Papua New Guinea - Structural adjustment, growth and human resource development

Report No. 9396-PNG Papua New Guinea Structural Adjustment, Growth and Human Resource Development May 1, 1991 Country Operations [ivision Country Department V Asia Region FOR OFFICIAL USE ONLY Document of the World Bank This document has a restricted distribution and may be used by recipients only in t _.;erformance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  CURRENCY EQUIVALENTS Annual Averages 19B1 K 1.00 c US: 1.49 1982 K 1.00 =USS 1.38 198S K 1.00 LJSS 1.20 1994 K I.00 = US: 1.12 1986 K 1.00 = US 1.00 1988 K 1.00 = US. 1.03 1987 K 1.00 = US 1.10 1988 K 1.00 = USS 1.16 1989 K 1.00 a US$ 1.18 1990 K 1.00 = USS 1.08 April 3, 1991 K 1.00 tUSI 1.06 FISCAL YEAR January 1 -- December 81 ABBREVIATIONS AND ACRONYMS ADB - Asian Development Bank AIDAB - Australian International Development Assistance Bureau BCL - Bougainville Copper Limited BPNG - Bank of Papua Now Guinea CDA - Coffee Development Agency CDC - Commonwealth Development Corporation CSA - Commercial Statutory Authority DAL - Department of Agriculture and Livestock DCA - Department of Civil Aviation DEC - Department of Environment and Conservation DFP - Department of Finance and Planning DH - Department of Health DLE - Department of Labor and Employment DLPP - Department of Land and Physical Planning DME - Department of Minerals and Energy DPI - Department of Primary Industries DPM - Departmant of Personnel Management DTI - Department of Trade and Industry DW - Department of Works EEC - European Economic Community EIB - European Investment Bank ELCOM - Electricity Commission FIAS - Foreign Investment Advisory Service FIPA - Foreign Investment Promotion Agency GRAC - Government Regulations Advisory Committee HEP - Higher Education Plan ICO - International Coffee Organization IFAD - International Fund for Agricultural Development IFC - International Finance Corporation IMF - International Monetary Fund ISIC - International Standard Industrial Classification LMP - Land Mobilization Program MICA - Multilateral Investment Guarantee Agency MRDC - Mineral Resources Development Corporation MRSF - Mineral Resources Stabilization Fund MUG - Minimum Unconditional Grant MWB - Minimum Wages Board NCW - National Council of Women NEC - National Executive Council NES - Nucleus Estate with Smaliholders NFAP - National Forest Action Plan NHS - National High School NIDA - National Investment and Development Authority NPF - National Provident Fund NTP - National Training Policy NWSSB - National Water Supply and Sewerage Board O&u - Operations and Maintenance OIDA - Office of International Development Assistance OTML - Ok Tedi Mining Company Limited PEA - Public Employees Association PIP - Public Investment Program PTC - Post and Telecommunications Corporation SIP - Special Intervention Program STABEX - Export Earnings Stabilization System SYSMIN - Special Financing Facility for Mineral Products TFAP - Tropical Forestry Action Plan TSC - Teachers' Services Commission UN - United Nations UNDP - United Nations Development Program UPE - Universal Primary Education VAT - Value Added Tax  FOR OMCIAL USE ONLY PAPUA NEW GUINEA STRUCTURAL ADJUSTMENT, GROWTH AND HUMAN RESOURCE DEVELOPNENT Table of Contents Page No. SUMMARY AND CONCLUSIONS .................... . .... .i-v I. REVIEW OF RECENT ECONOMIC DEVELOPMENTS A. Introduction ............................................. 1 B. Economic Performance, 1980-g. 2 C. Nature and Magnitude of Economic Shocks, 1989-90. 5 D. The Adjustment Program and Progress in Implementation .... 7 (i) Summary of Adjustment Program. 7 (ii) Progress in Mecroeconomic Stabilization. 7 (iii) Progress on Structural Adjustment .12 II. A MACROECONOMIC FRAMEWORK FOR SUSTAINED DEVELOPMENT A. Introduction ..17 B. Short-Term Prospects: From Stabilization to Growth .. ' 18 C. Medium-Term Prospects and Policies . .20 Mineral Sector: Prospects and Policy Implications 20 (i) The Minerals Boom .20 (ii) Mineral Projects and Public Ownership .22 (iii) Managing the Minerals Boom .24 (iv) Public Resource Management and Investment Policis .25 D. External Financing: Requirements and Sources. . 37 E. External Debt Management ..42 F. Risks and Uncertainties .43 III. THE ROLE OF THE PUBLIC SECTOR A. Introduction ..47 B. Public Resource Management .48 (i) Public Expenditure Restructuring .48 (ii) Tax Reform .52 C. Public Investment Priorities. .55 The Size and Allocation of Public Investment. 55 Public Pricing Policies . .58 D. Implementation Capacity and Institutional Development 59 This report was prepared by a team led by Dipak Dasgupta. The principal authors were: Dipak Dasgupta, Lloyd Kenward, Reza Kibria (IMF), Samuel Lieberman, Zia Qureshi, John Strongman, Melanie JoLason (Consultant), Sashi Talwar, and Peter Osei. Other major contributors%were John Burrows, Eilert de Jong. Osman Farruk, Austin Hu, Emmanuel James. Jessica Mott, Michael Porter, William Rees, Vatsal Thakor and E. Zimmer-Vorhaus. This document has a restricted distribution and may be used by recipients only in the performance of their official duties. Its contents may not otherwise be disclosed without World Bank authorization.  E. Sector Stra.egies and Policies ... ...... .................. 61 (i) Agrictulture ........ ...... ...................... 61 (ii) Transport . .............................. . 64 (iii) Energy and Power . ........................... 65 (iv) Telecommunications ..... ....... . 66 F. Policies for Sustainable Development... .................. 66 IV. PROMOTING PRIVATE SECTOR DEVELOPMENT A. Introduction ........................ 71 B. The Incentives for Private Sector Investment ............. 73 (i) Exchange Rate Policies .......... ........... # ..... 73 (a) Agricultural Prices and Costs . .............. 75 (b) Mining Sector Impact ....................... . 77 C. Wage Policies, Labor Markets and Employment .............. 78 (i) Minimum Wage Policies and Indexation ............. 78 (ii) Rural Labor ...................................... 81 (iii) Public Sector Wage and Employment Policies ....... 83 D. Trade Policies .. ......................................... 84 E. Deregulating the Private Sector .. . ....................... 89 (i) Investment Deregulation . . . 89 (ii) Land Deregulation .. 91 (a) Access to Alienated Land .................... 91 (b) Access to Customary Lands ................... 92 (iii) Transport Deregulation . . 93 (a) Road Transport (Freight Services) ........... 94 (b) Coastal and River Transport ................. 94 (iv) Domestic Price Regulations .. 95 (v) Non-citizen Employment Regulations . . 96 F. The Framework of Supporting Policies . .................... 97 (i) Financial Sector Development . . 98 (a) Current Constraints ......................... 98 (b) Recent Initiatives .......................... 99 (c) Policy Options from the Experience of Other Countries ... ......................... 100 (ii) Law and Order. .. ................................ 102 V. PROMOTING HUMAN RESOURCE DEVELOPMENT A. Introduction ............... .105 B. The Human Resource Scene ................... 106 Education ......................... 106 Health and Population ................... 110 Status of Wiomen ....................................... 114 C. Policies and Their Implications ............... 115 Recent Educational Initiatives . ............. 115 Health Policies ....................................... 120 Population Policy ..................................... 122 Policy Towards Women ................... 123 D. Summary Assessment ....................................... 124  -3- ~~I ANNEES I ANMEX I: OVERVIEW OF THE FINANCIAL SYSTEM IN PNG .................. 129 ANNEX II: COSTS OF A PROTECTIVE TRADE POLICY--THE PNG SUGAR INDUSTRY ............ .135  SUMNARY AND CONCLUSIONS Recent Economic Developments and ProRress on Structural Adiustment 1. Following an extended period of slow growth in the early 1980s, Papua New Guinea's (PNG) economic performance was improving during the second- half of the 19809. However, this came to an abrupt halt in 1989 when the economy was hit by two major shocks: the Bougainville mine, the largest in the country, was forced to close because of secessionist activity in the North Solomons province: and PNG experienced a large drop in its external terms of trade. By international standards, these were shocks of major proportions. 2. The Government's AdJustment Program. Given the magnitude of the financial losses resulting from the shocks, strong stabilization measures-- buttressed by special measures to minimize the social costs of adjustment--were clearly needed. However, the shocks also increased the urgency of effectively addressing certain longstanding structural imUpediments to growth of the nonmining economy. Consequently, the Government took the additional step of initiating a wide-ranging program of structural adjustment aimed at achieving stronger and more broadly-based growth on a sustained basis. The adjustment program had four main elementst o a reduction in domestic demand to achieve macroeconomic stability, attained primarily by cuts in government spending with support from monetary policy and exchange rate and wage policy; o improving the competitiveness of the nonmining economy to promote private investment and economic diversification through exchange rate and wage policy; o cutbacks in public spending focussed on consumption e-:: ..ditures, while protecting essential social services and priority investments; and, o structural reforms in two areas central to the development of the nonmining economy, namely public resource management and the climate for private investment. 3. Adtustment Performance. As a result of the Government's strong adjustment program, good progress has been made in retaining financial stability and in laying the foundations for an early recovery of growth.11 Prudent macroeconomic management has helped to contain the current account and 1/ The Government's adjustment program is being supported by quick-disbursing assistance from the ADB; an IMF stand-by (which had not been drawn as of late April 1991) and drawings under the Compensatory and Contingency Financing Facility; a structural adjustment loan from the World Bank; a structural adjustment program grant from the EEC under LOMEIV; and, complementary assistance from Japan and Australia.  - ii - fiscal dwficits and to lower inflation. The structural reforms will permit a significant increase in public investment in priorlty sectors in 1991 and beyond, and encourage private investment--key factors in promoting an early recovery in nonmining growth and employment. 4. To maintain financial stability, the Government introduced spending cuts in 199C expected to amount to 2 1/22 of GDP and new revenue measures to yield the equivalent of 12 of GDP. As a result of these actions, the fiscal deficit (measured on an IMF basis) is expected to have been held to about 1Z of GDP in 1990, despite a weaker-than-expected real economy and larger-than- planned security expenditures.2/ The 1991 budget continues a cautious stance. It envisages that the deficit will widen, but this is more than fully accounted for by Special Intervention Program (SIP) expenditures which are intended to minimize the negative social effects of the adjustment program and which are finane-ed by the donor covmunity. Monetary policy has been kept tight in support of the fiscal stance. During 1990, the growth of total liquidity recorded an increase of 4 1/4Z compared with 5 1/4S during 1989 and an average of 8 314? during the five preceding years. These actions were also supported by implementation of public wage restraint which is estimated to have held the average wage increase to less than 3? in 1990. As a result of these actions and despite the unanticipated rise in international oil prices (which was fully passed on to consumers), PNG was notably successful in containing inflation to 7? in 1990. 5. As part of the package of macro economic stabilization and structural reform, the Government devalued the kina by 10? in foreign currency terms in 1990. This action in combination with the wage policy noted above, resulted in a significant real depreciation of the kina. This served to maintain external stability in 1990, notwithstanding further declines in commodity prices and higher international oil prices in the second half of the year. Official international reserves declined only marginally during 1990, indicative of the success of the Government's balance of payments management. 6. Despite proceeding simultaneously on several fronts, the Government made major progress in all areas of structural reform during 1990 and the early part of 1991. In this context, it is useful to note that even prior to formal implementation of the Government's program of structural adjustment, the PNG authoritise had embarked upon reform in several areas includings public resource management; project design and implementation; sustainable development; and, private sector and human resource development. As further concerns public resource management, the Government is successfully implementing an agenda of actions to address key structural issues. In particular, new tax measures announced in the 1991 budget represent a 2/ The data quoted in the main text represent the most current, complete data available at the time this report was finalized, in late April. However, at that time there were indications that the final outturn for the fiscal deficit in 1990 would be somewhat larger than had been anticipated at the time of the budget (November 1990), owing to larger-than-expected expenditures during the final weeks of 1990. The carry-over effect of these developments into 1991 would also cause the deficit to be wider In 1991 than noted in the main text,