Currency equivalents

D. Hydrocarbon Resources Management

2.24 Algeria’s Hydrocarbon Stabilization Fund (FRR) is allowed to cover budget deficits indirectly by charging public debt amortization to the FRR retroactively. However, this source of financing is reaching its limits (Box 2.1). The large financing needs that arise from the PCSC dwarf past public debt amortization payments that the FRR could still reimburse. If the rules of the FRR are left unchanged, the government would need to borrow in order to cover the deficit. A situation could arise over the medium term in which public debt grows concomitantly with FRR deposits.


Box 2.1 Algeria’s Hydrocarbon Stabilization Fund
Algeria’s Hydrocarbon Stabilization Fund (“Fonds de régulation des recettes”—FRR) was established in 2000 with the aim of self-insuring government expenditures against fluctuations in hydrocarbon revenue. The FRR is a subaccount of the Treasury account at the central bank that accumulates part of the hydrocarbon revenue. The authorities would be able to draw down FRR deposits to absorb an adverse revenue shock before new borrowing or discretionary fiscal adjustment would need to occur. FRR deposits represented 19 percent of NHGDP at end-2005, suggesting that the initial aim of the FRR has been partially achieved.
The FRR operates under rules that were established when hydrocarbon prices were low. The rules of the fund provide that hydrocarbon revenue above the equivalent of US$19 per barrel of crude oil goes to the fund. FRR resources can be used to amortize public debt as well as for general budget financing when the price of crude oil drops below US$19 per barrel. The price rule is easy to understand as long as actual prices are not too different from US$19/bbl. However, the average price of crude oil was US$54.6 per barrel in 2005.
Budgets that were passed under the FRR price rule showed deficits. The budgeted fiscal deficits have grown from almost nothing in 2000, the first year of the FRR, to an estimated 16.5 percent of NHGDP in 2005, implying that the hydrocarbon revenue effectively spent was higher than the equivalent of US$19 per barrel of crude oil. Public debt amortization that occurred in prior fiscal years has been charged to the FRR, thus financing the budget deficit under the FRR price rule.

Oil Stabilization Fund
(billions of DA)
	2000	2001	2002	2003	2004	2005
Oil Stabilization Fund	232	249	276	568	722	1,843
Accumulation	453	124	27	449	623	1,369
Utilization	221	107	0	156	470	248

Source: IMF Article IV Staff Report (2005b)

2.25 Changing the rules of the FRR requires a long-term framework for deciding each year on the appropriate level of spending of hydrocarbon revenue. One possibility could assume a goal of preserving the level of hydrocarbon wealth per capita that existed in a base year. This implies a “sustainable path” for the spending of hydrocarbon revenue. The framework has been applied to Algeria in 2004, with 2003 as the base year. A 2005 update included new levels of proven reserves, projections for export volumes, projections for prices of hydrocarbons, and projections for real NHGDP growth (IMF 2005b, Country Report, footnote 2).

2.26 This long-term framework would calculate the part of hydrocarbon revenue that the government should save each year in order to maintain hydrocarbon wealth per capita. Income from hydrocarbon wealth comprises income from financial wealth accumulated by the government and its share of receipts from selling hydrocarbons currently produced. The part of this income that the government could spend would be equivalent to the sustainable nonhydrocarbon primary deficit.

E. Fiscal Sustainability under the PCSC

2.27 The level of government spending in the 2005 and the 2006 budgets has been appropriate under this long-term framework. The estimated paths of the actual nonhydrocarbon primary deficits under the respective budgets and reasonable assumptions converge to a sustainable path over the medium term (Box 2.2).²⁰ The framework shows that the large outlays under the PCSC for 2005–09 are made possible by the increase in hydrocarbon prices from 2004-05.

Box 2.2 Government Spending of Hydrocarbon Revenue: a Fiscal Sustainability Analysis The appropriate level of government spending of hydrocarbon revenue can be derived from a long-term fiscal sustainability framework that preserves hydrocarbon wealth per capita over the long term. The framework is based on the U.S. Geological Survey estimates of probable reserves. It assumes that these will be exhausted by 2050 according to a projected production profile. Other assumptions are: population growth of 1.5 percent per year; real NHGDP growth of 4 percent per year from 2010–50; a 5 percent real interest rate; a gradual decline of oil prices to a long-term level of US$30 per barrel in 2015–50; and a ratio of 3.8 dollars per thousand cubic meters of gas to 1 dollar of per barrel of oil. All prices are expressed in 2003 dollars. In this framework, government spending of hydrocarbon wealth requires limiting the nonhydrocarbon primary deficit to 26 percent of NHGDP by 2010. The ratio progressively declines in the outer years of the simulation (due to GDP growth). Income from financial wealth entirely finances the deficit that prevails after 2050. Algeria: Sustainable Nonhydrocarbon Primary Deficit, 2005–2010 (In percent of nonhydrocarbon GDP)

2.28 Updates of the framework should be conducted each year, before setting the main parameters for the new budget. The authorities would also need to continue developing a multiyear budget that delivers reasonably grounded projections of nonhydrocarbon primary deficits over the medium term, and also sets medium term sectoral priorities. The sustainability of the fiscal stance will rely on the convergence of actual deficits to the sustainable path.

2.29 To avoid bottlenecks in financing sustainable levels of government spending, the FRR should be converted into a savings/financing account fully integrated into the budget. The credits to the account would be the totality of hydrocarbon revenue plus the financial income of the accumulated savings. The debits to the account would be the financing of the sustainable nonhydrocarbon primary deficit. The account would also be integrated into the broader asset-liability management plan of the government.
2.30 The proposed long-term framework for the fiscal management of hydrocarbon resources and the implied changes to the FRR still require choices to be made on the most effective use of the fiscal space generated by the portion of hydrocarbon revenue that can be spent each year. The fiscal space generated by the oil windfall is abundant (see Annex X). Potential uses include higher public spending, lower taxes or public sector debt reduction. Choices among these alternatives require careful evaluations of the tradeoffs involved. In regards to the higher public spending option, Algeria could direct these resources at increasing its public physical capital, building its human capital, and supporting economic reforms in banking or privatization.