Managing the Economic Impact: Some Lessons from Norway

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Escaping the Resource CurseManaging
Natural-Resource Revenues in low-Income
CountriesThe Earth Institute at Columbia
UniversityFebruary 26, 2004

• Managing the Economic ImpactSome Lessons from
  Norway
  
• Per SchreinerSenior Economist, ECON
  Analysispsc_at_econ.no

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Background

• Oil and gas revenues came as a surprise
• Expected only base rock
• Without OPEC 1 little profit
• White paper Copies ? 1 of population
• Prepared a decade before positive net revenue
• Prepared in a boom that soon went bust
• Assumed spending at the peak of full employment
• Instead smoothening an international slump
• Two main messages
• Domestic spending causes structural change
• Cannot live from oil and gas alone

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Lessons from White Paper no. 25 (1974)

• Cannot live from the oil revenues only
• The gold from the new world destroyed the
  economies of Portugal and Spain
  
• No quick fixes for transforming revenues into
  economic development

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Norway fairly successful so far

• What separates Norway
• It was already a developed industrial country
• Norways institutions were mature
• Norway charted a long-run-oriented, tax-based,
  and reasonably market-friendly approach
  
• Even so, Norway faces challenges
• Populist tendencies in the parliament
• Throwing money at problems,
• Avoiding unpleasant adjustments
• Some (weak?) signs of the Dutch disease
• Absence of a large, vibrant high-tech
  manufacturing
  
• Sluggish foreign direct investment
• Unsatisfactory non-oil export growth
• Corruption We thought that we were immune, but
  
  
• Eva Joly

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Scandinavian GDP per capita (1999 USD, PPP)
Data from BLS (2003), Table 1, http//bls.gov/fls
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Norwegian trends and policies

• Early debates (started before net revenues)
• Counter-cyclical policies (at least attempts)
• Fiscal discipline (at least periodically)
• State fund investing abroad
• Highly centralized wage formation system
• Solidarity Alternative - manufacturing as wage
  leader
  
• Transparency and consensus on consequences
• Increased female participation
• Spillover-losses in traded sectors substituted
  for by gains in the highly technological off
  shore sector
  
• Subsidies, transfers, tariffs to protect
  manufacturing
  
• Investments in education, RD, know-how

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Coping with highly unpredictable revenues

• Hesitation to face variability and uncertainty
• Postponing the problem by repaying debt
• Heavy borrowing before the revenue started to
  flow
  
• Hiding the revenue Shifting it to the future
• Cash basis accounting of government investments
  (SDFI the State's Direct Financial Interest)
  
• Finally (1990) an oil fund
• First intended as a buffer, but soon also a
  savings device
  
• All revenues to the fund, all spending via the
  fiscal budget, no borrowing to the fiscal budget

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Net cash flow from petroleum extraction (p
ercent of GNP)
1980
1999
Source St meld nr 1 (1997-98)
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We did not avoid cyclical development!
Annual growth rates of GNP
? GNP
? GNP Mainland Norway
Source Fig 9, SSB Notater 2003/43 Oslo 2003
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Managing the rise in revenues

• Originally no belief in possibility of not
  spending revenues immediately
  
• Therefore planned to steer the flow of revenues
  by regulating production
  
• But very high capital costs in offshore
• Therefore trying to regulate production via
  licenses to explore
  
• But success rates are unpredictable
• Also prices are unpredictable
• We (Ministry of Finance) tried to hide the
  magnitude
  
• In vain, so finally (1990) an oil fund was created

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Three ways to spend the oil revenue (percen
t of Mainland Norway GNP)
SavingSpendingUsing real return of financial
assets

Source Chart 3.12 in Report No. 30 to the
Storting (2000-2001)
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Norwegian petroleum wealth (percent of GDP)
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The Norwegian Petroleum Fund

• The Petroleum Fund implies a diversification of
  the petroleum wealth from resources to financial
  assets
  
• It does not imply additional savings
• Keeping the assets in a fund is an accounting
  device
  
• A fund increases visibility and awareness of the
  petroleum revenues as distinct from other
  revenues
  
• It does not in itself guarantee stability
• It must not be allowed to become a state within
  the state

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How the fund works

• No borrowing in the budget
• No spending or lending directly from the fund

Source Figure 2, The Norwegian Government
Petroleum Fund, http//odin.dep.no/fin
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A fund may be lost in lower growth rate
Years
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Importance of transparency and pluralism

• The main protection lies in transparency and
  countervailing interests to curb petrolization
  
• Transparency is no simple matter, but easier to
  achieve at an early stage when vested interests
  are still not established
  
• If a political majority wants to waste the
  wealth, it is difficult to stop it
  
• Therefore, build constituencies that have a stake
  in the long-term development of the society
  
• Associations of fishermen, for example, may
  oppose oil exploitation that could pollute the
  source of their livelihood
  
• We try now to link the fund to financing old age
  pensions
  
• Thomas Friedman (New York Times, May 2001)
• Lets make all aid, all IMF-World Bank loans, all
  debt relief conditional on African governments
  permitting free FM stations. Africans will do the
  rest

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Exchange rate management

• In principle regulated exchange rates up to 1990
• Worry about excessive appreciation caused by
  expectations about high surpluses
  
• However, over 20 years successive devaluations
  caused by domestic inflation
  
• First the Central Bank remit exchange rate
  stability
  
• With little success
• Now the Central Bank is mandated to steer toward
  an inflation rate of 2.5
  
• With little success (now 0.1)
• Sensitivity of a small currency to volatile
  expectations an argument for joining the EU
  
• Adopting the EURO?

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Summing up

• Short-run planning needs a long-term perspective
• A qualitatively better society as guideline
• We had time to induce some sobreity into the
  euphoria
  
• An oil fund needs broad public consensus
• Our attempts to hide the magnitude of revenues
  unsuccessful
  
• Transparency necessary but not sufficient
• No fund statute will hold against public opinion
• Tragedy of the commons privatization, link to
  pensions?
  
• Unity of the budget
• No government borrowing, only transfers from
  fund
  
• No separate spending or lending bodies
• Possible earmarking to funding pensions

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Coordination with aid flows?

• A sad fact that aid flows are not coordinated
• Not between donors
• Not by each donor between channels
• Not with the fiscal budgets of recipient
  countries
  
• Also, aid flows are not predictable
• Many flows are decided on a one year basis well
  into the fiscal year
  
• Oil revenue flows probably are more predictable
• Unity of the fiscal budget must be the goal
• Demand management and democratic control over
  priorities impossible with multiple spending
  centers