Public Lecture: Professor Sir Paul Collier on ‘Fiscal Sustainability and Growth – Challenges for African Countries’

Paul Collier explained that he would be talking about natural resource management, because proper natural resource management is the most important factor for the future economic success of Sub-Saharan Africa.

Natural resource management is even more important than industrial policy. Many states in East Asia have developed rapidly in the last half century, with varying but deep industrial policies. But alongside these states, Hong Kong also grew impressively with next to no industrial policy, despite very similar underlying conditions.

Turning to natural resource management, Collier told the story of two states- one landlocked and surrounded by desert, the second on a superb coastal position with a favourable climate. Both were extremely poor around fifty years ago, but since then both have discovered diamonds. One state now has the highest GDP per capita in Sub-Saharan Africa. The second is suffering intense poverty and a post-conflict situation. Surprisingly, the state which is doing well is the landlocked one, and that doing badly is that in the superb coastal position. These countries are Botswana and Sierra Leone.

This underlies the importance of proper resource management for the economic success of a country, both absolutely and relative to other major policies.

In Africa, $60,000 of sub-soil mineral wealth has been found for every square kilometre, compared to $300,000 in wealthy OECD countries. However, this does not mean Africa is poorer in natural resources. The distribution of sub-soil minerals across the world is in fact effectively random, so why is the figure for Africa so much lower? The answer is, probably, that Africa has seen lower exploration to locate mineral wealth. The resources under the soil in Africa should be huge.

Companies can search for these resources, but they are averse to risk, reducing the fees they are willing to pay for the privilege. Instead, then, governments should undergo and finance the discovery of mineral wealth; once resources are found, companies will offer huge amounts for rights to their extraction and sale.

After taking this first vital step of financing exploration, the government must then be sure to tax resource wealth, taxing what is most visible and measurable.

The next key is spending the resultant revenues effectively to nurture sustainable growth in incomes and living standards. One challenge of this task is distributional: resources are somewhere, not everywhere. And where they are extracted, there is often a considerable toll on the local population. There may well be pressure on the government to focus its resource-financed public spending on communities located in proximity to the resources, rather than equitably across the country. If this pressure is exerted in the form of disruptive localised violence, it may well be successful, and as locals learn that violence works, a disastrous vicious circle of violence, disruption, and patronage can follow (as in the Niger Delta).

Some companies try to avoid this by pretending they are charities, and funding local schools and health centres. But this is completely the wrong approach – governments should take responsibility for schools and hospitals, and their provision by oil companies really leaves local communities jobless and frustrated, and the government short-changed. The government must instead insist that extracting companies invest in the creation of shared infrastructure, such as railways and electricity that can be used by all.

A recent example of this development of public infrastructure is from Guinea. An extraction company in Guinea needed to develop a railway to transport goods; the President requested that this railway carry passengers also, which the company originally claimed was impossible. However, through firm and relentless negotiation from the highest levels of government, expert assistance, and the firm’s own realisation of its need to develop a constituency of support in the country, it was agreed that this railway would indeed also carry passengers, and create a development corridor across Guinea.

In Nigeria, local content requirements were offering low returns due to low local capacity to supply the inputs needed. Thus, the government forced firm investment in local infrastructure and capacity, so that local firms could produce pipelines for them – pipelines which are now not only being produced locally, but also exported, to significant benefit to the Nigerian economy.

The government should also invest its own resource revenues in the development of infrastructure. Saving all of one’s resource income does not maximise the long-run income of low-income, growing, countries, because they have so much need for investment now. This goes against the advice of many, which is to follow the example of Norway and invest most of one’s resource wealth in off-shore sovereign wealth fund. Norway only began investing its money offshore once it had reached a point of having so much capital in its own economy that capital per head was one of the highest in the world; at that point, of course, one’s wealth will bring higher returns carefully invested in China or Brazil. Most low income countries are, of course, not saturated with capital. Their resource income, then, is best invested ‘at home’.

Of course, they should only invest this income ‘at home’ once the country has the capacity to invest it properly, to develop wealth and income for the future, and most low-income countries are not at that point. This leads us to the crucial conclusion, then, that low income resource rich countries must develop their capacity to absorb capital effectively.

How can they do this?

Three ingredients are critical: rules, institutions, and a critical mass of informed citizens.

Rules: Firstly, these are important because once a rule is established its transgression becomes public knowledge and demands public justification. Rules also facilitate the process of searching for sub-soil minerals, and their subsequent taxation.

Of course, the force of rules depends on proper monitoring and enforcement capacity.

It is worth mentioning one rule countries often adopt, which is to invest a certain portion of mineral revenues in savings, or public goods, and so on. Countries must design these rules in a way that does not leave resource funds fungible. That is to say, targets must be integrated into a complete fiscal model, so that mineral wealth investment is not in fact funded by increased borrowing in another part of the budget. Rather, if $50 million of resource wealth is to be dedicated to investment, aggregate government investment must rise by $50 million, instead of a case where $50 million from resource wealth is invested while national borrowing increases by $50 million.

Institutions: Institutions are teams with mandates and the capacity to implement them. Especially important in natural resource management are teams that can scrutinise projects and arrange effective surveys of mineral resource wealth. Also important are institutions for bargaining contracts effectively; in particular, laws should be established in advance of negotiations, so that countries can make demands that are both strong and credible in the face of expert and experienced private negotiators. Finally, institutions for investing resource income are crucial: until they are established, for example, it is important to ‘park’ one’s resource wealth in off-shore savings, until one is ready for effective, high-return domestic spending.

Rules and institutions must not simply be rules on paper. The Euro is an institution with only two fiscal rules and one institution (the European Central Bank). Yet only one of its member signatories have kept all of these rules (Finland, incidentally). Why is this? It is because in Europe, there is no critical mass of citizens who understand why the Euro rules are important.

Some people think that citizens are bad for resource management. But poor citizens understand the need for future investment – because they have children. Those children will need incomes, infrastructure, and social support twenty years from now, and so citizens can plan twenty years ahead. Governments no not have children- they have elections. Elections happen every two to four years, and so government time horizons are much shorter. Thus, it is critical to build a narrative among the population so that their needs surrounding long term resource management become election priorities. Politicians actually have a role in this, as even more than decision makers, they are communicators, who must educate their citizens and carry this narrative forwards.

What should politicians and policy makers make sure their citizens know? All citizens must know two numbers. Firstly, their country’s mineral income per capita. Too often resource income and wealth is reported in the aggregate- “We have signed a deal with Exon worth $50 million!” Research by the UK’s Department of International Development shows that to the average citizen, fifty million sounds the same as fifty billion or fifty trillion: they are all just numbers with lots of zeroes, of which we have little meaningful concept. When a citizen hears their country has won a $50 million resource contract, they tend to think they are rich. But if that country has a four million population, that $50 million is about $12 per head. Communicating this per capita income is crucial to ensure that citizens have realistic expectations about what their national wealth can achieve.

Secondly, of course, citizens need to know how long that mineral income stream will last.

In spite of their diamond wealth, citizens of Botswana have a motto (which is not, “We’re rich, let’s go shopping!”). The motto says, “We’re poor, and therefore we have to carry a heavy load.” This is exactly the kind of narrative that everyone can understand, and that upholds realistic expectations about the offerings of natural resources, so that public finances can be responsibly managed.

It is also worth highlighting my recent research into the effect of democracy on resource-rich countries. We found that the most important aspect of democracy for the successful management of natural resources was in fact the checks and balances built into democratic systems – the real, effective constraints on power. Indeed, holding the effect of these constant, electoral competition showed as somewhat negative in resource-rich countries. Of course, the constraint is that checks and balances are particularly undermined in resource-rich countries, as they come between crooks and money.

The good news in all this is that there is a lot of the future left, and there are a lot of natural resources left in Africa. The great shame would be to repeat the mistakes of the past. Collier closed saying that it is not his role to manage these resources, but that of the politicians and policy-makers assembled. It is their fight, and they can win it.

By Sally Murray, Country Economist, IGC Rwanda