Subregional performance
Aggregate economic growth in the Pacific islands was a modest 3.1% in 2006 (Figure 1.3.5), improving from average growth of about 2% over the previous 5 years. Stronger growth in the two biggest Pacific economies-Papua New Guinea and Fiji Islands-lifted the subregional aggregate. In terms of numbers of economies, however, growth picked up in only half of them, and two economies-the Federated States of Micronesia and Timor-Leste-contracted.
Where gains in growth were achieved, they mainly reflected contributions from favorable mineral and commodity prices, aid flows, income from fishing license fees and tourism, and receipts from trust funds. High prices for natural gas and oil assisted the energy exporters, Papua New Guinea and Timor-Leste, but also strained the external balances and put upward pressure on inflation in other countries.
The subregional inflation rate accelerated by about 1 percentage point to 3.3%.
Subregional prospects
Aggregate growth is forecast to rise to 4.5% this year, essentially because Papua New Guinea's expansion will strengthen further while Timor-Leste is projected to rebound from recession. However, the economy of the Fiji Islands is likely to contract in 2007, and growth will slow in about half the Pacific economies. External conditions are mostly favorable, so that tourism receipts, export revenues, remittances, and incomes from trust funds should be reasonable. The outcome for some countries will depend partly on fishing license fees and farm production, which are affected by weather conditions.
In a subregion where the climate for private sector development is generally unfavorable, countries that create more hospitable conditions for the creation of small and medium businesses are likely to be rewarded with stronger performances in growth and employment generation. Subregional inflation in 2007 is forecast to edge higher to 3.5%.
Country highlights
Fiji Islands
Growth rebounded to 3.4% in 2006 because of a pickup in sugar production, expansion in construction, and growth in services stimulated by consumption demand. However, exports were weak and the current account deficit widened, placing pressure on foreign reserves. The country's gold mine closed late in the year. Even before the Government was removed from office by a military coup in December, the outlook for 2007 was a concern because fiscal pressures required a reining-in of the public sector. After the coup, several donors suspended most new aid proposals. Tourist arrivals are expected to fall. Recession is now forecast for this year, followed by a modest recovery.
Papua New Guinea
Rising global prices for export commodities and strong supply responses from the agriculture and minerals sectors lifted economic growth to 3.7% in 2006. Formal private sector employment rose by nearly 5%. The outlook is for faster expansion of 4.5% this year, based on stronger mineral production and construction activity. The agriculture, forestry, and fisheries sectors are also expanding, which benefits a broad span of the population, given that the minerals sector is not labor intensive. Inflation is expected to remain moderate at about 3%, if sound fiscal and monetary policies remain in place. Moving to higher levels of growth requires the resolution of problems of law and order, poor infrastructure, and inadequate service delivery.
Democratic Republic of Timor-Leste
Revenues from oil and gas surged in 2006, increasing the national petroleum fund and foreign reserves. However, non-oil GDP is estimated to have contracted, after an extended outbreak of civil unrest. A sharp rebound in non-oil GDP is projected this year, based on increased spending by the Government and by international personnel deployed in the country for peacekeeping and to assist in elections. Growth could get a further boost from additional funding for infrastructure from the United States Millennium Challenge Account. This will also require an improvement in the public sector's ability to execute budget projects.
Small Pacific countries
Republic of Palau, Samoa, Solomon Islands, and Vanuatu recorded relatively high growth in the range of 4.6-5.7% last year. Palau's high growth was supported by tourism and donor-funded large capital projects. In Samoa, expansion was led by construction and services, buttressed by remittances. Solomon Islands overcame the impact of civil unrest to record stronger growth. Log production, fisheries, and palm oil contributed. Vanuatu's expansion was supported by tourism-related services. These four economies are forecast to register slightly lower growth rates in 2007.
The Republic of Marshall Islands and Tuvalu grew by 3.0% last year. In the Marshall Islands, the United States Compact grant was the main source of income, and much of it went into infrastructure and public sector employment. The Tuvalu economy was bolstered both by increased public expenditures on higher inflows of aid, and by remittances and offshore earnings.
The Cook Islands and Tonga experienced disappointing 2006 growth of just under 2%. Lower production in agriculture and a decline in construction hurt the Cook Islands, but the economy will pick up in 2007. Tonga was weakened by a poor season for the squash crop, slower construction activity, and civil unrest late in the year. In 2007, Tonga's economy is expected to be flat, as reductions in the public service and damage caused by the unrest are offset by the start of urban reconstruction. Nauru's economy is forecast to contract this year because of public sector cuts. In the Federated States of Micronesia, economic activity contracted last year partly because aid was reduced, but a resumption of growth, at low levels, is forecast for this year. Growth in Kiribati, which depends heavily on Government spending, faded to less than 1% in 2006.
Civil unrest
Last year will be remembered in the Pacific islands for outbreaks of civil and political unrest. The underlying causes-including high levels of youth unemployment-in most cases remain to be addressed.
The first civil unrest for 2006 broke out in Solomon Islands. Following general elections in April, riots erupted in the capital, Honiara, in reaction to the announcement of the new prime minister. Serious damage to property was sustained in the Chinatown area. The Regional Assistance Mission to Solomon Islands, established in 2003 as a Pacific Islands Forum initiative, was reinforced with police and army personnel, and law and order was quickly restored. Subsequently, the military component of the Regional Assistance Mission was scaled down and urban reconstruction commenced. In Timor-Leste, civil unrest began in the capital Dili in April and continued for some months. About 2,200 houses were burned. The Government requested external assistance and more than 2,000 international personnel were deployed. This restored a degree of stability.
In the Fiji Islands, tensions between the Government and the military became evident by October. The open threat of a coup by the military caused international concern. Australia and New Zealand made evacuation plans for their citizens. On 5 December, the Government was removed in a coup led by the military commander, who subsequently presided over the establishment of an interim government. Several donor countries suspended most new aid proposals.
In Tonga, a pro-democracy demonstration in November sparked a riot that led to burning and looting of many businesses in the capital Nuku'alofa, and the loss of life. Again, law and order was quickly restored with external assistance. But in Tonga, and more generally in most countries that experience such civil unrest, political and social divisions usually deepen, and business confidence is undermined.
The impacts are being felt differently in the affected countries, and the speed of recovery will be varied. In general, countries with mineral resources and sufficient foreign reserves are better insulated from the adverse impacts. Solomon Islands and Timor-Leste fall into this category. Fiji Islands and Tonga face more severe fiscal constraints and some of their industries are in decline. Any continuance of unrest could severely affect such economies, particularly impacting key income-generating sectors, such as tourism and foreign investment.
Development challenges
The challenge for the majority of the Pacific island governments is to facilitate private sector-led and more self-reliant economies that can generate employment. Constraints to private development include governance problems, policy uncertainty, investment restrictions, and traditional communal land ownership.
Regional initiatives like the Pacific Plan, approved in October 2005 and endorsed by 13 Pacific island governments, will support development objectives of the national authorities. The Pacific Plan pursues the goals of sustainable development, economic growth, and good governance, and an action plan has been formulated to achieve these goals. However, the subregion is struggling to implement many of the proposals, partly because of limited public service capacities.
There is a risk that countries with mineral resources come to depend on incomes from exporting those resources, and neglect sectors such as agriculture and small and medium business development. Global prices for energy and minerals are not guaranteed to remain at high levels. Moreover, resources are depleted over time. Sustained growth cannot be based solely on exports of minerals. Implementing structural reforms, sustainable fiscal policies, and prudent monetary policy will be necessary to facilitate faster economic growth and to generate employment.
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