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«Compacts of Free Association with the Federated States of Micronesia (FSM) and the Republic of the Marshall Islands (RMI) For Fiscal Year 2006 Table ...»

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Migration from the freely associated states (FAS) to the United States and its territories began after the Compact took effect in 1986, but it did not get much attention until recently, when Hawaii, Guam and Commonwealth of the Northern Mariana Islands (CNMI) raised concerns about the cost of public services for migrants from Micronesia.

These concerns became the basis of funding to these United States jurisdictions that is a part of Public Law 108-188. Based on 2003 data, there were 20,808 Micronesians in the

United States island areas, with the following distribution:

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(Migrants to the mainland United States have not been enumerated, but may be expected to equal or exceed those in the island areas.) As these numbers show, Micronesian migrants to the United States and its territories, although not a large number or a significant portion of all immigrants, are a large percent of the population of the areas from which they migrate. The total of 20,808 in 2003 was Asian Development Bank, Swimming Against the Tide? (Pacific Studies Series), 2004, p. xi.

The World Bank, Pacific Islands Strategy, 2005, p. 43.

about 11.5 percent of the total population of the FSM, the RMI and Palau combined.

Thus far, the bulk of the migrants are coming from the FSM, especially Chuuk; it is expected that future trends in Micronesian migration will likely mirror the past.

Republic of the Marshall Islands (RMI) Background The RMI and the FSM share some of the basic provisions of the amended Compact, such as annual grant assistance decrements and the decrement amounts going into their respective trust funds. The annual amounts of grant assistance and trust fund deposits are different, because of differences in the populations and economies of the two countries.

The RMI economy is not only smaller than the FSM’s but also less complicated.

However, the long-term growth and prosperity challenges it faces are similar to those of its neighbor. Unlike the FSM, the RMI has a large and powerful national government, coupled with small and much less powerful municipal (village) government. The RMI has no states and, therefore, no state government the national government has to contend with, but the main point of similarity to the FSM is that its public sector is the dominant source of income and sustenance. In the context of income, the RMI’s other main difference from the FSM and one of its key strengths is the presence of a U.S. military base in the RMI. The Ronald Reagan Ballistic Missile Defense Test Site (Reagan Test Site, RTS) is an important income source for the RMI. It employs a large number of RMI residents and pays annual impact payments to landowners on Kwajalein Atoll, where RTS is located. The 1,161 employees of RTS in 2006 were 12.1 percent of total employment.

As measured by GDP, the RMI economy is about 60 percent of the FSM’s and its population is about half. In 2006, RMI’s GDP was $137.8 million, as compared to $244.7 million for the FSM. Unlike the FSM’s, the RMI’s GDP was up 4.9 percent from the year before, following six consecutive years of growth. Although some of the growth rates in those seven years ending in 2006 were low, near or just slightly more than the rate of inflation, the RMI’s economy has performed more favorably than that of its neighbor. The principal cause of growth has been the bulging public sector and among the reasons for rising public spending has been grants from other donors, such as Taiwan.

The competition for diplomatic recognition between Taiwan and China, especially in the small countries in the Pacific, has been particularly helpful to those with ties to Taiwan.

As the experience of the last few years has shown, Taiwan has become a reliable source of foreign funds for countries it has diplomatic ties to, and the Republic of the Marshall Islands has benefited from this diplomatic tug of war. Also, since the RMI’s economy is small, even small amounts of increases in spending would show up in its total output.

In 2006, the RMI’s population was an estimated 56,242, up 10.6 percent from 50,840 in

2000. Population growth in the RMI, as in the FSM, has moderated from high rates in recent years, mainly as a result of migration, rather than a drop in the natural rate of increase. Without migration, population growth rate in the RMI has recently been as high as 3.5-4.5 percent a year, among the highest in the developing world.

As with the FSM, the amended Compact with the RMI places greater and more explicit emphasis on expanding the productive capacity of the economy through private sector growth through fiscal year 2023. This is to take place mainly through improvements in public health, public education, public infrastructure, public sector capacity building, support for the private sector and the environment and institutional reforms that would make the RMI a more attractive market to overseas capital. Public Law 108-188, section 140(h)(1) requires this annual economic and financial report on the RMI by the United States Government. It provides information on, among other things, the use and effectiveness of United States financial, program, and technical assistance; the status of economic policy reforms; and the status of the efforts to increase investment.

As in the case of the FSM, U.S. grant assistance drops by a certain amount every year through fiscal year 2023. To compensate for this reduction, the RMI government will have to make the necessary adjustments in its budget proposals to the Joint Economic Management and Financial Accountability Committee (JEMFAC). At the same time, the RMI government may find other sources of income such as taxes and fees in its private sector, especially if it is expanding, or other foreign funds to make up for the decrements in grant assistance from the United States. With 17 years of reliable operational grant and trust fund deposits from the United States, the amended Compact offers the people of the RMI a horizon of sufficient length in which to lay the foundation of the post-Compact RMI economy that would rely more on the private sector and less on the public sector and foreign assistance.

Economic Review of the RMI

As pointed out earlier, the RMI’s economy has performed more favorably in the last seven years, as compared to that of the FSM’s. According to the RMI government, real (adjusted for inflation) GDP increased ever year in 2000-2006. Real GDP growth rate averaged a respectable 3.7 percent a year, ranging from a low of 1.1 percent in 2005 to a high of 6.5 percent in 2000. What is noteworthy about the composition of the RMI’s GDP is the slow but steady rise of the public sector’s share of total output which has been the main cause of growth. In 1997, the first year of the new GDP series, total public sector (government and public enterprises) was 38.6 percent of total output. In 2006, it was up to 42.5 percent. Total private sector (private sector, financial institutions and households) was 53.7 percent in 1997. It went down to 50.1 percent in 2006.

These changes in the relative shares of the public and private sectors, although not very large, signify a trend that is not only unhealthy for the overall economy, but eventually unsustainable. Between the Compact grants and grants from other donors, the RMI government increased spending, in both dollar amounts as well as share of the economy, almost every year in 1997-2006, providing the fuel for the economy to go into higher levels of output. During the same time, the share of the private sector decreased, sometimes by small amounts. The private sector and the public sector moving not only in opposite directions but out of phase with market economies holds the potential for disruption in economic growth and the average standard of living.

Real per capita GDP in 1997 was $2,077, reached a high of $2,182 in 2004, declined slightly to $2,172 in 2005 only to go back up to $2,180 in 2006. In comparison to the FSM and other small economies of the Pacific, the RMI’s real per capita GDP growth is impressive. It is one of a few economies in the region to have experienced real per capita GDP growth for several consecutive years. However, once again, this growth has been made possible by increases in public spending, rather than private-sector gains. This trend of the public sector supporting the private sector, the opposite of market economies, and generating gains in the standards of living is unsustainable. The question is when, not whether, the public sector would reach its peak capacity to spend and sustain the economy. Once that point is reached, the consequences can be painful, economically and financially for the RMI and its citizens. Again, as with the FSM, migration to the United States and its territories provides a major safety valve for the RMI’s economy and its ecosystem, but all Marshallese citizens would not be expected to migrate. Those who stay behind will have to work within the economy they would have, which makes the case for a stronger private-sector economy more urgent.

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60.0 40.0 20.0 A U.S. military installation, especially with important strategic mission and assets, undoubtedly is an important source of income and sustenance, especially for Kwajalein and its neighbor, Ebeye. However, it is limited in its scope of work and its economic and financial reach throughout the RMI. With only 10-15 percent of the RMI’s work force employed at the base, the need to find other sources of income and work is critical.

Payroll employment data show patterns similar to those of GDP. Total public sector employment, which includes the RMI government, local government, public enterprises and government agencies, has consistently dominated employment since 1997. Ranging from 41.7 percent to 48.0 percent, total public sector employment averaged 44.7 percent of total in 1997-2006. Total private sector employment, which includes private industry and banks, ranged from a low of 34.3 percent to a high of 40.2 percent in 1997-2006. It averaged 37.6 percent during the same period. An important point about the private sector employment pattern is that it has trended upward during the period. However, the upward trend in the private sector employment has been so slow and erratic that it would take a very long time to make a significant difference in the overall employment picture.

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10,000 8,000 6,000 4,000 2,000 Other employment, mainly at the U.S. military installation on Kwajalein, remained stable over the 1997-2006.

The average rate of earnings reflects the relative strength of the public sector over the last several years. In fiscal year 2005, for instance, the average private sector earnings, as reported to the RMI Social Security Administration, were about half of those in the public sector. This trend has changed little over the last several years. In 2005, the average annual wages in the private sector were $6,232, as compared to $11,394 for the public sector as a whole. Within the public sector, government agencies paid the highest wages, $13,320 a year, followed by the RMI government with $12,830, public enterprises with $11,207 and local government with $7,711.

Among the peculiarities of the RMI’s labor market is the ratio of payroll employment to total population. In economies such as the United States, for example, just about half of the population is payroll employees, that is, persons who work for pay for others. In the United States and other industrial countries, this trend tends to be stable, although it is different in different countries. In the developing world this trend changes with the degree of development and work opportunities outside home and subsistence. As countries advance, their employment-to-population ratios rise. In the RMI, as in the FSM, the ratio has not only remained remarkably stable, it is also quite low. A low ratio such as that for the RMI, 17.0 percent in 2005, normally suggests the country is a developing economy where the majority of the labor force does not necessarily work for pay outside the home and the subsistence economy.

The RMI may be a developing economy, as measured by per capita GDP of $2,466.

However, it is not a developing economy in the sense that its economic output mix is changing much. The RMI economy today is much the same as it has been for the last 20 years which is based on outside flows of funds for sustenance. A low employment-topopulation ratio is more a reflection of its institutional structure than the state of its development. A low employment-to-population ratio is not only an unfavorable development for today as fewer payroll workers have to support more people, it has the potential to become a serious problem in the future. Among the economic issues that deserve urgent consideration is this low employment-to-population ratio and remedies within the structural and institutional constraints of the RMI. One way to address this issue effectively is to focus on efforts that would expand the private sector and reduce the role of the public sector, within reasonable limits of time so as to diminish the disruptive effects on the economy and the labor market.

Another problem the RMI government and business have to confront is the relatively high rate of unemployment. Based on informal estimates made by the RMI’s Economic Policy, Planning and Statistics Office (EPPSO) for 2004, the unemployment rate was an estimated 33.6 percent. The subsistence economy accounts for a small part of the total economy, averaging 6.1 percent of GDP through 1997–2004. Even after accounting for the subsistence economy which meets a part of household demand for food and provides some work, the rate of unemployment remains high.

Prospects for Private-Sector and Economic Growth

In light of the enduring constraints of land, minerals and other resources typical of landbased economies, the RMI should focus on its most significant comparative advantages embedded in its living ecosystem. These are, for now, fishing and fish processing and tourism. Local handicrafts have a certain potential among visitors. The RMI and other Pacific economies have been selling fishing rights to foreign fleets for decades, but they receive modest sums of money and almost no local value added other than purchase of fuel and supplies from local vendors. There have been anecdotal reports of fishing fleets avoiding buying fuels in the local markets because of high prices.

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