Natural Resources and Economic Growth: From Dependence to Diversification Thorvaldur Gylfason

Overview of presentation 1. 1.Origins and symptoms of the Dutch disease 2. 2.Thinking about natural resources and economic growth 3. 3.Interlude on OPEC 4. 4.Empirical evidence on resources and growth around the world 5. 5.Lessons from Norway

Neither Dutch nor disease Discovery of off-shore oil and gas in late 1950s, early 1960s Resulting upswing in exports of natural gas led to appreciation of Dutch guilder This hurt other exports for a while Threat of de-industrialization The problem proved short-lived But the name stuck 1

The Dutch disease: Some symptoms Overvaluation of the currency Exchange rate volatility Excessive wages Greenland Centralized wage bargaining All this hurts the level or skews the composition of exports May also hurt FDI

Why these things may be important Exports and FDI are good for growth Openness to trade and investment stimulates imports of goods and services, technology, ideas, know-how Too much primary export dependence and too little manufacturing may hurt growth growth is key So, economic growth is key

Arab countries: Exports (% of GDP)

Thinking about natural resources and growth Naturalresources Economicgrowth x 2

Naturalresources Economicgrowth x What is x ?

Five channels of transmission 1. The Dutch disease Exchange rates, wages, volatility Hurts level or composition of exports 2. Rent seeking Protectionism, cronyism, corruption 3. Overconfidence Poor quality of policies and institutions education 4. Neglect of education 5. Not enough investment Social capital

Crowding out Put differently, natural capital may crowd out Social capital Human capital Physical capital Matter of taste whether these mechanisms are viewed as additional symptoms of the Dutch disease or as separate channels of transmission

Interlude: A quick look at OPEC Nigeria has been stagnant since independence in 1960: No growth Per capita growth Iran and Venezuela: -1% per year Libya: -2% Iraq and Kuwait: -3% Qatar: -6% Why? 3

Background: A quick look at OPEC King Faisal of Saudi Arabia ( ) would hardly have been surprised: “In one generation we went from riding camels to riding Cadillacs. The way we are wasting money, I fear the next generation will be riding camels again.”

Background: A quick look at OPEC Lee Kwan Yew, founding father of Singapore ( ), would not have been surprised either: “I thought then that wealth depended mainly on the possession of territory and natural resources, whether fertile land..., or valuable minerals, or oil and gas. It was only after I had been in office for some years that I recognized... that the decisive factors were the people, their natural abilities, education and training.”

Is OPEC an exception? No, this seems to be a general pattern. Of 65 natural resource abundant countries , only four had Investment of more than 25% of GDP Per capita GNP growth of more than 4% per year They are: Botswana, Indonesia, Malaysia, Thailand

But there is an exception: Norway The problem is not the existence of natural wealth as such... but rather the failure to avert the dangers that accompany the gifts of nature Norway is, so far, a success story Government takes in 80% of oil rent and invests it mostly in foreign securities No signs of damage to growth potential, at least not yet (but some worry!)

Natural capital and growth: The evidence Review a few of the empirical findings of the new literature on natural resource abundance and growth Present cross-country evidence Individual historical case studies support the results Stress linkages between natural capital and various determinants of growth as well as growth itself 4

Education and natural capital A five percentage point increase in the natural capital share goes along with a decrease in secondary-school enrolment by almost 10 percentage points. 91 countries r = Natural capital crowds out human capital A new measure of natural resource dependence A new measure of natural resource dependence Confirms results based on other measures Confirms results based on other measures r = rank correlation

Economic growth and education 87 countries A 30 point increase in the secondary enrolment rate goes along with an increase in per capita growth by 1% per year. Education is good for growth and vice versa r = 0.62 Diminishing returns to education

Summary of results on education Growth Education Growth Resources Education + =

Interpretation of results high-skill labor high-quality capital Natural-resource-based industries are generally less high-skill labor intensive and less high-quality capital intensive than others, and so confer few external benefits distort comparative advantage impede learning by doing, technical advance, and economic growth

Investment and natural capital 85 countries r = A ten point increase in the natural capital share goes along with a decrease in investment by 2% of GDP. Natural capital crowds out physical capital

Economic growth and investment 85 countries r = 0.65 A four point increase in the investment rate goes along with an increase in per capita growth by 1%. Investment is good for growth and vice versa

Summary of results on investment Growth Investment Growth Resources Investment + =

Openness and natural capital 91 countries A 2,5 point increase in the natural capital share goes along with a decrease in openness by 2% of GDP. r = Natural capital crowds out foreign trade

Economic growth and openness 87 countries Openness is good for growth and vice versa An increase in openness by 14% of GDP is associated with an increase in per capita growth by 1% per year. r = 0.40

Summary of results on openness Growth Openness Growth Resources Openness + =

Economic growth and natural capital 85 countries What is the empirical evidence? r = A ten percentage point increase in the natural capital share goes along with a decrease in per capita growth by 1% per year

Sources of Growth –– + denotes a positive effect in the direction shown – denotes a negative effect in the direction shown + – – –

Lessons from Norway 5 Large petroleum sector Contributes 25% of GNP and almost 50% of exports (2000) Contributes 25% of GNP and almost 50% of exports (2000) Second largest oil exporter in the world Second largest oil exporter in the world Oil wealth is estimated at % of GNP Oil wealth is estimated at % of GNP State takes in about 80% of oil rent Mostly through taxes and fees Mostly through taxes and fees The oil is a common property resource by law The oil is a common property resource by law Oil revenue is deposited in oil fund Invested in foreign securities Invested in foreign securities

The oil fund: A fair and efficient strategy The purpose of the oil fund To share the wealth fairly across generations To share the wealth fairly across generations To shield domestic economy from overheating and possible waste To shield domestic economy from overheating and possible waste Fund will become huge... if Norwegians resist the temptation to use too much of the money to meet current needs

Why Norway has succeeded where OPEC failed Long tradition of democracy and market economy in Norway since before the advent of oil Large-scale rent seeking was averted Large-scale rent seeking was averted Adequate investment performance Adequate investment performance Excellent education record Excellent education record Even so, Norway faces challenges Some (weak) signs of Dutch disease Some (weak) signs of Dutch disease Stagnant exports, sluggish FDI Stagnant exports, sluggish FDI

One last point Perhaps the main challenge is to make sure that the oil fund does not instill a false sense of security May need to immunize the fund from political interference -- like the courts, media, even central banks May need to immunize the fund from political interference -- like the courts, media, even central banks This may require privatization This may require privatization But private sector is not infallible either But private sector is not infallible either So, best to adopt a mixed strategy So, best to adopt a mixed strategy

Good times demand strong discipline The End Natural resources bring risks A false sense of security leads people to underrate or overlook the need for good policies and institutions, good education, openness, and good investment A false sense of security leads people to underrate or overlook the need for good policies and institutions, good education, openness, and good investment Awash in easy cash, they may find that hard choices perhaps can be avoided Awash in easy cash, they may find that hard choices perhaps can be avoided Awareness of these risks is perhaps the best insurance policy against them Awareness of these risks is perhaps the best insurance policy against them