Despite much that is good in the 2015 Budget, the Papua New Guinea government’s medium-term fiscal plans are a concern, writes Paul Flanagan, former senior executive in the Australian Treasury, and advisor to the PNG Treasury from 2011 to 2013.

Paul Flanagan

Papua New Guinea is facing growing economic problems, with foreign exchange controls hurting businesses and printing money possibly starting inflationary pressures, so getting fiscal policy right in this budget was absolutely vital for the country’s future.

Fundamentally, the Government remains on track to ensure the highest priority areas of education, health, infrastructure and law and order receive increased levels of funding in 2015.

However, within these positive aggregate allocations, the devil is in the implementation detail.

District programmes

The major new initiative of K445 million in education and health infrastructure programmes at the district level lacks the performance information required to justify such a large allocation. The escalating cost of holding the 2015 Pacific Games is also of concern, as is the cost of hosting the 2018 APEC meeting.

It’s good to see the priorities given to education, health law and order, but beyond 2015 there are some very significant cuts proposed in these areas.

Surplus

Given the government’s commitment to delivering basic services, rather than large cuts, a more realistic case is of ongoing expenditure growth. If expenditure growth continues at 10% in nominal terms, which is significantly lower than this year (which was 24%), then the deficit will increase to 11% of GDP and the debt to GDP ratio will nearly double to 58% by 2019.

Fundamentally, the Government remains on track to ensure the highest priority areas of education, health, infrastructure and law and order receive increased levels of funding in 2015.

To get back to surplus by 2017, expenditure cuts of 9.2% are projected for 2016 and a further cut of 6.4% in 2017.

This ignores the impact of inflation, so the cuts in real terms are over 14% and then 11%, a combined real cut of 25%.

The government’s Budget documents propose reducing the education sector budget from K1.9 billion in 2015 to only K1,.575 billion by 2017. The health sector budget will be cut from K1.771 billion to K1.372 billion. And the economic sector (such as agriculture and SMEs) will be cut from K730 million to K438 million.

Often the best way to predict future actions is to observe past actions.

When a government runs deficits at this level, it squeezes out the private sector from investment opportunities. This leads to a credit squeeze.

The Government has not demonstrated a willingness to cut budgets in such a way, and nor should cuts of this order of magnitude be considered.

Interest payments

The largest increase in any expenditure level in this Budget is interest costs, which have gone up by K558 million to K1.3 billion in just one year, to cover government debt.

The government is already having trouble funding its existing deficit.

It is very unlikely domestic financiers will be able to continue funding the government’s deficit in future years. So there will be more pressure on the Bank of PNG to simply print Kina and ultimately that will lead to very high rates of inflation.

When a government runs deficits at this level, it squeezes out the private sector from investment opportunities.

This leads to a credit squeeze.

Assets sales

PNG’s Parliament. Credit: ABC

The almost magical answer for the debt financing problem in 2015 is an assumed $2.5 billion in funds from asset sales of the government’s shareholding in the PNG LNG project to landowner companies.

But this seems to be a very high number to be able to achieve in 2015. The questions are: will landowner companies be interested in buying the shareholding when they already have access to all the dividends? And will they be able to raise the financing? And what is the price?

Some of the landowner companies would be interested, but we know that a large number of landowner companies don’t have much in the way of assets. They’d have to borrow those funds and it may be the national government that has to directly finance the purchase or provide guarantees for those companies to purchase the shares.

It’s also interesting that the local accounting firm Deloitte PNG has raised similar questions about the timing.

PNG continues to produce a budget filled with good information, including information about the Sovereign Wealth Fund (SWF).

They’ve built into the budget the flows in and out of the new proposed Stabilisation and Savings Funds of the SWF. So that’s pretty good.

The problem is on the Kumul Holdings there is very little information and when looking at the details, there seems to be about K3.3 billion that disappears from the Budget books between 2016 and 2018.

PNG continues to produce a budget filled with good information, including information about the Sovereign Wealth Fund (SWF).

Presumably, those funds are being held back from petroleum and mineral taxes and dividends to pay for some of the Kumul payments, including payment on the UBS loan for Oil Search shares.

Lack of information

PNG should also move from the 1986 to the 2001 accounting standards to better understand what is going on in the budget.

The loss of detailed information on the value of individual state-owned enterprises is a step backwards and adds to the issue of K3.3 billion in mineral revenue simply disappearing from the budget books with little explanation.

There is still no integration of budget information across the national, provincial and district levels, which used to be provided in the budget.

Paul Flanagan recently left his position as Chief Advisor, Foreign Investment and Trade Policy Division, at the Australian Treasury. This is an edited version of an article originally published on the DevPolicy blog.