The Macroeconomics of Oil Booms: Lessons for SSA

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The Macroeconomics of Oil Booms Lessons for
SSA

• Ibrahim Ahmed Elbadawi
• Development Research Group
• World bank
• Africa House, NYU
• October 16, 2008

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Outline

• Motivation
• The Rise of China and Implications for SSA
• Lessons from the Resource Curse Literature
• Macroeconomic Response to the Oil Boom
• Was the boom absorbed?
• Was it spent?
• Four experiences
• Conclusions and policy implications
• Main conclusions
• A three-pronged approach
• A macroeconomic framework for oil management
• A business plan for economic diversification
• A social contract for managing conflicts

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Motivation

• Rise of China (and potentially India and other
  Asia) open huge opportunities for natural
  resource exporters in AFR
• Notwithstanding the current global financial
  crisis, demand for natural resources is likely to
  keep commodity prices (especially oil, gas and
  some minerals) high (or at least above historical
  levels) for the foreseeable future
• Structural transformation in China
• India poised to step in
• However, the ultimate development impact of the
  current boom on the region will be determined by
  its own policies and institutions

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Accommodating the Giant two contributions from
the literature

• A model of the World Economy (Coleman, 2007)
  predicts
• Rising TOT and Growth in countries exporting
  inputs for labor-intensive manufacturing/processin
  g prospects for natural resource-intensive
  economies
• Declining TOT and Growth for other
  labor-intensive manufactures/ processing
  exporters restructuring toward the services
  sector (Korea, Taiwan)
• Increased welfare for more advanced countries
  importing labor-intensive products (USA, EU)
• Another Model of the World Economy (Chamon and
  Kremer, 2006a,b) predicts
• Rapid Transformation of the two giant economies
  of China and India and their graduation from
  labor-intensive exports will lead to
  unprecedented transformation of other developing
  economies
• However, this may take longer time to achieve
• Moreover, a queuing process may emerge with less
  well managed economies having to wait
  significantly longer
• However, in the medium to longer-runs TOT for raw
  material would rise (as in the first model)

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The Rise of China India Implications for SSA

• TOT, Exports Growth
• TOT and income rising for exporters of natural
  resources and declining for exporters of
  labor-intensive manufacturing/processing
• Rising (declining) exports of oil mineral
  (labor-intensive manufacturing/processing)
• As importers, China (India and other Asia)
  account for most of the surge in oil and mineral
  exports
• Growth in China (India and other Asia) main
  drivers
• Trade Policy FDI from China
• Chinas trade policy promotes imports of raw
  inputs and discourages manufactured/processed
  materials
• Most Chinese FDI focused on the oil and mineral
  sectors

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Implications of Oil Price Boom on Oil-exporting
SSA Countries
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Africa Faces Higher Tariff Rates on Processed
Goods

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Foreign Investments in Africa and their Link to
African Exports

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Yet, African Export Sophistication Remains Low

• Source Hausmann, Hwang, Rodrik, 2006

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Experiences with Previous Oil Booms

• Growth in median oil/mineral exporter collapses
  when fortune reverses
• Savings high during the boom and with less
  dramatic decline after the boom (though perhaps
  low relative to the optimum level consistent with
  non-renewable resource based economies)
• However, important cross-country differences (ppp
  GDP per capita)
• Chile, Indonesia, Norway, Botswana (sustained
  growth)
• Angola, Gabon, Nigeria, Kuwait, Saudi Arabia
  (post-boom collapse)
• Chad, Republic of Congo, Equatorial Guinea, Sudan
  (too recent to judge)

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Growth and Savings Performance of Developing
Countries
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However, Growth Experiences Have Been
Heterogeneous (1981-86)
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GDP per Capita PPP for Various Countries Success
Stories
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.. Oil Curse Stories
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.. New Entrants Stories
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To Summarize the Messages of the Figures Above

• A resource curse appears to be the norm rather
  than the exception
• Thus, explaining the Curse is critical
• The Dutch Disease Approach
• The Rent-Seeking/Voracity Story
• The Volatility Story
• The Inefficient Specialization Thesis

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Lessons from the Resource Curse Literature

• All four approaches appear to be relevant
  post-boom growth collapses were associated with
  in-boom
• RER appreciation, sharply declining non-resource
  exports (Dutch Disease)
• Fiscal dominance and/or high debt and myopic
  economic and political governance (the
  Rent-Seeking Story)
• High growth volatility (the Volatility Story)
• Financial imperfections, extremely squeezed
  non-resource tradable sector and high interest
  rates (the inefficient specialization thesis)
• Moreover, the inefficient specialization thesis
  provides a concrete transitional policy framework
  for the medium-term

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Macroeconomic Management of the Current Oil Boom

• The current boom suggests that some countries may
  be vulnerable to the oil curse
• High debt (Angola, Rep. Congo, Sudan)
• Low governance (virtually all countries)
• RER Overvaluation (Rep. Congo, Gabon, Sudan)
• Low financial development (all SSA oil countries)
• Extreme growth volatility (Angola, Chad, Rep.
  Congo, Equatorial Guinea)
• High Inflation (Angola, Nigeria)

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Oil Exporters Experiences in the Current Boom
(2000 forward)
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Macroeconomic Management of the Oil Boom

• Observed performances depend on how the oil rents
  have been managed
• Two basic concepts (IMF, 2005)
• Absorption the widening of the (before oil)
  current account deficit due to the boom
  ?(Non-oil current account deficit)/ ?Oil exports
• Spending the widening of the government (before
  oil) fiscal deficit due to the boom?(G-T)/ ?Oil
  revenues

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Was the Boom Absorbed? Was it Spent? Four Country
Experiences

• Highlights
• Gabon heavily oil-dependent but oil output is
  declining long-standing and fairly stable
  autocracy above median savings from oil
• Kuwait almost totally oil-dependent relatively
  accountable constitutional monarchy, though in
  highly unstable regional politics high savings
  and good experience in managing them
• Nigeria highly oil dependent but with good
  diversification potential nascent democracy
  limited/unsuccessful experience with saving the
  boom
• Sudan increasingly oil dependent but good
  diversification potential transitional
  post-conflict regime with high uncertainty ahead
  failed to sustain initial savings from oil boom
  (National Oil account almost depleted)

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Was the Boom Absorbed? Was it Spent?

• Gabon and Kuwait chose to not absorb/spend in
  period 2000-05
• Increase in intl reserves, building
  stabilization accounts/future generation funds,
  and retirement of debt
• However, they both partially absorbed in 2003
  forward though Gabon did not spend and Kuwait
  almost fully spent
• Signs of disequilibrium appreciation in Gabon
• Nigeria absorbed over 200 of the oil revenues
  it spent over 200 in first period but did not
  spend in the second
• Yet, no overvaluation although some RER
  appreciation took place. Evidence of inflationary
  finance
• Sudan absorbed over 60 and almost fully spent
• Consistent with low savings and disequilibrium
  RER appreciation
• High expenditure and widening fiscal deficit
• Rising external domestic debt
• Through domestic financial instruments with very
  high implicit interest rates
• Further worsens financial intermediation and
  currency appreciation
• Even a modest decline in the prices of oil could
  have dire consequences

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Policy Implications

• Rise of China (and potentially India and other
  Asia) likely to sustain high global demand for
  commodities, especially oil, gas and minerals
  huge opportunity for the resource-rich countries
  of Africa
• Ensuing boom brings opportunities/challenges for
  SSA
• However, the ultimate outcome depends on domestic
  policies and institutions
• Inefficient specialization vs. structural
  transformation/diversification
• Sustained vs. growth collapse

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A Three-pronged strategy

• High and sustained savings
• A business plan for economic diversification
• A social contract for managing conflicts and
  mitigating shocks

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A Three-pronged strategy

• 1. High enough and sustained savings, consistent
  with the non-renewable nature of the economic
  base
• Strong fiscal policy stance sustainable debt and
  primary (before oil) fiscal deficit ratios ..etc.
• Stable macro
• Deep and efficient financial sector
• Efficient management of savings stabilization
  account, future generation funds ..etc (Chile,
  Norway, Botswana, Kuwait)

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A Three-pronged strategy

• 2. A business plan for economic diversification
• Stable and measured RER appreciation (high
  savings, gradual capital account liberalization)
• A policy framework for the short-to-medium term
  preventing the disappearance (or near
  disappearance) of the non-resource tradable
  sector (i.e. avoiding inefficient specialization)
• Financial guarantees contingent on the real
  exchange rate (second best measure)
• Pursue policies beneficial to sectors likely to
  suffer from the resource boom enhance returns
  and productivity (skills, public investment,
  investment climate)

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A Three-pronged strategy

• 3. A Social contract for managing conflicts and
  mitigating shocks
• Sustainable and fiscally viable social contract
  adequate and efficient social service delivery (
  education, health, housing, pension system ..etc)
• Open, transparent and accountable economic and
  political governance, especially in socially
  fractionalized societies

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The Political Economy

• Fundamental question political context for
  successful oil management
• Key to success
• Stability, a measure of political legitimacy,
  long policy horizon, high savings, strong
  competitiveness/powerful non-oil constituency
• Successful regimes
• Very few success stories outside Mature Democracy
  (Norway)
• However, partial (non-factional) democracy very
  promising (Botswana, Indonesia)
• And, reformist autocracy has some successes
  (UAE, Chile under the Military) not applicable
  to socially diverse societies

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The Political Economy

• The Failures
• Paternalistic Autocracy
• Has some measure of legitimacy, long planning
  horizon and stability
• However, its undoing is lack of transparency, low
  competitiveness and unsustainable fiscal policy
• Predatory Autocracy Fractional Democracy
• Simply nonstarters limited legitimacy, short
  term policy horizon, little or no savings ..etc

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• Thank You

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Backup Slides
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Management of Oil Revenues in the Four Countries
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• Dynamics of the RER and Its Equilibrium

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Growth Simulations of the Impact of RER
Overvaluation for SSA and non-SSA country groups
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But How Were Fiscal Surpluses/Deficits Allocated?

• Fiscal Deficit-Oil Revenue?H ?B ?NIR

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Fiscal Surplus/Deficit Allocation

• Kuwait and Nigeria large before-oil fiscal
  deficits yet, positive overall fiscal balances
• Pay down debt/build oil saving accounts (Kuwait)
• Stabilize the economy (Nigeria)
• Gabon Smaller before-oil fiscal deficits yet,
  positive overall fiscal balance
• Pay down debt/build oil saving accounts
• Sudan Growing before-oil fiscal deficits and
  negative overall fiscal balance
• Reserve accumulation, debt accumulation and
  monetary expansion

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