Paradox of plenty; the natural resources divide

19th July 2017


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  • Natural resources

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IEMA

Emma Rumney looks at the disparity in managing and accounting for natural resources

Few countries have handled their natural resource wealth as well as Norway. The Scandinavian nation has amassed nearly $900bn in savings for the future – a pot of money set to keep earning long after the oil has run out, thanks to investments in almost 9,000 companies.

Nations like Nauru, an island country in Micronesia in the Central Pacific, on the other hand, have decimated their natural resource reserves, and have little to show for it today.

Most resource-rich nations seem least able to benefit from their natural wealth – a phenomenon known as the resource curse. Under this paradox of plenty, they often see worse growth, more conflict and slower development than their non-resource-rich counterparts.

Meanwhile, the way such countries approach their resources has little regard for sustainability. With their economies and government budgets heavily reliant on the sale of their commodities, the incentive is to keep digging, selling and depleting.

One Indian NGO, however, thinks it has the answer. The Goa Foundation believes a relatively simple change in international accounting rules could alleviate the resource curse and prompt the perspective change on resource extraction needed to stem climate change.

$900bn

Norway has $900bn in savings for the future – a pot of money set to keep earning long after the oil has run out, thanks to investments in almost 9,000 companies.

While Norway follows the same rules as everybody else – recording the receipts from the sale of its oil as revenues – the foundation’s Rahul Basu says it has used national laws to implement a very different model domestically.

Norway’s oil revenues are largely excluded from its budget, and are instead transferred into a government pension fund – today one of the world’s most high-profile investors. While the government can tap into its wealth, it can strictly only do so at a level linked to the expected returns the fund will make from its investments. Its so-called ‘fiscal rule’ forbids it from drawing down on the fund’s capital. Last year marked the first time the government used this ability to withdraw.

Norway’s model ensures it preserves its wealth for future generations, preventing its budget from being too reliant on oil wealth, or affected by fluctuating prices.

According to Basu, it also encourages a very different way of thinking about the country’s oil reserves.

Windfall revenues wrong

International practice dictates that when countries sell their oil, and the price is unexpectedly high, the money earned should be reported as ‘windfall revenues’.

Basu argues that this metaphor prompts resource receipts to be conceptualised in the wrong way. Instead of looking at these as proceeds from the sale of inherited family gold, which should be saved, he says: “The moment you use that word, [your thinking] becomes ‘let’s have a party, we’ve won the lottery’.” Governments are encouraged to spend the money, doling out subsidies or tax breaks, which are hard to take away when prices fall.

The current oil price slump, which began in 2014, has sent the finances of even wealthy nations like Saudi Arabia into disarray. Riyadh struggled to maintain its lavish spending, but amid mounting discontent had to roll back on some of the spending cuts it introduced.

Basu argues that this, in turn, encourages the rapid sale of natural resources even when the price is low, in order to keep the money coming in, when, in fact, countries should be holding off. But this might not be an option for governments whose budgets rely heavily on natural resource receipts to deliver even the most basic services, especially when prices are low for long periods.

It’s also worth noting that the world’s major oil producers – the OPEC group of countries – have limited production to respond to low prices, rather than increase or even maintain it.

Nevertheless, the Goa Foundation proposes that these kinds of problems could be alleviated if governments just accounted for their resource riches differently: not as ‘revenues’ but as ‘capital receipts’.

Where ‘revenues’ account for recurring cashflows arising from a combination of work and the use of capital and land (in both cases without depletion), ‘capital receipts’ are used to account for the sale or a transfer of an asset or part of an asset, which is lost and will generate no future revenues as a result.

Basu explains: “If we viewed mineral receipts as capital receipts from the sale of the family gold, the questions would be: why are we selling our inheritance; is this the right time to sell; what is the value, did we suffer a loss; and did we save the money for future generations? We feel that this is critical from the perspective of global warming.” He highlights that private-sector mining firms take into account how large their base of mineral assets is and how much of this they have used, as well as what they have received in exchange. “In the public sector, they say ‘this is what we’ve got and this is income, but we’re not looking at what we’ve lost in the past’.”

The Goa Foundation argues that this means countries could be “significantly overstating” their GDP and savings, which includes income from natural resources but not their depletion.

Using World Bank development indicators, the foundation estimated that $27trn of resource and energy assets has been depleted: “Even if we assume 30% has been saved, we have likely been overstating global income and savings by $19trn to the extent that mineral asset depletion has not been correctly accounted for in GDP calculations.”

Most major international institutions – namely the International Monetary Fund – do recognise this as problematic, and urge countries to recognise that income from national resources requires special treatment.

The fund has for years highlighted a number of the points raised by the Goa Foundation, and encouraged countries to publish different and more comprehensive statistics in order to paint a more accurate picture of their natural resource wealth and management.

Let’s change this

For Basu, however, this does not go far enough. The public – key to changing the behaviour of politicians – doesn’t delve into the details of such reporting, and instead pays attention to headline figures, like GDP.

He says updating international standards and practices, however, would be transformative.

“If you change [these], then everybody will essentially start following the Norway model. If they did have to report revenues in this manner, because this is how everybody is compared, then automatically things would change.” However, countries like Norway differ from most resource-rich nations in a host of other ways when it comes to transparency, governance and how they manage their public finances.

$27trn

Using World Bank development indicators, the Goa Foundation estimated that $27trn worth of resource and energy assets has been depleted.

As Paulo Medas, deputy division chief of the IMF’s fiscal affairs department, notes: “We agree it is important to highlight mineral revenues from the sale of non-renewable resources. “However, the challenges of managing natural resources to promote sustainable growth go well beyond accounting issues. These include robust fiscal policy frameworks and strong institutions, especially on governance and transparency.”

The issue is also one of custom. Treating natural resource receipts as windfall revenues has become standard practice, and standard-setters do not currently have guidance in this area – although it may be developed in the coming years. The IMF, meanwhile, develops its guidelines based on consultation with countries and experts from around the world. “The problem is this is historical, and nobody has really looked at this issue in the past 100 years,” says Basu. “We’re probably the first people to say, ‘Well, let’s change this’.”

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