The Oil Curse

by Erik Voeten on April 17, 2012 · 6 comments

in International Relations

Argentina is about to nationalize an oil company (owned by a Spanish company) a year after said company announced the discovery of massive new reserves, Spain’s threats to take “clear and forceful measures” notwithstanding. This type of nationalization might seem extreme but it is business as usual in oil-rich states. My friend and co-author Michael Ross, has just written a new book that provides a thorough yet very readable analysis of the ways oil income does and does not affect the political, social, and economic development of countries. Don’t take my word for it, read reviews here (Petroleum Economist), here (FT), and here (Nature).

Ross finds that oil wealth hinders democracy, makes civil war more likely, and perpetuates patriarchy. Oil riches do not necessarily slow economic growth but they do not help much either. So what’s the trouble with oil revenues? Ross argues that there are four distinctive qualities of oil revenues. The first is just the sheer scale of oil revenues. Government budgets tend to rise exponentially with oil discoveries. Increased revenues by themselves are not necessarily problematic but the source of the revenue also matters. If governments are funded by taxes, they become more constrained by their own populace than when they are funded by non-tax revenues (see here a more generalizable version of that argument from Kevin Morrison).

Third, oil revenues are very volatile compared to tax revenues. Most countries have little control over the world oil price, which falls and rises quite dramatically. They have some control over new oil discoveries but luck also plays a major role. Volatile revenues make for volatile politics, although some mature oil rich states (like Norway or the UAE) have managed to find ways to cope with this. Fourth, oil revenues are secretive and relatively easy to hide. This facilitates corruption and hinders accountability.

None of these factors automatically lead countries to become authoritarian patriarchies that erupt into civil wars. As Ross highlights, there are ways that governments can manage their oil revenues wisely. Yet the incentives often run the other way, especially when states first discover massive oil reserves.

As in other countries that preceded Argentina in nationalizing the oil industry, President Cristina Fernandez motivates the nationalization with references to sovereignty and the unwillingness of the foreign owned company to provide  benefits to Argentinean citizens. In many ways, there is little that is remarkable about the nationalization and, if managed well, it could benefit Argentinians. However, Ross’ book suggests that the odds of that happening are not particularly high.

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