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Tuesday, October 20, 2015

Strong institutions key to avoiding the resource curse

Prominent development theorists of the 1960s believed that abundance of natural resources would lead inevitably to industrial “takeoff” in developing countries, just as they had done for countries like Australia, Botswana and Canada.

However, the co-occurrence of deplorable human development outcomes and poor governance among resource rich countries has undermined the earlier conclusions about the positive association between resource abundance and economic growth. The experience from countries like Nigeria, South Sudan and DR Congo suggest that natural wealth increases the likelihood of negative economic, social and political performance. 

Africa’s experience with extractive resources, hydrocarbons, timber and mineral ore is mixed. Abundant resource wealth has existed side by side with grotesque poverty and squalor in countries like Angola, DR Congo, Nigeria, Sierra Leone, Sudan and Zambia. It is estimated that about 70 percent of people living in extreme poverty are in resource-driven economies, with a significant number in Africa. Furthermore, almost 80 percent of countries whose economies driven by extractive resources have per capita income levels below the global average and nearly half of these countries are not catching up.

The co-existence of odious poverty and immense natural resource wealth, also known as the “resource curse”, is well documented by leading economists. For example Jeffery Sachs and colleagues examined a diverse set of resource rich economies between 1970 and 1989 and showed that there was a negative correlation between resource abundance and economic growth. Other studies have also shown that per capita incomes of resource-poor countries grew three times faster than resource rich countries. Today, Africa’s fastest growing economies e.g., Rwanda and Ethiopia are not resource dependent.

Several explanations have been advanced to explain the resource curse. Receipts from resources often cause significant rise in the value of local currency, crowding out other export activities or making them uncompetitive. Moreover, volatile revenues from the extractive resources are difficult to manage. Public spending is often increased on a whim, and rational fiscal policies and public investment thrown out the window.

Invariably, in periods of resource booms, governments borrow with abandon, spending money on obscenely wasteful projects, often drenched with corruption. This was the story of Nigeria until the gravy train crashed to a halt at the end of the oil boom of 1986. Moreover, resource wealth creates political incentives by raising the value of acquiring and retaining power.

With the exception of Botswana and South Africa Africa’s has not reaped the full benefits of its vast resources. Africa’s dismal record with extractives is especially disconcerting when you consider that vast resources, especially oil and gas have been discovered in Ghana, Kenya, Mozambique, Uganda and Tanzania.

According to McKinsey Global Institute, a cumulative investment flow between $1.2 trillion and $3 trillion in the extractive sector is possible in low-income and lower-middle-income countries by 2030. This is equivalent to about $170 billion a year, more than three times development aid flows to these countries in 2011. Such levels of investment flows could potentially lift 540 million people out of poverty as well as financing the delivery of a host of SDGs by 2030.

There is credible evidence to show that countries with institutions that promote good governance and accountability tend to draw equitable economic dividends. It is certainly not the case that politicians and their constituencies don’t know that resource wealth can be harnessed to drive equitable and durable economic prosperity.

Can the hydrocarbon bonanza in Kenya, Uganda and Tanzania yield a curse or generate socio-economic bliss? In their book, Why Nations Fail: The Origins of Power and Prosperity, Daron Acemoglu and James Robinson demonstrate that political institutions and incentives they create determine whether nations prosper or remain poverty traps.

We are still a long way from pulling oil or gas out of the ground here in East Africa. However, the policy, legal and institutional mechanisms that have been created or are under discussion inspire little confidence that we will escape the resource curse.

Africa is on the cusp of what must be a new and prosperous age of extractives. Africa must turn the page on the resource curse and open a new chapter, defined by an era of resource-driven equitable economic prosperity.

Without downplaying the contribution of resource booms and bursts, political institutions contribute hugely to the resource curse phenomenon. Hence, whether extractive resources drive equitable socio-economic development depends entirely on Africa’s people and the quality of institutions they build.

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