Escaping the Resource Curse: Options and Prospects

1
Escaping the Resource CurseOptions and
Prospects

• Thomas Charles Heller
• Stanford University
• December 10, 2004

2
Overview

• The Flow of Resource Funds
• Governance Possibilities and Concerns
• Nigerian Oil and Gas
• The EITI Experience so far
• Prospects and explanations
• The Political Economy of the Resource
  Curse

3
Overview of Problem NIGERIA

• Publish what you pay (PWYP) and Extractive
  Industries Transparency Review (EITI)
• Governance Process for Oil Gas
• Strategic intervention options
• Scarce governmental resources, including law
• Corruption as an embedded alternative political
  economy
• Public distrust and civil society engagement
• Nationalist confrontation with oil MNCs
• System Pathology Resource Curse (Political
  Economy of Oil)
• Health Political Economy of Growth
  (Institutions, Law Development Growth)

4
Flow of Funds
NNPC
Cash Calls
JV PSC
Oil Gas
Marketed oil gas
Federation Account
CBN
5
Flow of Funds - Expenditure
Federation States Localities Special Projects
Expenditures Expenditures Expenditures Expenditure
s
Constitutional Allocation Derivation
6
Flow of Funds Revenues
JV PSC
NNPC
Cash Calls
Oil Gas
Marketed oil gas
Federation Account
CBN

• Taxes (PPT) and Royalties
• Production sharing of contracts
• Oil/non-oil taxes
• Capacity building
• Audits (cost)
• Audits (value for money)

7
Flow of Funds Revenues
JV PSC
NNPC
Cash Calls
Oil Gas
Domestic oil sale proceeds
Marketed oil gas
Federation Account
CBN

• Taxes (PPT) and Royalties
• Production sharing of contracts
• Oil/non-oil taxes
• Capacity building
• Audits (cost)
• Audits (value for money)

8
Flow of Funds Revenues
JV PSC
NNPC
Cash Calls
Oil Gas
Extractive Industries Transparency Review Act
Marketed oil gas
Federation Account
CBN

• Taxes (PPT) and Royalties
• Production sharing of contracts
• Oil/non-oil taxes
• Capacity building
• Audits (cost)
• Audits (value for money)

9
Flow of Funds - Expenditures
Federation States Localities Special Projects
Expenditures Expenditures Expenditures Expenditure
s
Publication Due Process Act (Procurement)
10
Flow of Funds - Expenditures
Federation States Localities Special Projects
Expenditures Expenditures Expenditures Expenditure
s
Publication Due Process Act (Procurement)

• Fiscal Responsibility Act
• Sterilization
• Volatility
• Investment Quality
• Savings

11
Flow of Funds - Expenditures
Federation States Localities Special Projects
Expenditures Expenditures Expenditures Expenditure
s
Publication Due Process Act (Procurement)

• Fiscal Responsibility Act
• Sterilization
• Volatility
• Investment Quality
• Savings

• Savings/Investment Quality
• Budget controls
• Reference price
• Borrowing
• Arrears

12
Flow of Funds - Expenditures
Federation States Localities Special Projects
Expenditures Expenditures Expenditures Expenditure
s
Publication Due Process Act (Procurement)
Investment Alternatives 1. Special purpose
vehicles 2. Alaska/Alberta 3. Contractual oil
price 4. Outsource management 5. Debt
reduction 6. Leave in ground

• Fiscal Responsibility Act
• Sterilization
• Volatility
• Investment Quality
• Savings (credibility)

13
Reform Process and Democracy
Correctness Effectiveness Stability
Reform elite
Administrative Regulations
Commitment
Legislation
Implementation
14
Reform Process and Democracy
Implementation
Administrative Capacity
Remedies
Monitoring
Special purpose (tax/audit) agencies
Existing Agency capacity building
Outsourcing
15
Reform Process and Democracy
Implementation
Administrative Capacity
Remedies
Monitoring

• private actors
• NGOs
• government
• agencies
• 4. autonomous
• agencies

NGOs 1. Training 2. Participation
Incentives to challenge
16
Reform Process and Democracy
Implementation
Administrative Capacity
Remedies
Monitoring
Courts 1. multi-door courthouse 2. vertical
authority 3. competition 4. consultation
Administration 1. reduce incentives power
to capture 2. internal review hearings
Public opinion 1. press
17
Corruption

• Defense at legislation, implementation,
  commitment
• Waste (legal) theft/channeling (illegal)
• Alternative economy
• Nigeria China how remediable?
• Expectations hard to displace and disrupt reform

18
Corruption Alternative Economy

• Rent seeking rather than innovation seeking
  (quasi-rents)
• Hyperbolic in Nigeria
• Politically generated (joint) returns
• Patronage as a (potentially) stable bandit
• Theft/channeling as a roving bandit

19
Growth and development

• Evolution of growth theory
• From social norms to policies to institutions
• Macro-economic stability openness (trade),
  investment/savings (aid), exchange rates
• The turn to institutions
• Trade and institutions (legal context)
• Aid and institutions (effectiveness)
• Which institutions
• Property rights, contracts, limited government,
  courts, and corruption (ROL)
• Corporate governance and intellectual property

20
Growth and development

• TFP, growth spurts, and shocks
• Law and economics as TFP on growth path
• Democracy on shock management?
• Colliers Africa syndromes
• Resource rich, inland compare to other regions
• Coastal states have lower performance
• Glaser et. al full circle to policies
• Human capital, good investment policies and
  (beneficent) dictators
• Accumulate capital under dictatorships, growth,
  and institutional reform follows (Lipset 1959)

21
Growth and development

• Hausman-Rodrik-Pritchett growth spurts
• Growth events tied to investment, import openness
  to capital goods, depreciation of exchange rates
• How correlated to? (1) external shocks, (2)
  democratic political change, (3) negative
  political change, (4) economic reform, (5)
  liberal finance
• 1, 3, 5 significant in short run 2, 4 in longer
  run
• None explain most events over 8 or 18 years
• Non-systemic idiosyncratic most change not
  preceded or accompanied by major changes in any
  of above variables
• Economies that have done well succeeded through
  their own particular brand of heterodox policies
  (beyond investment macro stability)

22
Two emerging models?
Security risk? Nation bldg.? Ext.
pressure? Human capital
Investment growth
Stable macro- economy
Good dictatorship
Growth brings capital FDI Selective imports of
goods know-how
Middle class growth democratic institutions
Round 1 fear sustained
Round 2 shock management
Trade exposes shocks
23
Two emerging models?
Low human capital Civil (not external) war
Predatory dictators

• Low investment
• Rent seeking
• Patronage
• corruption

Trade restrictions Variable macro policy in
response to external shocks
L
Low growth Democratization holds down
investment (?)
Repeated coups detat Rent extraction cycles
24
Conclusions for Practice

• Pull the investment function out of the
  alternative political economy
• Build new specialized institutions rather than
  reforming the existing institutions
• Focus on civil society participation (and
  training) throughout the resource governance
  process, as a means of reversing expectations and
  increasing commitment
• Engage oil companies in benchmarking,
  transparency and other strategies to secure their
  asset base

25
What is the resource curse?

• Dimensions of resource curse (normative)
• Price volatility (smoothing budgets)
• Sterilization (Dutch disease misallocation of
  tradables and inflated non-tradables sectors)
• Capital replacement (savings)
• Institutional perversion (mis-governance and
  rent-seeking states)
• First 3 dimensions technically manageable the
  problem translates into mis-governance

26
Impacts of Resource Abundance

• Paradox of the expected relation between capital,
  hard currency and development
• Since 1970, if you are poorly governed, resource
  abundance (relative to total GNP) makes things
  worse than being resource poor
• Like ODA, bifurcated record
• Does not cause mis-governance, but reinforces
  perverse incentives
• Variance of political instability of resource
  abundant states
• Mis-governance is not equal to state failure
• Among developing (resource rich) states,
  authoritarian states show higher growth than
  democratic
• more of waste resources in competitive rent
  seeking?

27
Mis-governance

• Government as rent creating/seeking, rather than
  market (innovation) framing
• Consider government as a business organization
  with multiple strategies available
• Politics as contest between rival organizations
  for state as rent generator rent opportunity set
• State may invest in preserving its rent-based
  jurisdiction more resources (rents) available if
  regime consolidated (stability bifurcation)

28
Mis-governance

• Social benefits (collective goods) tend to be
  weak under cost minimization principle
• Ethnically or family selective (rent-distribution)
  
• Core-periphery antagonisms
• Increased stability through increased patronage
  distributions in multiple forms
• Neither markets nor effective government
  (political) monopoly on the production and/or
  delivery of collective goods and services
• Competitive organizations for public goods
  provision

29
Development impacts of rent-seeking

• State monopoly or franchise on rent producing
  activities
• Anti-market incentives for governments
• Investment misallocation with patronage and/or
  corruption and absence of market discipline
• showcase industrial and infrastructure symbols
• Protection of non-competitive tradables
  (industrial) sector against exchange rate effects
• Low development of human capital (education,
  learning- by- doing) that attends competitive
  markets

30
Development impacts of rent- seeking

• Wide variation in rent-use patterns (political,
  private internal, external)
• Failure to develop responsive government
  institutions, especially taxes, with public rents
• Mexico, Venezuela
• Net (genuine) savings negative in failure to
  replace depleted capital
• U.S. 9.9 France 14.4,
• Nigeria 12.0, Saudi Arabia 14.2

31
Political impacts of rent- seeking

• Patronage based political systems
• Movement politics as charismatic, hierarchical,
  clandestine (not parties winner-take-all)
• Populist political orientation
• Selective welfare, jobs, (non-bid) contracts
  distribution as patronage
• Over-employment in state and symbolic projects
• Exacerbate regional and ethnic antagonisms
• Periphery of the core Alberta, Scotland, Texas,
  Alaska (derivation principle)
• Periphery of the periphery Aceh, the Caucasus,
  Nigerian Delta

32
Political impacts of rent- seeking

• Predation short-term time horizon in politics
  (failed states)
• Political contests for jurisdiction over rents
  create expectations of instability
• Political instability favors short term rent
  capture
• No stabilization or sterilization
• Corruption rent diversion to officials from
  state fisc or from official (waste) political
  patronage flows
• Short term horizon for illegal payments

33
Political impacts of rent- seeking

• Monopolists strategy dilemma
• Patronage capacity grows with rents (oil prices)
• Patronage (periodic shocks) vs. predation
  (regular rotation) on expected lifetime of regime
• Ethnic/sectarian homogeniety
• Ethnic/sectarian heterogeniety with peripheral
  resources
• Repression or predation as alternative strategies
• Army as risk with coup probabilities
• Nationalism and religion

34
Double curse?

• Nationalism as counter-strategy against
  fragmentation
• Substitute investor risks of political antagonism
  for regional disruption risks
• International intervention dynamic
• Resource rent struggles generate ethnic
  identities and armed struggle on periphery
• Repression generates human rights claims and
  (oppositional) NGO attraction
• Humanitarian interventions characterized as oil
  protection and additional investor risks
• Instability and resource rents
• Price premia for threat of lost resources over
  OPEC capacity

35
Investor risks of mis-governance

• Demands made on firms to provide social goods
• Core-periphery exploitation leads to potential
  claims of human rights abuse and Alien Torts
  Statute litigation in US
• Exxon-Mobil in Indonesia Unocal in Myanmar
• Political contest to control rents lead to
  political volatility and civil wars that generate
  social risks for stable investment contracts
• Bolivia, Bangladesh, Angola (even off-shore)

36
Risk profile analysis

• With disorder/instability (state failure),
  investors face expansive risk profile
• war, repression, mobilized demands, lawsuits
• Investment, with same development impacts, faces
  altered risk profile in effectively (state
  mobilized) repressive regimes
• Regime shift risk (Indonesia, Iraq), with more
  radical losses if established network displaced
• Boycotts, economic sanctions (Iran. Iraq)
• Total costs of security and uses of rents