NS3040 Summer Term 2018 Economic Security: Resources Federal Reserve Bank of Chicago, Strong Dollar Weak Dollar

Resource Security Daniel Yergin, Ensuring Energy Security, Foreign Affairs, 2006 Classic article outlining strategy for countries to pursue in minimizing risks from energy shocks and supply interruptions Theodore Moran, Feeding the Dragon, Milken Institute Review Examines Chinese resource strategy to see if country is trying to tie-up world supplies of strategic resources Michael Ross, Blood Barrels: Why Oil Wealth Fuels Conflict, Foreign Affairs, 2008 Attempts to explain the oil curse Why many oil producing countries are prone to conflict, instability, and poor economic performance

Daniel Yergin: Ensuring Energy Security I Energy security a major issue since Churchill’s time – shifting British Navy from coal to oil Churchill’s advice: “Safety and security in oil lie in variety and variety alone” Energy security focus often driven by tight oil markets and high oil prices, but new concerns in recent years: Power blackouts more common Increased risk of terrorist attacks to energy infrastructures Instability in many producing countries Increased threat posed by Iran Natural disasters seem to be more frequent

Daniel Yergin: Ensuring Energy Security II “Energy Security” means different things for different countries: Developed world – availability of sufficient supplies at affordable prices Energy exporting countries – security of demand for exports For Russia, aim is to reassert state control over strategic resources and gain primacy over main pipelines to international markets For China and India – their ability to rapidly adjust to their new dependence on global markets after long standing commitments to self sufficiency For Japan – how to manage dependence on imported natural gas -- For many countries – whether to build new nuclear plants and perhaps return to clean coal For Canada -- access to U.S. and Chinese markets

Daniel Yergin: Ensuring Energy Security III Main principles for energy security Original energy security system created in response to 1973 Arab oil embargo International Energy Agency (IEA) created Intended to ensure coordination among industrialized countries in the event of supply disruption Encourage collaboration on energy policies Avoid hostile scrambles for supplies and Deter any future use of an oil weapon by exporters Early actions to increase energy security Strategic petroleum reserve Encourage increased exploration, technology, alternative energy

Daniel Yergin: Energy Security IV To maintain energy security – key principles Churchill’s diversification of supply still important Oil is abundant and peak-oil not yet a problem Resilience – develop a security margin in the energy supply system – buffer against shocks Recognize reality of integration – there is only one oil market -- a complex and worldwide system For all consumers, security resides in the stability of this market Importance of information High quality information underspends well-functioning markets IEA has led way in improving flow of information about world markets and energy prospects

Energy Trilemma

Michael Ross: Blood Barrels I Wants to explain why conflict developing country oil producers. Not just oil – conflict often associated with diamonds and other minerals These countries often have a hard time sustaining growth for long periods of time Many have been plagued with: High levels of debt, High unemployment Sluggish or declining economies Half of members of OPEC were poorer in 2005 than they had been in 1975 Countries that had seemed on verge of great promise, Algeria, Nigeria, Iraq, and Iran were unable to capitalize on oil

Michael Ross: Blood Barrels II Some causes of instability and poor performance Dutch Disease – tendency for exchange rate to become overvalued Discourages diversification Hurts non-oil export industries Sudden glut of revenues Few countries have fiscal discipline to invest windfalls prudently Many White Elephants Governance problems Tends to be increase in corruption Tendency for more authoritarian governments

Michael Ross: Blood Barrels III Biggest danger associated with oil – armed conflict Among developing countries, oil producers twice as likely to suffer internal rebellion Oil wealth can trigger conflict in three ways 1. Can cause economic instability which leads to political instability When people lose jobs become more frustrated by government and easier to recruit into rebel armies Most oil producers have periods of booms and busts – during busts, government has harder time financially combatting rebel or separatist groups

Michael Ross: Blood Barrels IV 2. Oil wealth often helps support insurgencies Raising money is relatively easy – steel oil and sell it on black market Get foreign financing on promise of friendly deals once in power Extort money from companies in remote areas 3. Oil wealth encourages separatism Oil and gas often produced in enclaves that provide considerable revenue for central government, but few jobs for locals Locals feel not getting fair share – want autonomy

Threats to Oil Companies

Michael Ross: Blood Barrels V Possible ways to combat problems – no single way to bring peace to oil producing states 1. Cut off funding for insurgents who profit from oil trade Refusing to buy oil that is sold by insurgents 2. Encourage governments of resource-rich states to be more transparent Lack of transparency facilitates corruption and reduces public confidence in state 3. Help oil states better manage the flow of their oil revenues – companies should bear more of risk of volatile prices Not mentioned by Ross – direct payment to population – sharing of oil wealth directly

U.S. Oil Imports: Venezuela Venezuela: Falling Production EIA, Political Risks Foocus Attention on Supply of venezuelan Oil to the United States, January 22, 2013

Venezuelan Oil Exports, 2011 Venezuela Regional Trade -- ALBA

U.S. Crude Oil Supply, 2012 U.S. Import Picture

T. Moran: Feeding the Dragon I Asks question: Has China embarked on a long-term strategy of controlling access to natural resources from around the world? A plausible case could be made: Japan attempted to do something similar in the 1930s China may be anxious to reduce its dependence on the commercial goodwill of foreigners Rapid sustained economic growth would be far more difficult without large and growing imports of resources China might fear some sort of future resource-linked sanctions – human rights, refusal to join climate accords etc.

China’s Global Investments Smart Planet Daily, October 23, 2013

T. Moran: Feeding the Dragon II Argues while can make a plausible case that China is trying to control world supplies of resources Chinese companies have taken equity stakes in African oil fields Extended loans to mining and petroleum investors in Latin America Written long-term procurement contracts for minerals and natural gas from Australia Important question is Whether or not these steps reduce other buyers’ access to world supplies, or Actually might these tactics actually serve the interests of non- Chinese buyers – increasing global supplies.

T. Moran: Feeding the Dragon III Need to look at the evidence. Best done by examining Chinese natural-resource procurement deals Four broad types of Chinese resource transactions: 1. Equity stakes in large, established producers 2. Equity states in start-ups and small producers aiming for expansion 3. Loans to established producers in which the debt is linked to a purchase 4. Loans to back the expansion of small developing firms 1 and 3 simply gives a Chinese company a legal claim on the output of an established producer Has zero sum implications China’s access comes at the expenses of other importing nations

T. Moran: Feeding the Dragon IV If deals were 2 or 4 The procurement arrangements expands and/or diversifies output – all resource users stand to gain Moran then examines China’s 16 largest procurement deals from 1996 – 2009 Resources included oil, natural gas, bauxite, copper etc Some cases (3 of 16) where Chinese companies took an equity stake to create a “special relationship” with an established producer Typical pattern (13 of 16) was for Chinese enterprises to Take equity stakes or Write long-term procurement contracts with producers that operate at the competitive fringe and need Chinese capital and expertise to expand Everyone gained

T. Moran: Feeding the Dragon V Rare earths and Lithium – Exceptions to Rule? More than 90 percent of rare earths used in U.S. now come from China Driven by cost not scarcity However concern over Chinese restricting exports Many rare earths used in high-tech products, green technologies Potential danger here that China might try to lock up other supplies of rare earths Lithium important for high performance batteries China currently the leading producer However lithium available from many regions Half world reserves in Bolivia

T. Moran: Feeding the Dragon VI Summing up Finds much of China’s resource investment is flowing into regions and countries avoided by Western investors Sudan, Iran, Zimbabwe China does not make demands for improved governance Feels concerns about China’s push to secure resources well grounded but probably misdirected Over-all effect so far has been positive Primary reason that Chinese policies are making resource markets more competitive rather than less is China’s willingness to invest where other’s won’t Concludes China a problematic partner in efforts to coax outlier states into the global civil society

China’s Risky Portfolio FT Big Read: China, October 14, 2016