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PROJECT TOPIC AND MATERIAL ON DUTCH DISEASE AND RESOURCE CURSE: EXPERIENCE FROM NIGERIA’S ECONOMIC DEVELOPMENT
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Over the years several authors have attributed the decline in Nigerian agricultural production to the neglect of the agricultural and manufacturing sector that resulted from the discovery of crude oil. The study is both empirical and historical in nature and utilises annual data for the period of 1981 to 2015. Autoregressive conditional heteroscedasticity (ARCH) model and its extension, the generalised autoregressive conditional heteroscedasticity (GARCH) modelwere used to estimate the conditional variance of Nigeria’s output volatility. Investigating the time-varying Dutch disease and resource course in Nigeria within ARCH-GARCH framework, results reveal that output is volatile and there is a persistence shock in output like in other resource-abundant countries. Results equally reveal that there is non-oil revenue volatility persistence shocks in Nigeria indicating evidence of Dutch disease in Nigeria. Unsurprisingly, results also show that there is tendency for volatility response to shocks, to display a long memory in the standard of living volatility, indicating evidence of resource curse. This suggests that the government should lay more emphasis on the agricultural and manufacturing sectors hitherto not given deserved attention. This will bring about the much desired diversified and industrial economy, with less emphasis laid on the primary extractive sector to which crude oil belongs.
1.1 Background of the Study
Prior to the 1980s, it was believed that natural resource abundance would enable developing countries to make the transition from underdevelopment to industrial “take off”, just as it had done for countries such as Australia and the U.S (Rostow, 1961; Stages of Economic Growth). This view now stands challenged by a number of studies that demonstrate the existence of a “resource curse” – slower growth and poorer economic performance in natural resource rich countries.
The traditional explanation for the resource curse is the Dutch Disease or “deindustrialization”. That is, revenue from natural resources hurts traditional manufacturing through an increase in the exchange rate; also, resources such as labour and capital need to be moved from manufacturing to natural resource production. Most studies on the Dutch Disease stop here although the argument is far from complete (Amin, 2009).
We still need to show that traditional manufacturing offers better growth opportunities than natural resource sectors. Some studies such as Hirschman (1958; The Strategy of Economic Development) and Baldwin (1966; Economic Development and Export Growth: A Study of Northern Rhodesia, 1920-1960) do argue that the relatively small “backward and forward linkages” from natural resource to other sectors limit the growth potential of natural resource rich countries, but the debate is far from settled (also see, Sachs and Warner, 1995).
Recent work suggests another explanation of the resource curse – the Nigerian Disease. That is, an abundance of natural resources leads to poorer governance and conflicts. It gives rise to governments that are less accountable to the people, have little incentive for institution-building, and fail to implement growth enhancing reforms. Higher corruption, more rent-seeking activity, greater civil conflict, and erosion of social capital are some of the outcomes associated with the Nigerian Disease (see, for example, Rosser 2006). While it is too early to draw any definitive conclusion on the relevance of the Nigerian Disease, the early results do suggest a possible way out of the resource curse – greater emphasis on institution-building and government accountability.
In economics, the Dutch disease is the apparent causal relationship between the increase in the economic development of a specific sector (for example natural resources) and a decline in other sectors (like the manufacturing sector or agriculture). The putative mechanism is that as revenues increase in the growing sector (or inflows of foreign aid), the given nation’s currency becomes stronger (appreciates) compared to currencies of other nations (manifest in anexchange rate). This results in the nation’s other exports becoming more expensive for other countries to buy, and imports becoming cheaper, making those sectors less competitive.
While it most often refers to natural resource discovery, it can also refer to “any development that results in a large inflow of foreign currency, including a sharp surge in natural resource prices, foreign assistance, and foreign direct investment”.
The term was coined in 1977 by The Economist to describe the decline of the manufacturing sector in the Netherlandsafter the discovery of the large Groningen natural gas field in 1959.
Prior to 1959, the Dutch country of Netherlands, then known as Holland, was well known for its industrialization, with its products exported to many countries. The country raised its foreign reserve with money earned from exportation.
The discovery of oil in 1957 however brought a twist in the fortunes of the country. Its rulers turned all their attention to crude oil, crippling all its major industries in the process. Its foreign reserve that rose before then dropped sharply. The country learned the hard way that there was no alternative to economic diversification. That action gave birth to the expression: The Dutch Disease.
Regrettably, though, many nations have not learned from the sad consequence of Dutch Disease, in fact, some, especially Nigeria, have deliberately ignored the lesson of the Dutch Disease by its over dependent on money made from oil exportation.
Before oil was discovered in Oloibiri in modern day Bayelsa State, Nigeria was renowned for its cocoa from the west, cotton and groundnut from the north, coal from the east, palm oil and rubber from the Midwestern states. Proceeds from cocoa was used to develop the western states of Nigeria. Till date, the Cocoa House in Ibadan, Oyo state and the then Western broadcasting corporation television, the very first television station in Africa, are all reminders of those good old days. The groundnut pyramids of old Kano also reminds one of groundnut exportation.
The oil windfall of the 70s also brought an end to Nigeria’s revenue diversification effort. Nigeria focused on oil, crippled agriculture, textile industries and other sources of revenue generation, with grave consequences, and ended up turning crude oil from natural blessing to curse (Ibileke, 2012).
1.2 Statement of the Problem
Two broad themes pervade any macroeconomic account of Nigeria’s post-independencedevelopment experience: Waste and Dutch disease. Studies have suggested that Dutch disease is an inadequate explanation for Nigeria’s growth performance(Sala-i-Martin andSubramanian, 2003).The waste explanation, on the other hand, appears to be overwhelming, with oil a key factorcausing a whole series of pathologies that have led to the waste.
There has been much speculation in recent months whether the price of oil will continue its downward spiral to spine chilling levels – $20 per barrel springs to mind. One can almost sense a slight quiver in the voices of investors and oilmen when asked how they would cope with such a scenario.
Some argue that falling gas prices act like a tax break for consumers and that every $10-per-barrel drop boosts US GDP by 0.1%. For many, plunging oil prices can only be synonymous with global instability – no producing nation would balance its budget at such a price level, forcing them to burn through their (often shaky or even nonexistent) oil funds to stave off political collapse. Major companies would slash research and development (R&D) budgets and would halt developing new fields and technologies, thereby hampering the quality of oil production in the long run (Belinski, 2015).
That’s all fine and dandy, but there’s another side to this debate that has not been explored enough. This is that, paradoxically, falling oil prices could lead to an improvement of the overall health of oil-addicted economies over the medium term by providing the necessary impetus for the government to engage in a serious internal debate and come up with innovative policies to diversify its economy.
In times of boom and affluence, few leaders would think about putting breaks on the expansion of the oil sector– a mental map that leads policymakers to what the Economist dubbed “the Dutch disease”, or the resource curse. Essentially, investment in the oil sector crowds out investment in other sectors (especially in the non-tradable sector), and attracts the best talent. The dependence on natural resources makes the economy vulnerable to commodity prices, causes problems of fiscal planning, raises the value of the national currency and renders other exports uncompetitive.
Time and time again, studies have confirmed that resource-poor countries outperform commodity exporters in terms of economic growth by a considerable margin. What’s more, developing countries stricken with the Dutch disease tend to perform worse than their non-exporting counterparts in rule of law, income distribution and overall good governance. Populations concentrated around resource-rich areas develop rent-seeking behavior and enjoy much higher standards of living than the rest of the country, thereby increasing intra-state tensions. Collier, (2015) even argues that oil rich countries have higher chances of being engulfed in wars than their resource poor counterparts.
Nigeria, which clocks in at 2.5 million barrels a day and is Africa’s largest exporter, clearly displays the damaging effects, policy myopia can have on a resource rich country.
Beset by terrorism, both in the underdeveloped north where Boko Haram has managed to extend its control over a considerable chunk of territory, and in the oil-rich south, where insurgent militias have blackmailed government after government with attacks on key oil infrastructure, Nigeria has oftentimes seen just the flipside of its natural wealth. Worse, when oil was discovered in the 1950s, the country’s GDP/capita was equal to Indonesia. In 2000, Indonesia’s GDP/capita was actually twice as big as Nigeria’s – $377 versus $789. In spite of oil revenues estimated at some $350 billion over three decades, it seems that the average Nigerian was actually worse off in relative terms.
Nowadays, oil and natural gas account for 35% of Nigeria’s GDP, 80% of total government revenue and 90% of exports. The country’s 2016 budget balances out at $45 per barrel, a benchmark that looks unrealistic at this point, which has prompted the country’s finance minister to announce painful austerity measures. Even if the currency (the naira) lost 50% of its value last year and is expected to lose even more this year, slightly offsetting the fall in oil prices, the budgetary math simply does not add up. Nigeria’s finances are also in a vulnerable state. Unlike other resource-rich countries, its oil fund shrunk to just $4 billion in 2014 – a paltry figure for a $550 billion economy.
The spell of oil has transfixed the leaders and the rebels of this country alike. For the past two decades, presidential elections have been held in a general atmosphere of horse-trading, with the central government paying off the southern rebels in exchange for promises they will not sabotage its pipelines and refineries. A Presidential Amnesty Program, which pays monthly stipends to ex-militants, has been in place since 2010, after a series of debilitating attacks on Nigeria’s oil infrastructure.
But Nigeria still has much untapped economic potential. All 36 states in the country can boast at least three mineral resources, ranging from iron-ore to gold to rock salt. Under the immediate past administration, the GDP expanded and overtook South Africa as the continent’s largest economy, powered in part by a sprawling services sector, which captured a share of 51% of the economy (up from 26%). The government has also put in place an ambitious agricultural policy that seeks to transform Nigeria into one of the world’s biggest rice producers. Taken together, these policies show that the country has enough assets to replace declining oil revenues.
Unfortunately, the country is bound to experience new episodes of political and social instability this year, against the backdrop of the new administration.
The case for Nigeria to move away from its reliance on oil is quite compelling, as the country is almost a textbook case of the Dutch disease, coupled with oil-fueled political instability. It just needs the political will to see through structural reforms. Falling oil prices can do just that.
Nigerian sauntered into big resource wealth in the 1960s when oil was discovered in exploitable quantity. With huge revenues pouring in she looked poised to become an economic giant. Before the advent of oil, the country was not doing badly, with our growing solid mineral extractive sector and huge agriculture. Nigeria is a nation so vast and diverse. A walk through varying climatic conditions from South to the North offers diverse potential for any kind of agricultural endeavour. So are the natural resources so prevalent and diverse. Our endowments, in people, culture, climate and resources placed us on a pedestal to top all economic charts. Despite the hundreds of billions of dollars the country had grossed in oil revenues, our developmental experience has been disastrous. Our present economic statistics paints a graphic picture of the sorry state we found ourselves. While our average oil revenue per capita in the mid-1960s was US$33, our GDP per capita was US$245. In the 2000s, our oil revenue per capita had risen to US$325 but the GDP per capita had remained at the 60s level of US$245. What this mean is that the huge oil revenue since the 60s has not translated to any real economic development and improved standard of living. If you remember that 245dollars cannot do for you now, what it could in 1965, standard of living had actually nose-dived.
Economic scholars/analysts studying the trend in many resource-rich countries have noticed a negative developmental pattern in most of them, what they have come to call the Resource Curse. Call it the curse of oil in our case. While some nations are shinning exceptions and others showing growing resistance/immunity to the disease, we are witnessing a growth of deadly strain I can only call the Nigerian disease. The trend was first observed in the Netherlands in the 50s when abundant natural gas production brought rapid foreign revenue but declining local productive sector. There are exceptions as demonstrated by Norway, Australia, Chile, Canada and Botswana. Even though the phenomenon is prevalent in most resource-rich countries the fact that countries like Norway and others successfully mitigated the curse reinforced the belief that the syndrome is only a result of poor institutions of government.
The Dutch Disease manifests many symptoms, chief among which is the inability of local productive economy to compete as a result of bloated value of local currency helped by inflow of foreign currency. The high exchange rate means local goods and services are expensive, making them uncompetitive in international market and even encouraging import of cheaper alternatives. Other symptoms of the resource curse, some of which cannot be directly related to the Dutch experience, include weak institutions, official corruption, assertive resource nationalism, internal unrest and even external aggression from envious neighbours. Many of these factors are common in our system but the main effect of the syndrome- the high exchange rate that makes local products uncompetitive is not the case in Nigeria. Even countries that found themselves caught in this economic web are wriggling free, developing resistance to the resource curse. What then makes the Nigerian case so unique?
1.3 Research Questions
- What is the impact of oil revenue on economic performance of the Nigerian economy?
- What is the impact of oil revenue on non-oil sector of the Nigeria economy?
- What is the impact of oil revenue on the standard of living of Nigerians?
1.4 Objectives of the Study
The broad objective of the study is to investigate Nigeria’s experience of economic development amidst the Dutch Disease and resource course syndrome. However, the specific objectives are to:
- Determine the impact of oil revenue on economic performance of the Nigerian economy.
- Ascertain the impact of oil revenue on non-oil sector of the Nigeria economy.
- Establish the impact of oil revenue on the standard of living of Nigerians.
1.5 Research Hypotheses
Ho1: Oil revenue has no significant impact on economic performance of the Nigerian economy.
Ho2: Oil revenue has no significant impact on non-oil sector of the Nigeria economy.
Ho3: Oil revenue has no significant impact on the standard of living of Nigerians.
1.6 Significance of the Study
This study is relevant for the fact that it will simultaneously establish the link between oil revenue, resource curse and economic performance in Nigeria, which very few or no study has examined. Thus this research work would be a value added to the literature, especially in Nigeria. The results of the study will be significant to the relevant authorities in the petroleum industry. This is because it will provide relevance information on the effect of oil revenue on the performance of the economy. In other words, it will reveal the effectiveness of her policy on price stability as a macroeconomic policy objective. The results of the study will also be relevant to government and other stakeholders as well as policy makers. This therefore will enable the government to take appropriate decision on whether to change leadership of the current petroleum industry authority or not. Finally, the results of the study will also provide a platform for further studies in this area. It will also bridge the currently existing gap in the literature thereby making it relevant to the academic as well.
1.7 Scope of the Study
This research work is concentrating on the Nigerian economy. For relevance and in-depth analysis, the study intends to investigate empirically the impact Dutch disease and resource course: experience from Nigeria’s economic development with data spanning from 1970 to 2015. The choice of this period of reference is significant because oil revenue within the period under study constitute a matter of serious policy consideration. The period also encompasses the major landmark in our national economy; between 1981 to early part of 2001, stringent economic stabilization measures were in operation as a result of the dramatic down-turn of the international oil prices. Availability of data is an important factor that was considered in choosing the terminal year of 2015.
1.8 Definition of Terms
1.8.1 The Dutch Disease
In a strict sense, the Dutch disease refers to the crowding out of the traditional export sector by a new booming export sector and the non-tradable goods sector. However, in a broad sense, a country is said to have developed the Dutch disease syndrome when an income “windfall” in the economy leads to harmful or adverse consequences including a decline in the traditional sources of income in the country. The income windfall may come from sharp increases in the price (or production) of exportable (tradable) natural resources (e.g. crude oil, cocoa, coffee, diamond, gold, etc) and/or sharp increases in foreign aid or direct foreign investment or loans, resulting in sharp increase in foreign exchange earnings. The Dutch disease syndrome has existed, albeit in a benign form, since nations started trading with each other. However, it derives its current name from the experiences of the Netherland in the 1960s following the discovery and exploitation of large deposits of natural gas in the country’s adjoining North Sea. This led to a significant increase in the country’s revenue (foreign exchange) and appreciation of the country’s currency (i.e. the Dutch guilder became stronger) which in turn led to a reduction in the competitiveness of the non-oil tradable goods sector of the economy. What was otherwise a positive development in the oil sector led to problems in other sectors of the economy including a depression in the non-oil export sector. It was not until the mid-1970s that the Dutch disease took a malignant form in many oil-exporting and some other mono-cultural developing countries as well as in some aid-dependent countries.
Corden and Neary (1982) have demonstrated how Dutch disease occurs in an economy. According to them, in a country experiencing “boom” in the export of a commodity, the economy can be divided into three sectors: the “booming” export sector, the “lagging’ traditional export sector and the non-export sector. The Dutch disease occurs when the traditional export (tradable goods) sector is crowded out by the booming export sector and the non-tradable goods sector. The lagging traditional tradable goods sector may include cocoa, palm produce, cotton, rubber, coal, copper, textiles and some manufactured goods while the booming export sector may be crude oil, coffee, gold, etc. The non-tradable (non-export) goods sector covers all those goods that are produced for domestic consumption only, e.g. staple food items, clothing, building materials, locally-assembled cars. Where crude oil (and gas) is the booming export sector, the non-oil export sector may be crowded out by the oil sector and the non-tradable goods sector of the economy. This can happen when the oil revenue windfall increases domestic demand for non-tradable goods and pushes up domestic prices leading to an appreciation of the real exchange rate which in turn reduces the competitiveness of the non-oil export sector. This will in turn lead to a reduction in non-oil exports in both quantum and value terms. The oil windfall may also lead to movement of the factors of production in the economy. For instance, capital and labor (and land) may shift from the non-oil export sector to the oil sector (in order to maintain or increase reserves and production) and the non-tradable goods sector (to take advantage of the growing domestic demand). This explains why the increase in oil prices and the subsequent oil revenue windfall in many oil-exporting countries have tended to depress their non-oil export sector while at the same time generating a boom in both the oil and the non-tradable goods sectors. With capital and labor shifting from the non-oil export sector to the oil-sector and non-traded goods sector, firms in the non-oil export sector are forced to either close down or reduce their scale of operation. The boom in the oil and non-traded goods sector increases the demand for imported goods. This may not be a problem in the short-term so long as the country has enough foreign exchange to pay for the imports. The depression in the non-oil export sector and the boom in the other two sectors have medium to long term implications for the economy because the oil windfall will not be permanent given the volatility, unpredictability and exhaustibility of crude oil. For instance, if there is a decline in oil prices and oil revenue, the lagging and collapsing non-oil export sector will not be able to compensate for the drop in oil revenue while domestic demand for the non-traded goods and imports remain sticky. Consequently, the country will be forced to borrow from the international financial market to compensate for the decline in oil revenue. Over time, external debts will increase and so will the debt service obligations. Even when oil prices go up later and there is another round of oil windfall, it is difficult to correct the earlier damage or distortions created by the initial or previous oil windfall. In some cases, the oil exporting country may be forced to adopt some form of structural adjustment program (SAP) to correct such distortions or imbalances. Some of these SAPs are painful and may increase the prevalence, depth and severity of poverty.
In an extreme case, the Dutch Disease can lead to “Immiserising Growth” syndrome – a situation where increase in the output of exported commodity by a country leads to a deterioration of the country’s welfare (Bhagwati, 1958). This happens when the effect of export-led growth on a country’s terms of trade is strong enough to more than offset the direct benefits of growth. It is an extreme case of self-defeating growth. Although the theory of Immiserising Growth was not originally developed for oil-exporting countries, its tenets apply to many oil-exporting countries in the sense that despite the substantial increase in their export revenue, they have suffered significant decline in general welfare due largely to mismanagement of their oil revenue. Thus, the Dutch Disease syndrome confirms the assertion by a Spanish writer in the 16th Century that “the gratification of wealth is not found in mere possession or in lavish expenditure but in its wise application”. Although the main manifestation of the Dutch disease syndrome in an oil exporting country is the decline or depression in the non-oil export sector, other “collateral” manifestations include appreciation of the real exchange rate at the onset, increase in corruption, increase in external debt and increase in poverty. However, an oil-exporting country must not suffer from the Dutch Disease. Furthermore, not all oil-exporting countries suffering from the disease have all “collateral” manifestations at the same time. Country experiences vary considerably depending on their political economy.
1.8.2 Resource curse
The resource curse, also known as the paradox of plenty, refers to the paradox that countries with an abundance of natural resources, specifically non-renewable resources like minerals and fuels, tend to have less economic growth, less democracy, and worse development outcomes than countries with fewer natural. It is a paradoxical situation in which countries with an abundance of non-renewable resources experience stagnant growth or even economic contraction. The resource curse occurs as a country begins to focus all of its energies on a single industry, such as mining, and neglects other sectors of the economy
1.8.3 Economic Development
From a policy perspective, economic development can be defined as efforts that seek to improve the economic well-being and quality of life for a community by creating and/or retaining jobs and supporting or growing incomes and the tax base.Economic development ideally refers to the sustained, concerted actions of communities and policymakers that improve the standard of living and economic health of a specific locality.Economic development usually refers to the adoption of new technologies, transition from agriculture-based to industry-based economy, and general improvement in living standards.
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