Working Papers

Authors: Raphael Espinoza

Sep 2012

Public investment and subsidies are typically inefficient but in the GCC these are crucial engines of growth. Subsidies are also used to redistribute oil windfalls in the region, and the problem of a government that wants to „distribute‟ oil money is a problem fully symmetric to the one analyzed by Ramsey (1927) of optimal taxation. The second-best policy (when lump-sum transfers are not available) is to use subsidies across a wide range of goods (as opposed to the focus on energy chosen by the GCC). In addition, the „inverse‟ Ramsey model implies that commodities for which demand is least elastic to prices should be subsidized at higher rates. This suggests subsidizing basic needs at higher rates, in particular food, healthcare and education. In addition, when subsidies are very large, they create additional distortions because households prefer to queue for subsidies (e.g. public service jobs, subsidized mortgages in Saudi Arabia) rather than participate in private markets. As an example, we draw a model where recruitment of public servants can induce a large disincentive to take private sector positions and compute the conditions under which the disincentive is so strong that overall employment is actually decreased as public servants are being hired.

JEL Codes: Q32; Q38; O53

Keywords: Gulf Cooperation Council; Middle East and North Africa; Resource Curse

Reference: 95

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Authors: Karlygash Kurlbayeva, Samuel Malone

Sep 2012

Fat-tailed commodity price innovations are well-documented in the literature and long recognized as disruptive for consumers and producers, yet little is known about what factors drive such extreme events. Utilizing a wide range of factors from the economics and finance literature and quantile regression techniques, we shed light on this issue. Our models explain more variation in extreme than in median price innovations. Common global financial and demand factors account for a greater proportion of extreme daily spot price variations than do commodity-specific factors such as basis and open interest. Financialization of commodity markets, via significant and increasing co-variation of extreme spot price innovations with US equity market and trade-weighted US dollar returns, appears to be a major driver of extreme events in the 2000-2009 period.

JEL Codes: G13, G15, E31

Keywords: commodities price returns, extreme dependence, quantile regressions

Reference: 96

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Authors: Rick Van der Ploeg

Aug 2012

We show how a monopolistic owner of oil reserves responds to a carbon-free substitute becoming available at some uncertain point in the future if demand is isoelastic and variable extraction costs are zero but upfront exploration investment costs have to be made. Not the arrival of this substitute matters for efficiency, but the uncertainty about the timing of this substitute coming on stream. Before the carbon-free substitute comes on stream, oil reserves are depleted too rapidly; as soon as the substitute has arrived, the oil depletion rate drops and the oil price jumps up by a discrete amount. Subsidizing green R&D to speed up the introduction of breakthrough renewables leads to more rapid oil extraction before the breakthrough, but more oil is left in situ as exploration investment will be lower. The latter offsets the Green Paradox.

JEL Codes: D81, H20, Q31, Q38

Keywords: Hotelling principle, exhaustible resources, carbon-free substitute, regime switch, oil stock uncertainty, hold-up problem, green R&D, Green Paradox

Reference: 91

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Authors: Nikolay Aleksandrov, Raphael Espinoza, Lajos Gyurko

Aug 2012

We study the optimal oil extraction strategy and the value of an oil eld using a multiple real option approach. The numerical method is exible enough to solve a model with several state variables, to discuss the effect of risk aversion, and to take into account uncertainty in the size of reserves. Optimal extraction in the baseline model is found to be volatile. If the oil producer is risk averse, production is more stable, but spare capacity is much higher than what is typically observed. We show that decisions are very sensitive to expectations on the equilibrium oil price using a mean reverting model of the oil price where the equilibrium price is also a random variable. Oil production was cut during the 2008-2009 crisis, and we nd that the cut in production was larger for OPEC, for countries facing a lower discount rate, as predicted by the model, and for countries with government finances less dependent on oil revenues. However, the net present value of a country's oil reserves would be increased signi cantly (by 100 percent, in the most extreme case) if production was cut completely when prices fall below the country's threshold price. If several producers were to adopt such strategies, world oil prices would be higher but more stable.

JEL Codes: C61 ; Q30 ; Q43

Keywords: Oil production ; Real Options ; Capacity Expansion ; Equilibrium Price of Oil; OPEC

Reference: 92

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Authors: Mark Henstridge, John Page

Jun 2012

This paper seeks to de-mystify the opportunities and challenges of oil in Uganda: not much oil revenue will arrive for at least a decade; it will then climb to 3-9 percent of GDP for about 20 years. It will not transform Uganda, but can be beneficial or disruptive. To manage a modest boom, policy needs to focus on growth and competitiveness now. Careful choices on spending and the quality of public investment are essential. Institutional and regulatory reform, infrastructure, skills and specialist knowledge can strengthen the investment climate. A strategy for economic diversification focused on agriculture, ‘investing to invest’, and connecting to the coast is also needed.

Reference: 90

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Authors: Rick Van der Ploeg, Ton S. van den Bremer

May 2012

Three funds are necessary to manage an oil windfall: intergenerational, liquidity and investment funds. The optimal liquidity fund is bigger if the windfall lasts longer and oil price volatility, prudence and the GDP share of oil rents are high and productivity growth is low. We apply our theory to the windfalls of Norway, Iraq and Ghana. The optimal size of Ghana’s liquidity fund is tiny even with high prudence. Norway’s liquidity fund is bigger than Ghana’s. Iraq’s liquidity fund is colossal relative to its intergenerational fund. Only with capital scarcity, part of the windfall should be used for investing to invest. We illustrate how this can speed up the process of development in Ghana despite domestic absorption constraints.

JEL Codes: E21, E22, D91, Q32

Keywords: oil price volatility, sovereign wealth, intergenerational fund, liquidity fund, precautionary buffers, public investment, inefficiency, economic development, Norway, Iraq, Ghana

Reference: 85

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Authors: Rabah Arezki, Mustapha K. Nabli

May 2012

This paper takes stock of the economic performance of resource rich countries in the Middle East and North Africa (MENA) over the past forty years. While those countries have maintained high levels of income per capita, they have performed poorly when going beyond the assessment based on standard income level measures. Resource rich countries in MENA have experienced relatively low and non inclusive economic growth as well as high levels of macroeconomic volatility. Important improvements in health and education have taken place but the quality of the provision of public goods and services remains an important source of concerns. Looking forward we argue that the success of economic reforms in MENA rests on the ability of those countries to invest boldly in building inclusive institutions as well as high levels of human capacity in public administrations.

JEL Codes: D74, D63, F32, Q33

Keywords: Natural resources; volatility; inclusive growth; Middle East and North Africa

Reference: 86

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Authors: Rick Van der Ploeg, Steven Poelhekke

May 2012

We test for pollution haven effects in outward foreign direct investment (FDI) for different sectors using a comprehensive and exhaustive dataset for outward FDI from the Netherlands, one of the most environmentally stringent countries and a major source of global FDI. Our evidence suggests that in the sectors natural resources extraction and refining, construction, retail, food processing, beverages and tobacco, and utilities, a less stringent environmental policy in the host country significantly attracts FDI. What is important for these pollution haven effects is not only regulation but also enforcement of environmental policy. In contrast to earlier results, it is not only footloose industries that display pollution haven effects, but also the traditional pollution-intensive industries. But for the sectors machines, electronics and automotive and transportation and communication a more stringent and better enforced environmental policy attracts more FDI as this may help their reputation for sustainable management and CSR. These sectors display green haven effects. These findings have important implications for the sector distribution of FDI in destination countries.

JEL Codes: F18, F23, F13, Q50

Keywords: pollution haven, green haven, FDI, environmental policy, regulation, enforcement, strategic effects, footloose industries, CSR

Reference: 87

Individual View

Africa is well endowed with potential for hydro and solar power, but its other endowments – shortages of capital, skills, and governance capacity – make most of the green options relatively expensive, while its abundance of hydro-carbons makes fossil fuels relatively cheap. Current power shortages make expansion of power capacity a priority. Africa’s endowments, and the consequent scarcities and relative prices, are not immutable and can be changed to bring opportunity costs in Africa closer to those in the rest of the world. The international community can support by increasing Africa’s supply of the scarce factors of capital, skills, and governance.

JEL Codes: Q54, Q5, Q40, 055

Keywords: Africa, climate change, energy, renewable, leapfrog, latecomer

Reference: 89

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Authors: Paul Segal

May 2012

This paper analyses the e¤ect of a resource discovery on an open economy with endogenous directed technical change. Technical progress depends on entrepreneurs who produce (or adopt) technology, and endogenously choose which sector to operate in. The static e¤ect of a resource discovery is deindustrialization and a rise in non-resource factor incomes, as in standard trade theory. Dynamically, the "brain drain" of entrepreneurs into the resource sector may exacerbate the de-industrialization over time, but if the discovery is not su¢ ciently large then it leads to temporarily lower growth in non-resource factor incomes, which are lower in the long run than without the discovery. In this case non-resource owners are made worse o¤ by the discovery. Second best trade or investment policies that direct entrepreneurs away from the resource sector may be used to raise long-run non-resource income, at a cost to GDP.

JEL Codes: D33; F11; F43; O13; O31; O41; Q33

Keywords: economic growth; Dutch disease; natural resource wealth; directed technical change; distribution of income

Reference: 88

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Authors: Anthony Venables, Michele Ruta

Apr 2012

Natural resources account for 20% of world trade, and dominate the exports of many countries. Policy is used to manipulate both international and domestic prices of resources, yet this policy is largely outside the disciplines of the WTO. The instruments used include export taxes, price controls, production quotas, and domestic producer and consumer taxes (equivalent to trade taxes if no domestic production is possible). We review the literature, and argue that the policy equilibrium is inefficient. This inefficiency is exacerbated by market failure in long run contracts for exploration and development of natural resources. Properly coordinated policy reforms offer an avenue to resource exporting and importing countries to overcome these inefficiencies and obtain mutual gains.

JEL Codes: F1, F13, Q3

Keywords: natural resources, trade, export tax, tariff escalation, OPEC, WTO, terms of trade

Reference: 84

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Authors: Tapan Mitra, Gier B Asheim, Wolfgang Buchholz, Cees Withagen

Mar 2012

The Dasgupta-Heal-Solow-Stiglitz model of capital accumulation and resource depletion poses the following sustainability problem: is it feasible to sustain inde nitely a level of consumption that is bounded away from zero? We provide a complete technological characterization of the sustainability problem in this model without reference to the time path. As a byproduct we show general existence of a maximin optimal path under weaker conditions that those employed in previous work. Our proofs yield new insights into the meaning and signi cance of Hartwick's reinvestment rule.

JEL Codes: O10, Q32

Keywords: Sustainability, Maximin

Reference: 83

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Authors: George Mavrotas, Syed Mansoob Murshed, Sebastian Torres

Feb 2012

We look at the type of natural resource dependence and growth in developing countries. Certain natural resources called point-source, such as oil and minerals, exhibit concentrated and capturable revenue patterns, while revenue flows from resources such as agriculture are more diffused. Developing countries that export the former type of products are regarded prone to growth failure due to institutional failure.We present an explicit model of growth collapse with micro-foundations in rent-seeking contests with increasing returns.  Our econometric analysis is among the few in this literature with a panel data dimension. Point-source-type natural resource dependence does retard institutional development in both governance and democracy, which hampers growth. The resource curse, however, is more general and not simply confined to mineral exporters.

Reference: 81

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Authors: Era Dabla-Norris. Raphael Espinoza, Sarwat Jahan

Feb 2012

This paper documents the expanding economic linkages between low-income countries (LICs) and a narrow group of “Emerging Market leaders” that have become major players in international trade and financial flows. VAR models show that these linkages have increased the share of growth volatility that can be attributed to foreign shocks in LICs. Dynamic panel models further analyze the impact of LIC trade orientation and production structure on the sensitivity to foreign shocks. The empirical results demonstrate that the elasticity of growth to trading partners’ growth is high for LICs in Asia, Latin America and the Caribbean, and Europe and Central Asia. However, for commodity-exporting LICs in Sub-Saharan Africa and the Middle East, terms of trade shocks and demand from the emerging market leaders are the main channels of transmission of foreign shocks.

JEL Codes: C22, E32, F15, F43

Keywords: Growth Spillovers; Low-income Countries; Economic Integration; Decoupling; Vector Autoregression

Reference: 82

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Authors: Cees Withagen, Alex Halsema

Dec 2011

We study tax competition when pollution matters. Most notably we present a dynamic setting, where the supply of capital is endogenous. It is shown that tax competition may involve stricter environmental policy than the cooperative outcome.

Keywords: environmental policy, race to the bottom, pollution taxation

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Authors: Fabien Priuer, Mabel Tidball, Cees Withagen

Dec 2011

This paper extends the classical exhaustible-resource/stock-pollution model with the irreversibility of pollution decay. Within this framework, we answer the question how the potential irreversibility of pollution affects the extraction path. We investigate

the conditions under which the economy will optimally adopt a reversible policy, and when it is optimal to enter the irreversible region. In the case of irreversibility it may be optimal to leave a positive amount of resource in the ground forever. As far the optimal extraction/emission policy is concerned, several types of solutions may arise, including solutions where the economy stays at the threshold for a while.  Given that different programs may satisfy the first order conditions for optimality, we further investigate when each of these is optimal. The analysis is illustrated by means of a numerical example. To sum up, for any pollution level, we can identify a critical resource stock such that there exist multiple optima i.e. a reversible and an irreversible policy that yield exactly the same present value. For any resource stock below this critical value, the optimal policy is reversible whereas with large enough resource, irreversible policies outperform reversible programs. Finally, the comparison between irreversible policies reveals that it is never optimal for the economy to stay at the threshold for a while before entering the irreversible region.

JEL Codes: Q30, Q53, C61

Keywords: non-renewable resource, irreversible pollution, optimal policy

Reference: 77

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Authors: Dominic Rhoner, Mathias Thoenig, Fabrizio Zilibotti

Dec 2011

We study the e¤ect of civil con.ict on social capital, focusing on the experience of Uganda during the last decade. Using individual and county-level data, we document large causal effects on trust and ethnic identity of an exogenous outburst of ethnic conflicts in 2002-05. We exploit two waves of survey data from Afrobarometer 2000 and 2008, including information on socioeconomic characteristics at the individual level, and geo-referenced measures of fighting events from ACLED. Our identification strategy exploits variations in the intensity of fighting both in the spatial and cross-ethnic dimensions. We find that more intense fighting decreases generalized trust and increases ethnic identity. The effects are quantitatively large and robust to a number of control variables, alternative measures of violence, and different statistical techniques involving ethnic and spatial fixed effects and instrumental variables. We also document that the post-war effects of ethnic violence depend on the ethnic fractionalization. Fighting has a negative effect on the economic situation in highly fractionalized counties, but has no effect in less fractionalized counties. Our findings are consistent with the existence of a self-reinforcing process between conflicts and ethnic cleavages.

Reference: 78

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Authors: Hassan Benchekroun, Cees Withagen

Dec 2011

We consider a nonrenewable resource game with one cartel and a set of fringe members. We show that (i) the outcomes of the closed-loop and the open-loop nonrenewable resource game with the fringe members as price takers (the cartel fringe game à la Salant 1976) coincide and (ii) when the number of fringe firms becomes arbitrarily large, the equilibrium outcome of the closed-loop Nash game does not coincide with the equilibrium outcome of the closed-loop cartel-fringe game. Thus, the outcome of the cartel-fringe open-loop equilibrium can be supported as an outcome of a subgame perfect equilibrium. However the interpretation of the cartel-fringe model, where from the outset the fringe is assumed to be price-taker, as a limit case of an asymmetric oligopoly with the agents playing Nash-Cournot, does not extend to the case where .rms can use closed-loop strategies.

JEL Codes: D43, Q30, L13.

Keywords: cartel-fringe, dominant …rm versus fringe, price taking, nonrenewable resources, dynamic games, open-loop versus closed-loop strategies

Reference: 80

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Authors: Rabah Arezki, Daniel Lederman, Hongyan Zhao

Nov 2011

This paper studies the volatility of commodity prices on the basis of a large dataset of monthly prices observed in international trade data from the United States over the period 2002 to 2011. The conventional wisdom in academia and policy circles is that primary commodity prices are more volatile than those of manufactured products, although most of the existing evidence does not actually attempt to measure the volatility of prices of individual goods or commodities. The literature tends to focus on trends in the evolution and volatility of ratios of price indexes composed of multiple commodities and products. This approach can be misleading. Indeed, the evidence presented in this paper suggests that on average prices of individual primary commodities are less volatile than those of individual manufactured goods. However, the challenges of managing terms of trade volatility in developing countries with concentrated export baskets remain.

JEL Codes: F14, E32, C43

Keywords: International Commodity Prices, Volatility, Manufactured Product Prices

Reference: 70

Individual View

The paper examines implications of ination persistence for business cycle dynamics following terms of trade shock in a small oil producing economy, under ination targeting and exchange rate targeting regimes. It is shown that due to the `Walters critique' effect, the country's adjustment paths are slow and cyclical if there is a signi cant backward-looking element in the inflation dynamics and the exchange rate is fixed. It is also shown that such cyclical adjustment paths are moderated if there is a high proportion of forward-looking price setters in the economy, so that when the Phillips curve becomes completely forward-looking cyclicality in adjustment paths disappears and the response of the real exchange rate becomes hump-shaped. In contrast, with an independent monetary policy, irrespective of the degree of inflation persistence,  flexible exchange rate allows to escape severe cycles, which results in a smooth response of the real exchange rate.

JEL Codes: E32, F40, F41

Keywords: inflation inertia, inflation targeting, exchange ratge targeting, Phillips curve, oil shocks, small open economy

Reference: 63

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Authors: Victoria I Umansyaya, Edward B Barbier

Nov 2011

In this paper, we explore the use of trade policy in addressing transboundary stock pollution problems such as acid rain and water pollution. We show that a tariff determined by the current level of accumulated pollution can induce the time path of emissions optimal for the downstream (polluted) country. But if the upstream (polluting) country can lobby the downstream government to impose lower tariffs, distortions brought by corruption and foreign lobbying lead to a rise in the upstream country’s social welfare, and to a decrease in social welfare in the downstream country. Thus, the usefulness of trade policy as a tool for encouraging cooperation and internalizing transboundary externalities depends critically on the degree of governments’ susceptibility to foreign political influence.

JEL Codes: D72; F18; F59; Q56

Reference: 71

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Authors: Charles F Mason

Nov 2011

I consider a non-renewable resource market where extraction costs are non-convex and market price is subject to stochastic shocks. While competitive equilibrium cannot exist if costs are non-convex and demand is deterministic, equilibrium can be supported in the context of stochastic demand. The crucial distinction is that the noisy environment can create an incentive for firms to hold inventories. Inventories allow firms to continue producing at a smooth pace at any instant when extraction ceases, e.g. when reserves are exhausted. Accordingly, there are no abrupt changes in the expected price path, in contrast to the deterministic variant of the model.

JEL Codes: Q2, D8, L15

Keywords: Resource Economics, Stochastic Dynamic Optimization

Reference: 73

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Authors: Rabah Arezki, Klaus Deininger, Harris Selod

Nov 2011

This paper studies the determinants of foreign land acquisition for large-scale agriculture. To do so, gravity models are estimated using data on bilateral investment relationships, together with newly constructed indicators of agro-ecological suitability in areas with low population density as well as land rights security. Results confirm the central role of agro-ecological potential as a pull factor. In contrast to the literature on foreign investment in general, the quality of the business climate is insignificant whereas weak land governance and tenure security for current users make countries more attractive for investors. Implications for policy are discussed.

JEL Codes: F21, O13, Q15, Q34

Keywords: Land Acquisition, Large-Scale Agriculture, Foreign Investments Agro-Ecological Potential, Land Availability, Land Governance, Property Rights

Reference: 72

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Authors: Rabah Arezki, Marcus Bruckner

Nov 2011

This paper examines the effects that windfalls from international commodity price booms have on net foreign assets in a panel of 145 countries during the period 1970-2007. The main finding is that windfalls from international commodity price booms lead to a significant increase in net foreign assets, but only in countries that are ethnically homogeneous. In highly ethnically polarized countries, net foreign assets significantly decreased. To explain this asymmetry, the paper shows that in ethnically polarized countries commodity windfalls lead to large increases in government consumption expenditures and political corruption. The paper's findings are consistent with theoretical models of the current account that have a built-in voracity effect.

JEL Codes: F32, Q33, Z10

Keywords: Commodity Windfalls, Net Foreign Assets, Polarization

Reference: 74

Individual View

Many countries have failed to use natural resource wealth to promote growth and development. They have been damaged by volatility of revenues, have failed to save a sufficiently high proportion of their resource revenues and failed to make high return investments to support diversification of their economies. This paper explores the reasons for these failures and discusses policies to improve performance.

JEL Codes: E60, F34, F35, F43, H21, H63, O11, Q33

Keywords: resource curse, managing windfalls, fiscal rules, volatility, absorptive capacity, Dutch disease, public investment

Reference: 75

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