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Island states: Roland Rajah on prospects among the Pacific economies

September 20, 2017
Global

Roland Rajah is director of the international economy program at the Lowy Institute and a former senior economist at the Asian Development Bank. As a guest of the Institute of Global Finance at UNSW Business School, Rajah spoke with Julian Lorkin for BusinessThink.

An edited transcript of the conversation follows.

BusinessThink: In Australia, when looking at economies in the Asia Pacific region, we're often accused of focusing on our giant neighbours to the north and not our near neighbours, where we have so many vibrant economies, such as Fiji, other islands of the Pacific, and resource-rich Papua New Guinea (PNG). So, what can we say about their current state of play in a macroeconomic sense?

Roland Rajah: Well, we’ve seen a big shift at the regional level for the Pacific in terms of economic growth. Growth decelerated very sharply in 2016 from around 8% to around 2.5%. Now, most of that was driven by PNG. It is the giant of the Pacific region. It's a smallish economy at the global scale, but in the Pacific region it's the giant. It's 60% of regional GDP. It's about 70% of the region's population. And in PNG they've had very stellar growth, double-digit growth in the years preceding 2016. In 2015 growth was 12% per year – very, very rapid. In 2016, the growth collapsed down to 2% per year.

Now, partly that was due to the fall in global commodity prices, which hit PNG very, very hard. But that was [also] a natural transition as part of the investment-production-project cycle. They had a very large liquefied natural gas (LNG) project in PNG starting up in 2014, coming online in 2015, and then once that's already into the base of GDP, the growth rate naturally has to come off. But PNG was definitely hit very, very hard by the fall in global commodity prices, and that also weighed down on [its] growth.

‘The Pacific has perennially faced a relatively low growth as far as developing economies go’ 

– Roland RajaH


Fiji is another relatively large economy within the Pacific region, and Fiji was hit by tropical cyclone Winston in January 2016. And while a large part of the impact was in rural areas, that shielded the economy a little bit. So, growth dipped down to 2%, but the 2% was still reasonable. Many other economies hit with that scale of cyclone may have experienced a recession; Fiji managed growth up at 2% thanks to tourism being able to continue to flow in.

The upshot [of growth dropping] quite significantly in 2016, and now when we look out into the future, basically we see growth remaining at a much lower level, around the 2% to 3% rate. We do see a bit of an uptick over the next couple of years, primarily as PNG is still able to realise a little bit of growth, particularly as some of the smaller mining sites come online, and also as PNG, as one of the larger economies, recovers from the shock that it had last year.

But the Pacific's a very diverse place. We've got PNG at about 7.5 million population, down to a number of countries with only several hundred thousand people, down to a number of micro-states – for example, Nauru – only having about 10,000 people. It's a very diverse place, and they're not very well integrated, so the individual country dynamics can be very different from one country to the next. If we leave out the big countries – PNG, which is down but then going to recover a little bit; Fiji, which is going to recover this year and the next from the cyclone; and Timor Leste, which generally is able to post more robust economic growth, but we expect them to take a bit of a pause this year because they have elections and that will add to a little bit of uncertainty, but then for the next year the growth should be back up to 6%. If we look at the rest of the region, though, growth is actually going to slow. It's going to slow from a relative high in the higher threes down to 3.1%, or a little bit lower than that in 2018.

Now, that's slowing, but it's actually still pretty good by the Pacific's standard. The Pacific has perennially faced a relatively low growth as far as developing economies go. And that goes to their small size, and their different economies of scale that go with that. They're also very remote from major markets, which makes trade very difficult, and a number of them are internally very dispersed; people are very far away from each other, even within the country. So, these are structural impediments to growth.

BusinessThink: Could I pick up on that? Infrastructure seems to be very important in growing these smaller economies, and yet many of the smaller economies just don't have the cash to pay for it. Is there an easy solution to this problem?

Rajah: It is always a difficult situation. I think there are some countries that are resource-constrained, and other countries that are less resource-constrained. But PNG and Timor Leste, those resource-rich economies, are relatively less resource-constrained.

Timor Leste in particular, with significant petroleum revenues relative to the domestic economy, and a significant petroleum fund with some $15 billion in assets having been accumulated. That's roughly 15 times the non-oil economy’s size. So, very significant assets. They have the ability to actually fund a significant amount of their own infrastructure investment, and that's exactly what they're doing.

PNG, is in a similar sort of situation, but it's much more cyclical in PNG for a variety of reasons. In those countries, the difficulty is weak institutional capacity – the actual ability to plan, identify good projects, develop them, implement them well.

‘A large part of the challenge is to try and get more local goods and services into these tourism economies’ 

– Roland RajaH 


And the final element, which is a problem across the region, is actually maintaining those assets, because a large part of realising the economic return on infrastructure investment is actually making sure that you regularly maintain that asset – that road or that airport, so that it's functioning at optimal capacity. Where that doesn't occur, then the returns on the project drop very quickly, and that can actually threaten economic sustainability.

In many of the smaller countries, however, they don't have the ability really to fund their own capital investment, and in those cases, they are usually reliant on external development assistance from institutions such as the Asian Development Bank and other multilaterals such as the World Bank, and also bilateral donors such as the Australian Government.

BusinessThink: Can I ask you about the diversity of some of the economies? For example, one may be dependent on a resource sector, for another it may be the holiday sector. It only takes a small unforeseen circumstance and suddenly it could take years for them to recover. Should the economies of these islands be more diverse, and indeed, how can they be?

Rajah: Being very small economies, they tend to have very few options for diversifying, and they tend to have very limited numbers of growth drivers. So, in some economies that's the natural resources that they've got, and the challenge is to build the rest of the economy around them. Typically, those resource-rich economies such as PNG and Timor Leste actually are the bigger ones, even by population size, so they do have some scope to diversify and get their non-resource economies going.

Many of the other smaller island economies, however, are usually just dependent on one or two things. Tourism's a very popular one in the region, and that's what most people think of when they think of the Pacific islands, and tourism's very important in a number of economies. And it's probably both the current main economic driver and the most sustainable one that most of them face, and it's a matter of making sure that it benefits the local economy as much as possible.

For example: one, it must be environmentally sustainable; two, it must be culturally sensitive as well; three, it's important to try and get as much local produce and services into the tourism industry as possible, rather than what happens at the moment, which is a heavy reliance on imports. If a lot of the demand is from tourists and tourism revenue in your economy gets spent on imports, then that's money not spent on locally produced goods and not helping the local economy and the local people.

So, a large part of the challenge is to try and get more local goods and services into these tourism economies. And agriculture. A number of the economies that are more tourism-dependent, such as Fiji, Vanuatu and Samoa, do have good agriculture sectors as well, and the challenge is producing sufficient quantities and quality of goods, of agricultural produce, to feed those tourism sectors and benefit from their presence.

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