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Escaping the Resource Curse

(Version in عربي)

It reads like a script for a Hollywood movie—a poor protagonist happens upon an opportunity that has the potential of bestowing riches, but an evil curse threatens to spoil it all.

Unfortunately, it’s not a movie script. The scenario plays out repeatedly in many parts of the real world all the time. For many developing countries, managing natural resources and the increased revenues they bring is a tough haul.

Cue the extensive literature on the “resource curse” and the lack of consensus on how to run fiscal policy and manage budgets in resource-rich countries.

In some respects, this is like the “all-too-similar” sequel, because the tribulations associated with how to best manage natural resources, such as oil, minerals, and gas, seem to endure so that resource-rich developing countries are never quite free of them.

The “resource curse” and fiscal policy

High commodity prices and the discovery of new reserves offer the potential for much needed revenue in many developing countriesrevenues that should help promote economic and social development, build human capital, and reduce infrastructure gaps in resource-rich countries. In a new study, my co-authors and I look at how to manage fiscal policy to achieve those goals while avoiding previous pitfalls.

The design of fiscal policy frameworks for resource-rich developing countries is beset by trade-offs and tensions. In fact, the volatility, uncertainty, and exhaustibility of revenues earned from resources have to be taken into account when formulating a scaling up of public spending.

These are important questions that many politicians, policymakers, and economists face in such countries.

Recent academic and empirical work has enhanced the debate on this issue. On the one hand, such work has brought to the fore the need to avoid rigid policy formulations that would force countries with substantial development needs to keep the consumption of their resource wealth at a constant level over time (that is, borrowing at the beginning, saving when income is high, and lowering the rate of saving as income tapers off).

While persuasive, such work hasn’t offered practical approaches to managing fiscal policy in those countries and overemphasizes the role of resource funds, for example.

So, how could fiscal frameworks for resource-rich countries be made more flexible in practice? In our study, we analyze this question from a practitioner’s perspective, proposing specific options to effectively anchor fiscal policy while allowing for a sustainable scaling up of spending in the context of increased resource revenue.

In laying out the options, our study emphasizes that there is not a “one size fits all” approach since each country has its own set of economic and institutional circumstances to balance, such as resource revenue dependency, how long the reserves will last, and the country's development needs. Furthermore, the large volatility of revenues earned from natural resources and the difficulty to predict those swings would call for prudence and gradualism in scaling up spending and for flexible fiscal rules to adapt to new information and changing circumstances.

Seven principles

Accordingly, we propose the following principles to guide the formulation of fiscal policy frameworks in resource-rich developing countries:

The complete framework would comprise three elements:

    1. Fiscal policy indicators--the best analytical measures of the actual stance of fiscal policy.
    2. Fiscal sustainability benchmarks--provide a way to assess fiscal policy with a longer-term perspective.
    3. Fiscal policy anchors--the rules or guidelines that would better fit resource-rich countries and their specific characteristics.

The table below illustrates the more appropriate rules possible along two specific dimensions: the horizon of their resource reserves and the relative scarcity of capital.