Lessons Learned on Oil Revenue Management, Remarks by Takatoshi Kato, Deputy Managing Director, IMF

October 17, 2006

Remarks by Mr. Takatoshi Kato, Deputy Managing Director
International Monetary Fund
At the Extractive Industries Transparency Initiative (EITI)
2006 High Level Conference
Oslo, Norway
October 17, 2006

As Prepared for Delivery

Ladies and gentlemen:

1. I very much appreciate the opportunity given to the Management of the International Monetary Fund to participate in this reflection on the past and future of the EITI. In particular I want to thank the government of Norway for hosting this Conference. A special thanks is also due to the UK's DFID for its great efforts to bring the EITI this far. Much has been done, but much more remains to be done. The proposals of the International Advisory Group should form a good basis for the further development of the Initiative.

2. The EITI is a unique process, drawing together governments, the private sector, civil society, and international organizations. Since its inception in 2002, its importance has steadily increased. Global demand for commodities has grown, prices have gone much higher, and exploration and exploitation intensified. Revenue from oil, gas, and minerals have risen sharply, and new countries have become significant producers. But the great potential this holds for accelerated economic and social development can only be realized if countries can resolve the special macroeconomic and governance challenges that are associated with an abundance of natural resources. The conditions often summarized as "the resource curse" can in fact be avoided. And there is no better place to talk about this than in Norway, a country that offers the world a model for how to exploit finite natural resources in the long-term interest of all its citizens. Transparency and accountability are fundamental to the Norwegian success; and they are also the key features of the EITI.

Resource Revenue Transparency and Macroeconomic Policy-Lessons Learned

3. In the division of labor among international institutions, the IMF has a special responsibility for promoting macroeconomic and financial stability. The economic and financial crises of the 1990s have taught us that transparency plays a major role in the effectiveness of macroeconomic policy and the efficient functioning of markets. It permits informed public debate, proper accountability, and sound decision-making in the public and private sectors. Three examples can help to illustrate ways in which these principles apply to the management of natural resource revenues.

• First, a fundamental characteristic of good budget systems is adequate checks and balances. These should make it difficult for unscrupulous companies, officials or political leaders to make private use of natural resource revenues that rightfully belong to the country as a whole. A transparent revenue collection mechanism is a powerful tool for ensuring accountability, respect for the rule of law, and trust in the fairness of public policies.

• But even when corruption is not a major issue, transparency is important because it greatly improves budgetary decisions. I will take the example of domestic fuel price subsidies which carry a cost that often goes unconsidered. Governments with control over the prices of retail petroleum products are at times reluctant to pass through the full effect of increases in world oil prices. Delaying pass-through may be particularly easy in oil producing countries, where price stabilization schemes are often financed outside the budget, through free crude oil deliveries or financial transfers to local refineries. The results are implicit subsidies which can be huge, and yet unknown to the public and the legislature. Many studies have shown that these fuel subsidies benefit disproportionately the wealthy. Bringing them transparently into the budget forces them to compete openly in the political arena with the demand for other public expenditures, including those that help in the fight against poverty.

• Another macroeconomic management challenge related to natural resources is the instability of the revenues derived from them. This poses special problems for fiscal policy which transparency in budget systems can help to mitigate. In resource-dependent countries, the level of reserves, the production profile, and the costs of production are all uncertain. Moreover, the prices of oil, gas, and minerals are quite volatile-twice as volatile as of other commodities. When resource revenues rise sharply, a country may well lack the absorption capacity to spend all of its windfall appropriately as fast as it is earned. Conversely, when revenues are falling, the country may face an uncomfortable choice between excessive borrowing and disruptive cuts in priority expenditures. To guard against such destabilizing swings in public expenditure, parliament and the public need to be persuaded that it is prudent to save part of any windfall revenues as a cushion against future adverse shocks. Saving is always hard, particularly in developing countries with immense social needs. Convincing national stakeholders requires a great deal of trust, and this is best achieved in a climate of transparency. Governments should be encouraged to provide a steady flow of up-to-date and credible information to citizens, not just on revenues collected, as emphasized by EITI, but also on reserves, production, and prices; and on licenses and fiscal regimes for private investors.

Capacity Building in Transparency-Lessons Learned

4. Unfortunately, economic prospects in many countries with abundant natural resources are undermined by weak institutional capacity. Research on institutions, at the IMF-published in our World Economic Outlook-and elsewhere, shows that effective institutions are at least as important for growth and development as good policies. As illustration, IMF staff calculated that if institutions in sub-Saharan Africa could be improved to the level in developing Asia, African per capita GDP might be expected to almost double. Other research has concluded that institutions are more likely to improve in countries with high levels of press freedom, a kind of transparency essential for political accountability. Improvements in transparency and accountability thus appear mutually reinforcing and important drivers of economic progress.

5. The IMF has considerable experience with strengthening institutional capacity in member states, through its policy advice, technical assistance, and training. At times we also include actions in this area in program conditionality. One key lesson we have learned is that domestic ownership is crucial for institutional reforms to succeed. Another lesson is that establishing such ownership is not always easy, especially when reforms affect the interests of powerful individuals and groups. To help promote ownership, in recent years the IMF has decided to streamline the conditionality in its lending arrangements and to encourage participatory processes for developing anti-poverty strategies. Similarly, the EITI incorporates focused objectives and multi-stakeholder participation, and we believe this approach holds out good prospects for achieving broad domestic ownership of reforms in revenue transparency.

6. Let me share another lesson. Since the late 1990's, the IMF has promoted policy transparency through the development of internationally-recognized standards and codes, and through reports on the extent to which these are observed in our member states. Although participation in transparency reports is purely voluntary, they are becoming increasingly widespread. The fact that some 80 countries-industrial, emerging market and developing-have so far agreed to the publication of fiscal transparency reports is testimony to the wide acceptance of the importance of being transparent, and of being perceived to be transparent. It also shows how a voluntary approach, supported by peer pressure, can be effective, and this bodes well for the EITI. In the process, we have also found that for our country transparency reports to satisfy diverse readerships, in the public and private sectors and among civil society, they must identify clearly both country achievements and priority areas for further improvement. This experience may be relevant for the future EITI validation process.

EITI and the IMF

7. The IMF's engagement with the principles of revenue resource transparency and accountability takes many forms. The IMF's Management has expressed strong support for the EITI since its inception-most recently in addresses by the Managing Director before and during the IMF's Annual Meetings and in his statement to the UN General Assembly. Our Executive Board has welcomed member country participation in the EITI during many individual country discussions. IMF staff has provided technical support to the EITI Secretariat and the IAG in developing the Initiative. Also, complementing the EITI, the IMF issued last year a Guide on Resource Revenue Transparency, for public use, and for use by our own staff for assessing fiscal transparency in resource-rich countries.

8. Lastly, a very important contribution by the IMF is made in the field. IMF area department staff in many countries encourage EITI participation, advise on implementation, and comment on the results. And where EITI implementing countries have programs with the Fund, those have generally included complementary, transparency-enhancing measures. Some of these measures aim to make sure governments receive the natural resource revenues that are due; these include oversight boards, quarterly independent certifications, and monthly verification models. Other measures, such as better revenue classification and the publication of revenues allocated to different levels of government, increase the flow of quality information to the public. And, finally, there are measures that try to improve on the government's take, such as modernization of the fiscal regime for the oil sector and independent external audits of national oil companies. Not only does the IMF staff contribute in these ways to achieving the shared objectives of the EITI; the EITI also helps the Fund. Once country authorities are sensitized to the advantages of the EITI, our discussions with them on revenue transparency tend to be more fruitful.

9. Finally, I want to mention a valuable initiative that promotes transparency in the oil sector at the global level which the IMF supports, namely the Joint Oil Data Initiative (or JODI). This initiative was launched in 2002 to improve the availability of statistics on the supply of and demand for oil. Its monthly reporting mechanism now includes countries in control of over 90 percent of global oil production.

EITI Looking Forward

10. Let me conclude with some thoughts on the future of EITI. Like others participating in this Conference, we hope that more countries will participate in EITI and, most importantly, that they will start publishing EITI reports on a regular basis. We at the IMF look forward to continued collaboration with the EITI Board and Secretariat in developing and implementing the Initiative, and-especially-with participating countries in strengthening institutional capacity, transparency, and accountability.

11. The IAG has made sensible recommendations on the future development of this Initiative. Validation will provide a much-needed mechanism for monitoring implementation, identifying gaps, and encouraging further development. The proposed governance structure would continue the unique multi-stakeholder character of EITI, combining professional support with a light institutional superstructure. On this basis, we are confident that the transparency practices adopted by EITI implementing countries will be of great help for economic stability, sustained growth, and the reduction of poverty.

Thank you.


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