Managing natural resource revenues: The Timor-Leste Petroleum Fund

ODI Report: This note describes the Timor-Leste Petroleum Fund and issues that have arisen in its implementation. This petroleum fund (PF) is considered by commentators and international financial institutions to be a good example of a sovereign wealth fund to manage petroleum resources in a fragile or post-conflict setting. The note contains analysis intended to brief governments in similar settings looking at how to manage revenues from natural resources such as petroleum, minerals, hydroelectricity and forests. Such resources are depletable in the sense that they cannot be easily replaced, or alternatively face a rising cost curve so that developing the current project means its successors will produce more expensive unit output, for example in the case of large-scale hydroelectricity. Exploiting these resources is equivalent to exporting the national wealth – ‘selling the family silver’ – which can either be consumed, for example in expanding civil service employment, or transformed into other assets that generate a stream of income for current and future generations.

Fear of Fracking

Jeffrey Frankel at Project Syndicate: Against all expectations, US emissions of carbon dioxide into the atmosphere, since peaking in 2007, have fallen by 12% as of 2012, back to 1995 levels. The primary reason, in a word, is “fracking.” Or, in 11 words: horizontal drilling and hydraulic fracturing to recover deposits of shale gas...

From The Economist:

• The mining industry has enriched Chile. But its future is precarious
• Kazakh and Indonesian miners battle shareholders in London
• Small-scale mining in Indonesia

The Geography of Inter-State Resource Wars

NBER WP by Caselli, Morelli and Rohner: We establish a theoretical as well as empirical framework to assess the role of resource endowments and their geographic location for inter-State conflict. The main predictions of the theory are that conflict tends to be more likely when at least one country has natural resources; when the resources in the resource-endowed country are closer to the border; and, in the case where both countries have natural resources, when the resources are located asymmetrically vis-a-vis the border. We test these predictions on a novel dataset featuring oilfield distances from bilateral borders. The empirical analysis shows that the presence and location of oil are significant and quantitatively important predictors of inter-State conflicts after WW2.

Brown Backstops Versus the Green Paradox

New OxCarre paper by Michielsen: Anticipated climate policies are ineffective when fossil fuel owners respond by shifting supply intertemporally (the green paradox). This mechanism relies crucially on the exhaustibility of fossil fuels. We analyze the effect of anticipated climate policies on emissions in a simple model with two fossil fuels: one scarce and dirty (eg oil), the other abundant and dirtier (eg coal). We derive conditions for a 'green orthodox': anticipated climate policies may reduce current emissions. Calibrations suggest that intertemporal carbon leakage (from -22% to 13%) is a relatively minor concern.

Inflated Expectations and Natural Resource Booms: Evidence from Kazakhstan

New OxCarre paper by Toews: In this paper we identify the effect of an oil price boom on households' satisfaction with income. In a natural experiment the increase in the oil price is used as an exogenous shock affecting households located in the oil and gas rich region of Kazakhstan. To evaluate the effect we use the Household Budget Survery of Kazakhstan from 2001 to 2005, a quarterly, unbalanced panel of 12,000 households. An important feature of this survey is that household heads were asked to report their "satisfaction with household income" on a scale from 1 to 5. Our results suggest that a 10% increase in the oil price decreased household's satisfaction with income by 2% with a lag of two quarters. We argue that this is due to peoples' inflated expectations regarding their income. This result highlights the importance of managing expectations in a rapidly changing economic environment.

Geoengineering and abatement: A ‘flat’ relationship under uncertainty

VoxEU: Implementing comprehensive policies to reduce greenhouse-gas emissions has proved to be difficult. Such sluggishness has increasingly led analysts and researchers to consider geoengineering – the deliberate reduction of the incoming solar radiation – as a viable alternative. Geoengineering used to be seen as somewhat of a ‘last resort’ in terms of climate policy because its implementation would reduce the urgency for current abatement efforts. However, under uncertainty, research suggests that substantial abatement in the short and medium term remains optimal due to the long lead-in time needed for geoengineering projects.

From this week's Economist

• Northern Iraq: Peace, harmony and oil
• Tanzania’s gas boom: The Mtwara Rockefellers
• A rancorous scrap over plans to send American coal to Asia
• Carbon trading: ETS, RIP?
• Oil refining: A fuel’s errand

Dutch Disease or Agglomeration? The Local Economic E¤ects of Natural Resource Booms in Modern America

New draft by Allcott and Keniston: The rise in oil and gas prices and drilling activity in the past decade has caused economists and policymakers to reconsider whether natural resource production benefi…ts producer
economies or instead creates a “Natural Resource Curse.”We use confi…dential establishment-level data from the US Census of Manufactures and Longitudinal Business Database to estimate the effects of expansions and contractions of the oil and gas sector on growth since the early 1970s. Our approach combines cross-county variation in oil and gas supply with large time series variation in production activity. Oil and gas booms increase growth rates in producer counties by 60 to 80 percent relative to non-producer counties, and a necessary condition for the resource curse is satisfi…ed: local wages increase by 0.3 to 0.5 percentage points per year during a boom. Nevertheless, manufacturing growth is positively associated with natural resource booms. Manufacturing employment and output both rise, while productivity does not, suggesting that at least in the rural counties we study, manufacturing …firms benefi…t from increases in local demand.

Windfalls, wipeouts, and local economic development: A study of an emerging oil city in West Africa

Local Economy: Analysis of the political economy of oil tends to be under the rubric of ‘resource curse’ to the neglect of the broader problematique of the distribution of windfalls and wipeouts, the mediating role of institutions, and broader issues of local economic development. This article tries to fill this lacuna by focusing on the experiences of Sekondi-Takoradi, an oil city located in Ghana. Using the principles of eminent domain and decentralisation as analytical framework, it shows ‘who gets what’ in an oil city; demonstrates why different levels of compensation and betterment ought to be paid and received; and reveals the role and struggles of the local State in trying to ensure harmonious local economic development.

Carbon Taxes as a Part of Fiscal Policy and Market Incentives for Environmental Stewardship

PhD thesis by Lint Barrage: This dissertation studies the provision of environmental public goods through price mechanisms. The …first two chapters analyze the design of carbon taxes as a part of …fiscal policy. The third chapter explores the ability of private markets to provide incentives for environmental stewardship.

Uncertainty and Decision in Climate Change Economics

NBER WP by Heal and Millner: Uncertainty is intrinsic to climate change: we know that the climate is changing, but not precisely how fast or in what ways. Nor do we understand fully the social and economic consequences of these changes, or the options that will be available for reducing climate change. Furthermore the uncertainty about these issues is not readily quantified and expressed in probabilistic terms: we are facing deep uncertainty or ambiguity rather than risk in the classical sense, rendering the classical expected utility framework of limited value. We review the sources of uncertainty about all aspects of climate change and resolve these into various components, commenting on their relative importance. Then we review decision-making frameworks that are appropriate in the absence of quantitative probabilistic information, including non-probabilistic approaches and those based on multiple priors, and discuss their application in climate change economics.

Macroeconomic Performance during Commodity Price Booms and Busts

NBER digest: Fluctuations in commodity prices often are associated with macroeconomic volatility and thus pose significant challenges for policymakers in commodity-producing nations. In Macroeconomic Performance During Commodity Price Booms and Busts (NBER Working Paper No. 18569), authors Luis Felipe Céspedes and Andrés Velasco investigate the macroeconomic response of a group of commodity-producing nations in episodes of large commodity price booms and busts. Because that response depends on the structural characteristics of the economy and the policy framework that is in place, the analysis focuses on the response of economic activity and the real exchange rate to commodity price shocks, notably controlling for the role played by financial market depth and the exchange rate regime.

Using two different indexes of commodity prices, the authors identify more than 80 commodity price booms and busts in over 30 countries between 1960 and 2008. They estimate that a 60 percent increase in the commodity price index increases output by close to 1 percent with respect to trend output. More flexible exchange rate regimes are associated with smaller responses of output during commodity price episodes. Indeed, flexible exchange rate regimes tend to better insulate the economy from price shocks as the nominal exchange rate adjusts immediately to the real shock. The impact of those shocks on output tends to be larger for economies with less developed financial markets.

An increase of 60 percent in the price index is also associated with an increase in the investment rate of around 3.5 percentage points. The investment increase is larger for economies with higher financial depth. Furthermore, for the episodes before the 2000s, the presence of more developed financial markets appears to have mitigated the impact of commodity price shocks on credit.

The authors also find that the rate of international reserve accumulation tends to reduce the appreciation of the real exchange rate in episodes of commodity price booms and busts. An accumulation of 10 percent of GDP in international reserves tends to be associated with depreciation in the real exchange rate of 5 percent. The authors argue that this result, combined with the fact that more flexible exchange rate regimes tend to be associated with more stable output dynamics, suggests that a mix of a more flexible exchange rate regime with exchange rate interventions might help to reduce macroeconomic volatility. Their analysis also suggests that the impact of commodity price shocks on the real exchange rate is reduced when the political system is more stable.

--Claire Brunel

The IMF on Energy Subsidy Reform

IMF Policy Note: The recent surge in international energy prices, combined with incomplete pass-through to domestic prices, has prompted calls to phase out energy subsidies...

Oil and economic development: Libya in the post-Gaddafi era

Economic Modelling: Libya experienced traumatic political and economic upheaval during 2011 arising from an eight-month-long civil war that cost thousands of lives, resulted in major economic dysfunction, destroyed part of the country's infrastructure, almost halted oil production, the country's major source of revenue generation and exports, as well as destroyed part of the sector's support infrastructure. While the civil war resulted in the ending of 42 years under Muammar Gaddafi rule, the economic legacy as represented by the costs of reconstruction efforts is enormous. While the freeing up of tens of billions of dollars of frozen assets may be the key to the country's short-term rehabilitation, longer-term reconstruction, growth and stability will fundamentally depend upon rehabilitating the country's oil sector. Interestingly, this rehabilitation will also have a wider global impact.

This paper uses a deterministic dynamic macroeconomic model to analyse the effects upon key macroeconomic variables of a recovery in Libyan oil production to levels that existed prior to the revolution. Model simulation results indicate that additional oil revenue brings about: an increase in government revenue, increased government spending in the domestic economy, increased foreign asset stocks and increased output and wages in the non-oil sector. However, increased oil revenue may also produce adverse consequences, particularly upon the non-oil trade balance, arising from a loss of competitiveness of non-oil tradable goods induced by an appreciation of the real exchange rate and increased imports stimulated by increased real income. Model simulation results also suggest that investment-stimulating policy measures by the government produce the most substantive longer-term benefits for the economy.

Boom–bust cycle, asymmetrical fiscal response and the Dutch disease

Journal of Development Economics: This paper investigates the changes in expenditure policy in oil-exporting countries during boom–bust in commodity price cycles, and their implications for real exchange rate movements. To do so, we introduce a Dutch disease model with downward rigidities in government spending to revenue shocks. This model leads to a decoupling between real exchange rate and commodity export price movement during busts. We test our model's theoretical predictions and underlying assumptions using panel data for 32 oil-exporting countries over the period 1992 to 2009. Results are threefold. First, we find that changes in current spending have a stronger impact on real exchange rate compared to capital spending. Second, we find that current spending is downwardly sticky, but increases in boom time, and conversely for capital spending. Third, we find limited evidence that fiscal rules have helped reduce the degree of responsiveness of current spending during booms. In contrast, we find evidence that fiscal rules are associated with a significant reduction in capital expenditure during busts while responsiveness to booms is more muted. This raises concerns on potential adverse consequences of this asymmetry on economic performance in oil-exporting countries.

Macro-hedging for commodity exporters

Journal of Development Economics: This paper uses a dynamic optimization model to quantify the potential welfare gains of hedging against commodity price risk for commodity-exporting countries. We show that hedging enhances domestic welfare through two channels: first, by reducing export income volatility; and second, by reducing the country's need to hold precautionary reserves and improving the country's ability to borrow against future export income. Under plausible calibrations of the model, the second channel may lead to much larger welfare gains, amounting to several percentage points of annual consumption.

The Dutch disease and the technological gap

Journal of Development Economics: I present a theory explaining why less technologically advanced countries could be more vulnerable to the Dutch disease. In a bilateral trade model with monopolistic competition and increasing returns to scale, the extent of the crowding-out in the tradable sector depends positively on an interaction between the amount of revenues from natural resources’ exports and the productivity gap vis-à-vis the trade partners. With learning-by-doing, the mechanism is self-reinforcing leading to a productivity divergence pattern. The predictions of the model are consistent with cross-country empirical evidence.

Oligarchic land ownership, entrepreneurship, and economic development

Journal of Development Economics: This paper develops a theory in which oligarchic ownership of land or other natural resources may impede entrepreneurship in the manufacturing sector and may thereby retard structural change and economic development. We show that, due to oligopsony power of owners in the agricultural labor market, higher ownership concentration depresses entrepreneurial investments by landless, credit-constrained households, whose investment possibilities depend on the income earned in the primary sector. We discuss historical evidence from Latin America, India, Taiwan and South Korea which supports our theory.

A Spatial Approach to Energy Economics

NBER WP by Moreno Cruz and Taylor: We develop a spatial model of energy exploitation where energy sources are differentiated by their geographic location and energy density. The spatial setting creates a scaling law that magnifies the importance of differences across energy sources. As a result, renewable sources twice as dense, provide eight times the supply; and all new non-renewable resource plays must first boom and then bust. For both renewable and non-renewable energy sources we link the size of exploitation zones and energy supplies to energy density, and provide empirical measures of key model attributes using data on solar, wind, biomass, and fossil fuel energy sources. Non-renewable sources are four or five orders of magnitude more dense than renewables, implying that the most salient feature of the last 200 years of energy history is the dramatic rise in the use of energy dense fuels.

Uganda's oil: lessons on governance and the resource curse

The Guardian: The successes and failures of other oil producing countries show that technical expertise can take you only so far. Good legislation can be rapidly undermined by bad governance...

Kill the Oil and Gas Subsidies

The Atlantic: America's Most Obvious Tax Reform Idea: Kill the Oil and Gas Subsidies

The oil industry's lobbyists like to argue that its array of tax write-offs (which allow companies to deduct everything from drilling costs to the declining value of their wells) aren't any different than other deductions for less publicly reviled companies. Cutting them will discourage new exploration and put jobs at risk, they claim.

Yet, some of the breaks are anachronisms that date back almost to the days of John D. Rockefeller. And in a world of permanently high crude prices, there's very little rationale for subsidizing the bottom lines of companies like ExxonMobil and BP...

The death of peak oil

Hamilton on Econbrowser: Perhaps it's the case that Saudi Arabia isn't willing to maintain its previous production levels, or perhaps it's the case that Saudi Arabia isn't able to maintain its previous production levels. But whatever the explanation, this much I'm sure about: those who assured us that Saudi production was going to continue to increase from its levels in 2005 are the ones who so far have proved to be dead wrong.

Can a Unilateral Carbon Tax Reduce Emissions Elsewhere?

NBER WP: One country that tries to reduce greenhouse gas emissions may fear that other countries get a competitive advantage and increase emissions (“leakage”). Estimates from computable general equilibrium (CGE) models such as Elliott et al (2010a,b) indicate that 15% to 25% of abatement might be offset by leakage. Yet the Fullerton et al (2012) analytical general equilibrium model shows an offsetting term with negative leakage. To derive analytical expressions, their model is quite simple, with only one good from each country or sector, a fixed stock of capital, competitive markets, and many identical consumers that purchase both goods. Their model is not intended to be realistic, but only to demonstrate the potential for negative leakage.
Most CGE models do not allow for negative leakage. In this paper, we use a full CGE model with many countries and many goods to measure effects in a way that allows for negative leakage. We vary elasticities of substitution and confirm the analytical model’s prediction that negative leakage depends on the ability of consumers to substitute into the untaxed good and the ability of firms to substitute from carbon emissions into labor or capital.

Mineral Resource Trade in Chile

OECD WP: Mineral resources present a formidable source of wealth but a formidable challenge to regulate in order to maximize social welfare from their extraction. Some resource-rich countries, such as Chile, have been successful in developing their economies and managing their revenue streams effectively. Strong institutions and regulatory oversight have helped to capitalize on the benefits of the mining sector for economy-wide growth and development in Chile. This paper identifies some of the good practice areas in mining regulation in Chile whose economy has shown strong growth over most of the last two decades. Some of the areas touched on in this paper are the taxation of the minerals sector, management of the tax revenue, and policies designed to foster spillovers into other sectors of the economy and make the most of Chile’s comparative advantage as a long-time global leader in the copper industry. The paper concludes that there is much to be learned from the Chilean experience in regulating its mining sector and many areas where it could be well used as a model for other mineral rich economies wishing to develop their mining sectors to enhance economy-wide growth.

The New Oil Landscape

National Geographic pics on how "The fracking frenzy in North Dakota has boosted the U.S. fuel supply—but at what cost?"

ExxonMobil Energy Outlook

The Outlook for Energy: In 2040, what types of energy will the world use, and how much? How will new technologies, efficiencies and policies impact the market?
These are some of the questions that we set out to answer in our Outlook for Energy: A View to 2040.