Posted by: rumnet | December 24, 2010

OIL FIND: Blessing or Curse?

GHANA’S OIL FIND: Blessing or Curse?

By Abdallah Kassim

(published in the December edition of the advocate)

Oil platform

Many countries rich in natural resources exploit and squander that wealth to enrich a minority while corruption and mismanagement leave the majority impoverished. The consequences of development based on the export of petroleum have tended to be negative during the past 40 years. Detrimental effects include slower-than-expected economic growth, poor economic diversification, dismal social welfare indicators, high levels of poverty and inequality, devastating environmental impacts at the local level, rampant corruption, exceptionally poor governance, and high incidences of conflict and war.

Will the discovery of oil in Ghana be a blessing or a curse? The zest with which government proclaimed the oil find created the impression among Ghanaians that it heralds buoyant economic times and a rise in their living standards.

But two acclaimed authorities on the oil industry- Terry Lynn Karl and Joseph E. Stiglitz- in separate essays, caution that exporting oil by itself does not transform poor countries into flourishing economies.

Terry describes oil as “simply a black viscous substance that can be beneficial or detrimental: what matters most is not the inherent character of the resource itself but how the wealth generated on petroleum is shared and utilized.”

Joseph adds that: “There is a curious phenomenon that economists refer to as the “resource curse.” It appears that, on average, resource-rich countries have performed worse than those with smaller endowments—quite the opposite of what might have been expected. But not all resource-rich countries have fared the same.”

Terry submits that a combination of factors makes oil-producing countries prone to policy failures and growth collapse. Some of the factors are: the volatility of the price of oil, the Dutch Disease, lagging skill accumulation and massive inequality.

The global oil market, Terry explains, “Is arguably the world’s most volatile; sudden price gyrations and subsequent boom and bust economic cycles are difficult for policymakers to manage effectively. Price volatility exerts strong negative effects on budgetary discipline and the control of public finance as well as efforts at state planning. It is also negatively associated with effective management, improved income distribution, and poverty alleviation.”

As a reference point, he said: “Due to the highly volatile nature of oil markets, oil-exporting nations often fall victim to sudden declines in their per capita income and growth collapses of huge proportions. The statistics are startling: In Saudi Arabia, whose proven crude oil reserves are the greatest in the world, per capita income has plunged from $28,600 in 1981 to $6,800 in 2001. In Nigeria and Venezuela, real per capita income has decreased to the levels of the 1960s, while many other countries—Algeria, Angola, Congo, Ecuador, Gabon, Iran, Iraq, Kuwait, Libya, Qatar, and Trinidad Tobago—are back to the levels of the 1970s and early 1980s.”

According to Terry, countries that depend on oil often suffer from what he called the Dutch Disease- a situation in which the oil sector pushes up the exchange rate of the local currency and renders other exports, like cocoa, non- competitive.

“In effect oil exports crowd out other promising export factors, especially agriculture and manufacturing, making economic diversification particularly difficult.”

Terry adds that although the petroleum industry is the world’s most capital and technologically intensive industry, it creates few jobs, and the skills required for the jobs do not fit the profile of the unemployed in the exporting countries.

He said instead, highly skilled labour from the oil-producing country is sent abroad for training or foreign workers are brought in to do the work. This robs the country of the huge benefits from the “learn by doing” process that is the pivot of economic development.

On the surface, Ghana’s oil find portends a blessing but it could be a ‘resource curse’ if it is not managed prudently. Terry refers to resource curse as the “inverse relationship between high natural resource dependence and economic growth rates.” While agreeing that not all natural resources are equal, he says, “a number of recent studies have shown that resource- rich developing countries have under-performed when compared with their resource-poor counterparts.”

He goes on to say that, “those countries dependent on exports of ‘point of source’ natural resources (meaning those extracted from narrow geographical or economic base such as oil or minerals) are more associated with slower growth. Infact, oil-and-mineral driven resource-rich countries are among the weakest growth performers, despite the fact that they have high investment and import capacity.”

Joseph- Terry’s counterpart- asserts that often resource-rich countries are saddled with massive inequality: usually the country is rich but the people are poor. He thinks much of the problem is political in nature and says, “There need to be both macroeconomic and microeconomic policies put in place to ensure that the country gets the most for its resources; that the resources of the country lead to increased growth; and that benefits are widely shared.”

As far as macroeconomic policies are concerned, Joseph says the most difficult decisions to make are those that address questions as: how fast the resources should be extracted and how the revenue should be used; should the country increase its cash flow by borrowing; what kind of institutional set up would ensure that appropriate microeconomic decisions are made.

Joseph cautions oil-producing countries on borrowing from international banks: “International banks often contribute to the tendency of petroleum exporting governments to spend beyond their means. When oil prices are high, they are willing to lend them money to increase their rate of expenditure. When oil prices fall or interest rates rise, the lenders are quick to call in their loans. The bankers’ general maxim is that they prefer to lend to those who do not need the money.”

He adds that when the price of oil falls, oil-producing countries need money, but that is when the lenders want their money back. “That is why capital flows tend to be cyclical, exacerbating the fluctuations brought about by the fall in price of the natural resource anyway.”

Joseph points out that the type of accounting frame work that governments adopt in the management of oil resources is critical. He said often governments manage their resources poorly because they adopt the widely used standard accounting frameworks, which do not provide the true picture. Governments think they are better off if they can increase growth rates. But gross domestic product (GDP) does not provide a true measure of economic well being.

‘If the country extracts more resources and funds are not invested well, the country is poorer not richer. Just as a firm’s accounting frameworks takes into account depreciation of its assets, a country’s accounting frameworks should take into account the depletion of its natural resources and deterioration of its environment.”

He says it is imperative for an oil-producing country to make some savings from revenues by creating a stabilization fund- setting aside funds in a separate account to check against the propensity for governments to spend all the resources at their disposal. The funds could also prevent expenditure from catching the Dutch Disease.

Joseph thinks that sound microeconomic policies to increase revenues and ensure prudent spending are essential. The most important set of policies, he says, are those that increase transparency, give out more information on deals with companies involved in the extraction of natural resources; the contracts that are signed; the amounts government receives and the uses to which the funds are put.

Terry, on his part, proposes modalities for avoiding the resource curse syndrome. This includes commodity stabilization funds that can mitigate price volatility, more economic openness and sophisticated  foreign exchange policies to mitigate the Dutch Disease; more efficient investment in human resources, especially education and skill acquisition; and greater transparency and new tax policies.

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