Working Papers

Authors: James Cust, David Mihalyi

Jul 2017

Oil discoveries can constitute a major positive and exogenous shock to economic activity, but the resource curse hypothesis would suggest they might also be detrimental to growth over the long run. This paper utilizes a new methodology for estimating growth underperformance to examine the extent to which discoveries depress the growth path of a country following a discovery and prior to production starting. The study finds causal evidence of a significant negative effect on short-run growth and growth relative to counter-factual forecast growth in countries with weak institutions;creating growth disappointments prior to private and public resource windfalls. This effect is termed the presource curse. For a giant oil or gas discovery, between 1988 to 2010, the study estimates an average growth disappointment effect of 0.83 percentage points, measured as the average annual gap between forecast and actual growth over the five years following a discovery. Further,the estimate defect varies by the size of the discovery, increasing to a 1.77 percentage points gap in the case of super giant discoveries. The estimated effect is inversely related to the quality of political institutions, and driven by countries with lower institutional quality at the time of the discovery, consistent with the similar long-run results documented in the resource curse literature. For countries with below-threshold institutional quality, the growth disappointment effect is larger, measured as 1.35 percentage points in annual terms.  There is no measured growth disappointment effect for countries with strong institutions. Using the synthetic control method we confirm our findings for a selection of countries above and below the institutional quality threshold. The findings suggest that studies of the resource curse that focus only on the effects of resource exploitation or examine only long-run growth effects may overlook important short-run growth disappointments following discoveries, and the way countries respond to news shocks.

JEL Codes: O40, O43, Q33, Q35

Keywords: rousource curse, economic growth, forecasting, forecast errors, news shocks, institutions

Reference: 193

Individual View

Authors: Rick Van der Ploeg, Bas Jacobs

Jun 2017

This paper analyses optimal corrective taxation and optimal income redistribution. The Pigouvian pollution tax is higher if pollution damages disproportionally hurt the poor due to equity weighting of pollution damages. Moreover, optimal pollution taxes should be set below the Pigouvian tax if the poor spend a disproportionate fraction of their income on polluting goods if preferences for commodities are not of the Gorman (1961) polar form. However, optimal pollution taxes should follow the first-best rule for the Pigouvian corrective tax if preferences for commodities are of the Gorman polar form even if the government wants to redistribute income and the poor spend a disproportional part of their income on polluting goods. The often-used quasi-linear, CES and Stone-Geary utility functions all belong to the Gorman polar class. If pollution taxes are not optimized, Pareto-improving green tax reforms exist that move the pollution tax closer to the Pigouvian tax if preferences are Gorman polar. Simulations demonstrate that optimal corrective taxes should be Pigouvian if the demand for polluting goods is derived from a LES demand system, but optimal corrective taxes deviate from the Pigouvian taxes if demand for polluting goods demand is derived from a PIGLOG demand system.

JEL Codes: H21, H23, Q54

Keywords: redistributive taxation, corrective pollution taxation, Gorman polar form, Stone-Geary preferences, PIGLOG preferences, green tax reform

Reference: 191

Individual View

Authors: James Cust, Torfinn Harding, Pierre-Louis Vezina

Jun 2017

Oil and gas extraction may lead to the Dutch disease, i.e. the crowding ot of the manufacturing sector due to rising wages when labor is drawn to the expanding extraction and services sectors. In this paper we exploit the fact that oil and gas discoveries contain an element of chance as well as oil price fluctuations to capture random variation in oil and gas windfalls across Indonesia and identify their effects on manufacturing firms. We find that oil and gas windfalls cause wage growth but that the firm exit rate is unaffected. Firms’ output and labor productivity increase along with wages suggesting where firms are able to respond to booming local demand, and raise productivity in response to upward wage pressures, they can overcome the crowding-out effects from resource windfalls.

JEL Codes: O13, O14, Q32

Keywords: Dutch disease, firm level, Indonesia, manufacturing firms, oil and gas

Reference: 192

Individual View

Global warming can be curbed by pricing carbon emissions and thus substituting fossil fuel with renewable energy consumption. Breakthrough technologies (e.g., fusion energy) can reduce the cost of such policies. However, the chance of such a technology coming to market depends on investment. We model breakthroughs as an irreversible tipping point in a multi-country world, with different degrees of international cooperation. We show that international spill-over effects of R&D in carbon-free technologies lead to double free-riding, strategic over-pollution and underinvestment in green R&D, thus making climate change mitigation more difficult. We also show how the demand structure determines whether carbon pricing and R&D policies are substitutes or complements.

JEL Codes: D2, D90, H23, Q35, Q38, Q54, Q58

Keywords: global warming, carbon pricing, renewable R&D, tipping point, international cooperation, non-cooperative policies, feedback Nash equilibrium

Reference: 190

Individual View

Authors: Nemera Mamo, Sambit Bhattacharyya, Alexander
Moradi, Rabah Arezki

Mar 2017

What are the economic consequences of mining in Sub-Saharan Africa? Using a panel of 3,635 districts from 42 Sub-Saharan African countries for the period 1992 to 2012 we investigate the effects of mining on living standards measured by night-lights. Night-lights increase in mining districts when mineral production expands (intensive margin), but large effects approximately equivalent to 16% increase in GDP are mainly associated with new discoveries and new production (extensive margin). We identify the effect by carefully choosing feasible but not yet mined districts as a control group. In addition, we exploit giant and major mineral discoveries as exogenous news shocks. In spite of the large within district effects, there is little evidence of significant spillovers to other districts reinforcing the enclave nature of mines in Africa. Furthermore, the local effects disappear after mining activities come to an end which is consistent with the ’resource curse’ view.

JEL Codes: O11, O13, Q32

Keywords: Mineral discovery, Mineral production, Night-time lights

Reference: 189

Individual View

Authors: Thorsten Beck, Steven Poelhekke

Mar 2017

The need to absorb windfalls gains and manage them appropriately has been discussed extensively by academics and policy makers alike. We explore the role of the financial sector in intermediating these windfalls. Controlling for the level of financial development, inflation, GDP growth and country fixed-effects, we find a relative decline in financial sector deposits in countries that experience an unexpected natural resource windfall as measured by shocks to exogenous world prices. Moreover, we find a similar relative decline in lending, which is mostly due to the decrease in deposits. The smaller role for the financial sector in intermediating resource booms is accompanied by a stronger role of governments in channeling resources into the economy, mostly through higher government consumption.

JEL Codes: E20, F41,G20, O10, Q32, Q33

Keywords: natural resources, financial development, banking

Reference: 188

Individual View

Temperature responses and optimal climate policies depend crucially on the choice of a particular climate model. To illustrate, the temperature responses to given emission reduction paths implied by the climate modules of the well-known integrated assessments models DICE, FUND and PAGE are described and compared. A dummy temperature module based on President Trump’s climate sceptic view is added. Using a simple growth model of the global economy, the sensitivity of the optimal carbon price, renewable energy subsidy and energy transition to each of these climate models is discussed. The paper then derives max-min, max-max and min-max regret policies to deal with this particular form of climate uncertainty and with climate scepticism. The max-min or min-max regret climate policies rely on a non-sceptic view of global warming and lead to a substantial and moderate amount of caution, respectively. The max-max leads to no climate policies in line with the view of climate sceptics.

JEL Codes: H21, Q51, Q54

Keywords: carbon price, renewable energy subsidy, temperature models, climate model uncertainty, climate sceptics, max-min, max-max, min-max regret

Reference: 187

Individual View

The current debate about the optimal management of foreign exchange windfalls is highly relevant to low income countries such as Uganda, having recently discovered vast hydrocarbon reserves. Using a Computable General Equilibrium (CGE) model for Uganda this paper analyses three broad policy options for the use of oil revenues, increasing i) private consumption, ii) private investment, and iii) public infrastructure investment. The model allows for learning-by-doing in tradables, increasing returns to public infrastructure and the use of an Oil Fund held abroad. The fund allows government to smooth expenditure programs over the medium-term. When public infrastructure is biased towards tradables, a smooth expenditure profile yields higher economic growth than high expenditure skewed to the present. The government’s discount rate plays a key role in determining the optimal use and management of oil revenues. More impatient governments will be inclined to increase current expenditure at the cost of future generations’ welfare and negative distributional implications for poor households. Lower discount rates align the political incentives with respect to inter-temporal welfare and the long-run growth path of the economy.

JEL Codes: E62, O11, O13, O23, Q32

Keywords: Fiscal Policy, natural resources, economic development, Dutch-disease, CGE model, Uganda

Reference: 186

Individual View

Authors: Fidel Perez-Sebastian, Ohad Raveh

Nov 2016

In economies with multi-level governments, why would a change in the …scal rule of a gov-ernment in one level lead to a …scal response by a government in a di¤erent level? Previous explanations focus on the standard common-pool problem. In this paper we study a new potential channel: complementarities between the public goods supplied by the two governments. First, we illustrate its potential key role in determining the sign of the vertical reaction through a standard model of horizontal tax competition with vertical …scal interactions. Second, we propose a novel strategy for identifying it, by considering an empirical design that con…nes the common-pool channel to speci…c locations. We implement this design through a quasi-natural experiment: the 1980 U.S. Crude Oil Windfall Act, which increased federal tax collections from sale of crude oil, thereby a¤ecting the tax base of oil rich states speci…cally. This latter feature enables attributing the vertical …scal reactions of the remaining states to the complementarity channel. Following this strategy, via a di¤erence-in-di¤erences approach, we decompose the sources of the vertical …scal reactions arising from this federal tax change and …nd that those attributed to the novel channel: (i) point at complementarity between state and federal public goods; (ii) account for approximately 40% of the overall vertical …scal response; (iii) are manifested primarily via corporate taxation.

JEL Codes: H77, H71, Q32

Keywords: Federalism, vertical fiscal reactions, common-pool problem, complimentarities, natural resources

Reference: 183

Individual View

Authors: Ohad Raveh

Nov 2016

Can monetary policy shocks induce redistribution across natural resource rich and poor economies within a union? Resource-rich economies are more capital intensive. A two-region monetary union DSGE model with an equalizing fiscal rule and heterogeneity in capital intensity shows that positive monetary policy shocks induce redistribution from the capital-scarce region to its capital-rich counterpart because investment contracts more strongly in the latter. These patterns persist over the medium-term. We test the model's predictions using a panel of U.S. states over the period 1969-2007. Our identification strategy rests on narrative-based monetary policy shocks that are exogenous to individual states, and geographically-based cross-state differences in natural endowments interacted with the international price of oil. The empirical results corroborate the theoretical predictions. We find that a contractionary monetary policy shock induces a relative drop (increase) in investment (federal transfers) in resource-rich states, over the course of four years, due to differences in capital intensities. We estimate that approximately $2.4 billion is redistributed from the resource-poor to the resource-rich states, within the first year of the shock.

JEL Codes: E52, Q32, H77

Keywords: Monetarypolicy, naturalresources, redistribution

Reference: 181

Individual View

Authors: Fidel Perez-Sebastian, Ohad Raveh

Nov 2016

What determines legislators' ’voting behavior over federal tax policies? Conventional wisdom points primarily at party affiliation. This paper presents a novel mechanism of voting patterns across state-levels of …scal advantage. We construct a political economy model of …scal federalism with state …scal asymmetries that originate in heterogeneity in natural resource abundance, representing a non-mobile source of income that provides a …scal advantage in the inter-state …scal competition. The model shows that representatives of natural resource rich states are more willing to vote in favor of federal tax increases, despite the lower net …scal bene…fits their states receive. This occurs because these states can reduce their tax rates as a response to an increase in the federal tax rate, and hence attract capital from the rest of the nation to the extent of increasing their pre-shock tax base. Data on roll-call votes in the U.S. Congress over major changes in federal tax bills in the post WW-II period support the predicted voting patterns. Speci…cally, we …nd that elected officials of resource rich states are more (less) supportive of capital-related federal tax increases (decreases), controlling for their party affiliation, ideology, federal transfers, and economic conditions. Our results indicate that the …scal advantage channel is as dominant as party affiliation in driving legislators' ’voting decisions over federal tax policies.

JEL Codes: D72, H77, Q32

Keywords: Federal tax changes, voting behaviour, federalism, natural resources

Reference: 182

Individual View

Authors: Qi Zhang, James Cust

Nov 2016

An increasing number of papers in the literature use satellite data on nighttime lights as a proxy for economic activities, such as GDP or GDP growth. They implicitly assume that the relationship between GDP and nighttime lights works through the demand side, and there is no constraint on the supply of electricity. This paper first points out a paradox in using this method: the countries for which the method is needed the most, i.e. the countries with poor statistical capacity, are just the countries, for which the assumption of the method is satisfied the least, i.e. the countries with a large power infrastructure deficit. Motivated by this, we collected the data on power infrastructure investment in Angola, a country with a large power infrastructure funding gap. Indeed, we find that in the case of Angola the stable relationship between GDP growth and lights growth assumed in the literature is broken. Instead,increase in lights strongly co-moved with increase in power infrastructure investment. The strong link between lights and investment enables us to develop a new method of quantitatively evaluating value-for-money for infrastructure investments, which directly estimates the cost-effectiveness of transforming investment to welfare, as measured by lights. We estimate the overall cost-effectiveness, and the cost-effectiveness of different financing methods in the case of Angola.

JEL Codes: Q4, O1, H4

Keywords: procurement, growth accounting, nighttime lights, investment, electricity, infrastructure, value-for-money

Reference: 185

Individual View

Open competitive bidding with the contract awarded to the bidder offering the lowest bid price is commonly the recommended method for public procurement. However, the benefits of this form of bidding are subject to certain conditions, such as a good number of available bidders and no post-contract adaptations. This paper quantitatively evaluates the implications of the extent to which these conditions are satisfied for contract performance. It combines the performance ratings of World Bank financed projects with the information on bidding for World Bank procurement contracts and uses natural resources as exogenous variations to show that in resource-rich countries, where the conditions are less likely to be satisfied, awarding the contract to the bidder with the lowest bid price may not be the best procurement method in terms of contract performance. This is consistent with the evidence that World Bank financed projects performed better in non-resource-rich countries than in resource-rich countries over the last 40 years. This may explain why since 2016 the World Bank has shifted the focus of bid evaluation from the lowest bid to bids that provide the best overall value for money, taking into account risk, quality, cost and other factors as needed.

JEL Codes: D4, Q3, H4, H5

Keywords: procurement, auction, World Bank, project evaluation

Reference: 184

Individual View

Authors: Rick Van der Ploeg, Ton van den Bremer

Sep 2016

We use a welfare-based intertemporal stochastic optimization model and historical data to estimate the size of the optimal intergenerational and liquidity funds and the corresponding resource dividend available to the government of the Canadian province Alberta. To first-order of approximation, this dividend should be a constant fraction of total above- and below-ground wealth, complemented by additional precautionary savings at initial times to build up a small liquidity fund to cope with oil price volatility. The ongoing dividend equals approximately 30 per cent of government revenue and requires building assets of approximately 40 per cent of GDP in 2030, 100 per cent of GDP in 2050 and 165 per cent in 2100. Finally, the effect of the recent plunge in oil prices on our estimates is examined. Our recommendations are in stark contrast with historical and current government policy.

JEL Codes: E21, E22, D91, Q32

Keywords: oil price volatility, precautionary saving, resource wealth, fiscal policy

Reference: 179

Individual View

Authors: Rick Van der Ploeg, Rabah Arezki, Ferderik Toscani

Sep 2016

This paper explores the effect of market orientation on (known) natural wealth using a novel dataset of world-wide major hydrocarbon and mineral discoveries. Consistent with the predictions of a two-region model, our empirical estimates based on a large panel of countries show that increased market orientation causes a significant increase in discoveries. In a thought experiment whereby economies in Latin America and sub-Saharan Africa remained closed, they would have only achieved one quarter of the actual increase in discoveries they have experienced since the early 1990s. Our results call into question the commonly held view that resource endowment is exogenous.

JEL Codes: E00, F3, F4.

Keywords: natural resources, discoveries, market orientation, liberalization, institutions, endogenous reserves

Reference: 180

Individual View

Policy prescriptions for managing natural resource windfalls are based on the permanent income hypothesis: none of the windfall is invested at home and saving in an intergenerational SWF is dictated by smoothing consumption across different generations. Furthermore, with Dutch disease effects the optimal response is to intertemporally smooth the real exchange rate, smooth public and private consumption, and limit sharp fluctuations in the intersectoral allocation of production factors. We show that these prescriptions need to be modified for the following reasons. First, to cope with volatile commodity prices precautionary buffers should be put in a stabilisation fund. Second, with imperfect access to capital markets the windfall must be used to curb capital scarcity, invest domestically and bring consumption forward. Third, with real wage rigidity consumption must also be brought forward to mitigate transient unemployment. Fourth, the real exchange rate has to temporarily appreciate to signal the need to invest in the domestic economy to gradually improve the ability to absorb the extra spending from the windfall. Fifth, with finite lives the timing of handing back the windfall to the private sector matters and consumption and the real exchange rate will be volatile. Finally, with nominal wage rigidity we show that a Taylor rule is a better short-run response to a crash in commodity prices than a nominal exchange rate peg.

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

Keywords: Dutch disease, permanent income, volatility, capital scarcity, domestic investment, Dutch disease, absorption constraints, overlapping generations, nominal wage rigidity

Reference: 178

Individual View

Authors: Pierre-Louis Vezina

Aug 2016

This paper examines the examines the effect of giant oil and gas discoveries on foreign direct investment in developing economies using a new project-level dataset. We document a large increase in non-extraction FDI in the 2 years following a giant discovery, an event which is unpredictable due to the uncertain nature of exploration. We find that FDI inflows increase by 73% and that this wave is driven by a 37% increase in the number of FDI projects as well as a 22% increases in source countries and a 17% increase in target sectors. We interpret this FDI response as evidence for the news-driven business-cycle hypothesis within a developing country setting and highlight FDI bonanzas as an important development channel for resource rich economies.

JEL Codes: F21, F23, Q32, Q33

Keywords: giant discoveries, news shocks, investment.

Reference: 177

Individual View

The tractable general equilibrium model developed by Golosov et al. (2014), GHKT for short, is modified to allow for stock-dependent fossil fuel extraction costs and partial exhaustion of fossil fuel reserves, a negative impact of global warming on growth, mean reversion in climate damages, steady labour-augmenting technical progress, specific green technical progress driven by learning by doing, population growth, and a direct effect of the stock of atmospheric carbon on instantaneous welfare. We characterize the social optimum and derive simple rule for both the optimal carbon tax and the renewable energy subsidy, and characterize the optimal amount of untapped fossil fuel.

JEL Codes: H21, Q51, Q54

Keywords: social cost of carbon, carbon tax, renewable energy subsidy, general equilibrium, Ramsey growth, capital accumulation, stranded assets, simple rules

Reference: 176

Individual View

Authors: Ralph De Haas, Steven Peolhekke

May 2016

We estimate the impact of local mining activity on the business constraints experienced by 22,150 firms across eight resource-rich countries. We find that the presence of active mines deteriorates the business environment in the immediate vicinity (<20 km) of a firm but relaxes business constraints of more distant firms. The negative local impact of mining is concentrated among firms in tradable sectors whose access to inputs and infrastructure becomes more constrained. This deterioration of the local business environment adversely affects firm growth and is in line with a natural resource curse at the sub-national level.

JEL Codes: L16; L25; L72; O12; O13; Q30

Keywords: Mining; natural resources; business environment

Reference: 175

Individual View

Authors: Torfinn Harding, Radoslaw Stefanski

May 2016

We estimate the effect of giant oil and gas discoveries on bilateral real exchange rates. The size and plausibly exogenous timing of such discoveries make them ideal for identifying the effects of an anticipated resource boom on prices. We find that a giant discovery with the value of a country's GDP increases the real exchange rate by 14% within 10 years following the discovery. The appreciation is nearly exclusively driven by an appreciation of the prices of non-tradable goods. We show that these empirical results are qualitatively and quantitatively in line with a calibrated model with forward looking behaviour and Dutch disease dynamics.

Reference: 174

Individual View

Authors: Rabah Arezki, Amadou Sy

Apr 2016

This paper studies the appropriate financing structure of infrastructure investment in Africa. It starts with a description of recent initiatives to scale up infrastructure investment in Africa. The paper then uses insights from the literature on informed vs. arm’s length debt to discuss the structure of infrastructure financing. Considering the differences in investors’ preferences that Africa faces, the paper argues that continent’s success to fill its greenfield and hence risky infrastructure gap hinges upon a delicate balancing act between development banking and institutional long-term investment. In a first phase, development banks which have both the flexibility and expertise should help finance the riskier phases of large greenfield infrastructure projects. In a second phase, development banks should disengage and offload their mature brownfield projects to pave the way for a viable engagement of long term institutional investors such as sovereign wealth funds. In order to promote an Africa wide infrastructure bond markets where the latter could play a critical role, the enhancement of Africa’s legal and regulatory framework should however start now.

JEL Codes: H49, H54, G30, G38

Keywords: Africa, Infrastructure Finance, Development Banks, Long-term Investors

Reference: 173

Individual View

Authors: Anthony Venables, Samuel E Wills

Apr 2016

The paper explores strategies for managing revenue from natural resources, focusing on the balance between domestic and foreign asset accumulation. It suggests that domestic asset accumulation is the priority in developing countries, while there are three motives for accumulating foreign assets; inter-generational transfer, temporary ‘parking’ of funds, and stabilisation. The paper argues that the first of these is inappropriate for low income countries. The second is required if it is difficult to absorb extra spending in the domestic economy and takes time to build up domestic investment. The third is important, and depends on the extent to which the economy has other ways of adjusting to shocks.

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: 171

Individual View

Authors: Lina O Anderson, Samantha De Martino, Torfinn Harding, Karlygash Kuralbayeva, Andre Lima

Apr 2016

To reduce deforestation rates in the Amazon, Brazil established in the period 2004-2010 conservation zones covering an area 1.5 times the size of Germany. In the same period, Brazil experienced a large reduction in deforestation rates. By combining satellite data on deforestation with data on the location and timing of the conservation zones, we provide spatial regression discontinuity estimates and difference-in-difference estimates indicating that the policy cannot explain the large reduction in deforestation rates. The reason is that the zones are located in areas where agricultural production is likely to be unprofitable. We also provide evidence that zones reduce deforestation if the incentives for municipalities to reduce deforestation are high. We rationalize these finding with a spatial economics model of land use, with endogenous location of conservation zones and imperfect enforcement. Our findings point to the need for other explanations than the conservation zones to explain the sharp decline in deforestation rates in the Brazilian Amazon since 2004.

JEL Codes: Q28, Q58, R11, R14

Keywords: regulation, conservation policies, deforestation, Brazil

Reference: 172

Individual View

Authors: Thomas McGregor, Samuel Wills

Feb 2016

We investigate whether the geographic determinants of growth extend to natural amenities. We combine data on spatial and temporal variation in the quality of over 5000 surf breaks globally with data on local economic performance, proxied by night-time lights. We document a strong association between natural amenity quality and local economic development. Economic activity grows faster near good surf breaks; following the discovery of new breaks, or the technology needed to ride them; and during El Niño events that generate high-quality waves. The effects are concentrated in nearby towns and emerging economies, and population changes are consistent with tourism.

JEL Codes: O13, O44, O47, Q26, Q51, Q56, R11, R12

Keywords: Natural amenities, economic growth, new economic geography, natural

Reference: 170

Individual View

Authors: Rabah Arezki, Thiemo Fetzer, Frank Pisch

Jan 2016

This paper provides novel empirical evidence of the effects of a plausibly exogenous change in relative factor prices on United States manufacturing production and trade. The shale gas revolution has led to (very) large and persistent differences in the price of natural gas between the United States and the rest of the world reflecting differences in endowment of difficult to trade natural gas. Guided by economic theory, empirical tests on output, factor reallocation and international trade are conducted. Results show that U.S. manufacturing exports have grown by about 10 percent on account of their energy intensity since the onset of the shale revolution. We also document that the U.S. shale revolution is operating both at the intensive and extensive margins.

JEL Codes: Q33, O13, N52, R11, L71

Keywords: manufacturing, exports, energy prices, shale gas

Reference: 167

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