Beware of Strike-it-Rich Euphoria: the Curse of Potential Oil Wealth

March 9, 2018

[caption id="attachment_22907" align="alignnone" width="1024"] (photo: Nielubieklonu/iStock).[/caption]

The resource curse, or paradox of plenty, is when countries with an abundance of natural resources suffer stagnant economic growth or even contraction.

In this podcast, World Bank economist James Cust, says the problem of eradicating extreme poverty is going to be about how resource-rich countries manage their resource wealth.

“The share of the world's poor living in resource-rich countries in the year 2000 was less than 25 percent, but by 2030 it will be almost 75 percent,” says Cust. 

While the resource curse is notorious, Cust has his sights set on the lesser known presource curse. He says the latter is not an effect from oil exports, as is the case for the better-known resource curse, but rather an effect from the discovery of oil or other natural resources.

“We find that some countries have experienced problems in growth, even before production begins—before a single barrel of oil is taken out of the ground,” he says.

Expectations form the basis of the curse, he adds, and countries, governments and citizens alike suffer from a strike-it-rich euphoria. This emboldens governments to increase spending and borrowing, and in some cases, it leads to economic crises when oil prices collapse, he says.

In theory, major resource discoveries should propel growth. But in practice, Cust says the opposite is often true. Keeping that in mind, Cust has a simple recommendation for countries to avoid the presourse curse.

“Don’t count your chickens before they’ve hatched.”

Take Ghana and Tanzania, which both had major discoveries of oil during the commodities boom. Ghana got off to a good start. The government put in place a strong petroleum revenue management program that specified how to use the oil revenues, and included a savings fund for future generations. It saved about $500 million from oil revenues. Unfortunately, the country borrowed about $4.5 billion. Although it didn't break the rules of their petroleum revenue management act, it defied the spirit of it, Cust says. And when the oil price crashed in 2014, oil revenues dried up, growth slumped.  

Tanzania took a different path. The government didn't increase borrowing to the same extent as Ghana, and didn't increase spending to unsustainable levels. So, when oil prices crashed in 2014, they weren't as vulnerable as Ghana was. 

Fortunately, Cust says lessons from Ghana and Tanzania’s experience can help the current roster of nations grappling with these same challenges learn, and in turn, smartly manage their own major discoveries.