue Expenditure Remittances in constant (FY11) TOP

CASE STUDY: WINDFALL GAINS IN SOLOMON IS

Solomon Islands: Paying Down Debt and Building Up Cash Balances in the Good Years

-15

-5

5

15

25

35

-30

-20

-10

0

10

20

30

40

50

60

70

2008 2009 2010 2011 2012 2013(f)

CASE STUDY: WINDFALL GAINS IN SOLOMON IS

Solomon Islands: Paying Down Debt and Building Up Cash Balances in the Good Years

-15

-5

5

15

25

35

-30

-20

-10

0

10

20

30

40

50

60

70

2008 2009 2010 2011 2012 2013(f)

CASE STUDY: WINDFALL GAINS IN SOLOMON IS

Solomon Islands: Paying Down Debt and Building Up Cash Balances in the Good Years

-3

-2

-1

0

1

2

3

4

5

6

7

-30

-20

-10

0

10

20

30

40

50

60

70

2008 2009 2010 2011 2012 2013(f)

CASE STUDY: GFC ON KIRIBATI AND TUVALU

The sovereign wealth/trust funds of Kiribati and Tuvalu were

severely affected by the GFC

Asset values fell by over 12 percent, on average

Income streams from the sovereign wealth/trust funds have been

subdued since the GFC

Governments were able to increase public spending to

mitigate hardship in the wake of the GFC using funds from

Grant receipts

Drawdowns from sovereign wealth/trust funds

These sources of funds enabled the governments to protect

expenditure and service delivery, while avoiding borrowing to

finance deficits, thereby supporting short term fiscal and debt

sustainability

CASE STUDY: GFC ON KIRIBATI AND TUVALU

Kiribati sought to maintain the real per capita value of its

sovereign wealth fund at 1996 levels

Since the early 2000s, drawdowns to fund deficits have exceeded

sustainable levels, and Kiribati might benefit from an updated,

formal rule to maintain the real per capita value at its current level

Tuvalu only receives distributions from its trust fund when the

market value of the fund exceeds its targeted value (which is

linked to the Australian CPI)

Distributions accumulate in a reserve fund, which is available for

budgetary spending

Tuvalu seeks to have a sufficient balance in this reserve fund to cover

a ‘dry spell’ (four years without trust fund distributions)

In good years, the reserve fund should be built up so that in bad

years it can be run down while financing the budget

The reserve fund thus serves as an important fiscal buffer

SAVING IN GOOD TIMES… TO SPEND IN BAD

TIMES

Tuvalu Consolidated Investment Fund Value Tuvalu Trust Fund Value

80.0

90.0

100.0

110.0

120.0

130.0

140.0

2005 2006 2007 2008 2009 2010 2011 2012

A$m

TTF Year-end

Actual Value

TTF Year-end

Target Value

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

2005 2006 2007 2008 2009 2010 2011 2012

A$m

CIF Balance

CIF Balance (without

additional donor

contributions)