Rushing Development: PART 2 ‐ RECALIBRATION

By Douveri Henao

A mining project has 3 basic arrangements. First a management team raises investments to implement their venture. The second is the mining operations team. They would survey, forecast, drill, blast and haul the ore. The last part is a processing team. They are responsible for providing large amounts of energy to power up the crushers, grinding and milling the ore to its final state, a precious metal. A typical project will interact through the management team setting out targets to feed its purchasers. They would supply resources for the mining team to extract the ore while the processing team uses the instruments to optimize levels of output for its targets.

While all three teams need to work collectively, the most intensive part of the business is the processing team. Our best and brightest are employed every year to manage hundreds of millions kina worth of assets.

The first asset is the large power stations that have either hybrid (geothermal and diesel at Lihir) or combination systems of gas or hydro with a diesel interface (Porgera and Misima). These powers up the second arrangement which is the large crushing and grinding systems as well as the demanding milling systems. Depending on the state of the ore, a mine may have up to 3 crushers and 1 grinder.

A Jaw crusher are two giant metallic fists that smashes large ore while the gyratory crusher collects standard size ores for crushing. Both of these materials then get fed into the secondary crusher that further smashes it to nominal size for grinding.

When they eventually move to grinding, bearings further smash the ore into a slurry substance.

They are then piped into the mill where the concentrator uses flotation tanks to do the 1st stripping of the slurry and the precious metal. The 2nd stripping is through the intervention of chemicals, this is known as leaching. 3rd stripping is through super‐heated temperatures in a massive oven. By this time the slurry is ready for its last strip, where electro plates attract the precious metal which will be above 90% grade. These metals are then melted and converted into gold bars. The last stage is for its transportation to the Central Bank for checks before it is exported.

To ensure this 24 hour operation is at optimum level, the processing team is further divided into 3 sub teams. A instrumentation team that monitors and calibrates all sensors related to levels, speeds, flow, chemical inputs and environmental standards. The other is the power team that ensures power generation for high and medium voltages are operational. While the last is a communications team that provides for the eyes and ears of all assets to a central processing room. It is in this room, the processing team inputs codes, formulas and upload designs based on the instructions from the management teams targets. Utmost professionalism, high safety standards and demanding hours are all part of the job.

Don, Charles and James are the processing team of the National Budget. Their 24 hour operation to optimize PNG as a pacific tiger is not only ambitious but is putting tremendous stress on Papua New

Guinea. None more so, then the sacred machines that have guarded us since our nation’s creation.

PNG’s Power Station ‐ National Budget

Fueling up a power station is a magnificent display of Man’s ingenuity. Shifting large volumes of water, heat or gas to drive massive turbines that generate electricity is a marvel. The budget is the energy source that may drive development in our country. When formulating it, executive government looks at revenue collections from all corners of the country. And they estimate raising 4 billion from our resources while sourcing almost 3 billion from borrowings. This in turn puts the expenditure levels at 7.5 billion. Apart from shaky gas other commodity projections, the borrowing and debt levels are worrisome. For the 3 billion borrowings need to be paid back and that would mean relying on future returns and in this case, almost exclusively on the gas.

Undermining Surge Protectors ‐ Medium Term Fiscal Strategy, Fiscal Responsibility Act and the Sovereign Wealth Fund.

These arrangements identify stable macroeconomic standards to be applied in the budget and resource windfalls. Both the MTFS and its implementing legislation, FRA were established 7 years ago to guide our Treasurers to maintain prudent levels of debt, revenue and expenditure so that budgets are balanced. This is an important undertaking in ensuring we are living with our means.

The SWF which reappears in Waigani soon, also has systems of ensuring prudential fiscal management. Key are the stabilization account (for the rainy day) and investment and development account (budget and other expenditure support such as the Infrastructure Development Authority).

What is a grave concern however is that Don has shifted away from the balance budget levels and opted for deficit budgets. The effects of these changes are a rise in debt levels that will trigger rise in inflation. Although he has insisted prudential management of levels at 35% is sound, volatility in the global economy and domestic economic challenges all suggest major challenges ahead for our people.

Sam Basil, Deputy Opposition Leader, has made warnings of large debt fallouts triggering similar observations. Similar caution was made by Loi Bakani, Central Bank Governor, on the need for fiscal discipline to maintain a stable monetary policy. If these warnings are not heeded to, a black out is eminent.

Peter, Don, Charles and James Dream Requires Further Crushing and Grinding

In recent times, two critical policy instruments to implement the dreams of the government: 2010 –

2015 Medium Term Development Plan (MTDP) and its fiscal cousin, 2012 – 2017 Medium Term Fiscal strategy. As mentioned above the MTFS has been tweaked to accommodate the deficit budget mantra. When considering the MTDP, it is the 1st out of 4, 5 year plans aimed at implementing the objectives of the 2030 Development Strategy Plan and 2050 Vision.

The principle modality applied is by committing to driving and resourcing 15 priority areas, cross cutting and economic issues will be addressed. As we saw in Part 1, most of the MTDP “Key Enablers” are financed are infrastructure in nature. And it would appear that the dream is buy pumping money into roads, ports, hospitals, schools, communication lines, power, police barracks, sub national governments and free education, growth will occur.

Matrices and targets aside, this dream is a chunky ore that requires further jaw and gyratory crushing thinkers to smash and separate the deadweight political baggage to the probable development gains.

Free education is a classical example. While free tuition fees have brought record numbers of our children in the education system, it is at the expense of quality education. To optimize learning, the

UN ratio for a productive class is 15 children to one teacher. The average class is 55 to one teacher.

Many are indeed not having the quality experience.

Another concern is the mad rush to construct new classrooms and deck them up with facilities but in all, no resources to produce more teachers. So not only are our children not receiving quality education, they are further denied of additional teachers. The problem exacerbates when a semi‐literate population is expected to propel the country forward by fully utilizing subsidized SME loans to grow, manufacture and provide services. At the same time, the government will provide protectionist policies as well as infrastructure investment intended to maximize their growth and contribution to the economy. This is not practical for the literally skills they possess will not comprehend the complicated commercial fiber. As such, billions of kina spent on ambitious projections will not eventuate.

This in turn puts pressure for more rent seeking extractive projects which are myopic and a bulging population not fully contributing to the economy.

Stripping In the Mills: Balance the Budget and Drive Education and Non Extractive Economy

I am willing to make Peter, Don, Charles and James dream my dream if they have the faith and confidence to strip the anxiety of doing everything in their current term. Even James remarked at the budget lock up, Rome wasn’t built over night and PNG certainly won’t be built in 5 years.

Therefore, they should maintain the multi-year budget but run it as a balance budget.

This would mean using its resources to provide cap ex projects that will be the enablers to drive growth. Therefore, not all the roads need to be fixed, those that are critical to drive growth. Case in point, forget the NCD upgrades that are worth hundreds of millions of kina. Divert it to the feeder roads of the coffee, cocoa and copra belts. Increase power supply in these areas so that productivity will increase.

Equal attention is also required to improve the literacy levels of the bulging population, in particular, the workforce population (18 – 65) where dangerous levels of over 60% are not productive. A dynamic education system to produce high levels of school leavers proficient in reading, writing and mathematics. Those that can continue the journey to high education must progress but for the masses that can’t, build a vibrant vocational and technical trades. We need to move away from glorifying universities as the ultimate indicator of productivity for our young people.

The other is investing in the Non Extractive Industry. Mining operations and others in the extractives are rent seeking and therefore are enclave in nature. So while providing resources to a few and having large environmental impacts, the wider return on the population is limited. Conversely, investments in agriculture, manufacturing, services provide wider catchment of the populace to participate in.

When the Processing Team and their boss realize the development clock for Papua New Guinea is not a stop watch that has a 5 year timeline, our progress will be achieved sensibly.

Tune in next week for Part 3 – Growing the Pacific Tiger. Sub national governments are where the bulk of where our resources are and it’s not god copper, or timber. But our people. They will drive the growth of our nation but the challenge is to make them participants of development and not spectators. That is a dream worth pursuing.

RUSHING DEVELOPMENT: PNG’S HUNGER FOR PROGRESS

(Below and the following blog posts are parts of a paper written by Sharp Talk creator Douveri Henao and was published in Sharp Talk (Facebook) in November 2013.

By Douveri Henao

Since gaining office in July 2012, Prime Minister Peter O’Neill has embarked on an ambitious campaign to propel Papua New Guinea from a “fence sitting” poverish developing country to a rising emerging pacific tiger. Having tremendous confidence in windfalls from natural resource receipts, he has spent and borrowed loans to fund 4 deficit budgets to develop mostly infrastructure projects, free education and sub national activities that are envisioned to be drivers of growth. If 2013 is any indication of the size of the budget, we may expect a total value of 50 billion kina budgets in the next 5 years. Like any leader, he is insistent that his people must benefit from the exploitation of the wealth in this country. Not surprisingly a flurry of economic policies on nationalism, protectionism, and capitalization of current and new State Owned Enterprises have taken the seemingly liberal landscape.

The success and justification of this “binge spree” hinges on 2 propositions. First, natural resource revenues will produce windfalls that will offset the large foreign borrowings. Second, major investments in infrastructure and social programmes will compliment and further enhance non mining sectors expected rebound.

The underlying message is that the binge spree approach, although as careful and sensible in its implementation, poses high risks. In this 4 Part Article, I intend to convey why this is the case and how a redirection is required for a balanced budget. Therefore the following themes in each of the parts intends to highlight these issues. Part 1 ‐ The Gamble; is the Gas our Ace Of Spades or the Joker. Part 2 ‐ Recalibration; a balanced budget needs to be the focus where development priorities are delivered in a realistic sequence. Part 3 ‐ Growing the Tiger; while investments in infrastructure are progressive, equal attention is required on improving business literacy skills as well as access to affordable capital to fully utilize the improved roads, ports, power and communication lines. Part 4 ‐ Which Pack: building trade and investment relations is critical and more than ever, PNG needs to choose who they should spend more time with.

PART 1 – THE GAMBLE

The Speakers Wing is situated on the opposite end of the national parliamentary chamber. Its cylindrical design is influenced by the Round Hut commonly found in the Highlands. There are 3 floors of meeting rooms, restaurant, entertainment areas and other amenities members of parliament use to consult their constituents.

The center piece is the Speakers Conference Room, appropriately located on the upper floor. Able to house 200 souls, its old woody internal décor resonates a Stately presence. However it’s the photographs of our colorful history that speaks to the visitor. A rare insight into the life of our forefathers, one cannot avoid not long ago majority of us lived in a vibrant Stone Age society and in a short space of time, transposed into the age of the internet. It is perhaps this reason; past and current Treasurers have used this grand venue to inform the people of Papua New Guinea its national budget and development aspirations.

Departing from the usual conservative fiscal architecture, Don Polye (Treasurer), Charles Abel (Planning Minister) and James Marape (Finance Minister) introduced last year a multiyear deficit budget cycle for the next 3 years. They have followed it up for 2014 in which revenue receipts are projected to increase significantly from gas receipts and rebounding in other comedies that would provide the basis of funding multibillion kina public investment projects. Mostly infrastructure. While at the same time apply prudential expenditure disciplines. Another unique feature is to shift money from Waigani to where the bulk of our people, rural communities.

Their passion and collegiality is admirable and indeed a testament of a collective vision. Does the strategy have merit or is it a gamble.

Ace of Spades Ain’t the Gas

It is a gamble because of the reliance of a strong revenue surge from LNG sales. Treasury estimates in the 2014 budget a whopping 354.8% increase (1.2 billion kina). This is highly ambitious when considering several factors. The Economist, a newspaper, observed that although there is significant demand of gas in the decades to come, a recent wave of technological improvements with relatively low operational and capital expenditure spending then LNG plants, will put pressure on a competitive price of PNG gas that may shave off Treasury’s bullish outlook.

With these issues in mind, the focus on future gas investments should look at unitizing assets rather than building new plants. The far North Queensland’s Gladstone dual LNG facilitates is a testament of wrongful investments where the operational expenditures are extremely high and therefore not yielding sizable returns. Therefore the negotiations of InterOil and Talisman to consider utilizing their gas fields to the PNG LNG facility is sensible.

Another cause of concern is the slowing down of emerging economies growth rates, where most of our gas will be sold, price readjustments similar to what has transpired in India may occur in PNG. Another important point to note is the developers intend to usemost of the proceedings to repay loans used to construct the project. Therefore, revenue collections may not be as anticipated and this has a knock on effect on the delivery of large public investment commitments as well as repaying loans on the borrowings to finance these commitments.

Having a conservative estimate on the gas receipts is critical. This in turn must trigger a reconsideration of phasing public investment projects for the coming years. A sensible option will be to balance immediate social and economic infrastructure investments that will yield growth and stability. Lumping the current front load of these projects is not financially sound.

Avoiding the Joker: Slack Public Service

What remains problematic is the capacity of the government to deliver the budget. Significant capacity deficiencies in both the revenue raising and expenditure spectrums have proven once again the major setback. National Economic Fiscal Commission, a government authority monitoring sub national government revenue inflows, indicated in its 2013 Budget report almost all provinces have not received all resources to effectively carryout their duties. Institute National Affairs, a PNG private think tank, remarked that only 50% of the national budget has been spent in October.

Marape is aware of these challenges and has cited that it is not money the issue but capacity. He issued strong warnings on “section 32 officers” to lift their game so as to ensure proper accounts are in place for disbursements. If not, monies will not be released. A welcoming warning for the public but also a demanding challenge for them. With limited human resources across the public sector, implementing the budget will still be a tremendous challenge in 2014.

While efforts are underway to have effective collection points in Internal Revenue Commission and

Customs as well as filling up the countryside with finance officers, more boots on the ground with technical knowledge is required.

Queen Of Hearts

Transforming poverish landscapes are always riddled with skepticism. One cannot dismiss however the opportunities the budget brings. With improved road networks, larger ports, efficient communications, reliable power generation and SME agricultural support provides our rural wantoks to source markets and have access to financial products to further grow their produce. With functional hospitals, resourced police constabulary, and free education, our mothers may survive child delivery, sisters walk in the streets and our children advance their knowledge.

The challenge for everyone is making Peter, Don, Charles and James dream our dream.

Next week I’ll discuss in Part 2 ‐ Recalibration. Maintaining the multiyear single line budget but should be balanced and not a deficit. Phase impact projects should be the focus.