Download Managing Resource Wealth

Gas in Cyprus:
How to avoid the curse?
CONFERENCE ON ‘THE CYPRUS ECONOMY’
L S E , 1 0 TH F E B R U A R Y 2 0 1 2
RICK VAN DER PLOEG
OXCARRE, UNIVERSITY OF OXFORD
SEE WWW.OXCARRE.OX.AC.UK FOR
RESEARCH AND POLICY PAPERS
Aphrodite Gas Field
Offshore of southern coast of Cyprus: contains 5 to 8
trillion cubic feet of natural gas (area of 100 km2).
Concession to Noble Energy.
Compare with gas reserves in Netherlands, the UK
and Norway at end of 2010 of 41.5, 9.0 and 72.1
trillion cubic feet, resp.
Relative to tiny size of population of 800,000,
Cyprus has large gas reserves compared with these
other European countries.
Scaling up to NL population (x20) gives 2.5 to 4
times as much gas reserves as for the NL.
Gas reserves of Cyprus
Norway has population of 4.8 million (x6), so Cyprus
field amounts to 30 or 48 trillion cubic feet if blown
up to size of Norway which is 42% to 66% of
Norway’s reserves.
UK population is 62 million (about x80), so reserves
are 400 to 640 compared with 41.5 for UK actual gas
reserves.
So Cyprus has sizeable reserves!
But not compared with Iran or Qatar which have
huge reserves of 1045.7 and 894.2 cubic feet, resp.
Questions
Is there more to the curse than Dutch disease and
declining traded sector? Danger for tourism!
How about rent grabbing, corruption and conflict?
How can exhaustible gas be transformed into reproducible
physical or human capital by saving the resource rents?
What are best ways of harnessing windfalls? Does this
involve sovereign wealth funds, citizen dividends, public
infrastructure or cutting debt?
How do bottlenecks in non-traded and construction
sectors, and notorious volatility of gas/oil prices affect
best way of harnessing gas windfall?
Disappointing performance despite
natural resources
5
17th century Spain despite gold/silver from New
World. Resource-poor Holland did much better.
Negative growth rates during past decades: e.g.,
Venezuela, Iran,Libya, Kuwait, Quatar.
Decline in OPEC GDP/ capita during last few
decades while other countries enjoyed growth.
Gold boom in 70’s did not help South Africa much
(Stokke, 2005).
Dutch economy and the Slochteren natural gas
reserves led to unsustainable welfare state.
Average yearly real GDP per capita growth 1970-2004
-5
0
5
NEGATIVE PARTIAL CORRELATION BETWEEN
ECONOMIC GROWTH AND RESOURCE
ABUNDANCE (not for food or agriculture exports)
Korea, Rep.
Taiwan, China
Singapore
Malta
Hong Cambodia
Kong, China
Thailand
Indonesia
Ireland
Malaysia
Sri Lanka
Tunisia
Egypt,
Arab Rep.
Norway
Portugal
Chile
Hungary
Japan
Spain
Austria Finland
United
Kingdom Belgium
Italy
United
States
Pakistan
Turkey
Greece
France
Israel
Brazil
Canada
Jordan
Australia Morocco
Netherlands
Costa Rica
SwedenColombia
Denmark
Mexico
Sudan
Ecuador New Zealand
Paraguay
Panama
Philippines
Cameroon
Uruguay
Burkina Faso
Algeria
Switzerland
Guatemala
Congo,
Rep.
Malawi
Honduras
Mali
Chad
Nigeria
Argentina
Solomon Islands
SaoEl
Tome
and Principe
Bolivia
Benin
Salvador
Peru
Senegal
Ghana
Burundi
Togo
India
Central African Republic
Niger
Madagascar
Trinidad and Tobago
Fiji
Gabon
Mauritania
Suriname
Guyana
Saudi Arabia
Venezuela, RB
Cote d'Ivoire
Zambia
Nicaragua
Congo, Dem. Rep.
Kuwait
Libya
Liberia
0
20
40
60
Natural Resources exports in percent of GDP, 1970
80
Figure: Growth and Natural Resources Abundance
Data source: World Development Indicators, 2006
Source: World Bank Development Indicators 2006
6
P0sitive experiences
7
Botswana: 40% of GDP stems from diamonds but has second
highest education/GNP and highest growth rates since 1965.
GDP/capita is ten times that of Nigeria.
Norway had huge growth in oil exports since 1971 and third
largest exporter after Saudi-Arabia, but has fared fairly well.
United Arab Emirates also turned curse into blessing by investing
in modernizing infrastructure and investing in welfare state and
free access to education. But avoid speculative booms
(Kazakhstan).
Mineral abundance US mid 19th to mid 20th century explains
much of subsequent growth: driven by learning, IRTS and US
government claimed no ultimate title to mineral rights
(Habbakuk, 1962; David and Wright, 1977; Wright and Czelusta,
2004). Also, Germany and UK late 19th century.
Lessons: avoid corruption, diversify, education, and exploit
complementarities linkages of manufacturing with resource
sector.
Resource Abundance Associated With:
8
Crowding out of non-resource exports and foreign
direct investment. Less openness.
Elicits corruption and extreme rent seeking.
Crowds out foreign capital, social capital, human
capital and financial capital.
Deters FDI in non-resource sectors
Erodes legal system.
Bigger Gini index of inequality.
Less school enrolment and expected years of
schooling (Botwana exception).
Delays development of financial institutions.
Armed conflicts and civil wars.
COMPOSITION OF WEALTH, 2000
INTANGIBLE CAPITAL IS MAIN CREATOR OF WEALTH
Source: World Bank (2006, Table 2.1).
Note: All dollars at nominal exchange rates. Oil states excluded
National wealth is PV sustainable consumption 2000-25
using discount rate of 4%. Produced capital from PIM.
9
I. Dutch Disease and Gas Curse
10
Windfall gain in demand for gas from abroad induces
an appreciation of the real exchange rate.
Non-resource export sectors go in decline: tourism.
The sheltered sector gets a boost as labour and other
factors move from traded to sheltered sectors.
‘It seems ungrateful to talk of a disease’ (The Economist)
Decline of exposed sectors may be efficient response to
the gas boom.
However, if there is learning by doing in the non-gas
export sectors, there may be falls in output growth and
welfare.
Extraction of Gas Requires Labour and
Capital
11
Resource movement as well as spending effects of gas
boom. Labour is drawn both out NT and T to gas
sectors.
Within context of Heckscher-Ohlin the Rybczynski
theorem implies output of capital-intensive non-gas
sector expands.
If T-sector is K-intensive, gas boom induces proindustrialisation if spending effect is not too large.
Strong in small (island) economies.
II. Volatility and the Gas Curse
12
‘What commodity price lack in trend, they make up
for in variance’ (Deaton, JEcPersp, 1999).
Resource rich economies are vulnerable to high
volatility of resource prices, especially as supply is
fairly inelastic.
Particularly bad as many resource rich economies are
not diversified: specialised in resources and small
sheltered sector. In fact, they specialise away from
non-resource traded goods which causes even more
volatility and interest rate rises! Traded sector
shrinks until it vanishes (Hausmann & Rigobon).
Volatility also bad for growth, investment, income
distribution, poverty and educational attainment
(Ramey & Ramey, Aizenman & Marion, Flug et al)
Links between output volatility and growth
13
Higher volatility means more uncertainty-induced errors and thus
less irreversible investment and lower growth (Bernanke, QJE,
1983; Pindyck, 1991; Aizenman and Marion, RIE, 1991)
Especially if it is costly to switch factors of production
(Bertola, JME, 1994; Dixit and Rob, JET, 1994)
Or: higher volatility leads to more precautionary saving and thus
more investment and growth (Mirman, Etrica, 1971)
Higher variance commands investments with higher return and
thus higher growth (Black, 1987)
Net effect of volatility on growth can in theory be negative or
positive, so needs to be settled empirically
Empirical result: volatility is quintessence of resource curse!
The facts
14
Volatile countries have lower growth (Figure 1)
Average Yearly GDP/Capita Growth
(1970-2003, %)
-5
0
5
10
1.
Equatorial Guinea
United Arab Emirates
Iraq
Liberia
0
10
20
Standard Deviation of Yearly GDP/Capita Growth
(1970-2003, %)
Fitted Values (slope = -.247 (.049); Adj. R2=.14)
30
The facts
15
Resource dependent countries are more volatile
Standard Deviation of Yearly
GDP/Capita Growth (1970-2003, %)
10
20
30
Liberia
United Arab Emirates
Bahamas, The
0
5.
0
20
40
60
Average Resource Share of GDP
(1970-2003, %)
Fitted Values (slope =.149 (.016); Adj. R2=.44)
80
100
1
.5
0
-.5
Marginal Effect of Rent Share on Growth
for Average 1970 Openness
1.5
Blessing for some
0
.2
.4
.6
.8
Finiancial Development in 1970
Marginal Effect of Rent Share on Growth
for Average 1970 Openness
95% Confidence Interval
16
1
The Volatility Curse
17
Volatility of unanticipated output growth is
quintessential feature of the natural resource
curse!
Positive direct effect of the level of natural
resource exports on growth is swamped by
negative indirect effect of volatility on growth
performance.
Countries with high degrees of financial
development can turn resource wealth into
blessing and boon for growth.
Point-base impact stronger than diffuse
resources.
III. Windfalls encourage
unsustainable
policies
18
Erosion of critical faculties of politicians.
Netherlands in the seventies dressed up the welfare
state and governments since 1989 have been trying
to have a sustainable welfare state.
Induces excessive borrowing (Manzano and Rigobon,
2002) & invest in ‘prestige’ projects.
Loose sight of growth-promoting policies and valuefor-money management. E.g.: FES in Netherlands
State-led industrialisation through import
substitution and heavy subsidies for manufacturing.
IV. Resources ⇒rent seeking,
corruption and conflict
19
Allocation of talent: countries with many rent seekers and lawyers
grow more slowly than countries with lots of engineers (Murphy
et al)
Corruption, political instability, bureaucratic inefficiency,
assassinations and conflict also hamper economic growth
(Mauro, 1995; Leite and Weidmann, 1999). Bad effects of
resource growth mainly operates via worsening of institutions,
rule of law, etc.
Increases civil strife and wars, especially in sub-Saharan Africa
thru’ weakening of state or finance of rebels (Collier and Hoeffler,
2004; Ross, 2004). War lord competition (Skaperdas, 2004).
Distinguish between grievance and greed (Ollson and Fors,
2004).
Especially bad for point-based rather than diffuse resources.
Effects of resource dependence on institutional
quality on economic growth
Annual growth in
real GDP per
capita
Sachs and
Warner (1997a)
Based on data
in
Sachs and
Warner
(1997b)
Initial income
-1.76 (8.56)
-1.28 (6.65)
-1.26 (6.70)
Openness
1.33 (3.35)
1.45 (3.36)
1.66 (3.87)
Resource
dependance
-10.57 (7.01)
Rule of law
0.36 (3.54)
-
-
Institutional quality
-
0.6 (0.64)
-1.3 (1.13)
Investments
1.02 (3.45)
0.15 (6.73)
0.16 (7.15)
Interaction term
-
-
15.40 (2.40)
Number of
countries
71
Adjusted R2
0.72
-6.69 (5.43)
87
0.69
20
Mehlum, Moene
and
Torvik (2005a)
-14.34 (4.21)
87
0.71
Marginal effects of different types of natural
resources on growth for
different levels of institutional quality
Primary
exports share
of GDP
Ores and
Mineral
Prod of gold,
metals
production as
silver and
exports as
share of GNP diamonds as
share of GDP
share of GDP
Worst
institutions
−0.548
−0.946
−1.127
−1.145
Average
institutions
−0.378
0.425
0.304
0.279
Average +
one s.d.
institutions
−0.288
1.152
1.062
1.183
Best
institutions
−0.228
1.629
1.560
1.776
Source: Boschini, et. al. (2003)
21
Turning Gas Windfalls into Sovereign
Wealth
Assume: r* = ρ
Optimal consumption path involves full
intertemporal smoothing:
Consumption jumps at date of discovery and then
constant
As resources depleted, F falls (debt reduced/ assets
acquired) to hold total stock of wealth constant
C = Y + T = Y + r * [ PV ( N ) − F ] = Y + r *[V − F ]
Once resource exhausted, permanently higher income
from interest on SWF (-r*F).
Other approaches
Permanent Income
Hypothesis:
Use of Sovereign
Wealth Funds
Optimal if r = r*
Bird-in-hand.
PIH ignoring
resource wealth
until extracted
Optimal.
Genuine saving
24
Public and private saving at home and abroad, net
of depreciation (GNP − C − δ K)
Plus current spending on education to capture
change in intangible human wealth
Minus depletion of natural exhaustible and
renewable resources
Minus damage of stock pollutants (CO2 and
particulate matter)
Equals increase in nation’s wealth (Dasgupta and
Mäler, 2000; Hamilton & Hartwick, 2005).
Hartwick rule: genuine saving should be zero!
GENUINE SAVING AND
EXHAUSTIBLE RESOURCE RENTS
Source: World Bank
25
Consuming, saving, investing: Ricardian consumers
The Ricardian curse: (continued)
-
Fall in r* private sector surge of investment and (especially, if δ ≥ ρ)
consumption.
-
Government prudence is irrelevant: eg, low t1, high t2 foreseen by
private sector.
Kazakhstan:2004-08:
•
Govt saved 2/3rd oil revenue;
•
SWF + reserves increased by $50bn
Private external debt increased by $30bn
•
Political considerations
Political considerations: with partisan preferences
about public investment projects, incumbent will
over-borrow and over-invest in its pet projects,
especially if these are more illiquid than SWF and
chance of being kicked out of office is large.
Budget inertia and weak lobbying favouring
projects that confer large benefits on small groups.
Common-pool problems: voracious rent seeking.
In failed states, better to leave oil under the
ground.
Transparency is a must
28
Highest standards of public and corporate
accountability, PSR/CSR and transparency: publish
what you earn from exports and publish what you do
with the revenues. See Resource Charter.
Exploitation companies should publish their payments
to all governments and encourage mandatory
disclosure mechanism.
Make debt relief etc. contingent on transparency, free
press and anti-corruption efforts – role IMF, World
Bank and UNDP. Establish global information office.
Western banks should be punished for allowing tainted
money to be deposited.
How to handle extreme volatility?
•
Evidence that volatility a key factor in resource curse.
1) Hedging
• Mexico: spent $1.5bn on
option, earned $8bn
• Ecuador, Colombia,
Algeria, Texas, Louisiana;
• Unlikely to become
widespread?
• Political risks when lose
• Market impact of
hedging:
• Information
• Market power
2) Stabilization fund
Role for stabilization fund to:
a) Self-insure against periods of low price/ revenue
b) ‘Park’ funds abroad when absorptive capacity is limited
Resource funds in practise: -- two distinct objectives:
•
•
•
Stabilization fund / savings (‘future generations’) fund:
Need to keep clear separate objectives & importance
21 out 31 oil producers have funds (2005, IMF); 10 focus on stabilisation, 8
stabilisation and saving.
•
Stabilisation funds typically price or revenue contingent
•
Eg Trinidad and Tobago: 60% of ‘excess revenue’ (based on deviation of
price from long moving average) placed in fund.
Design criteria: how big should a stabilization fund be?
•
Cost of volatility to the domestic economy?
•
Opportunities for borrowing in downturn?
•
Stochastic process governing resource?
•
Political risk – fund is lootable?
3) Residual volatility
– Clear that will not feasible to fully insulate
• 2008-early 2009, MENAP forex reserves fell $40 bn and
non-oil growth fell 5% points.
• Transmission channels other than revenue
– Resource sector investment
– Other private sector responses
– Capital mobility – Zambia
– Therefore, also need domestic economy that can handle
volatility
• Market flexibility….. Labour, capital markets
• Avoid hard to reverse commitments
• Diversify…..