Fiscal rule for Guyana’s Natural Resource Fund too complex

Oct 29, 2018 News

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– took Econonist “a full day” to comprehend it

– says it must be simple enough for every taxi driver and vendor to understand

By Kiana Wilburg

Economist Andrew Bauer is one of the most revered international consultants on Natural Resource Funds (NRFs). And even though he has more than a decade’s worth of experience in this field, it took him “a full day” to actually understand the fiscal rule that the Finance Ministry intends to use to govern Guyana’s NRF.
During an exclusive interview, Bauer stressed that the fiscal rule is simply too complex. He insists that a fiscal rule for any NRF must always be simple; so simple that every taxi driver, lawyer and market vendor can understand it.

To give an example of this, Bauer referenced Guyana’s South American sister, Peru.
“For them, the rule is that real recurrent expenditure can only go up by four percent per year. So what this means is that government salaries , maintenance of infrastructure and all those other stuff , all those costs can only go up by four percent plus (the rate of) inflation. That’s it! It is that simple! But the rule in the (Finance Ministry’s) Green Paper took me a full day to understand. It is complex … and if it took me a full day to understand, then I was thinking what about the Members of Parliament?”
Expounding further, Bauer said that the green paper establishes the need for a robust fiscal rule to ensure sustainable use of resource revenues. He said that the Finance Ministry proposes a so-called revenue rule, which sets out how much resource revenue should enter the budget and how much the government should deposit into fund.
Bauer said that the rule to ensure that there is always a fiscally sustainable amount in the fund notes that there would be a higher proportion of spending out of oil revenues when oil production is more modest and a lower proportion when production is very high.
The NRGI Consultant said, “The government calculates the amounts that it can spend using an average oil price over time, which it designed to mitigate the effects of global oil price volatility on spending permitted. There are also additional caps, which limit the maximum amount of oil revenue that can be spent: the government would not be permitted to spend beyond 25 percent of (the previous year’s) non-oil revenues, nor would it be able to spend more than what is deemed economically sustainable by the Macroeconomic Committee, the economically sustainable amount. Once savings accumulated in the fund would grow large enough, the fiscal rule proposes that the budget rely on earnings from the sovereign wealth fund rather than on oil revenues.”
Notwithstanding the positive aspects, Bauer insisted that there are areas for possible improvement in the proposed rules. He said that the rules should be modified to: better ensure fiscal sustainability and constrain borrowing; effectively smooth fiscal expenditures; better address ‘pre-source curse’ risks; reduce excessive discretion of the Macroeconomic Committee on the economically sustainable amount; reduce complexity; introduce an escape clause; and address earmarking of oil revenues for growth-enhancing investments.
ENSURING FISCAL SUSTAINABILITY
While the Ministry’s revenue rule restricts how much resource revenue the government can transfer to the budget, Bauer highlighted that it does not constrain how much the government can actually spend. Under the proposed rule, Bauer explained that the government can save a portion of resource revenues in the fund while borrowing and ratcheting up spending at the same time, hence failing to achieve its revenue management objectives.
In this regard, the consultant pointed out that Ghana, Kazakhstan and other countries have used similar revenue rules to that presented in the green paper. In each of these cases, he said that the government has saved vast revenues in its fund while borrowing.
At a certain point, Bauer noted that debt levels rose so high that the interest paid on sovereign debt was higher than the interest earned on sovereign wealth fund savings, implying that each dollar saved rather than used to pay down debt lost the government money. In the case of Ghana, he noted that excessive borrowing while saving led to a sovereign debt crisis that necessitated an IMF programme. He said that this resulted in sudden, severe and damaging cuts to government spending.
He concluded, “In short, a revenue rule without a constraint on borrowing or spending can leave a country worse off than not having a savings rule at all. In order to address this, the proposed revenue rule in the green paper could be complemented with additional rules to prevent borrowing or spending or replace them with rules that do represent a binding constraint on government finances, as Peru has done.”

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