Oil Revenue Management World Bank Tax Policy Course April 30, 2003

Why focus on revenue management? How revenue is spent is always a critical issue For mineral tax revenue, this is probably even more important than usual: –the revenue base is exhaustible and nonrenewable (intergenerational concerns) –the revenue is highly volatile

Fiscal policy in oil-producing countries Revenue is very volatile and fluctuating Expenditure tends to be driven by revenue volatility, at times with a ratcheting-up effect Leads to procyclical, boom-bust fiscal policy

Fiscal rules Bind the policymaker to a preannounced fiscal path/framework Signaling effect to enhance credibility? Rules can vary in their formality Key requirement: penalties for deviating Design is critical for oil producing countries –decouple expenditure from oil revenue fluctuations –compatibility with the sustainable use of oil revenue

Long-run fiscal sustainability Adapt the permanent income hypothesis Convert part of natural resources into financial assets to maintain wealth constant Two possible targets: constant real wealth or constant real wealth per capita Determines the part of current oil revenue that should be saved (converted to financial resources), and the part that can be spent to “finance” the non-oil budget deficit

Simulation of fiscal rules Hypothetical simulations of two rules I. A permanent price rule –targets a balanced budget at a (cautious) budget reference price (e.g., $20/bbl) –saves excess revenue –decouples from oil price volatility II. A non-oil primary deficit rule –targets a constant non-oil primary deficit (e.g., 20 percent of non-oil GDP) –decouples from all oil revenue volatility

Hypothetical country example Large oil producer, poor with little diversification of the non-oil economy Fiscal sector dominated by oil (>70 percent of revenue from oil) Fiscal policy procyclical driven by expenditure volatility Simulate using the past volatility of oil prices—compare rules vs. no-rule fiscal outturn

Implementation issues Oil fund or central bank account? Hedging of oil revenue? Asymmetric application of rule, at least initially? Fiscal federalism issues

Governance of natural resources Three international initiatives –Publish What You Pay (Global Fund/Soros) –Extractive Industries Transparency Initiative (DFID) –Project on the Governance of Natural Resources (World Bank) Transparency is good, at an appropriate aggregation Necessary but not sufficient—what ultimately matters is how well money is spent