Development Short Read

The Natural Resources Curse 

Natural resources have long been regarded as a curse to development. New initiatives to encourage better governance are starting to change that.

T here exists such an abundance of oil in Venezuela that 90% of its exports by value are derived from it. Yet, in 2018 alone Venezuela’s economy has shrunk by 18%, unemployment has burgeoned to 37% and the Bolivar, Venezuela’s currency, is now worth so little that street sellers are weaving baskets out of it. Why did such large deposits of resources which should facilitate industrialisation and export-led growth, stunt development to such an extent? The answer lies in what’s known as “The Resource Curse”.

Paul Collier, a renowned development economist, would argue that natural resources scupper a nation’s ability to develop – by the metrics of GDP per capita, life expectancy and years of schooling – since they are not converted into productive assets. Lucrative oil revenues create perverse incentives which mean that in Venezuela, for example, as much as 33% ($1 trillion) of state revenues were misappropriated due to corruption during its 2000-2013 oil boom. These corrupt institutions arguably limit the ability of such countries to convert their resources into human, physical and financial capital, thus preventing the generation of sustainable income in the future. Due to the inherent volatility of commodity prices, exporting these raw materials may become insufficient to balance the budget meaning the monetisation of debt, inflation, and the deterioration of incomes will ensue once prices plummet.

A more nuanced analysis of this issue may suggest that regardless of volatility, reliance on exporting raw materials threatens long-term macroeconomic stability. According to the Prebisch-Singer Hypothesis, the price of primary products declines relative to that of high value-added manufactured goods such as mobile phones, cars or fridges. This means that the terms of trade – the relative quantity of imports one unit of exports is able to purchase – will perennially decline given constant import prices, as will the returns to specialisation.

This partially explains why the terms of trade of Zambia, for which primary commodities constitute 84% of trade, remained below 1 from 1974 to 2005 as it was required to export more metal ores to import the same quantity of capital, larger volumes of which may have expanded productive capacity. However, this theory may be criticised since it does not take into account supply-side factors which would influence export prices and uses Engel’s law which suggests that secular demand for food, rather than raw materials, declines in developed nations.

Lastly, significant reliance on commodity exports may prevent other tradable sectors in the economy from coming to fruition due to Dutch Disease. The term takes its name from the 1970s when surging Dutch natural gas exports caused the guilder, then its currency, to appreciate by a sixth against the pound sterling. Due to rising exports, demand for the guilder burgeoned – since exports can only be purchased when foreign currency is converted into local currency – thus causing an appreciation of its exchange rate. This meant that the price of exports of non-oil industries rose while domestic prices stayed the same, leading to lower price competitiveness and fewer revenues for the manufacturing, services and other higher value-added sectors.

Workers in industries not exporting oil are likely to face lower incomes and a lower ability to invest in their own or their children’s education as the savings are low, as low as 3% in Malawi, for example, compared to 12% in the UK, due to expenditure on necessary goods & services.  Meagre years of schooling means that productive Malawians are not able to develop their skills or voice their innovative ideas which stunts human capital development, decreases productivity and represents a loss of potential output for the economy.

The paradox of plenty certainly poses a significant hurdle to development as it promotes corruption which distorts incentives and prevents fundamental sectors from maturing. However, shifting sentiments may encourage better governance as countries such as Nigeria join the Extractive Industries Transparency Initiative; an organisation to promote financial transparency in natural resource extraction. Officials at the World Bank forecast that this effect could soon benefit the power generation, construction and water industries in developing countries. If the trend for better national management of such industries continues, natural resources may shed the curse and become what they are expected to be for the world’s most impoverished nations: a blessing.

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