Papua New Guinea

Country Report April 2004

Papua New Guinea

Papua New Guinea at a glance: 2004-05

OVERVIEW The governing coalition, led by the prime minister, Sir Michael Somare, should have a large enough parliamentary majority to defeat the no-confidence motion for which the opposition is likely to call when parliament resumes on April 20th. Economic developments are expected to be fairly positive in 2004-05. Inflationary pressures are easing, and improvements in the outlook for the agriculture, mining and oil sectors will contribute to a slow pick-up in economic growth. However, the current account will remain barely in surplus in 2004, as modest export growth will be offset by a stronger increase in imports related to mining activity and infrastructure projects.

Key changes from last month Political outlook • Facing intense pressure to recall parliament, Sir Michael announced on April 5th that parliament would resume on April 20th after a near three- month adjournment. The prime minister's decision followed the Supreme Court ruling on March 31st that the election of Sir Pato Kakaraya as governor- general was null and void. Economic policy outlook • The government has hinted that it will attempt to tap the international bond market for the first time in order to raise funds, possibly up to US$100m. However, its success in such a venture is likely to be limited. Economic forecast • The merchandise trade account recorded a surplus of around US$970m in 2003. In line with fluctuations in prices for key commodities in 2004-05, the merchandise trade surplus will rise to around US$1.1bn in 2004, before falling back to around US$840m in 2005.

April 2004

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Contents

Papua New Guinea

3 Summary

4 Political structure

5 Economic structure 5 Annual indicators 6 Quarterly indicators

7 Outlook for 2004-05 7 Political outlook 8 Economic policy outlook 9 Economic forecast

12 The political scene

15 Economic policy

19 The domestic economy 19 Economic trends 20 Oil and gas 21 Mining 22 Agriculture, forestry and fisheries

24 Foreign trade and payments

List of tables

9 International assumptions summary 11 Forecast summary 18 Central government finances 20 Quarterly inflation 22 Mineral exports by volume 23 Agricultural exports by volume 24 Exports 25 Balance of payments 26 Exchange rates

List of figures

12 Gross domestic product 12 Consumer price inflation 17 Public debt outstanding 19 Interest rates 24 Mineral exports 26 Foreign-exchange reserves

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Papua New Guinea 3

Papua New Guinea April 2004 Summary

Outlook for 2004-05 The governing coalition, led by the prime minister, Sir Michael Somare, should have a large enough parliamentary majority to defeat the no-confidence motion that the opposition is likely to call for when parliament resumes on April 20th. Economic developments are expected to be fairly positive in 2004- 05. Inflationary pressures are easing, and improvements in the outlook for the agriculture, mining and oil sectors will contribute to a slow pick-up in economic growth. However, the current account will remain barely in surplus in 2004 as modest export growth will be offset by a stronger increase in imports related to mining activity and infrastructure projects.

The political scene The government has announced that parliament will resume on April 20th after almost a three-month adjournment. This decision followed the Supreme Court's ruling that the election of the governor-general was null and void. Sir Michael's controversial plan to amend the constitution to extend the period during which no-confidence motions are not permitted has yet to be passed. Some coalition parties remain divided. The constitution for an autonomous Bougainville has made progress. More improvements have been sought for the defence and police forces. Legal immunity issues have hampered a PNG- Australian co-operation programme, but relations with China have improved.

Economic policy The government has announced that it may seek to raise funds overseas, and it appears keen to delay key privatisations. Some of the state's assets have been transferred from the Independent Public Business Corporation. No changes to tariff policy are planned. The budget deficit fell in 2003, with dividends from mineral companies boosting revenue. Monetary policy continues to be eased.

The domestic economy The central bank has estimated that real GDP expanded by 2% in 2003. Employment levels have jumped and inflation has slowed. Crude oil exports have been weak. Canada's InterOil has expanded its operations in PNG, and PNG-based Oil Search has been keen to push ahead with the much delayed Highlands Gas Project. Gold output from the Porgera mine has been impressive. The prospects for progress in the development of the Ramu nickel-cobalt project have been boosted by the signing of a deal with China Metallurgical and Construction Company. Most agricultural export volumes have improved.

Foreign trade and payments Export values rose by 22% in kina terms in 2003, with strong showings by the oil and mining sectors. The kina appreciated against the US dollar by 9.4%. The current account posted a small surplus, but international reserves have fallen. Editors: Danny Richards (editor); Kilbinder Dosanjh (consulting editor) Editorial closing date: April 7th 2004 All queries: Tel: (44.20) 7830 1007 E-mail: [email protected] Next report: Full schedule on www.eiu.com/schedule

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Political structure

Official name Independent State of Papua New Guinea

Form of state Constitutional monarchy

Head of state Queen Elizabeth II, represented by the governor-general, who is nominated by the national parliament. Sir Silas Atopare vacated the position in October 2003, and parliament has yet to appoint a successor

The executive The National Executive Council, presided over by the prime minister, has executive powers; the prime minister is proposed by parliament and appointed by the head of state

National legislature Unicameral national parliament of 109 members elected for a period of five years (currently comprises 103 members, with elections having been declared void in six seats); of the total, 89 members represent "open" constituencies, and the remainder represent 19 provincial constituencies and the capital district

Provincial government Each of the 19 provinces has its own government, which may levy taxes to supplement grants received from the national government

Legal system A series of regional and magistrates' courts leading to a Supreme Court at the apex

National elections June-July 2002; the next elections will be in 2007

National government Sir Michael Somare, the leader of the National Alliance (NA), was elected prime minister by parliament in August 2002.

Main political organisations National Alliance (NA); People's Democratic Movement (PDM); People's National Alliance (PNA); United Resources Party (URP); People's Progress Party (PPP); Pangu Pati (PP); Advance PNG Party (APP); People's National Congress (PNC)

Main members of the National Prime minister Sir Michael Somare Executive Council Deputy prime minister Moses Maladina

Key ministers Agriculture Moses Maladina Defence Ya rka Ka p pa Education Michael Laimo Environment William Duma Finance & treasury Bart Philemon Foreign affairs Rabbie Namaliu Forestry Patrick Pruaitch Health Melchior Pep Inter-government relations Peter Barter Internal security Bire Kimisopa Labour & industrial relations Peter Yama Justice Mark Maipakai Mining Sam Akoitai Petroleum & energy Moi Avei State enterprises & information Puka Temu Tourism & culture Nick Kuman Trade & industry Paul Tiensten Transport & works Alfred Pogo

Central bank governor Wilson Kamit

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Economic structure

Annual indicators 1999a 2000a 2001a 2002b 2003b GDP at market prices (Kina bn) 8.8 9.7b 10.2b 11.1 12.9 GDP (US$ bn) 3.4 3.5b 3.0b 2.8 3.6 Real GDP growth (%) 7.5 -1.2 b -3.4b -3.1 1.4 Consumer price inflation (av; %) 14.9 15.6 9.3 11.7a 14.9a Population (m) 5.2 5.3 5.5 5.6a 5.7 Exports of goods fob (US$ m) 1,927.4 2,094.1 1,812.9 1,640.3 2,097.4a Imports of goods fob (US$ m) 1,071.4 998.8 932.4 1,077.5 1,126.7 Current-account balance (US$ m) 94.7 345.3 282.0 -127.5 11.8 Foreign-exchange reserves excl gold (US$ m) 205.1 286.9 422.6 321.5a 485.3a Total external debt (US$ bn) 2.7 2.6 2.5 2.7 2.9 Debt-service ratio, paid (%) 9.7 12.9 12.7 16.7 14.0 Exchange rate (av) Kina:US$ 2.57 2.78 3.39 3.90a 3.56a a Actual. b Economist Intelligence Unit estimates.

Main origins of gross domestic product 2002 % of total Components of gross domestic product 1999 % of total Agriculture 26.9 Private consumption 69.7 Industry 41.6 Government consumption 16.9 Mining 28.0 Investment 16.4 Services 31.5 Exports of goods & services 47.3 Imports of goods & services 50.4

Principal exports fob 2003 US$ m Principal imports cif 1994 US$ m Gold 789 Machinery & transport equipment 552 Crude oil 458 Manufactured goods 313 Copper 397 Food & live animals 216 Palm oil 117 Chemicals 92

Main destinations of exports 2002 % of total Main origins of imports 2002 % of total Australia 24.1 Australia 49.1 Japan 9.4 Singapore 18.7 China 5.1 New Zealand 4.4 US 3.3 Japan 4.2 Germany 2.8 Indonesia 3.2 UK 2.5 Malaysia 2.8

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Quarterly indicators 2002 2003 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr Prices Consumer prices (1995=100) 201.7 206.5 220.0 227.6 243.4 245.7 245.9 246.8 Consumer prices (% change, year on year) 10.5 9.4 12.3 14.8 20.7 19.0 11.8 8.4 Financial indicators Exchange rate Kina:US$ (av) 3.69 3.75 3.99 4.14 3.79 3.66 3.44 3.36 Exchange rate Kina:US$ (end-period) 3.75 3.98 4.02 4.02 3.66 3.55 3.38 3.33 M1 (end-period; Kina m) 1,532 1,619 1,571 1,630 1,652 1,678 1,755 1,885 M1 (% change, year on year) 21.8 28.3 22.2 15.0 7.9 3.6 11.7 15.6 M2 (end-period; Kina m) 3,221 3,295 3,220 3,312 3,259 3,147 3,192 3,286 M2 (% change, year on year) 4.4 6.0 4.1 4.0 1.2 -4.5 -0.9 -0.8 Sectoral trends, exports Copra ('000 tonnes) 5.6 4.7 4.8 0.7 1.5 2.1 1.3 2.8 Copra oil ('000 tonnes) 6.1 4.0 6.5 11.6 9.3 14.4 12.8 11.2 Cocoa ('000 tonnes) 5.8 9.7 8.9 10.5 8.1 13.6 10.1 8.5 Coffee ('000 tonnes) 6.7 12.7 25.9 17.8 7.9 14.5 28.3 18.1 Logs ('000 cu metres) 381 423 409 621 543 478 488 507 Gold (tonnes) 15.5 15.6 11.9 16.1 17.1 14.6 17.9 18.8 Fish ('000 tonnes) 9.0 2.5 1.4 2.7 6.4 6.8 4.1 0.5 Oil, crude ('000 barrels) 3,916 4,215 3,607 3,632 3,748 4,107 4,272 2,857 Foreign trade & reserves Exports fob (Kina m)a 1,359 1,677 1,571 1,780 2,035 1,875 1,992 1,973 Gold 480 584 494 737 717 585 726 784 Oil, crude 278 379 371 404 473 441 419 431 Imports fob (Kina m)a -907 -1,068 -1,119 -1,103 -1,048 -1,038 -949 -980 Trade balance (Kina m) 452 609 452 677 990 837 973 998 Foreign reserves (US$ m) Reserves excl gold (end-period) 400.7 439.7 362.0 321.5 313.7 340.4 400.9 485.3 a Balance-of-payments basis. Sources: Bank of Papua New Guinea, Quarterly Economic Bulletin; IMF, International Financial Statistics.

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Outlook for 2004-05

Political outlook

Domestic politics Facing intense pressure to recall parliament, the prime minister of Papua New Guinea (PNG), Sir Michael Somare, announced on April 5th that parliament would resume on April 20th after an adjournment lasting nearly three months. Parliament had initially been scheduled to resume on June 29th. The pressure on Sir Michael to recall parliament intensified when the Supreme Court ruled on March 31st that the election in December 2003 of Sir Pato Kakaraya as governor-general was null and void. (Sir Michael had stated that he would recall parliament once the Supreme Court had ruled on this issue.) The chief ombudsman, Ila Geno, also became embroiled in the debate over the timing of the resumption of parliament when he called on the Supreme Court to order that parliament be resumed in order to ensure that it did not breach its constitutional requirement to sit for at least 63 days in each parliamentary year. On one hand, on the positive side, this development should enable the state legislature to regroup and vote upon key issues, the most pressing of which is the appointment of a governor-general. On the other hand, the early resumption of parliament ensures that the opposition will have its first chance to call for a no-confidence motion against Sir Michael, thereby raising the prospect of a rapid deterioration in political stability. Sir Michael, however, should be able to demonstrate firm enough command over his majority in parliament to defeat such a motion. This is partly as a result of political integrity laws that require members of parliament to vote according to their party resolutions or face being suspended from parliament. However, concerns about the loyalty of some of Sir Michael's coalition members have been raised by the lack of coalition cohesiveness behind his attempts to push through a controversial constitutional amendment. The amendment would have extended from 18 to 36 months the grace period during which motions of no confidence are prohibited after the formation of a new government. After failing twice to pass the amendment at the second reading in November, Sir Michael aborted a third attempt in mid-January and called an adjournment of parliament on January 21st, partly in an effort to avoid the possibility of his government facing a no-confidence vote when its own 18-month grace period ended on February 6th. The repercussions of disagreements over the no-confidence issue have caused ructions within three of the coalition parties—the People's Progress Party (PPP), the United Resources Party (URP) and the People's Labour Party. However, to defeat a no-confidence motion Sir Michael needs a simple majority, rather than the two-thirds majority needed to pass constitutional amendments. The recent political focus on this controversial constitutional amendment and the unexpected parliamentary adjournment have ensured that the government has made little progress in dealing with a range of social and law-and-order issues. These continue to prevent the country from embarking on the path towards sustained development.

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International relations Despite reaching an agreement with Australia in December 2003 on a new framework of co-operation and partnership, known as the Enhanced Co-operation Programme (ECP), PNG's relations with Australia remain sensitive. Under the ECP, aside from providing aid (currently of around US$200m a year), Australian officials will take up senior public-sector positions, and more than 200 Australian police officers will be deployed to help to improve law and order. However, by mid-March the measures contained in the framework had not been acted upon, owing to the fact that PNG's government had not agreed to permit Australian officials and police to work in PNG with legal immunity—a condition that is fundamental to Australia's government moving forward with the deployment of its personnel. Both sides appear keen to resolve the issue of immunity, but they are also equally adamant that the issue is non-negotiable, thereby placing at risk the full implementation of the ECP. In an effort to counter Australia's apparent negative stance, PNG has made progress in improving diplomatic and economic ties with China. Further such efforts to move away from traditional dependence on Australia are likely to be made.

Economic policy outlook

Policy trends The government is expected to continue to show a degree of fiscal restraint in 2004-05, which will enable the Bank of Papua New Guinea (BPNG, the central bank) to adopt a slightly more accommodative monetary policy stance. This would complement Sir Michael's efforts to drive the economy under his recurrent policy theme of "stabilisation with growth". In 2004-05 the government will continue to direct its resources towards export-oriented sectors, namely agriculture, fisheries, forestry, mining and petroleum. However, the government's commitment to structural reform, particularly privatisation, remains unclear amid conflicting official statements, and this may result in the government failing to attract much-needed financial assistance. Despite withholding funds in 2003 because of concerns about the administration's poor governance record, the Asian Development Bank (ADB) announced in February that it would lend US$100m in 2004-06 under its latest country strategy and programme. However, as with previous programmes, the government will be under pressure to improve its fiscal performance and public-sector manage- ment. The government has hinted that it will attempt to tap the international bond market for the first time in order to raise funds, possibly up to US$100m. However, its success in such a venture will be limited.

Fiscal policy The government improved its fiscal position sharply in 2003, its budget deficit dropping to Kina152.6m (US$43m) from Kina450.2m in 2002. For 2004, however, the government's budgetary plans are disappointing, and its operating deficit is expected to rise slightly from an estimated 1.2% in 2003 to 1.4% in 2004. Missing from the budget for 2004 was a planned expenditure cut, promised in the 2003 budget to help to reduce the gap between spending and receipts. The government's budget for recurrent expenditure in 2004 has risen to Kina2.8bn (US$800m), from Kina2.5bn in the 2003 budget. The budget for development expenditure, of which around 35% will finance much-needed infrastructure projects, is Kina1.3bn, about 8% higher than the proposed amount for 2003. The

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government did not announce any changes to income and corporate tax rates in the budget. However, in an unpopular move, the government has put in place a 2% levy on imports (with some exemptions, most notably for the mining and petroleum sectors) in 2004 only. The performance of the export sector, which was stronger than expected in 2003 and helped to push up the state's dividend earnings, will not be as impressive in 2004-05 owing to a lower world oil prices. However, with the economy expected to continue to pick up in 2004-05, other sources of revenue will be fairly buoyant.

Monetary policy A modest pace of monetary policy easing is likely this year, in line with the recent indications of easing inflationary pressures and the government's keenness to support the gradual economic recovery. The BPNG has cut the kina facility rate (KFR, the official rate used to indicate the central bank's monetary stance) by 100 basis points on two occasions so far this year. The latest cut, in early March, brought the KFR down to 12%, its lowest level since mid-2002 and down from a high of 16% in June-July 2003. The Economist Intelligence Unit does not anticipate any further large cuts in the short term, as the BPNG is likely to require further evidence of a sustained moderation in the rate of inflation before taking such steps. However, a slow improvement in government finances and a slightly more favourable inflation outlook in 2005 are expected to lead to a further easing of interest rates.

Economic forecast

International assumptions Papua New Guinea: international assumptions summary (% unless otherwise indicated) 2002 2003 2004 2005 Real GDP growth World 2.9 3.8 4.6 4.1 OECD 1.6 2.1 3.2 2.6 EU 1.0 0.7 1.9 2.1 Exchange rates ¥:US$ 125.3 115.9 105.5 106.5 US$:€ 0.945 1.132 1.300 1.377 SDR:US$ 0.772 0.714 0.660 0.644 Financial indicators ¥ 2-month private bill rate 0.10 0.03 0.03 0.10 US$ 3-month commercial paper rate 1.70 1.10 1.15 3.13 Commodity prices Oil (Brent; US$/b) 25.0 28.8 27.0 22.1 Gold (US$/troy oz) 310.3 362.8 421.3 375.0 Food, feedstuffs & beverages (% change in US$ terms) 12.7 6.6 6.4 2.5 Industrial raw materials (% change in US$ terms) 2.2 12.7 19.1 -3.1 Note. Regional GDP growth rates weighted using purchasing power parity exchange rates. The economic outlook for 2004 is the best since 2000, the peak of the last business cycle. We forecast that world GDP growth (on a purchasing power parity basis) will accelerate from an estimated 3.7% in 2003 to an impressive 4.4% in 2004, before moderating to a still robust 4% in 2005. Having rebounded to an estimated 2.7% in 2003, growth in Japan is forecast to reach 2.8% in 2004 before falling back to 1.3% in 2005, although at an annual average GDP growth

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rate of more than 6% Asia and Australasia (excluding Japan) will enjoy the fastest rate of expansion of any world region in 2004-05. This bodes well for PNG, given that around 40% of the country's exports head for Australia, China and Japan. The global price of crude oil, one of PNG's major exports, will drop by 6.4% in 2004 and 18% in 2005. However, the price of gold, another key export commodity, will continue to rise in 2004, before falling again in 2005.

Economic growth Real GDP is estimated to have grown by 1.4% in 2003 after three years of contraction. Estimates are difficult, since no actual quarterly GDP data have yet been published for 2003, although we view as optimistic the government's 2% estimate for GDP growth in that year announced in its recent budget. However, there have been signs recently of a pick-up in agriculture, and also in mining and petroleum activity. Agricultural productivity is improving in line with strengthening commodity prices and favourable weather conditions. The more generous fiscal regime contained in the budget for 2003 is starting to pay off for mining and petroleum, and mineral exploration is reviving from negligible levels after a decade of decline. However, domestic demand is still weak (domestic credit contracted by around 6% year on year in 2003), primarily as a result of high inflation and interest rates, and this will constrain manufacturing and services growth. The outlook for 2004-05 is brighter: the Moran oilfield will come into full production, the Kainantu gold mine will come on stream and the Napa Napa oil refinery will commence operations. The economy will therefore expand at faster rates of around 1.8% in 2004 and 2.4% in 2005, although strong population growth means that rises in real GDP per head will be negligible.

Inflation Consumer price inflation eased towards end-2003, falling to 8.4% year on year in the fourth quarter from an average of around 17% in the first three quarters of the year. However, for the year as a whole inflation rose to 14.9% in 2003, up from 11.7% in 2002. This rise in the annual rate of inflation largely reflects the impact of the weaker exchange rate against the Australian dollar, in which around 50% of PNG's imports are denominated. The moderation in the second half of the year, however, can be attributed to the tightening of monetary policy from mid-2003. The imposition of a 2% levy on imports in 2004 and the currency's continued weakness against a resurgent Australian dollar will prevent inflation from falling markedly this year, when it is forecast to average 11%. Inflation will ease modestly to average around 9% in 2005, but only if the government succeeds in maintaining a tight hold on its fiscal operations.

Exchange rates The upward trend of the kina against the US dollar has been maintained, with the kina rising from Kina3.33:US$1 at end-2003 to around Kina3.20:US$1 in March. This upturn continues to reflect the slide in the US dollar, since against the Australian dollar the kina has remained weak. The strengthening trend of the kina against the US dollar will not be prolonged, although it will still average around Kina3.40:US$1 in 2004 (compared with Kina3.56:US$1 in 2003), easing back to around Kina3.60:US$1 in 2005. Against an initially strong Australian dollar the kina will weaken to Kina2.59:A$1 in 2004, but will remain fairly stable in 2005. We consider a significant weakening of the kina unlikely, given that the deterioration in the current account will be partly offset by stronger foreign direct investment receipts.

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External sector PNG recorded a small current-account surplus in 2003 in line with rising volumes and prices for key export commodities and fairly weak import demand. Export earnings will continue to rise in 2004 but will fall back in 2005, reflecting sharp fluctuations in global prices for gold and copper. Prices for gold, for example, are forecast to rise by 16% in 2004 and to contract by 11% in the following year. Global crude oil prices will also continue to decline over the next two years, dropping from US$28.8 per barrel in 2003 to US$22.1/b in 2005. In 2004-05 the import bill will expand, with demand for mining-related imports in particular rising to support the expansion in this sector. Given that the services and income balances are expected to remain fairly stable in US- dollar terms in 2004-05, the overall current account will reflect trends in the merchandise trade account. Thus in 2004 the current account will remain slightly in surplus, but it will drop back into deficit in 2005 reflecting weakening exports and buoyant import demand.

Papua New Guinea: forecast summary (% unless otherwise indicated) 2002a 2003a 2004b 2005b Real GDP growth -3.1 1.4 1.8 2.4 Gross agricultural production growth 1.0 2.8 3.0 2.5 Consumer price inflation (av) 11.7c 14.9c 11.0 9.0 Consumer price inflation (year-end) 14.8c 8.4c 10.0 8.0 Short-term interbank rate 13.9c 13.4c 13.0 12.8 Government balance (% of GDP) -4.1 -1.2 -1.4 -1.2 Exports of goods fob (US$ bn) 1.6 2.1 2.4 2.3 Imports of goods fob (US$ bn) 1.1 1.1 1.4 1.4 Current-account balance (US$ bn) -0.1 0.0 0.0 -0.1 Current-account balance (% of GDP) -4.5 0.3 0.4 -2.8 External debt (year-end; US$ bn) 2.7 2.9 3.0 3.0 Exchange rate Kina:US$ (av) 3.90c 3.56c 3.40 3.60 Exchange rate Kina:¥100 (av) 3.107c 3.075c 3.223 3.380 Exchange rate Kina:€ (year-end) 4.18c 4.20c 4.85 4.96 Exchange rate Kina:SDR (year-end) 5.42c 4.95c 5.46 5.67 a Economist Intelligence Unit estimates. b Economist Intelligence Unit forecasts. c Actual.

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The political scene

Parliament is set to resume The planned five-month adjournment of parliament, which commenced on earlier than planned January 21st, has proved highly contentious and has strained relations between the constitutional watch-dog and the executive. On March 23rd the Ombudsman Commission asked the Supreme Court to order the recall of parliament. The move immediately followed the decision by the prime minister, Sir Michael Somare, to refuse the ombudsman's initial request for parliament to be recalled. However, following the Supreme Court's ruling on March 31st that the election of Sir Pato Kakaraya as governor-general was null and void (see below), Sir Michael was pushed to recall parliament in order to appoint a new governor-general. On April 5th Sir Michael announced that parliament would meet on April 20th. The adjournment of parliament had raised concerns about the possibility that parliament would fail to meet its constitutional minimum requirement to sit for three sessions and a total of nine weeks (63 days by a Supreme Court ruling) in any 12-month period beginning seven days after the return of writs in a general election. (The current 12-month period ends on August 6th.) Prior to the adjournment in January, parliament had already sat for 38 days in three sittings. The Supreme Court has indicated in three successive decisions on this issue that parliament's business is ongoing and that long interludes between meetings defy this principle; however, the court has yet to specify an acceptable duration between sittings.

The governor-general election On March 31st the Supreme Court ruled that the election of Sir Pato as remains mired in controversy governor-general was null and void. The court had been asked by the losing candidate for the post of governor-general, Sir Albert Kipalan, to rule that Sir Pato's proposal form, pre-signed and undated when tendered to the clerk of the parliament, was defective. On December 4th parliament nominated Sir Pato for the post of governor-general over Sir Albert and other candidates after an protracted ballot. The court subsequently stayed the appointment at Sir Albert's request. The Ombudsman Commission supported Sir Albert's position in the hearing.

Plans for controversial charter The opposition leader, Sir Mekere Morauta, and leaders of dissident factions changes remain unresolved within the governing coalition fell in behind the chief ombudsman, Ila Geno, in calling for parliament to be recalled. They believe that the adjournment, or "five-month paid holiday", was designed purely to forestall a prime-ministerial vote of no-confidence and the embarrassment of a third defeat in government's bid to double the no-confidence grace period to three years (see January 2004, The political scene). Prior to the adjournment, Sir Mekere urged Sir Michael to call for a vote on the controversial plans to amend the constitution in order to end the uncertainty, which he claims is in itself destabilising, one way or another.

The government hopes to Despite the likelihood that in the January parliamentary sitting the government strengthen its position would have had the 73 votes needed to succeed in the second vote on the no- confidence amendment to the constitution, it called for the house to be

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adjourned. The government had mustered 68 votes in the second of the two failed attempts in the November 2003 parliamentary sitting, and it may be waiting until its position has strengthened before calling for another vote. Since its failure in November, the government's position has been boosted by the return of two members of parliament (MPs), Ben Semri and Robert Kopaol, and the re-election of Puka Temu. Moreover, three upcoming by-elections (see below) could also strengthen the government's position, and the courts may have decided the Wapenamanda, Wabag, Siassi and Mendi electorates by the time parliament resumes.

Some coalition parties remain Pangu Pati has joined the ranks of divided parties in the governing coalition. divided Chris Haiveta, the governor of Gulf province, and Sir Rabbie Namalieu, the minister for foreign affairs, both claim leadership of the party, which has six MPs. Sir Rabbie has said that he was elected leader on February 24th by four of the party's six MPs. Mr Haiveta has said that three of the MPs who voted, including Sir Rabbie, had been expelled from the party. Sir Rabbie served as prime minister from 1988, when he unseated Paias Wingti in a vote of no- confidence, until 1992 when Mr Wingti won back the post following the general elections. The current split is the third since the party was formed by Sir Michael in 1967. The party won 28 seats in 1992, 15 in 1997 and 6 in 2002, a decline that Sir Rabbie has said he wants to reverse. Both Sir Rabbie and Mr Haiveta support Sir Michael. Two other parties, the People's Progress Party (PPP) and the United Resources Party (URP), are divided, having factions both in the government and in the opposition. The URP opposes the move to amend the no-confidence provisions in the constitution; the votes of their MPs who support the amendment would thereby be nullified.

Nominations close for three Nominations closed on March 31st for the by-elections in three electorates: by-elections Chimbu regional, Anglip-South Wahgi in Western Highlands province and Yangoru-Saussia in East Sepik province. The elections will be held under the limited preferential voting system that was used successfully for the first time in the recent election for the Abau seat in Central province. Puka Temu, a National Alliance candidate, successfully defended the seat and was quickly appointed minister for state enterprises and information, the portfolio relinquished by Arthur Somare, Sir Michael's son. The Yangoru-Saussia seat became vacant when the sitting member was found guilty of misconduct in office. The two other vacancies followed deaths in office.

The Bougainville constitution The constitution for an autonomous Bougainville is in its third and final makes further progress drafting stage. This development followed the cabinet's recent rejection of a recommendation by the attorney-general's task force report on the second draft. The report recommended that a Supreme Court special ruling be sought on the constitutionality of the amendment to the national constitution that cleared the way for Bougainville's autonomy. Specifically, the task force noted provisions in which Bougainville law would override national law in the event of inconsistency between the two. The report claimed that this surrendered the "irreducible and indivisible core of state sovereignty", a change that is expressly

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prohibited in the national constitution. The Ombudsman Commission, nominated by the task force to make the special reference to the Supreme Court, disagreed with the task force's interpretation, noting as well that the attorney-general himself has the necessary powers to make the special reference. The final draft will first be adopted by the Bougainville constituent assembly, and then endorsed by cabinet for final approval by the national parliament. Under the Bougainville weapons disposal programme, more than one-half of the contained weapons have been destroyed, including some in the Panguna no-go zone in central Bougainville. In a further sign of the gradual weakening of the control of Francis Ona, the leader of the secessionist Bougainville Revolutionary Army, over the no-go zone, the people of Daru village are appealing to have their school registered and upgraded. The school was set up by the revolutionary army and the interim government during the blockade to grade-two standard, but its pupils then dispersed to schools outside the no-go zone. The people want the school to provide full primary education. Meanwhile, in a week-long tour of the island, the minister for inter-government relations, Sir Peter Barter, emphasised the need for economic enterprise to progress alongside political autonomy.

More improvements are Following the much-delayed completion of the first phase of defence force s o u g h t fo r d e fe nce a nd p o l i c e retrenchment, Australia is providing a further Kina20m (US$6.2m) to retrench another 600 personnel over a period of eight months. The planned reduction to 2,000 defence force personnel is part of a restructuring process designed to leave the force better equipped and trained. The other disciplined force, the police, has embarked on a 12-month, Kina500,000 (US$140,000) review of its administration and operations to understand its poor public image. Headed by the president of the police association, the five-member committee includes representatives from the Ombudsman Commission, the attorney-general's department and industry, and a former Australian federal police commissioner. As well as consulting widely with community and business groups, the committee expects to look into pay and conditions of service and whether a six-year term for the commissioner might provide greater stability than the current four-year term has done in the past.

Legal immunity issues hamper The Enhanced Co-operation Programme (ECP) between PNG and Australia PNG-Australia deal agreed in December 2003 suffered a setback over legal immunity for Australian officers to be deployed in the PNG public service. PNG refused to enact laws required by Australia, and Australia is now considering a PNG proposal to operate under an arrangement similar to the one that exists between the two countries' defence forces. PNG claimed that the Enhanced Co-operation Programme (ECP) was not an intervention comparable with the deployment of police and other personnel in East Timor, Iraq or the Solomon Islands, where the immunity sought by Australia might be appropriate; it was, rather, an addition to the existing aid arrangements to address law-and-order needs. Under existing aid arrangements, Australian police and other personnel had been seconded to the PNG police force and other agencies under programmes run by the Australian government's overseas aid programme, AusAID, without

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the immunity now being sought. Sir Rabbie is of the opinion that the ECP will succeed only if Australian police personnel work side by side with PNG police under the command of the police commissioner and subject to the same laws. Despite the delay caused by the immunity issue, 30 Australian police under the ECP are deployed on Bougainville, bringing the total number of Australian police officers there to 103. In addition, 50 Bougainville cadets are in training at the police academy in Port Moresby and a further 50 are to take their place in July.

Relations with China improve Sir Michael led an 80-strong delegation on his state visit to China in early February, with mining, petroleum and gas executives featuring prominently in the delegation. In addition to the show of warming diplomatic ties, particularly PNG's clarification of its "One China" policy (under which it does not recognise Taiwan as a sovereign state), economic issues took centre stage. An agreement relating to the development of the US$650m Ramu nickel-cobalt ore body was signed with China Metallurgical and Construction Company (see The domestic economy; Mining); as part of the development of the oil refinery at Napa Napa on the far side of Port Moresby harbour, the Export-Import Bank of China has been approached for funds to upgrade the link road to highway standard; and China's largest oil company, China National Petroleum, which has interests in 18 countries worldwide, expressed interest in oil exploration and development in PNG.

Economic policy

The government may seek to The Papua New Guinea (PNG) government's 2004 budget is premised on raise funds overseas funding an operating deficit of Kina196m (US$60m, equivalent to around 1.5% of nominal GDP), together with Kina268m in non-commercial foreign debt repayment, by raising US$50m through commercial borrowing and Kina346m in domestic borrowing. However, the government is reportedly considering two proposals for foreign borrowing: a US$100m bond issue and an A$100m (US$75m) overdraft facility. The treasurer and finance minister, Bart Philemon, has confirmed that the government is considering, but has not yet committed itself to, a US$100m New York bond issue, and has appointed advisers. The other proposal is at an even earlier stage. The bond proceeds would be used to repay short-term debt to the Bank of Papua New Guinea (BPNG, the central bank). The opposition leader, Sir Mekere Morauta, has criticised the plans to go ahead with an overseas bond issue because foreign reserves are at a comfortable level and are likely to increase further with buoyant world commodity prices, and there are no specific large investments being contemplated by the state. According to Sir Mekere, domestic debt should be reduced through sales of state assets and operating surpluses. (However, during Sir Mekere's tenure as prime minister, operating deficits expanded debt faster than proceeds from asset sales could shrink it.) Sir Mekere has also questioned why the government is paying higher interest rates than businesses and why it has preferred the higher-cost commercial market to the international agencies with lower rates and longer

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terms. The reason for this was made clear in the treasurer's budget speech, in which Mr Philemon referred to the wish to avoid further humiliation at the hands of international agencies, which withheld loans for reasons unrelated to agreed conditions. Sir Mekere also noted that PNG has no track record in bond markets.

The government appears keen The minister for state enterprises and information, Puka Temu, who was to delay key privatisations recently appointed following his success in the Abau by-election, has reiterated the government's current stance on privatisation policy. The prime minister, Sir Michael Somare, has abandoned his predecessor's wholesale approach to privatisation, and the government is now in the process of restoring the balance sheets and net worth of all government businesses before deciding whether they should be sold off. Dr Temu referred to dramatic improvements in the health of the state-owned telecommunications company, Telikom, the national airline, Air Niugini, the postal service, Post PNG, and the national energy provider, PNG Power, to justify this stance. (However, such improvements are to be expected considering the professional fees the state has paid out since the previous government embarked on wholesale asset sales.) Telikom is the only entity currently the subject of takeover interest. Following the withdrawal of Korean interests, a Zimbabwean firm is thought to be the front-runner, although questions have been raised about the firm's soundness.

Some of the state's assets are In a further reversal of Sir Mekere's privatisation framework, the state's mining, transferred from the IBPC oil and gas interests have been transferred from the Independent Public Business Corporation (IPBC), which succeeded the Privatisation Commission in 2002 under the Morauta administration, back to the Mineral Resources Development Corporation (MRDC), which was originally established as the custodian of national mining and petroleum interests. Moreover, whereas both entities previously reported to the minister for state enterprises and information, MRDC now reports to the prime minister. Media reports reveal tension between the two entities, which might partly explain the prime minister's reorganisation. MRDC was established specifically to hold state and landowner interests in large mining and oil projects. Under the first asset sale for budgetary purposes, 49% of the state's interests were floated through the sale of part of Orogen Minerals on the Australian stock exchange. When Orogen Minerals merged with PNG-based Oil Search in 2002 in a second round of asset sales for budgetary purposes, the IPBC became the holding entity. However, the notion of a simple return to initial institutional arrangements is dispelled by the transfer from IPBC to MRDC not only of mining and oil shares but also of bank shares (which the government acquired through the takeover of the state-owned commercial bank, the PNG Banking Corporation, with Bank South Pacific) and the proposal to empower MRDC to borrow overseas on the state's behalf.

No changes to tariff policy are A review of tariff policy has recommended that there should be no change to planned the tariff-reduction programme to which PNG is committed under its membership of the World Trade Organisation and Asia-Pacific Economic Co-operation (APEC). Manufacturers had asked the government to reconsider the programme. The review recommended the revival of the industry

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assistance board to examine requests for continuing protection on a case-by- case basis. Under the programme three tariff rates were set—a basic rate of 20%, a 30% protective rate and a prohibitive rate of 45%. The programme requires these rates to fall to 15%, 25% and 40% respectively in 2006. Exceptions to this broad regime include sugar (for which tariffs are set at 70%), wood products (75%) and salt (40%). In the lead-up to the tariff-reduction programme, the government replaced a 12.5% general import levy with a 10% value-added tax (VAT) in 1997, which was changed to a same-rate goods and services tax in 2004 following a Supreme Court ruling on a reference lodged by the governor of Morobe, Luther Wenge, that the VAT regime was unconstitutional.

The budget deficit shrinks The budget deficit dropped to Kina152.6m in 2003, from Kina450.2m in 2002. in 2003 This improvement reflects a 5.2% expansion in total receipts and a 3.5% drop in total expenditure. Recurrent expenditure rose by 6.9% year on year, but development expenditure dropped by 26.7%, primarily as a consequence of the government's inability to put up counterpart funding for aid projects—foreign grant receipts were down by a similar proportion. Departmental spending was particularly restrained in 2003 compared with the previous year, up by 1.1% at the provincial level but down by 12% for national departments. Some of this may reflect the recent installation of a more efficient payroll system, but most of the restraint is likely to have been in the purchases of supplies and equipment, leading to falling efficiency in service delivery. Although foreign interest payments were down by 14.4% year on year in 2003, domestic interest payments more than doubled. The government has had to increase domestic borrowings in order to meet its foreign debt service. Some relief is in sight as domestic interest rates, which started coming down in the second half of 2003, continue to do so in 2004.

Dividends from mineral Highlighting the stark contrast between a strong external sector and a weak companies boost revenues domestic economy, dividend receipts from mineral-exporting companies rose by around 80% year on year in 2003, whereas company-tax receipts were about 30% higher and personal tax was up by 10%. Import duty and excise tax collections were down by 12% and 4% respectively, but VAT receipts were up

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by 8%. Excluding grants and receipts of taxes and dividends from mining and oil companies, revenue in 2003 rose only marginally in nominal terms and declined by about 8% in real terms. In addition to running an operating deficit of Kina152.6m, in 2003 the government paid back Kina306.3m to international agencies and Kina378.6m to the central bank, and reduced its debt owed to trade creditors by Kina63.9m. The government financed all of this by borrowing Kina295.9m from commercial banks and Kina565.5m from the public, and with Kina40m from asset sales.

Papua New Guinea: central government finances (Kina m) 2001 2002 2003 2003 Outturn Outturn Budget Outturna Total receipts 3,184.8 3,231.3 3,489.0 3,399.6 Tax revenue 2,294.2 2,370.3 2,465.1 2,678.0 Personal tax 598.8 689.9 713.9 758.4 Company tax 686.8 570.2 588.4 731.0 Value-added tax 198.3 289.6 327.2 311.8 Non-tax revenue 171.5 169.9 196.5 231.9 Foreign grants 719.1 691.4 827.4 489.7 Expenditure 3,544.2 3,681.5 3,733.0 3,552.2 Recurrent expenditure 2,424.9 2,541.7 2,532.7 2,716.3 National departmental 1,242.4 1,357.1 1,191.7 1,189.4 Provincial governments 588.6 587.9 593.3 594.5 Interest payments 433.2 436.5 579.2 738.8 Foreign 180.5 188.4 215.7 161.3 Domestic 252.7 248.1 363.5 577.5 Other grants & expenditure 164.7 165.0 172.5 203.2 Net lending & investments -4.0 -4.8 -4.0 -9.6 Development expenditure 1,119.3 1,139.8 1,200.3 835.9 Overall balance -359.4 -450.2 -244.0 -152.6 a Preliminary data. Source: Bank of Papua New Guinea, Quarterly Economic Bulletin.

Monetary policy continues to According to the six-monthly monetary policy statement released by the BPNG be eased in January, the monetary policy easing that began in the second half of 2003 will continue into 2004. The central bank lowered its benchmark kina facility rate (KFR) twice during the second half of 2003 in 1-percentage-point steps, to end at 14%. In October it reduced the cash reserve requirement, the proportion of bank deposits compulsorily held at zero interest with the central bank, from 5% to 3%. In both January and March 2004 the KFR was lowered by 1 percentage point, and at end-March it stood at 12%, its lowest level since mid- 2002. The continued easing of monetary conditions reflects some of the positive developments in the second half of 2003: declining inflation; record international reserves of around US$520m, compared with US$340m a year earlier; and a return to growth in the non-mineral export sector.

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Money supply contracts Broad money supply contracted by 3% year on year in 2003. Average domestic credit in 2003 expanded by 4.7% year on year, but net foreign assets contracted by 17%. However, both the average levels of domestic credit and net foreign assets fell in the fourth quarter compared with the year-earlier period, by 6% and 9% respectively. In 2003 credit to the central government increased by 18% year on year, but fell by 5% quarter on quarter in the fourth quarter. At the end of 2003 credit to the central government was down by 10% year on year. Private-sector credit in 2003 contracted year on year by 4.2%. At end-January the commercial banks collectively held 29% of total assets in government securities, 32% in loans to private enterprise and 6.4% on deposit with the central bank, more than twice as much as the cash reserve requirement. Credit utilisation levels have not changed much. This is all symptomatic of the lack of demand for credit in a stagnant economy, rather than of "crowding out" of the private sector by government.

The domestic economy

Economic trends

BPNG estimates GDP growth In its January 2004 Monetary Policy Statement the Bank of Papua New Guinea at 2% in 2003 (BPNG, the central bank) estimated that real GDP had grown by 2% in 2003, down from its previous estimate of 2.4%. After excluding mining and petroleum, its estimate for real GDP growth was 1.7%. The agriculture, forestry and fisheries sector grew by 1.6% in line with increased production of cocoa, coffee, palm oil, rubber, tea and copra oil. The mining and petroleum sector grew more strongly at 3.3%, mainly reflecting higher production from the Moran oil project and output of gold and copper from the Ok Tedi, Porgera and Tolukuma mines. The remaining sectors of the economy, including manufacturing, utilities, wholesale and retail trade and transport, storage and communication, are all estimated to have benefited from the growth in the minerals industry and agriculture, forestry and fisheries sector.

The employment level jumps The BPNG's quarterly survey of formal private-sector firms revealed that by 8% average employment in January-September 2003 rose by 8% compared with the year-earlier period. This growth was driven by the agricultural sector, including forestry and fisheries—in which the number of jobs was up by 15% compared with the number in the year-earlier period—and by building and construction, with 9% more jobs. There was no increase in the number of jobs in the transport or retail trade sectors, but employment in wholesale trade rose by 8%. Employment in manufacturing and in financial and business services grew by 6% year on year during the period. There was a slight fall in employment in the mining sector in 2003, owing to the exhaustion of the gold mine on Misima Island in Milne Bay province. The Momase and Islands regions, host to the growing fishing sector, provided the biggest jobs boost, with employment levels in the two regions jumping by 23% and 13% respectively in January-September 2003 compared with the year-earlier period.

Inflation slows in fourth Annual average inflation in 2003 rose to 14.9%, up from 11.7% in 2002. However, quarter throughout 2003 inflation slowed, and in the fourth quarter of 2003 year-on- year inflation dropped to 8.4%, compared with 20.7% in the first quarter. In 2003 prices for transport and communication services were up by 22% year on year. Prices for food, which account for 40% of the consumer price index basket, rose by 13.3% year on year. Other expenditure groups recorded average annual price rises near the national average. This pattern was repeated in the fourth quarter, except that inflation in the food and drinks expenditure groups lagged behind the overall average of 8.4%. In the fourth quarter seasonal factors pushed up prices in the drinks, tobacco and betel-nut expenditure group by 1.4% quarter on quarter, compared with the average of 0.4%.

Papua New Guinea: quarterly inflation (1977=100) 2002 2003 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtr Consumer price index 644.1 686.1 709.9 758.9 766.2 766.8 769.8 % change, year on year 9.4 12.3 14.8 20.7 19.0 11.8 8.4 Underlying inflationa 405.0 433.5 451.3 475.8 491.8 496.5 496.5 % change, year on year 10.3 15.4 17.3 21.1 21.4 14.5 10.0 a Revised series. Source: Bank of Papua New Guinea, Quarterly Economic Bulletin.

Oil and gas

Crude oil export volumes drop Total crude oil production in the fourth quarter of 2003 was 4.3m barrels, with production from Kutubu accounting for 42% of the total, 3% lower than in the third quarter. Enhanced extraction techniques mitigated natural field decline. The Gobe field contributed 29% of total production, which was in line with the previous quarter. The newest field, Moran, accounted for 29% of total production, and its output was 6% lower than in the third quarter. Oil production fell in January-February 2004 compared with the year-earlier period—in February 1.3m barrels were pumped, down by 7% year on year. In 2003 crude oil exports dropped by 2.5% year on year to 15m barrels, but

performance in the fourth quarter was particularly poor, with export volumes falling to only 2.9m barrels, compared with 3.6m in the year-earlier period.

InterOil expands its operations Completing its vertical integration, InterOil, the Canadian company that is developing PNG's only oil refinery and a substantial exploration programme, has acquired the distribution assets of BP, a UK energy company, comprising three terminals, seven depots and 40 service stations. BP will continue to manage the operations until April 2005. InterOil has said that all distributors will pay the same import-parity wholesale price. Refinery feedstock for the first year of operations is expected to be sourced internally, according to the company. InterOil is also seeking to finance the upgrading to highway standard of the access road to the refinery through China's export-import bank.

Oil Search is keen to push PNG-based Oil Search, the 54% stakeholder in the long-delayed PNG-to- ahead with gas pipeline Australia gas pipeline (known as Highlands Gas Project), has proposed that the project should progress to the first stage of front-end engineering and design (FEED) at an estimated cost of US$60m-70m. The decision to go to FEED without a large customer base follows a revised development plan that makes the project potentially viable at lower volumes. According to Oil Search's chief executive, Peter Botten, if agreement is reached with the minority partners— ExxonMobil of the US, PNG's state-owned Mineral Resources Development Corporation (MRDC) and Japan's Nippon Oil—the project could be commence its operations, selling gas to Australian customers, in 2008.

Mining

Porgera beats its output In 2003 the Porgera mine produced 850,000 oz (21.4 tonnes) of gold, 12% above forecasts in 2003 its own forecast, owing to improved grades from the open pit and improved recoveries. Canada's PlacerDome, operator and 75% owner of the mine, forecasts that production in 2004 will increase by 6% year on year, reflecting higher-grade ore as the open pit progresses, together with increased milling capacity and higher production rates from the underground operations. The Lihir mine produced 551,000 oz of gold in 2003, 9% less than in 2002. It produced 160,000 oz in the fourth quarter of 2003, up by 20% year on year. In March the mine operated at just 20% capacity for 18 days, owing to a failure in its oxygen plant. In other developments in the gold sector, South Africa's Harmony Gold, the world's fourth-largest gold producer, has submitted to the government for development approval a feasibility study for the 20-year-old Hidden Valley gold project in Morobe province. Over its projected nine-year life, beginning in 2006, the mine is expected to produce 310,000 oz of gold a year.

Ramu project receives a boost During a state visit to China in February, an agreement relating to the development of the US$650m Ramu nickel-cobalt ore body was signed with China Metallurgical and Construction Company (CMCC). The Ramu nickel- cobalt project, which is majority-owned by an Australian company, Highlands Pacific, has languished despite receiving all relevant approvals over two years ago. The early signs are that government may have to grant tax concessions over and above those contained in recent budgets to get the project going. The

agreement gives CMCC an 85% stake in the project in return for 100% funding. CMCC reportedly needed 85% equity to enable it to raise funding for the project. Construction could be completed by 2007, and when in operation the mine is expected to produce around 33,000 tonnes of nickel and 3,000 tonnes of cobalt annually.

Mining exploration interest is PNG has joined the inaugural 31-member African mining partnership, growing embracing Africa, PNG and Canada, launched at Cape Town in February 2004. Harmony Gold and Durban Rooderport Deep (DRD) of South Africa have made significant investments in PNG in the past two years. Harmony Gold holds tenements over the Hidden Valley and Wafi projects in Morobe province. DRD owns and operates the Tolukuma gold mine in Central province, and has a 15% equity stake in the Porgera gold mine. In January 2004 alone, according to the mining secretary, Kuma Aua, the mining department received 11 applications for exploration licences, compared with 15 in the whole of 2003 and just five in 2002.

Ok Tedi enjoys mixed fortunes In January 2004 dissident landowners ceased their action in an Australian court against the operators of the Ok Tedi copper mine. The court found that the company had not breached agreements reached in 1996 with the PNG government and with some 50,000 people in 150 villages affected by the mining operations. This cheery news was offset by the failure of one of its two grinding circuits, which caused a deferral of 12,000 tonnes of its 200,000 tonne annual output. The company reported that it was back to full production in late March.

Mining export volumes rose Copper exports increased by more than 35% to 230,000 tonnes in 2003, as the in 2003 Ok Tedi mine recovered from the halt to exports in the fourth quarter of 2002 caused by low water levels in the Fly River. Gold exports increased by 16% year on year to 68 tonnes in 2003. In the fourth quarter gold export volumes rose by 17% year on year, and the Ok Tedi mine exported almost three times as much copper in the fourth quarter of 2003 as in the year-earlier period.

Papua New Guinea: mineral exports by volume 2002 2003 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtra Crude oil ('000 barrels) 3,607 3,632 3,748 4,107 4,272 2,857 Copper ('000 tonnes) 41.8 23.7 64.5 53.2 43.8 69.1 Gold (tonnes) 11.9 16.1 17.1 14.6 17.9 18.8 a Provisional data. Source: Bank of Papua New Guinea, Quarterly Economic Bulletin.

Agriculture, forestry and fisheries

Most agricultural export Agricultural export volumes in 2003 were generally higher than in the previous volumes improve year, except for copra, which recorded a 46% decline to 8,000 tonnes. However, copra oil export volumes were 69% higher, at 48,000 tonnes, reflecting a period of industry restructuring. Palm oil export volumes grew by a more modest 1% to 327,000 tonnes. Export volumes of the main smallholder crops, coffee and

cocoa, grew by 15% and 9% respectively in 2003 year on year, to 69,000 tonnes of coffee beans and 40,000 tonnes of cocoa beans. The minor crops, tea and rubber, also recorded solid growth in export volumes in 2003.

The coffee sector remains The coffee industry regulator, the Coffee Industry Corporation, has warned that underdeveloped the decline in the managed coffee sector owing to "escalating costs and falling prices, financial mismanagement, unserviceable debt, land disputes, law-and- order problems including theft of cherry and deteriorating infrastructure" has resulted in PNG losing its upmarket niche. Moreover, the price discount that applies to the grade of coffee produced by smallholders widened in 2003. Smallholder growers produce more than 80% of PNG's coffee. In the eyes of some industry heavyweights, laziness and indifference to quality are holding the coffee sector back.

Cocoa output continues to rise Cocoa production in crop year 2002/03 was 41,000 tonnes, 3% higher than in 2001/02 and 60% more than in 2000/01. Smallholders accounted for 87% of the total production as the plantation sector continued its long-term decline. The higher production reflected favourable weather conditions and increased output in Bougainville. The national planning minister, Sinai Brown, a cocoa grower, has told apprehensive growers that the government will not impose the 50% export levy proposed by investors in the planned Lae cocoa factory, which will process cocoa butter and powder for export to European and Asian markets. A former ambassador, Sir Nagora Bogan, and a businessman, Sir Soekandra Tjandra, are promoting the proposal together with the Morobe provincial government.

Papua New Guinea: agricultural exports by volume ('000 tonnes unless otherwise indicated) 2002 2003 1 Qtr 2 Qtr 3 Qtr 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtra Cocoa 5.8 9.7 8.9 10.5 8.1 13.6 10.1 8.5 Coffee 6.7 12.7 25.9 17.8 7.9 14.5 28.3 18.1 Tea 1.6 1.4 1.0 1.2 1.9 1.8 1.3 1.6 Copra 5.6 4.7 4.8 0.7 1.5 2.1 1.3 2.8 Copra oil 6.1 4.0 6.5 11.6 9.3 14.4 12.8 11.2 Palm oil 80.5 91.4 76.5 75.5 94.8 83.1 75.2 73.8 Rubber 1.0 0.9 1.1 0.8 1.0 1.0 1.0 1.2 Logs ('000 cu metres) 381.0 423.0 409.0 621.0 543.0 478.0 488.0 507.0 a Provisional data. Source: Bank of Papua New Guinea, Quarterly Economic Bulletin.

New timber concessions come East Awin, Rotok Bay and Asengseng timber concessions are scheduled to come on line on line by mid-2004, adding to the 25 projects currently in operation, most of them dedicated to the export of logs. Seven other projects are in the pipeline, and a further 32 projects are at various stages of planning and development. In 2003 exports of logs rose by nearly 10% to 2m cu metres.

The government has high The government believes that the fisheries sector has the capacity to increase hopes for fisheries exports to US$160m (compared with US$50m in 2003) over the next five years, by landing a bigger share of the tuna catch from PNG waters, which supplies

around 25% of world tuna demand. Export volumes of marine products increased by 14% year on year to 18,000 tonnes in 2003.

Foreign trade and payments

The value of exports rises by Overall exports rose by 22% year on year to Kina7.8bn (US$2.3bn). Minerals and 22% in 2003 crude oil made up 76% of the total, while agriculture accounted for 17%, forestry products for 5% and marine products for the remainder. Both agricultural and mineral export values increased by around 25% year on year in 2003, and marine product export values were up by 33%, but the forestry sector enjoyed only marginal increases. Firmer world prices and increased output contributed to the buoyant export values. Within the mineral sector, the value of copper exports grew fastest, rising by 39% year on year, with the Ok Tedi mine capturing exports that were deferred in 2002 as a result of low levels in the Ok Tedi river. The value of gold exports rose by 23% year on year in 2003, and crude oil export value increased by 14%.

Papua New Guinea: exports (Kina m) 2002 2003 2001 2002 2003 4 Qtr 4 Qtra Agricultural products 801.1 1,084.9 1,362.2 322.1 318.3 Forestry products 310.9 414.1 415.8 142.1 103.0 Logs 234.3 365.5 369.6 136.3 89.0 Marine products 77.2 94.1 125.3 17.2 27.9 Minerals (incl silver) 4,895.6 4,774.0 5,890.0 1,294.0 1,542.1 Gold 2,115.1 2,294.8 2,811.2 737.0 783.7 Copper 859.1 1,018.7 1,415.0 147.4 431.3 Crude oil 1,889.4 1,431.2 1,631.9 403.6 299.9 Total 6,084.8 6,367.1 7,793.3 1,775.4 1,973.3 a Provisional data. Source: Bank of Papua New Guinea, Quarterly Economic Bulletin.

Exports in the fourth quarter totalled Kina2bn, a year-on-year expansion of 11%. Crude oil export values in the fourth quarter were down by around 25%, but

gold and copper export values rose, by 6% and 192% respectively. Agricultural and forestry commodities experienced declines in export values by 1% and 27% respectively, but marine products exports increased in value by 62%.

Prices for most commodities Except for logs, for which average world prices received have remained steady rise over recent years, commodity exporters received higher world prices in 2003 than in 2002. Prices received in kina for crude oil were up by 28% year on year, while for gold they rose by 16% and for copper 12%. The fishing sector also benefited from higher world prices in 2003, up by 28% year on year. Agricultural exporters received higher world prices in 2003 than in the previous year, with the exception of tea exporters, who suffered an 8% decline. Average prices received for cocoa and coffee rose by 8%, while those received for copra were up by 25%, for copra oil 30% and for palm oil 17%. However, cocoa and copra experienced price reversals in the fourth quarter compared with prices in the year-earlier period.

The current account records a The current account recorded a surplus of Kina343m (US$96m) in 2003, small surplus compared with a deficit of Kina502m in 2002. This improvement mainly reflects the expansion recorded in the merchandise trade surplus, which rose from Kina2.2bn in 2002 to Kina3.8bn in 2003. Merchandise exports in 2003 were valued at Kina7.8bn, 22% more than in the previous year, and merchandise imports were down by 4% year on year to Kina4bn. The services deficit in 2003, at Kina1.9bn, was 5% less than that in 2002 owing to higher services receipts, which rose by 32%. The income deficit was Kina1.7bn, reflecting a doubling of income debits and a halving of income credits, and the transfers account recorded a surplus of Kina151m, 40% more than in 2002.

Papua New Guinea: balance of payments (Kina m) 2002 2003 4 Qtr 1 Qtr 2 Qtr 3 Qtr 4 Qtra Merchandise exports 1,780 2,038 1,875 1,922 1,978 Merchandise imports -1,103 -1,048 -1,038 -949 -980 Trade balance 677 990 837 973 998 Services balance -542 -471 -511 -433 -482 Income balance -115 -205 -887 -306 -301 Net transfers -11 24 113 -24 38 Current-account balance 10 338 -448 200 253 Net direct investment 15 -16 -104 -20 510 Portfolio investment 36 -118 263 -99 -212 Financial derivatives 0 13 -4 39 34 Other investment -165 -347 376 -2 -357 Capital & financial account balance -114 -468 531 -82 -25 Net errors & omissions -54 -26 -24 36 37 Overall balance -158 -156 60 154 226 International reservesb 1,378 1,223 1,283 1.437 1,702 a Provisional data. b End-period. Source: Bank of Papua New Guinea, Quarterly Economic Bulletin.

The kina appreciates strongly Weakness in the US dollar in 2003 resulted in marked changes in kina exchange against the US dollar rates. The kina's daily average exchange rate in 2003, compared with the previous year's average, appreciated against the US dollar by 9.4%. Against the yen and sterling the kina held steady, but it depreciated by 9% against the euro and the Australian dollar. In the fourth quarter the kina appreciated year on year against all currencies except the Australian dollar, against which it fell by 4.4%. The kina appreciated by almost 25% against the US dollar, by 11-12% against the yen and sterling, and by 4% against the euro.

Papua New Guinea: exchange rates (Kina per unit of foreign currency; annual averages unless otherwise indicated) Apr 5th 1999 2000 2001 2002 2003 2004 A$ 1.659 1.613 1.753 2.110 2.311 2.456 US$ 2.55 2.76 3.36 3.89 3.55 3.26 ¥ 0.022 0.026 0.028 0.031 0.031 0.031

Sources: IMF, International Financial Statistics; Bank of Papua New Guinea, Quarterly Economic Bulletin.

International reserves drop PNG's international reserves were valued at Kina1.7bn at end-2003, providing in 2003 5.2 months of import cover or 6.9 months of general cover (excluding oil and mineral imports). The average level of kina reserves was 12% lower in 2003 than in the previous year, but in the fourth quarter reserves were up by 11% year on year. The foreign liabilities of the Bank of Papua New Guinea (the central bank) increased by 24% in 2003, but commercial banks' net foreign assets increased by 11% year on year. Overall, the average level of net foreign assets in the banking system in 2003 was 17% lower than in 2002.

External debt drops PNG's outstanding public debt fell to Kina7.7bn at end-2003 from Kina8.2bn at end-2002. Debt owed to international agencies, 59% of the total, fell by 17% year on year as the government repaid short-term support drawn down in recent years. In 2003 the government repaid Kina448m in debt principal and drew down Kina30m. The kina's appreciation meant that unrealised exchange-rate gains reduced foreign debt outstanding by a further Kina467m. In 2003 the government paid Kina160m in interest on foreign debt, 14% less than in 2002.