ECONOMY: Cyprus could create a leaky hydrocarbons wealth fund

A long-delayed bill creating a Cyprus hydrocarbons fund will be put to parliament for a vote, with the aim of utilising profits from natural gas for future generations to enjoy but there are fears the cash cow will be abused.

The government submitted the bill in 2015 but it got shelved as it fell victim to politics and confrontation between the parties.

While a general consensus was built amongst political parties that natural gas revenues should be set aside for future generations through the creation of the Hydrocarbons Fund, economists and some MPs have expressed fears that it will become a fiscal hole filler.

A University of Cyprus professor and energy policy expert said that while MPs are ready to vote in the bill, extra powers will be given to the Finance Minister and loopholes introduced.

My fear is that we may see the Hydrocarbons Fund having the same fate as the Social Insurance Fund reserves which have been spent through the state budget, said UCY professor Constantinos Papaloucas.

He said the Cyprus Social Insurance Fund (SIF) has real reserves of some Euros 290 mln, “deposited” in the Cyprus Treasury at zero interest rates.

The remaining Euros 7.06 bln that should have been in the reserve of the fund has been spent in the state budget. Therefore, the so-called ‘insured money’ does not exist today.

Papaloucas drew a picture of what Norwegian legislators have done with their famous fund. The Norwegians recognized the largest problem of almost all oil-producing countries, which is the tendency of each government to increase spending during periods of “euphoria”.

Therefore, they decided to introduce a fiscal rule that puts a brake on each government not to disburse more than 4% of the fund’s value in the state’s annual budget to cover the national non-oil deficit (that deficit of the economy that is not related to any hydrocarbon activities).

The statistics showed that the non-oil budget deficit did not only increase at periods of very high oil prices but quite the opposite, he said.

While 45% of Norway’s total oil and gas reserves have been exploited, the importance of the Norwegian Fund with a current value of $1 trln (with participation in 9,000 companies in 78 countries) is growing. In Q1 2017 for the first time in its history, its investment income exceeded total cash inflows from oil and gas related activities.

The Fund invests around the world except for Norway in order to protect the country from the Dutch Disease and its effects such as the overheating of the economy and the loss of competitiveness in other non-hydrocarbons related sectors.

Papaloucas said Nicosia’s initial proposal gave enhanced powers to the Finance Minister regarding the management of the fund, while profits were bound for paying off the country’s external debt.

According to the initial bill, 50% of natural gas revenues would go towards the debt until it dropped below 80% of the GDP. Once the debt dropped below 80%, the percentage of revenues going to the debt would drop to 30% until the debt dropped below the final target of 60%.

MPs and the government seem to have accepted that natural gas revenues should be preserved for future generations through the Hydrocarbons Fund, amendments put forward leave a lot of scope for money leaking from the fund, said Papaloucas.

He questions whether Cyprus, Cypriots and the political forces representing them, can follow the Norwegian paradigm in the creation of the Cyprus Sovereign Wealth Fund? Just like the Norwegians, we should say: ‘One day the oil and gas will come to an end, but the revenues from the Fund will continue to benefit the Cypriot population’.

Fear of the Dutch disease

Fiscal Council president Demetris Georgiades insists that MPs should vote in a law that keeps a tight lid on the Hydrocarbons Fund, not allowing resources being spent to close the debt gap. He did, however, add that the council finds it is not entirely unreasonable to include clauses that would allow the government to tap into the fund in a case of an emergency or spend some money on reducing the debt.

However, this should be a one-off case. If this is not made clear, then you run the risk of having governments following relaxed fiscal policies knowing that they have a pillow to fall back on, said Georgiades.

He added that the council’s suggestion is that the state benefits from profits made from the fund’s investments and only to use these profits countercyclical. That is when the economy is doing well, the state should not touch the fund’s profits.

The principle should be that our generation pays for our debt, ‘not leaving future generations to clean up after us. Georgiades appeared certain that MPs understand the mentality that should drive the Hydrocarbons Fund legislation.

While not worried about whether parliament approves a Hydrocarbons Fund far from the Norwegian model, fear of the Dutch disease keeps the Fiscal council on its toes.

The Dutch disease, also known as the resource curse, is a term coined in 1977 by The Economist to describe the decline of the manufacturing sector in the Netherlands after the discovery of a large natural gas field in 1959.

The economic development of a specific sector and the concentration of the economy on that sector may lead other sectors to decay.

For example, if all resources and services are built around an economy based on Hydrocarbons, then our tourism is bound to suffer, explained Georgiades.

MPs believe they’ve got the formula right, with even ruling DISY stating that the government does not have any objection to amendments which are to essentially ensure that the state keeps its fingers out of the fund.

DISY’s Marios Mavrides told the Financial Mirror that the amendments tabled are to ensure the safekeeping of revenues from natural gas for future generations.

The amendments find the government in complete agreement, as the government is concentrating on paying off the debt with surpluses made, said Mavrides.

He added that saving revenues in a fund will be beneficial for political reasons as the share that belongs to the Turkish Cypriot community will not be spent before the solution of the Cyprus Problem.

This will prevent Turkey and the Turkish Cypriot side from claiming that we, as Greek Cypriots, plan to use natural gas resources only for our own benefit.

AKEL has tabled amendments that bring the bill closer to the Norwegian model, the party’s spokesperson George Loukaides told the Financial Mirror.

AKEL was against the government’s initial proposal to use revenues for paying off the debt as a principle of fairness with regards to the Turkish Cypriot community.

There is an agreement that provides for each community is responsible for repaying their own debt created from 1964 until the time of a settlement. If we use the Hydrocarbons Fund to repay debts that were largely created by the bailout, should we not expect the Turkish Cypriots to repay, through the fund, their debts to Turkey? asked Loukaides.

That is why, AKEL has tabled specific amendments, so that money from the fund is used only for investments until the solution of the Cyprus problem.

Meanwhile, George Lillikas President and MP for the Citizens’ Alliance party, has his doubts about whether Cyprus will be able to copy the Norwegian model as, he claims, the Cypriot political mentality has intruded into the bill.

We have tabled a number of amendments to improve the bill based on the standards of international and successful investment funds, but party perception of quasi-governmental organizations has prevailed, said Lillikas.

Source: The Financial Mirror