A policy to boost PNG’s rural economy

Agriculture is vital to the economy of Papua New Guinea (PNG). Agriculture provides 22% of PNG’s GDP, represents 11% of its exports and supports more than 80% of the population. When inputs from the resource sector weaken, it is time for the agricultural sector to strengthen. This is especially true for exports, which have proven to be a path for many economies towards sustainable development.

If people are to continue to eat, earn and survive, agriculture is hugely important – even more so in these difficult times of COVID-19. This blog looks at agriculture, and in particular the revenue streams that would enter the export sector as revenue based on exchange rate policy.

Exchange rate policy impacts people’s daily lives through their income, especially those involved in agricultural exports. As will be demonstrated in this blog post, if the Local Currency Unit Real Exchange Rate (LRER) had been able to increase in value, the past few years could have been a boon for agricultural exporters in PNG.

The basic calculation is simple. If the kina rate goes from 3 kina to 4 kina per dollar, then if the price of a bag of coffee beans is US$100, before appreciation, coffee farmers would get 300 kina per bag; after the appraisal, they received 400 kina per bag. This policy of increasing the LRER is commonly referred to as an exchange rate devaluation because a to augment from 3 to 4 kina per dollar is equivalent to one to diminish from 33 cents to 25 cents per kina. But the word “devaluation” clearly emphasizes the disadvantages and misses the advantages. As described in a previous blog here, “appreciation” is also valid to describe this policy.

This blog estimates the additional revenue that would have been earned from agricultural exports if the LRER had not been kept low through currency rationing. This figure is not meant to be exact, but rather serves to demonstrate the importance of exchange rate policy to this vital industry.

To do this, I first calculated the kina earnings of cocoa, coffee and palm oil exporters by taking annual data from 2015 to 2019 on export volumes and multiplying them by the price average of goods for each of these years and converting these amounts into kina based on the nominal exchange rate. Then I adjusted the figure based on an estimate of real exchange rate misalignment. For 2015 to 2017, I used estimates based on Previous search, while from 2018 to 2021 I made an estimate based on what the nominal exchange rate would have been if the LRER had risen after the resource boom at the same rate as the nominal exchange rate. In summary, I compared an average LRER appreciation of 23% to about 1% appreciation that actually took place. I then calculated the difference between the original revenue figures and the new figures and adjusted for inflation to convert them to 2020 prices.

The annual results are shown in Table 1 below. The suggested increase in revenue over the five years in question would have been K305.6 million for the cocoa industry, K518 million for the coffee industry and K1.44 billion for the palm oil industry. This is an average revenue improvement per year of about K61 million, K104 million and K288 million, respectively. While it is unclear what the increase in profits would be once the various costs are taken into account, it is clear that many more kina could have flowed into PNG’s rural and remote economies since 2015.

Table 1: Additional Kina Revenues Earned by Major Agricultural Exporting Industries with LRER Appreciation (2020 Prices)

Source: Author’s calculations based on data from Bank of Papua New Guinea, PNG Budget Database, World Bank, www.statista.com and www.macrotrends.net. The calculations can be downloaded here.

The profitability of agricultural enterprises would depend on the rate at which they use imported machinery and other inputs relative to domestic employees and inputs. Those who used more domestic inputs would have a higher rate of return. However, all profitable exporting agricultural enterprises would be more profitable with a higher LRER. This analysis also assumes that there is no supply response to rising incomes. If the sector produced more in response to better conditions, then revenues would be even higher. These estimates also ignore increased opportunities for vegetable growers, who would be better placed to compete with imports with an appreciation. Of course also, any agricultural export, even those not mentioned, vanilla for example, would also benefit. So, in other words, these estimates are conservative.

This demonstration of potential gains is also a demonstration of lost opportunities, but it’s not too late. There are current and future benefits to be had. Revenues from agricultural exports can be further increased, if the PNG government makes it a priority, limits currency rationing and allows the exchange rate to adjust to its market level. If and when a resource boom ends, agriculture can take its place as the main engine of growth and employment.

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This research was undertaken with the support of the UNA-UPNG Partnership, an initiative of the PNG-Australia Partnership. Views represent those of the author only.

About Keneth T. Graves

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