MANAGING WINDFALL REVENUES: OPPORTUNITIES, CHALLENGES AND LESSONS FOR UGANDA-KEYNOTE ADDRESS AT IMPERIAL ROYALE 10th DECEMBER 2013

By Dr. David Kihangire, BERF International Consults

For almost 2.5 decades, Ugandan economy has grown, become larger and more developed.

•Two new key areas of focus are (a) the emergence of the oil and gas sector; and (b) EAMU; with high potential benefits /opportunities, (as well as challenges) to the economy.

 

•The two new areas necessitate fundamental review of the existing macro framework, institutional arrangements, policy management, and adequate preparedness to enable us to (a) harvest the opportunities and (b) respond adequately to new emerging challenges.

The Quantitative Macroeconomic Framework & IT Lite

•Medium term quantitative macroeconomic framework (Anchored on projections for GDP, inflation, fiscal variables, monetary aggregates and the BOP) used to guide policy.

•Fiscal policy planned from a medium term perspective with revenues-driven expenditure ceilings

•Monetary policy more flexible, adjustable frequently under IT Liteframework

•Several weaknesses in current macro framework:

Ø  Lack of up-to-date timely high frequency data on output and employment to support reliable forecasts;

Ø  Weak monetary policy transmission mechanism (Economy largely in Keynesian Mode);

Ø  Fiscal policy constraints on both sides of revenues (low revenue/GDP) and expenditures (Absorption, efficiency and value for money issues)

Ø  Opportunities require adequate preparation by all stakeholders so that resources are efficiently and effectively managed

•Scope of effective management ranges from instituting requisite prudent policies and strategies; to appropriately mobilize savings and invest the revenues realized into critical strategic areas of the economy:

Development of relevant, effective, efficient, and functional legal and institutional systems/frameworks to ensure sound governance

•Physical infrastructures: roads, railways, ports and ICT

•Human resource development: especially appropriate quality education, health care

•Environmental upgrade and protection

•Accelerated broad-based economic growth and productivity through enhanced domestic resource mobilization and strategic investments

Oil production poses several challenges:

Ø  Instability of oil revenues, destabilizing savings in public expenditure,

Ø  Risks to real exchange rate appreciation, thereby causing „Dutch Disease‟ unless ER and FX resources are well managed

Ø  Volatility of oil commodity prices & TOT shocks (Prebisch-Singer Thesis)

Ø  Environmental degradation

Ø  Inflated public expectations: that oil production will do away with poverty, & budget constraint for both government and general population

Commercial scale production of oil and gas will bring opportunities and challenges to Uganda

·         Incomes: Naturally, oil production will increase national income, with high propensity to increase consumption and investment

·         Consumption: Rush to accelerate production to recover costs likely to accelerate income and aggregate demand, against low domestic supply response

·         Investment: Inelastic domestic supply capacities, since takes long time to realize new investments in plant and equipment and skilled labor. Mismatch between sticky investments and accelerated consumption demand lead to inflation & REER appreciation.

·         ‘Dutch Disease’: REER appreciation likely to compromise viability of traded-goods sector, hence causing “Dutch disease”. This requires structural policies to raise sector‟s productivity and propel it as the engine growth, even at appreciated REER.

Impact of Revenue Volatility on Spending and Public Debt:

Volatility likely for four critical reasons: (i) Fluctuations in production, (ii) fluctuations in international prices, (iii) fluctuations in exchange rate, and (iv)fraud and money laundering. If not well managed, these factors pose the greatest risk to accurate forecast of government oil revenues.

•Debt management: Oil production could trigger an increase in public debt to unsustainable levels as future public revenues may not be sufficient to service the debt.


Dr. David Kihangire, BERF International Consults

 

Emerging Issues In Oil Production: Implications For Macro Management-EAMU

Implications of EAC Integration:

•EAMU entails EAC Member States sharing a common monetary policy and ER policy.

•Fiscal policy remains the only macroeconomic policy tool for the Government to address its country-specific macroeconomic objectives, but this is further constrained by EAMU‟s macroeconomic convergence criteria.

•Broadening the base for domestically sourced revenue remains a critical and paramount fiscal policy strategy.

The „Impossible Trinity‟ demands effective harmonious coordination between monetary policy, exchange rate policy, and fiscal policy management.

•BOU‟s IT Litemonetary policy framework will only compliment fiscal policy: Pressures from large oil revenues inflows will demand that fiscal policy bears a bigger burden of macroeconomic management.

•Large fluctuations in oil revenue inflows will trigger NEER volatility, which may disrupt the performance of the economy. Appropriate ER (& FX) management remains a key priority within the entire set of macroeconomic policy objectives

•New innovations in monetary policy, ER policy and Fiscal policy needed to shield economy from excess ER volatility pressures, and minimize „Dutch Disease‟ effects: collection of all oil revenues directly into a BOU FX Account; and opening up FX accounts at BOU for large oil entities remain crucial in minimizing the first round effects of FX intermediation.

•Stepping-up issuance of government securities to support BOU in absorbing excess liquidity in the economy arising from fiscal injections

•Avoid reducing interest rates to near zero, (in the quest for supporting ER) so as to avoid financial repression. ER to remain market determined