Oil Wealth and the Fate of the Forest

Sven Wunder

• Verlag: Routledge
• Jahr: 2005
• ISBN:
  9781134469246
• Auflage: 1
• Thema: Commerce
• Thema: Commerce Général

Reduction in the size of the world's remaining rainforests is an issue of huge importance for all societies. This new book - an analysis of the impact of oil wealth on tropical deforestation in South America, Africa and Asia - takes a much more analytical approach than the usual fare of environmental studies.

The focus on economies as a whole leads to a more balanced view than those that are often put forward and therefore, vitally, a view that is more valid. Of use to those who study environmental issues and economics, this book is potentially an indispensable tool for policy-makers the world over.

1 The malady of prosperity

The present chapter focusses on oil wealth and the macroeconomics of petroleum-exporting countries.The key concept introduced here is the so-called ‘Dutch Disease’ – an effect usually caused by large export earnings from a commodity boom.What that term means, why or under what conditions it operates, and what are the likely consequences for the general production structure of an oil-rich developing country is explained in this chapter.This will prepare the ground for the next chapter, where we shall examine how the macroeconomic impact of oil wealth relates to land use and forests.

Origins of the Dutch Disease¹

It might not appear particularly tactful to name an entire branch of literature after the alleged sickness of one single country, especially when its citizens never actually agreed that their nation had become infected. Nevertheless, this is what has happened de facto to the Netherlands, a rich, developed country that experienced a trade-induced commodity boom. In the decades after that experience, the Dutch Disease became a standard framework for the macroeconomic adjustment challenges of mineral-exporting countries,‘mineral’ here being defined in a way which, notably, includes oil-producing countries. In the 1990s, poverty has again been brought back to the forefront of international attention, including the various diseases and vicious circles that relate to impoverishment. However, the Dutch Disease describes the opposite phenomenon: it is a disease caused by sudden affluence, more like a severe gastric eructation after an exorbitant and rich meal.

From the late 1960s onwards, the Netherlands faced a significant foreign-exchange boom from the discovery and exploitation of natural gas in the Groningen field.The government used much of the foreign-exchange windfall for additional public spending, which drove up domestic incomes, wages, demand and inflation.This was good for the sheltered, ‘non-traded’ (NT) sectors of the Dutch economy that produced only for the home market, such as construction, restaurants and hotels.They raised their prices and revenues, profiting from the fact that the boom had given the Dutch people more money to spend. But the exposed, ‘traded’ (T) sectors, notably industry, came under increasing pressure. As Dutch industrial commodities were in direct competition with foreign goods, industrialists could not just raise their prices, whether in the Netherlands or in export markets: their clients would simply turn to foreign substitutes instead. Thus Dutch industry was squeezed between an appreciating currency and rising wage costs. It could not pass rising costs on to consumers through higher prices. This meant that industrial profitability declined, so that production and employment had to be cut back, or at least did not grow as quickly as before. On the other hand, the sheltered, ‘NT’ sectors rose with rising domestic prices. The adjustment process thus simply expresses the fact that an economy with extra income and purchasing power cannot satisfy all increased demand through domestic production. It has to concentrate more on those sectors that cannot be traded, while those that are traded will lose competitiveness and lag behind.

The somewhat dramatic label ‘Dutch Disease’ was first used by The Economist (1977) in an article that described the danger of this type of structural change in sectoral production to the British economy, which recently had been benefiting from oil revenues from the North Sea. Industry was generally perceived as the ‘leading sector’, the long-term engine of developed economies, so ‘deindustrialisation’ was perceived as being strategically problematic. The Dutch case was painted as an example of how bad things can get if ‘easy money’ makes the government lose control of fiscal expenditure. As well as being an ex post facto assessment of the Dutch case (e.g. Ellman 1981; Kremers 1986), this became a hot policy issue for the UK (Forsyth and Kay 1980; Barker and Brailovski 1981; Eastwood and Venables 1982; Buiter and Purvis 1984; Chrystal 1984). Prior to this, however, similar mechanisms had already been debated in connection with the impact of oil in Norway. The pioneering article by Eide (1973) was followed, for example, by others from Hoel (1981), Baardsen (1987) and Steigum (1989). In Australia, there had already been a long discussion about the ‘Gregory effect’ (Gregory 1976) of mining revenues on the national economy (see also Snape 1977; Forsyth 1986), including extensive theoretical work by Max Corden (Corden and Neary 1982; Corden 1983, 1984). Mining was also analysed in these terms in Canada (Ansari 1990).

These different developed-country analyses of the possible negative side-effects of positive trade shocks were thus united in the Dutch Disease paradigm. These were later extended to developing countries, where most of the second-generation applications from the mid-1980s onwards are found (see below). Historical analyses diagnosed the Dutch Disease retrospectively in cases such as the impact of the inflow of precious metals from Latin America into seventeenth-century Spain (Forsyth and Nicholas 1983), the first gold discoveries in Australia (Maddock and McLean 1984) and the export of guano (a seabird dung used as fertiliser) from nineteenth-century Peru (Topik 1997). Even non-timber forest products can cause Dutch Disease, as in the case of the famous Amazon rubber boom from the end of the nineteenth century (Barham and Coomes 1994). The model can describe a price boom (greater revenue at existing production levels) or a quantity boom (the discovery of new resources and higher production at a constant price). Indeed, as the country chapters below will show, any combination of these two factors may occur, for example, higher oil prices stimulating more exploration and eventually higher oil production. This also means that the duration of such booms can actually differ substantially for different oil countries, because resource discoveries and supply responses differ across booming economies. In Dutch Disease terms, the essential precondition is that the boom brings in significantly higher foreign-exchange earnings.

A major push in Dutch Disease modelling came with the two major hikes in oil prices in the period from 1973 to 1982. However, whether or not such booms should be portrayed as a ‘disease’ remained controversial (see the discussion in the next section). The headlines describing the Dutch Disease mechanism ranged from ‘How oil revenues can destroy a country’ (Attiga 1981) and ‘Oil wealth: a very mixed blessing’ (Amuzegar 1982) to ‘The economics of a lucky country’ (a term used for Australia) and, for the actual Dutch experience,‘A case of severe hypochondria’ (Rowthorn and Wells 1987). It is obvious that sectoral reallocations and structural changes create winners and losers, and that losers tend to be more vocal in their claims that there is a ‘disease’ than winners openly boasting about their lucky strike. It is thus necessary to apply consistent observable criteria in using the term ‘disease’, such as long-term declines in national income and/or employment (Wunder 1991). If we accept this criterion, erratic policies of boom and post-boom management (e.g. anti-growth economic policies, public over-spending, rising corruption and neglect of education) qualify best as candidates for genuine ‘disease’ scenarios.

To trade or not to trade …

Let us return briefly to the question of why Dutch industry declined in the booming economy while other sectors were expanding.The Dutch Disease story involves a fundamental difference between ‘traded’ and ‘non-traded’ goods. Let us consider a simple example. A Dutchman living in Amsterdam during the natural-gas boom wanted to buy a new sweater. Going to the nearest shop, he could not make up his mind between a domestically produced sweater and an imported sweater. The latter was a ‘perfect substitute’ for the former, so he would be more inclined to buy it if the former had become unreasonably expensive. But the two sweaters were internationally traded goods, so their prices were kept stable by competitive forces.

However, when the same person went to a restaurant, it would not have been worth his while to drive all the way to Germany just because prices in his favourite Amsterdam restaurant had gone up.When building a new house in the suburbs, he could not just have it prefabricated in, say, Poland, and have it shipped in and erected in the Netherlands without the use of Dutch production factors. Besides possibly violating Dutch laws, the transaction costs of doing so would simply have been too high. Or when hiring a civil servant, the government could not choose to employ a Pakistani citizen, simply because he would accept a lower salary than Dutch applicants for the same job.The services provided by the restaurant, the construction industry and civil servants were all ‘non-traded’ commodities produced in NT sectors. They expanded unambiguously with the increase in Dutch purchasing power, as they were not threatened by foreign substitutes.

It is normal for NT sectors to grow disproportionately and become relatively more expensive in societies that are becoming richer, a situation that we fully recognise when we visit places like Switzerland or Japan and have to pay dearly for their high-cost services. But it is worth dwelling for a moment on the distinction between T and NT sectors, which is basically determined by the relative importance of transport costs in the final value of a commodity. For instance, the service sector is normally classified across the board as nontradable. But while this is true for normal services, like those provided by the local hairdresser around the corner, it does not apply for Luciano Pavarotti giving a concert in Amsterdam, or for a high-level computer expert who is brought in by a Dutch firm as a consultant.Their services have a sufficiently high value to become internationally traded,² which the services provided by the local hairdresser do not.We can recognise the same value difference with regard to the tradability of products. In agriculture, cash crops like coffee and cocoa are, and rice and wheat may be, traded across borders, but voluminous products like plantains or tubers rarely are. In forestry, high-value timbers are often traded goods, low-value species are normally not, and firewood is basically never internationally traded. In addition, cheaper transport costs from, for example, new roads or ports may help to turn non-traded goods into tradable items.

In addition to these ‘natural’ or cost-determined factors, policies and trade regulations may greatly influence the degree of tradability. For instance, over the past two decades, financial liberalisation has made previously non-traded banking and insurance services a widely traded commodity in developed economies. Some readers may also wonder why the Dutch Disease debate has focused entirely on ‘de-industrialisation’, when in principle agricultural commodities should be equally affected. The answer is that trade policies in the Netherlands, as elsewhere in the developed world, went to great lengths to shelter Dutch agriculture from external competition.Agriculture was a ‘quasi non-traded sector’, that is to say, commodities could have been traded, but due to trade policies the sector remained sheltered from foreign competition, so it came to behave much like the genuinely NT sectors.

Some of the key concepts of this and the following sections are summarised in Box 1.1. Certain commodities may occupy an intermediate position on the tradability scale, because they have had only partial exposure to international competition.These are called ‘semi-traded’ goods in this book, and may exist for several reasons. First, moderate, nonprohibitive import tariffs may hinder but not prevent the importation of certain goods. Second, technical trade obstacles, like port congestion and slow customs clearance, may de facto restrict the tradability of certain commodities. Third, trade policy is often used as a ‘stop–go’ tool of aggregate demand management, with import liberalisation during booms and reinforced protectionism during crisis periods, thus changing exposure to import competition over time. Fourth, imperfect substitution may prevail. For instance, domestic wheat producers may be protected by prohibitions on wheat imports, but may still be threatened by the free imports of a close substitute (say, rice) that consumers can switch to.

We should thus keep in mind the fact that although the distinction between traded and non-traded goods defines the key sectors in the Dutch Disease adjustment process, the classification of products is neither fixed over time nor, especially, between countries. A T sector in one country may be NT in another, either because of trade policy (quasi NT sectors) or because of the structures that determine relative trade costs.The Dutch Disease is thus basically a sectoral adjustment to higher wealth accruing from a trade windfall and triggering a change in relative prices and production quantities. In the following section, the basic price-adjustment mechanism will be described in general terms, without resorting to a fully formalised mathematical model.³

The core-model price mechanism

Relative prices (RP) have a key role to play in the Dutch Disease. RP is defined as the indexed ratio of non-tradable prices (p_NT) to tradable goods prices (p_T):

RP = p_NT · (p_T)^–1(1)

Box 1.1 A small Dutch Disease dictionary

Boom/Bonanza – Period of price- or quantity-induced high foreign-exchange earnings from a dominant traded booming sector

Booming sector – A dominant traded sector (‘oil’) with fluctuating foreignexchange generation

Bust/Slump – Period of price- or quantity-induced low foreign-exchange earnings from a booming sector

Cost effect – The impact of a different intensity of production factors (labour, capital, importables, energy, etc.) in sectoral cost functions on the profitability of sectors (Dutch Disease model extension)

NT sectors – Sectors that are sheltered from import competition (e.g. construction, private and public services)

‘Pure’ T sector – Sectors that are fully exposed to foreign competition and prime candidates to be hit by the Dutch Disease, typically non-booming exports

Quasi NT sectors – Potentially tradable sectors that through intervention (typically trade policy) have become de facto fully sheltered from imports, and thus behave like NT sectors

Real exchange rate (RER) – Time-series index measuring a country’s nominal exchange rate, corrected for the inflation differential with respect to its main trading partners

Relative prices (RP) – Time-series index measuring the price of non-tradables in proportion to that of tradables [p(NT)/p(T)]

Rent, economic – A super-normal profit exceeding the common remuneration of a production factor

Rent-seeking – Economic agents’ allocation of resources to the pursuit of economic rents

Resource movement effect – Boom-led impact that makes factors of production move to the booming sector from the rest of the economy

Semi-traded sectors – Sectors that are only partially exposed to import competition (e.g. due to imperfect competing substitutes, non-prohibitive tariffs or shifting trade policies over time)

Spending effect (also ‘core effect’) – Boom-led stimulation of aggregate ...