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BY DR TIM ANDERSON *
Substantial changes proposed for East Timor’s Petroleum Fund law will expose the nation’s finances to high risk and open the door to corruption.
Just a few years ago the Fund was widely praised as a model of prudential and sustainable management, and a means of possibly escaping the ‘resource curse’ of waste and corruption (e.g. NYT 21 Feb 2006). That is all about to change.
The AMP Government, led by Xanana Gusmao, has a bill before East Timor’s parliament (Proposta de Lei No. 52/2011) which removes most of the prudential controls on the Fund. Under the new law, up to half the country’s Fund (several billion dollars) can be handed over to foreign fund managers for investment in volatile stock markets. The oversight role of parliament will be largely abolished and transferred to ministers and investment advisors. The Fund will be set up as collateral for debt instruments and its special status outside state finances will be removed. Finally, the rate at which the Fund’s revenues can be withdrawn by the government will be opened up. All the major prudential controls of the original law (Articles 7-9, 14-15 and 20) are to be dismantled.
These proposed changes come in context of uncertain international finance markets and in the wake of domestic corruption scandals over rice, infrastructure and service contracts. Waste has become endemic. Secretary of State for Public Works, Domingos Caero, acknowledged that that “about 60 per cent” of the 2009 ‘Referendum Package’ projects were “of bad quality”.
The AMP’s draft law would take the country’s fund regime from one of the most conservative to one with the least protection from risk, fraud and malpractice. Most other sovereign wealth funds (e.g. Australia’s Future Fund, Brazil’s Fundo Soberano, Botswana’s Pula Fund, Trinidad and Tobago’s Heritage and Stabilisation Fund) maintain tighter controls on their assets.
Greater exposure to equities has been taken on by those funds (e.g. of Singapore and Norway) which have developed strong ‘in house’ financial management expertise, and are thus less exposed to external operators. While the Norwegian fund (NBIM) now allows up to 50% investment in equities, this fund operated under strict limits for its first ten years, then gradually expanded its more risky investments, maintaining mostly ‘in house’ management and legal controls. Moving Timor Leste’s fund more rapidly to 50% equity exposure and with reliance on external fund managers implies far more risk.
It was only a few years ago that the then well regarded company Goldman Sachs was charged with a massive fraud involving misleading advice to investors. Financial crises are precisely the time when small investors are cheated of funds.
A great deal is at stake. The IMF earlier this year described Timor Leste as “the most oil-dependent economy in the world”. The government budget in 2010 (ignoring foreign aid) depended almost 90% on draw-downs from the Petroleum Fund. With further waste and possible losses through risky operations by the external fund managers, the Fund could diminish and state budgets would contract.
There is indeed a case for amending the Petroleum Fund law, largely due to the steady decline in the US dollar, low returns on US bonds and ongoing financial uncertainties in the US. In these circumstances it does not make sense (as required by Articles 14-15 of the current law) to hold “not less than” 90% of Fund investments in US dollar denominated bonds.
Nevertheless, a diversification in secure and higher return bond investments (now being carried out by all major investors in the world) and some more modest moves into wider investment would not pose anything like the risks of the current proposal.
In the drive to risk more and spend more of the Fund, Finance Minister Emilia Pires has called on support from former World Bank official Jeffrey Sachs and consulting firm Towers Watson.
Jeffrey Sachs, famous for his ‘big money’ approach, has supported greater spending. (Indeed, East Timor’s annual budget of only about $100m in 2005 rose to nearly a billion last year.) This Neo-Keynesian line suggests that government spending can stimulate new rounds of economic activity. The idea has some relevance in highly formalised economies, at times of recession; but it does not well address the capacity building needs of developing countries.
Nor does the idea of throwing more money around address the problems of a small country already facing serious issues of waste and corruption. Major-General Taur Matan Ruak, Chief of Timor Leste’s Defence Forces, last year asked Jeffrey Sachs to explain how the international aid of more than $12 billion over the past decade had not led to noticeable improvements in employment and poverty. According to Tempo Semanal (5 April 2010) Sachs replied “"I think this is difficult for me to give an answer but I think the international experts need to consider this question with seriousness and I myself will look at the implementation process closely."
Towers Watson, for its part, has pushed for high level, offshore stock market investments. However this company and its predecessors has been successfully prosecuted for misleading advice, malpractice and breach of contract. Common themes have been that the company had been negligent in its advice, made serious errors in calculations of fund liabilities and concealed conflicts of interest - and that this cost pension funds millions of dollars.
Some of these cases help illustrate the dangers of handing over millions to external managers. In 2001 a US jury found there was actuarial negligence by Towers Watson predecessor Watson Wyatt. The Connecticut Carpenters Pension Fund was awarded $39 million damages. The jury found that Watson Wyatt “was negligent, committed malpractice and breached its contract with the Fund”. Watson Wyatt made serious errors in calculating the Fund's pension liabilities.
In 2004 the U.S. Department of Justice launched an investigation of actuarial consulting firms, including Watson Wyatt, Towers Perrin, and others. Subsequent claims for actuarial negligence (including ‘anticompetitive agreements or understandings’ involving conspiracies against their clients) covered a period of more than 20 years and sought damages of $2 billion. This case was ultimately settled.
In 2007 Watson Wyatt agreed to pay $110 million to settle a 2004 negligence lawsuit filed by trustees of the Iron Workers Local #25 pension fund (Michigan). Despite the settlement, the case carried on through 2009. After Watson Wyatt revealed to the Ironworker’s Pension Fund lawyers that “the pension plan was not performing as well as previously indicated”, those lawyers found two other actuarial negligence cases and decided to sue Watson Wyatt, claiming damages of more than $100 million. There are a number of other unresolved and failed claims against the Towers Watson and its predecessors.
The AMP government’s proposed amendments to the Petroleum Fund law, by dramatically downgrading prudential controls and oversight, opens the door to such losses.
Yet, as there is a case for amendments to the law, what are the alternatives?
More reasonable, lower risk fund reform options can be found in: (a) A focus on diversified bond investment – reforming the law to allow secure bond investment in currencies other than the US dollar (e.g. Euros, Australian dollars, Chinese Yuan); and (b) A more modest ceiling of perhaps 20% on higher risk direct investments, while linking diversification of investments to the growth of domestic financial management capacity. Diversification of bond investment alone, in current circumstances, could allow a doubling of returns on fund investment.
At its inception, when there was virtually nothing in the Petroleum Fund, it was easy for everyone to support it as a model of prudence and commitment to future generations. Now that the Fund holds more than $7 billion it has become a ‘honeypot’, and the ‘bears’ are circling. Timor Leste is more vulnerable than most to being cheated of its resources; the country should take great care of its chief financial asset.
* Dr Tim Anderson is a Senior Lecturer in Political Economy at the University of Sydney and has acted as adviser to Timor Leste’s Consultative Committee for the Petroleum Fund.
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17 comentários:
GOOD ADVICE MR TIM ANDERSON, but surely, our petroleum is not in danger as FRETILIN says.
We will take all your points very seriously.
AMP
At this moment the fund is not in danger, but after the changes proposed by the so called AMP de facto government, it will be very much in danger and at the mercy of the cowboys of the financial world.
Jose Teixeira
FRETILIN
Deus vos oiça,
Aquilo que fizerem de mal para o vosso país, iram ser voçês que vão sofrer na pele.
Quem tudo quer tudo perde. mas. Quem não arrisca não petísca.
Fiquem no meio, procurem o equilibrio e construam um país bonito, onde seja bom viver.
Em Timor também há muita gente boa.
Beijinhos da Querida Lucrécia
The current proposed law is essentially the same as the draft circulated last year for public consultation, with the addition of dangerous provisions to allow 10% of the fund to be used as collateral for loans, and to remove criteria for hiring a Timorese external manager. The texts of earlier and current versions, and La'o Hamutuk's detailed comments on the earlier version, are available at http://www.laohamutuk.org/Oil/PetFund/revision/10PFRevision.htm.
We hope that the debate will focus on the contents and consequences of the law, rather than which advisors and politicians are for or against it.
Yes, we must listen to Comrade Tim Anderson, who thinks that Cuba is a democracy, and not to the so-called corporate media.
And yes, we must listen to Fretilin, a party that is the worst of both worlds, socialists who don't want to spend money. Sustainable development means stagnation and poverty.
Who or what is going to stimulate the economy? Is there an entrepreneurial culture like in Hong Kong? No. Is there an entrepreneurial minority like the Chinese in Malaysia? No.
At least communist regimes believed in planning, Fretilin just believes in passivity.
Jose Ramos Horta wants to change the law so he can give money to his Portuguese family. Using Timorese oil money for Portuguese debt is like paying for an addict's drug habit.
Using part of the Petroleum Fund to buy some of the Portuguese foreign debt would be a helping hand but most important of all a very good and safe investment. More profitable than keeping the money in US treasure bonds.
I seriously don't see Portugal not paying back it's debt to Timor-Leste.
If this belief of mine holds true what we could have here is a win-win situation.
Also good to keep in mind that this buying of the Portuguese foreign debt would be done in conjuntion with Brasil and Angola as proposed by Ramos Horta.
The fact is that keeping no less than 90% of the fund in US Treasure Bonds as prescribed by the original Petroleum Fund has cost Timor-Leste a lot of money due to the huge fall of the US dollar. Besides that, though US bonds are safe, the return rates are not that great.
"Using part of the Petroleum Fund to buy some of the Portuguese foreign debt would be a helping hand"
Portugal has been living off other countries for centuries, first its colonies, then the European Union, then its former colonies again.
In the 16th and 17th centuries, it prospered because of international trade - it sold to the world what the world wanted to buy, often by buying from Asia and then selling to Europe. Look at it now, a stagnant subsidy junkie!
Maybe Brazil and Angola have money to spare Portugal, Timor Leste does not.
"I seriously don't see Portugal not paying back its debt to Timor-Leste."
You really are naive.
he Economist December 22nd 2001-January 4th 2002 pp 21-23
Paradise well and truly lost
Nauru: Greed, phosphate and gross incompetence in a tropical setting:
the history of Nauru really is stranger than fiction
It sits, a tiny eight-square-mile speck, way out in the vast and lonely reaches of the Pacific, halfway between Hawaii and Australia.
In 1798 a passing British captain, the first Westerner to see it, dubbed it Pleasant Island. That old name sounds cruelly ironic now.
Seen from the air, Nauru resembles an enormous moth-eaten fedora: a ghastly grey mound of rock surrounded by a narrow green brim of vegetation. On the ground, this unlovely impression is confirmed.
Strip-mining has turned Nauru into a barren, jagged wasteland. The once-dense tropical vegetation has been cleared. The exposed rock reflects the heat of the equatorial sun and drives away rain.
Unlike many small, remote Pacific islands, Nauru possesses a valuable commodity, phosphate, a sought-after fertiliser ingredient. A high-grade supply was discovered in 1900. For a brief, heady moment in the 1970s, Nauruans were, astonishingly, among the richest people on earth. Now they are poverty-stricken, unhealthy and look set to be clobbered by international trade sanctions. The story of Nauru's descent from prosperity to penury is one of the most cautionary tales of modern development.
Many of Nauru's problems can be traced back to the 19th century. In the 1870s, civil war between the island's 12 tribes reduced the population by 40%, largely thanks to firearms introduced by passing whalers. Then, starting with the Germans in 1888, the island was colonised not by one country but by five, in quick succession. The Germans brought with them lethal European diseases, which dealt another heavy blow to the indigenous population. Their rule was at best neglectful, as was that of the trustees from Britain, Australia and New Zealand who succeeded them at the end of the first world war.
The Japanese, who occupied the island for three years during the second world war, were even worse. Their solution to the island's endemic leprosy was to load all the sufferers on to a boat and sink it. By the end of the war, what with air raids, deportation and massacres, there were fewer than 600 Nauruans left on the island.
Phosphate mining, however, continued apace under rulers of any kind.
The stuff is not easy to get at. It lies between conical pillars of fossilised coral up to five metres high, and cannot be mined without leaving an uneven, unfarmable, impassable forest of white stone pinnacles. According to the outrageous terms of the monopoly which the colonial powers granted themselves, Nauruan landowners were paid just half a penny for every ton of phosphate extracted. Ominously enough, the first consignment sank in a storm off Australia in 1906.
Undaunted, the colonial rulers introduced foreign labour to speed the plunder of the island. Today, out of a total population of 12,000, some 4,000 are foreigners. Australians serve as managers, doctors and engineers, Chinese run the restaurants and shops, while other Pacific islanders do the dirty work in the mines. That was all very well for much of the 20th century, when the money was flowing in and Nauruans saw no need to work for a living. But nowadays few Nauruans are capable of doing these jobs. Only a third of children go to secondary school.
Foreigners continued to govern Nauru until 1968. By then some two-thirds of the phosphate was already gone-with all the destruction that entailed. In a terrible indictment of its own stewardship, the government of Australia declared Nauru uninhabitable and offered to resettle the population on a deserted island off the coast of Queensland. The Nauruans, determined to win control of their own affairs, opted instead for independence. In a final act of exploitation before bowing out, Australia, New Zealand and Britain forced Nauru to borrow against its future earnings from mining to buy out their shared phosphate company.
Nevertheless, Nauru's problems seemed surmountable. Indeed, the future looked bright. The government planned to set aside a portion of its revenues from mining to rehabilitate the land. Another portion would go towards public services and economic development, and yet another would be invested to provide for future generations. Nauru bustled with optimism and activity. A second, elaborate cantilever was installed to vault the phosphate over the sharp, bone-breaking reef which encircles Nauru and on to boats anchored offshore. A plant to treat the phosphate before export was also built. The islanders, no longer bound by colonial loyalties, began selling to new buyers, such as Japan and South Korea. All this helped push up revenues to $123m by
1981 around $17,500 for each islanders.
Nauru yesterday, Timor Leste tomorrow.
That knowledge may have driven Nauru to its most extraordinary moneymaking scheme yet: to hire itself out as a detention camp for would-be immigrants to Australia. The original announcement, in September 2001, that Nauru would take in 283 refugees intercepted off Australia while their claims for asylum were assessed, made sense for both countries. The Australian government, which did not want these people, was able to preserve its policy that only "genuine" refugees could land on its shores, while Nauru earned A$20m in the form of eight months' worth of free fuel, two new electrical generators, ten scholarships for Nauruan students at Australian universities and a promise to pay off the island's accumulated medical bills. The commotion surrounding the event also brought lots of high-spending diplomats, journalists, immigration officials and contractors to the island. Delighted islanders greeted the refugees with songs and flowers.
The refugees, however, were less than delighted to end up on a barren rock in the middle of the Pacific, several thousand miles from their intended destination. Many refused to leave the Australian naval vessel that had brought them to Nauru. Scuffles broke out when soldiers tried to frog-march them ashore. Some islanders worried that their more disgruntled guests might raise a ruckus to draw attention to their plight. Their misgivings were redoubled when their government accepted a second boatload of 237 refugees, and then a third of 262.
At least one former president has warned against accepting any more.
In any event, Nauru faces competition as a processing centre from other poor Pacific nations beholden to Australia, such as Papua New Guinea and Kiribati, Nauru's closest neighbour, 400 miles away.
Meanwhile, evidence of Nauru's decay grows more and more alarming. The government has been forced to ration electricity and water between visits of the ship that brings fuel for the island's desalination and power plant. The petrol supply regularly runs out. Several times this year, the Australian aviation authority, which regulates Air Nauru, grounded its one and only plane for fear of the frequent power and communications blackouts at Nauru's airport. A further humiliation came when the international Weightlifting Federation, the governing body of the island's favourite sport, cancelled plans to hold the world championships in Nauru earlier this year, moving them first to Guam and then to Turkey instead.
The citizens of Nauru, to their credit, have not taken all this lying down. A disgruntled populace has forced no fewer than ten changes of government since 1995. Rare visits from international dignitaries have been disrupted by placard wielding protesters, demanding to know where their money has gone. It is a melancholy sign of the islanders'
desperation that the idea of simply buying another island and starting afresh is once again under discussion. But who in his right mind would let the Nauruans get their hands on another island?
Pois é Srs.,
Era bom que os poderosos deste pequenbo país meditassem sobre a triste história de Nauru. Timor poderá seguir o mesmo caminho, se não se proteger dos Aussies.
Os Aussies prestam pouco e já demonstraram que Timor para eles só interessa para virem sacar o máximo que puderem.
Beijinhos da Querida Lucrécia
AMP/Xanana's government is gambling with Timor Leste's single source of income. It's like a heart attack patient is messing around with his fragile heart. We all know the consequence for that kind of gambling. Most of the gamblers prove to be a bunch of losers. So better watch ou! Start thinking, strengthening our institutions which deal with this matter and then you can think of making high risk investments. Just my view though.
"I seriously don't see Portugal not paying back its debt to Timor-Leste."
You really are naive.
8 de Julho de 2011 03:53
Well it looks like the European Central bank must be naive as well and want to loose their money because they just bought 78 billion euros worth of the Portuguese debt.
Since I don't think these major banks are in the business of giving money away as charity I think naive is the anonymous who accused the other of being naive.
LOL
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