January 11, 2020

The Resource Curse: An Introduction to the Literature on its Economic and Political Components

By Adlai Erwin

This article is the repurposing of the author’s literature review featuring in his  master’s dissertation entitled ‘The Resource Curse, Democratic Deterioration, and the Rise of Authoritarianism in Venezuela


The aim of the following article is to evaluate the literature on the economic and political aspects of the resource curse. To undertake this task, this portion has been divided into three sections. Section 1.1 will examine the salient economic components of the resource curse—commodity price volatility and market instability and the Dutch Disease—while section 1.2 will evaluate the effects of natural resource dependence on democracy and democratisation prospects. Lastly, section 1.3 will give an overview of the insights found for each analysed economic and political component after reviewing the literature and suggest future directional pathways for research in this field of political economy and developmental economics.

1.1 Economic Components of the Resource Curse

Volatility:

Since natural resources are global commodities, countries that exhibit a dependence on revenues from these sectors become linked to exogenous market-processes that influence domestic economic performance. In particular, the avenue through which this occurs with regard to the resource curse is through the price volatility of natural resources and the instability of global commodity markets (Levin, 1960; Van der Pleog and Poelhekke, 2009). According to Ross (1999), market volatility helps to facilitate the resource curse in contexts where states’ own all, or the majority of, the resource-producing industry in their country. Consequently, Ross (1999) further argues that the lack of multinational private actor involvement in the natural resource sector creates a dynamic whereby states become more directly exposed to volatility in the marketplace via a lack of diversified risk. Hausmann and Rigobon (2003) argue a similar point, they found that resource-abundant countries whose economies were not adequately diversified to offset price-shocks in commodity markets experienced higher levels of volatility, especially via shocks to demand in the non-tradeable sectors. Moreover, Blattman et al. (2007) used a data-set assessing trade experiences of 35 countries from 1870-1939; their findings concluded that during this time period certain commodities proved more volatile and those countries who specialised in such commodities experienced more volatile terms of trade that in-turn slowed their economic growth.

Scholars have also identified intersections between exogenous and endogenous factors through which volatility negatively affects resource-dependent countries. Commodity price shifts in global markets can lead to exchange rate volatility if a country specialises in them (Cashin et al., 2004). It has also been recognised that the inherent instability of primary commodity prices can make prudent fiscal policymaking difficult on the part of countries that exhibit dependence on them (Davis et al., 2001; Atkinson, Hamilton, 2003; Bleaney, Halland, 2009). For instance, Atkinson and Hamilton (2003) argue that the resource curse may manifest itself with regard to volatility through boom-and-bust cycles of revenue streams due to countries’ fiscal policies mirroring these cycles. To remedy the aforementioned phenomena, Davis et al. (2001) in a previous study argued for the necessity of establishing stabilising funds in resource-abundant countries to mitigate the effects of such volatile revenue streams. Given these findings, the nexus between volatility and endogenous factors should be viewed as mutually reinforcing.

In summary, the effects of price and market volatility with regard to the resource curse can become evident in dependent countries both exogenously and endogenously. The exogeneity of commodity prices and their inherent instability ought to be viewed as the dependent variable facilitating the resource curse. In essence, this means that countries whose economies or governmental revenue streams depend on natural resource revenues that are connected to external markets will face increased rates of volatility due to the linkages therein. Concomitantly, these exogenous processes can lead to endogenous effects, which ought to be viewed as the independent variable in the context of volatility and its relationship to the resource curse. Particularly, this occurs through fluctuations in fiscal policies and exchange rates due to a mirroring effect of current trends in global commodity markets. Thus, countries with exposure to volatile, exogenous linkages via natural resource dependence can pursue prudent policy measures to mitigate the economic effects of price-shocks within the market. However, a lack of effective policymaking can make countries more vulnerable to volatility.

The Dutch Disease:

Building off an early study by Meade and Russell (1957), the 1980s saw the emergence of the Dutch Disease thesis (Corden, Neary 1982; Bruno, Sachs, 1982; Corden, 1984). The core model of the Dutch Disease assumes two outcomes will occur from revenue booms in resource-abundant states: a spending effect and a resource-movement effect.

The spending effect refers to extra-income resulting from the booming sector causing a rise in the cost of non-tradeables relative to the price of tradeables through drawing resources out of the booming sector and the lagging sector–typically understood as manufacturing and agriculture–toward non-tradeables via an increased demand for them (Corden, Neary 1982; Corden, 1984). Coincidingly, increased levels of foreign exchange cause currency appreciation that undercuts domestic producer’s exportability in the marketplace due to their products consequently becoming more expensive (Corden, 1984). In a similar vein, the boosted demand levels proposed by the spending effect give way to an upsurge in imports to meet demand, thus further undermining domestic producer’s competitiveness (Bruno, Sachs, 1982). Presuming a constant-wage rate, the resource-movement effect posits that labour will move from the lagging and non-tradeable sectors to the booming sectors, thus causing reduced output of a country’s tradeables (Corden, 1984). This follows from the wage-hike resulting from increased labour demands in the booming sectors, which is presumed to provide better wages and therefore cause shifts in human-capital allocations (Corden, Neary, 1982). It is argued that the net result of the two aforementioned components of the Dutch Disease causes de-industrialisation and an appreciation in the real exchange rate of a country’s currency, both of which facilitate adverse economic outcomes for countries experiencing revenue windfalls from natural resources.

Given the negative economic implications posed by the Dutch Disease, the thesis has undergone multiple empirical tests over recent decades. Numerous studies have found empirical support for the propositions made in works on the Dutch Disease (Edwards, 1986; Looney, 1989; Feltenstein, 1992: Ismail, 2010). Using Colombia as a case study, Edwards (1986) found that increases in governmental revenues stemming from natural resource booms can cause the real appreciation of a country’s currency through inflation. Looney (1989) in his analysis of Saudi Arabia concluded that both the appreciation of the country’s exchange rate and increased levels of imports reduced outputs in the agricultural, mining, and refining sectors. Feltenstein (1992) argued that booms in oil prices during the 1970s caused sectoral migration away from the traditional agriculture sector toward the oil industry in Mexico as a result of rising aggregate expenditures that increased wages and domestic non-tradeable prices vis-à-vis the nominal exchange rate. Similarly, Ismail (2010: 16) found that every 10 percent increase in oil revenues from windfalls is associated with ‘a 3.4 percent reduction in value-added across industries and with a 3.6 percent reduction in industrial output’.

Despite various empirical studies arguing to verify components of the Dutch Disease, other subsets of the literature have found contrary results (Hutchison, 1994; Larsen, 2006; Jahan-Parvar, Mohammadi, 2009) or mixed evidence (Usui, 1996). In a trifold analysis of Norway, the Netherlands, and the United Kingdom, Hutchison (1994)’s statistical investigation did not find evidence that resource revenue boons caused a contraction of their manufacturing industries in the short or long-term. Larsen (2006) using Norway as a case study found that the country avoided the Dutch Disease through prudent macroeconomic policymaking and strong institutions. Countering the findings of Edwards (1985), Jahan-Parvar and Mohammadi (2009)’s analysis of inflation and the Dutch Disease in six countries found that in only half the countries studied oil prices affected inflation of their domestic currencies. Importantly, the effected countries—Norway, Nigeria, and Mexico—all used fixed exchange rate policies whereas the other three utilised floating exchange rates; thus, further pointing toward a crucial linkage between monetary policymaking and the Dutch Disease.

Regarding mixed results, Usui (1996) comparatively analysed Indonesia and Mexico. The results concluded that Indonesia was able to avoid the Dutch Disease via prudent policy adjustments to increased revenues whereas Mexico engaged in profligate spending and unsustainable policies that facilitated the Dutch Disease. In sum, the effects posited by the Dutch Disease are not an inevitable outcome resulting from natural resource revenue windfalls. Rather, they are conditional phenomena that manifest through policymaking. Thus, resource revenue boons do not in-and-of-themselves cause unfavourable economic outcomes, these effects are rather facilitated or ameliorated by governmental action.

1.2 Political Components of the Resource Curse

Natural Resource Wealth as an Impediment to Democracy

Over the past four decades, one of the most prominent trends studied in the literature concerning the resource curses’ political effects has been the relationship between natural resource abundance and democracy. Many scholars have argued to find a negative correlation between levels of democracy and natural resource wealth (Ross, 2001; Werger, 2009; Tsui, 2011; Gassebner et, al., 2012; Ahmadov, 2013). Ross (2001) conducted a statistical analysis of 113 states from 1971 to 1997 to test whether natural resource abundance was an impediment to democracy in these states. Ross’s two main findings indicate that oil, in particular, is a barrier to democracy and facilitates authoritarianism through a rentier effect—utilising revenues from oil income to maintain political power through social spending or minimal taxation—and a repression effect, where oil wealth helps to fund oppressive state apparatuses (Ross, 2001). In a more general sense, Gassebener et al., (2012) utilised an extreme bounds analysis and found that oil abundance was a statistically significant factor that correlatively predicted regime types more authoritarian in nature. In perhaps the most comprehensive study on the relationship between resource wealth and democracy, Ahmadov (2013) employed a meta-analysis of 29 studies on the topic in an effort to synthesise the findings made by them. Ahmadov concluded that there is a ‘non-trivial negative association between oil and democracy across the globe’ (Ahmadov, 2013: 1259).

While various quantitatively driven studies in the literature have shown statistically that natural resource wealth is an impediment to democracy, what are the mechanisms through which this wealth proves to be a hindrance? One of the most popular explanations has been the state-centric ‘rentier’ approach (Mahdavy, 1970; Beblawi, 1987; Crystal, 1990; Ross, 2004; Schwarz, 2007). Rentier states are those who garner substantial economic rents from foreign individuals, interests, or governments (Mahdavy, 1970; Beblawi, 1987). Consequently, the literature on rentierism argues that revenue windfalls accruing to governments of states rich in natural resources exempts them from needing to extract tax revenues from the populace (Knack, 2008; Prichard, et al., 2018) In a similar fashion, revenues from the natural resource sector are spent in a distributive, patronage-oriented manner that focuses on the provision of social welfare benefits and subsidies for the citizenry (Luciani, 1990: 73-75; Sandbakken, 2006; Hertog, 2010). The net political effect of the two aforementioned components tend to lead to a centralisation of power in a state socio-politically in this manner. Without a need to tax the populace for government expenditures, scholars have argued this works as a mechanism to circumvent mass-political representation and accountability in the governance process (Karl, 1997). Similarly, the distributive nature of rentier states creates a dynamic where resource allocation stymies calls for political openness as long as the state maintains its distributive role (Schwarz, 2007: 3).

Grounded in the patronage dynamics of resource-dependent states, Erwin (2019)’s work on Venezuela illustrated that patronage links fostered in a democratic setting can lead to the deterioration of democracy and a shift towards authoritarianism. In particular, this phenomenon occurs when the economic components of the resource curse hinder the state’s ability to act in a distributive manner toward the populace (Erwin, 2019). Concomitantly, the lack of patronage engenders a view of the state acting in a manner that appears to be autonomous from the electorate’s needs and demands, envisaged as path-dependent considerations brought about by the allocation of resource revenues. These anti-establishment sentiments allow for non-traditional political actors to capitalize on such attitudes. Indeed, if these sorts of rulers are able to garner power in the political system and reinstate patronage, the concurrent effect can be political consent on the part of the electorate for authoritarian measures due to the perception of the ruler acting in a manner representative of the populace’s needs via a restoration of patronage (Erwin, 2019).

Another avenue through which natural resource abundance can facilitate authoritarianism is via incumbency-inducing effects that stabilise these types of leaders (Omgba, 2008; Bueno de Mesquita, Smith, 2010; Cuaresma et al, 2011; Andersen, Aslaksen, 2013). Access to natural resource rents by incumbent authoritarian leaders has been argued to change the rationale to maintain power, whether for self-enrichment purposes or as a way to mitigate inner-elite power struggles (Robinson et al., 2006; Caselli, Cunningham, 2009; Cuaresma et al, 2011). Echoing similar theoretical propositions to rentier-oriented theories, it has also been suggested that incumbent leaders utilise resource rents to bias public opinion in a manner conducive to maintaining power. In particular, the ability to satiate the public with extensive social benefits plays a pivotal role in whether or not an authoritarian leader can maintain power (Bueno de Mesquita, Smith, 2010; Erwin, 2019). The strategic nature of natural resources, especially oil, has also been posited as having an effect on authoritarian’s ability to maintain power. Given oil’s importance to the global economy, foreign actors may support authoritarian leaders so oil flows can remain uninterrupted by political instability (Omgba, 2009; Rajan, 2011). Overall, natural resource wealth can have a stabilising effect on authoritarian regimes through rent-conditioned incentivisation structures to maintain power, the ability to use natural resource wealth for public support via the provision of public goods, and lastly by foreign actors lending support to undemocratic leaders due to market-considerations.

Can Natural Resource Wealth Positively Effect Democracies and Democratisation?

Despite statistical findings and theoretical propositions in the literature, the relationship between resource abundance and its proposed impediments to democracy has been critiqued. A subset of researchers has argued in favour of the potential positive effects of natural resource wealth on democratisation (Herb, 2005; Haber, Menaldo, 2011; Gurses, 2009). Herb (2005) asserts that while there may be negative political outcomes stemming from the proclaimed resource curse, the per-capita income increases resulting from resource wealth could have a positive effect on democracy in the long-run. However, though this could be the case, many rich rentier states—especially those in the Arab Gulf— with high per-capita incomes are still widely authoritarian and while some have made democratic transitions at face value, they are still ruled by autocrats. Gurses (2009) conducted an analysis employing 1745 year-country observations for 111 states. His findings conclude that natural resource wealth has helped to facilitate more political openness in regions with resource-abundant, authoritarian states due to burgeoning private sectors and economic actors calling for governmental accountability (Gurses, 2009). While these findings are illuminative, it is important to note that private sector actors in these settings are often intertwined with the ruling-elite structure (see Crystal, 1990). Haber and Menaldo (2011) take a more deterministic view, proclaiming that oil and mineral reliance does ‘not promote dictatorship over the long-run’ after conducting a statistical analysis studying 168 countries from 1800 to 2006. However, according to Andersen and Ross (2013), Haber and Menaldo’s study intentionally skates over the 1970s, which is a crucial period in understanding democratic impediments caused by the resource curse since during this period many oil-producing countries saw substantial revenue windfalls that allowed them to reorganise state-society relations in a more rentier manner. Given the conclusions drawn by the aforementioned studies, as well as apparent methodological errors in one, the positive effects of natural resource wealth on democratisation prospects seem questionable.

While it has been shown that natural resource wealth can stabilise authoritarian rulers, it has also been argued that the same can happen in democracies. For instance, Ross (2012: 73-75) posits that in a democratic setting, resource wealth can give incumbent politicians more access to rents to sway public support in their favour during election cycles. Interestingly, similar parallels can be drawn to the stabilising effects of autocratic rulers. Indeed, this particular point is investigated by Robinson et al. (2006) who find that the common trend in both democracies and authoritarian settings is that leaders utilise resource booms to maintain power. Thus, this could point toward natural resource wealth not being inherently pro-autocracy, but rather having a general incumbency effect irrespective of the political system (Smith, 2004). However, propositions as such are up to personal interpretation as to whether or not this should be viewed as ‘pro-democracy’. In theory, the ability for incumbent politicians to biasedly utilise resource revenue to sway public opinion to sustain power could be indicative of power centralisation and the undermining of democratic processes.

1.3 Concluding Remarks

This chapter sought to give an overview of the major findings in the literature regarding the economic and political components of the resource curse. Section 1.1 investigated price volatility of natural resources in the global marketplace, as well as the Dutch Disease thesis. In both cases, it was found that these economic components of the resource curse are mitigated or exacerbated by policymaking, thus pointing to the critical aspect of governmental action in the face of resource windfalls. Section 1.2 focused on the impediments to democracy posed by natural resources. First, this section evaluated quantitative studies finding statistical significance that resource abundance is an impediment to democracy and then investigated mechanisms through which this occurs, such as rentier state theory and incumbency-inducing effects. Subsequently, contrarian studies indicating that resource wealth can be a positive driver for democracy were investigated. However, many of these studies’ conclusions were shown to be weak in the face of outside information or interpretively driven, which obscure whether or not resource abundance can actually positively affect democratisation and democracies.

While the literature on the resource curse over the past four decades is seemingly exhaustive, there are still new pathways this body of research can look towards. Elsewhere I have argued for the need to develop an ideological approach to the resource curse and how its perceptive elements can lead to political changes (Erwin, 2019: 52). To undertake this task, an interdisciplinary approach employing behavioural economics, political psychology, and political economy would be beneficial as a robust mechanism to discern an ideology of the ‘resource curse’. Empirically, this could take place using a single case study or over a range of cases. However, the latter could prove logistically challenging when it comes to data collection, and due to the authoritarian nature of many resource-rich states, gathering meaningful data could prove cumbersome due to a lack of free speech in these countries.

Furthermore, a meta-analysis of the work on the Dutch Disease would be beneficial as a method to try and comprehensively discern why some resource-rich states are affected by the phenomenon and others are not. This could take place via a look a comparative look at monetary, fiscal, and developmental policies undertaken post-discovery of abundant natural resources in an effort to definitively ascertain what policies are most beneficial for the long-term economic development of resource-abundant states.

Overall, the resource curse provides an interesting insight into the political and economic maladies faced by nations abundant in natural resources. It is likely in the long-term, even with the changing nature of our relationship with energy prospects due to climate change, that new approaches will be needed to evaluate the effects of resource dependency. Similarly, it will be interesting to observe whether or not the resource curse is able to manifest with states abundant in renewable resources, such as Bolivia with its largely untapped lithium reserves.

References

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  • Resource Curse Article Sources
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