Open seminar at Eesti Pank Christopher A. Hartwell Head of Economic Research, IEMS Visiting Researcher, BOFIT December 6, 2013

1. Institutions, Resource Rents, and Cleanliness:
The Institutional Basis of Efficiency in
Resource-Rich Countries
Christopher A. Hartwell
Head of Economic Research, IEMS
Visiting Researcher, BOFIT
December 6, 2013
DISCLAIMER: This presentation represents my own research, and in no way
represents the views of E&Y or the Moscow School of Management

2. Outline of Presentation
Introduction: The Resource Curse
Theory: Resource Abundance and Resource
Waste
What are Institutions? How Would They Affect
Environmental Efficiency?
The Empirical Model
The Results
Conclusions and Further Research

3. THE RESOURCE CURSE

4. The “Resource Curse”
Countries that have abundant natural resource
endowments seem to grow less or have much more
volatile growth paths than countries without these
endowments… on average.
Two quotes from American humorist PJ O’Rourke
put things in perspective:
– “I had one fundamental question about economics: Why do
some places prosper and thrive while others just
suck? Natural resources aren't the answer. Africa has
diamonds, gold, uranium you name it. Scandinavia has little
and is frozen besides. ”
– “Japan is powerful without natural resources. Singapore is
important without physical territory. And Luxembourg
wields enormous influence and barely has people.”

5. GDP and Resources
Source: Manzano and Rigobon (2008)

6. GDP Volatility of Luxembourg and Nigeria:
Over 2 Years
20
18
2 year rolling standard deviation of growth
16
14
12
10
8
6
4
2
0
1962 1964 1966 1968 1970 1972 1974 1976 1978 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
Luxembourg
Nigeria

7. GDP Volatility of Luxembourg and Nigeria:
Over 5 Years
20
18
Rolling 5-year standard deviation of growth
16
14
12
10
Luxembourg
Nigeria
8
6
4
2
0
196519671969197119731975197719791981198319851987198919911993199519971999200120032005200720092011

8. Economics, Scarcity,
and the “Resource Curse”
But why? Resource abundance has been linked with poor economic
performance via many channels:
“Dutch Disease,” or real appreciation of the currency hurting
manufacturing or other tradable sectors;
Fostering systemic breakdown and conflict (Addison et
al., 2002 and Collier and Hoeffler 2004 and 2005, although
Brunnschweiler and Bulte 2009 disagree);
Reducing human capital (Gylfason 2001);
Skewing incentives for prudent policies via an increased sense
of security (Sachs and Warner 1999, Gylfason 2001); and
Increasing economic fragility (Rodrik 1999, Collier and
Venables 2010).

9. ABUNDANCE AND USAGE

10. But How Would Resource Abundance
Affect Resource Usage?
Natural resource abundance may imbue
people with a false sense of security and
lead governments to lose sight of the
need for good and growth-friendly
economic management… incentives to
create wealth tend to become too blunted
by the ability to extract wealth from the
soil or the sea. Rich parents sometimes
spoil their kids. Mother Nature is no
exception.
-Gylfason (2001:848)

11. Resource Abundance and Resource Usage:
A False Sense of Security
The true “paradox of plenty:” economics is the science
of scarcity
– Production and usage adjusts to the hard budget constraint
of lack of resources
Sudden resource abundance as a “soft budget
constraint” (Kornai 1986)
– “If the budget constraint is hard, the firm has no other option
but to adjust… by improving quality, cutting
costs, introducing new products or processes” (Kornai
1986:10) – see whale oil as a prime example
– Moreover, firms do not pay full cost of any resource depletion
they may cause, meaning that “clearly, if the environmental
asset is provided for free, suboptimally high levels of
production… result” (Smulders 2005: 7).

12. Resource Abundance and Resource Usage:
Blunting Incentives
Where abundance can blunt incentives to create
wealth, it also blunts incentives to conserve
Similarity to Austrian Business Cycle Theory
(ABCT) – sudden abundance of credit creates
malinvestments through change in relative prices
– Resource abundance, like credit abundance, changes
the relative worth of resource X vis a vis other
substitutes (including time)
– What was once self-evidently best according to an
efficiency criterion may now not necessarily be so

13. An Example: Oil Use Intensity in
Finland v. Saudi Arabia
12.00
10.00
8.00
World Oil Price Crash
6.00
4.00
2.00
Saudi Arabia
Finland
2011
2009
2007
2005
2003
2001
1999
1997
1995
1993
1991
1989
1987
1985
1983
0.00
1981
Normalized Oil Intensity (thousand barrels
per unit of GDP)
Oil glut and high production

14. THE INSTITUTIONAL DIMENSION

15. What is an “Institution?”
Institutions are a set of
rules, constraints, and behavioral
guidelines, enforced by either formal or
informal means external to the
individual, which are designed or arise
to shape the behavior of individual
actors. (Hartwell 2013)
Can be further divided into:
– Political: Pertaining to distribution of
political power
– Economic: Designed or arising to maximize
the utility of principals in the economic
sphere, by solely influencing and mediating
economic outcomes pertaining to
distribution of resources.
– Social: Institutions not explicitly concerned
with political power or economic incentives
but geared towards behavior and norms
outside these spheres

16. Institutions in Resource-Rich Countries
Previous research shows a relationship between resource
abundance and institutional development (and in that direction):
Resource abundance retards development of economic
institutions (Mehlum, Moene, and Torvik 2006);
It also alters the development of political institutions and in
particular fosters rent-seeking (Alkhater 2012)
Indeed, most prior research has been one-way on effect of resource
abundance on political institutions, leading to:
Larger public sectors (Robinson et. al 2006),
Overextended public finances (Auty and Gelb 2001), and
Increased levels of corruption in the government (Alkhater
2012).

17. Institutions and Resource Abundance
In general, various institutions linked with economic
metrics of success…
– Property rights and executive constraints good for
growth, investment, savings
– Privatization and bank reform good for foreign investment
…but little* work has been done on how institutions
could work to counteract the ill effects of resource
abundance
– What are the channels that could cause good institutions to
encourage efficiency in a resource-abundant environment?
– That is, we know resources affect institutional development, how
can it run the other way?
*(notable exception, cough cough, Coursey and Hartwell
2000)

18. The Relationship Between Institutions
and Resource-Use Efficiency
Economic
Performance
Institutions
Resource
Abundance
Resource use
efficiency

19. The Final Link in the Chain:
Institutions influencing Efficiency
I believe both political and economic institutions can mediate the
effects of resource abundance on resource-use
Political (and
especially executive)
constraints
– Andersen and Aslaksen
(2008) find that
parliamentary systems
insulate against the
negative effects of
resource abundance
– Wealth of real world
experience showing the
tendency towards
autocracy in resourcerich countries
Production (bbl/d
ay)
10,900,000
Russia
9,900,000
Saudi Arabia
8,453,000
United States
4,231,000
Iran
4,073,000
China
3,592,000
Canada
3,400,000
Iraq
3,087,000
United Arab Emirates
3,023,000
Venezuela
2,934,000
Mexico
2,682,000
Kuwait
2,633,000
Brazil
2,525,000
Nigeria
1,998,000
Norway
1,885,000
Algeria
1,840,000
Angola
1,635,000
Kazakhstan
1,631,000
Qatar
Country
– Governments also tend to use a lot of resources…
not necessarily cleanly
Share of
World %
13.28%
12.65%
9.97%
4.77%
4.56%
3.90%
3.75%
3.32%
4.74%
3.56%
2.96%
3.05%
2.62%
2.79%
2.52%
2.31%
1.83%
1.44%
Freedom House
Classification
Not Free
Not Free
Free
Not Free
Not Free
Free
Not Free
Not Free
Not Free
Partly Free
Partly Free
Free
Partly Free
Free
Not Free
Not Free
Not Free
Not Free

20. The Final Link in the Chain:
Institutions influencing Efficiency (II)
Economic institutions may have an even
more direct influence on environmental
efficiency
Property rights
– Tragedy of the Commons
– Coase (1960): existence of extensive
property rights may encourage the better
usage of natural resources
– Strong economic institutions may align
the incentives for resource use efficiency
with market costs and lengthen time
horizons (Deacon and Mueller 2006)
– Moreover, a larger private sector may be
the flip side of political constraints; less
ability for government to influence
economy

21. Paper Intensity v. Property Rights
Normalized Paper Intensity (Production+ImportsExports/GDP)
2.5
2
1.5
1
0.5
0
1
2
3
4
5
6
7
8
ICRG Investor Profile Score
9
10
11
12

22. TESTING THE THEORY

23. The Model

24. The Estimator
Seemingly Unrelated Regression (SUR), as from Zellner (1962), of
three models:
Resource Abundance → Development of Institutions;
Resource Abundance, Institutions → Economic Performance;
and finally,
Institutions, Economic Performance, Resource Abundance →
Resource Use Efficiency
Gylfason and Zoega (2006:1098), “the recursive nature of the
system and the conceivable correlation of the error terms in the…
equations make SUR an appropriate estimation procedure.”
Also used in this context before - Beierlein, Dunn, and
McConnon, Jr. (1981), “The Demand for Electricity and Natural
Gas in the Northeastern United States”

25. The Data
Annual data on 130 countries, developed and developing, from 1970-2011
Commodity and energy production and consumption
–
–
–
–
Natural gas
Electricity
Paper
Oil
Difficult to say if these are “natural resources,” but good proxy for resource abundance
Macroeconomic controls
–
–
–
–
(log) level of current GDP per capita (Canas 2003)
Initial level of GDP (1970)
investment (Papyrakis and Gerlagh 2004, Mehlum et. al 2006)
openness to trade (Arezki and van der Ploeg 2007)
Institutional variables

26. Measuring Resource Efficiency
Indicator
Definition
Source
Intensity Indicators
CEIC
Electricity Usage
Electricity consumption (billion Kilowatthours) divided
by GDP
Natural Gas Usage
Gas consumption (billions of cubic feet) divided by GDP
Oil Usage
Oil consumption (thousands of barrels per day) divided
by GDP
FAOStat
Paper Usage
"Apparent Consumption" of Paper, defined as production
of paper and imports of paper, less exports (all in tonnes),
divided by GDP
Abundance
For each resource, value of resource X in exports, divided
by GDP
UNCTAD for oil, gas, electricity; FAOStat
for paper
CEIC
CEIC
Macroeconomic Controls
GDP
GDP in current dollars
World Bank WDI
GDP 1970
GDP in 1970 in then-current dollars
World Bank WDI
Investment
Share of investment in GDP, %
Openness
Exports + Imports (current US$)/GDP (current US$)
Penn World Tables
CEIC

27. Measuring “Institutions”
Economic Institutions
– Property rights:
 ICRG “investment profile” sub-indicator (formerly risk of
expropriation)
Political Institutions
– Size of government as a percentage of GDP, an
objective measure for (lack of) political constraints
– Political constraints more broadly, taken from Heinsz’s
(2000) “political constraint” database and including data on
the veto power of the legislature, the executive, the judiciary,
and sub-federal entities)
– Executive constraints, via the Polity IV indicator for
executive constraints (coded from 1 to 7 with higher values
corresponding to more executive constraints)

28. Results: Resource Intensity,
Abundance, and Institutions (I)
Gas
1
2
Electricity
3
4
5
Paper
6
7
8
Oil
9
10
11
12
INSTITUTIONAL Variables
Political
Size of
Government
-0.01
0.02
-0.01
-0.003
1.00
5.06**
3.87**
2.57**
Political
Constraints
-0.75
-0.04
0.15
-0.02
4.26**
0.72
3.19**
0.75
Executive
Constraints
-0.001
-0.0001
0.001
-0.0001
0.12
0.04
1.17
0.31
Economic
Property Rights
-0.003
-0.01
-0.003
-0.001
-0.003
-0.01
-0.02
-0.02
-0.02
-0.01
-0.01
-0.01
0.2
0.3
0.17
0.15
0.42
0.46
3.85**
3.57**
3.33**
4.85**
4.71**
4.58**
RESOURCE Variables
Resource
0.01
Abundance
0.66
0.02
0.02
-0.02
-0.02
-0.02
0.03
0.03
0.03
-0.01
-0.01
-0.01
0.88
0.67
2.23*
2.78**
2.79**
3.97**
4.10**
4.22**
1.25
1.03
1.05
n
783
783
770
620
620
620
1498
1497
1498
927
927
901
Partial R-squared
country
dummies?
time dummies?
0.95
0.95
0.95
0.95
0.95
0.95
0.88
0.88
0.88
0.98
0.98
0.98
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes

29. Results: Resource Intensity,
Abundance, and Institutions (II)
Gas
Electricity
Paper
Oil
1
2
3
4
5
6
7
8
9
10
11
12
13
-0.07
-0.73
-0.21
0.22
-0.002
-0.20
-0.20
-1.07
0.14
-1.07
-0.19
-0.02
-0.16
0.09
4.16**
0.29
0.87
0.03
0.81
0.73
3.81**
3.03**
3.85**
3.84**
0.57
3.21**
0.06
0.05
0.02
-0.02
-0.02
-0.08
-0.08
-0.06
-0.05
0.97
0.74
1.07
0.83
0.64
4.39**
4.40**
4.14**
3.49**
INSTITUTIONAL Variables
Political
Political Constraints
Political
Constraints*Resource
Abundance
Economic
Property Rights
-0.004
0.08
0.07
-0.003
0.160
0.16
-0.14
-0.02
-0.08
-0.07
-0.01
0.003
0.0004
0.26
1.27
1.14
0.42
8.40**
8.38**
2.77**
3.24**
3.29**
2.85**
4.99**
0.66
0.10
0.01
0.010
0.01
0.01
-0.01
-0.01
-0.004
0.004
0.004
1.40
1.25
8.91**
8.88**
3.06**
2.57**
2.20*
4.58**
4.01**
-0.01
-0.04
-0.05
0.03
-0.14
-0.13
0.02
0.06
0.06
0.080
0.03
-0.04
.005
0.19
0.81
1.04
2.22*
9.32**
7.22**
0.98
6.17**
5.03**
6.35**
2.35*
3.19**
0.29
n
783
783
783
620
620
620
645
1497
1497
1497
927
927
927
Partial R-squared
0.96
0.96
0.95
0.95
0.95
0.95
0.96
0.88
0.88
0.88
0.98
0.98
0.98
country dummies?
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
time dummies?
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
yes
Property Rights*Resource
Abundance
RESOURCE Variables
Resource Abundance

30. Results Summary
Natural gas efficiency appears to be driven by other
determinants than its abundance
– Political constraints the only significant explanator, and only in two
models
– Investment is the only macro explanation, with more investment
leading to greater efficiency
Electricity usage more affected by economic than political
institutions
– A larger government means low electricity efficiency
– In the fullest model, property rights means more efficient electricity
usage
Paper usage is strongly influenced by both political constraints
and property rights
– Interactions show that these institutions avoid resource abundance
inefficiencies
Oil efficiency can be explained by political constraints
– Enough real-world examples on this: see Russia, Azerbaijan, Saudi
Arabia, etc.

31. Wait! What about ENDOGENEITY!
Notorious in
macroeconomics, but
especially in regards to
institutions
“Everything causes
everything”
Correct by instrumenting
institutions in a “GMM
sense” by:
– Lags of institutional variables
– Initial level of GDP
– Country and time attributes
(Becker et. al 1994)

32. Results: Resource Intensity,
Abundance, and Institutions – 3SLS
Gas
1
2
Electricity
3
4
5
Paper
6
8
9
Oil
10
11
12
INSTITUTIONAL Variables
Political
Political
0.46
-1.51
-1.29
0.16
-0.08
0.67
-2.84
-0.35
-4.23
0.11
-0.29
Constraints
0.39
6.13**
1.00
0.42
0.68
1.62
8.09**
4.73**
12.65**
0.89
3.48**
Political
Constraints*Re
0.16
0.01
0.02
0.06
-0.18
-0.27
0.12
source
Abundance
1.58
0.09
0.60
1.83*
7.63**
12.05**
3.76**
Economic
Property
-0.10
0.97
0.94
-0.10
-0.18
-0.22
-0.12
-0.28
-0.09
-0.12
-0.15
Rights
3.60** 4.15**
3.87** 8.50**
4.59**
4.52** 15.01** 4.53**
1.56
13.76** 8.25**
Property
Rights*Resour
0.09
0.09
-0.01
-0.01
-0.01
0.00
-1.00
ce Abundance
4.48** 4.15**
2.39*
2.65**
2.78**
0.06
2.00*
RESOURCE Variables
Resource
0.02
-0.59
-0.59
0.0004
0.07
0.06
0.21
0.26
0.27
-0.01
0.11
Abundance
0.24
3.56** 3.53**
0.02
2.47*
1.97*
19.83** 8.34**
9.10**
0.68
3.39**
n
783
783
783
620
620
620
1448
1448
1448
927
927
Partial R0.50
0.49
0.49
0.14
0.14
0.14
0.30
0.28
0.31
0.34
0.34
squared
Instruments
Lag of Property Rights, Lag of Political Constraints, Initial Level of GDP, Country, Year
13
0.10
0.75
0.11
3.54**
-0.15
8.40**
-0.01
2.29*
0.07
1.88*
927
0.34

33. Conclusions and Further Research
Basic institutional development can help to
improve environmental efficiency
For the future:
– Expand to more natural resources – and refine the ones
I have here (point source v. diffuse?)
– Other institutional indicators should be analyzed
(bureaucratic governance quality?)
– Are there specific political institutions that may enter
into the equation?
– Are there threshold effects? Accounting for government
provision of “public” goods versus going too far
– Better econometric accounting for endogeneity
– Inclusion of world price effects

34. Thank you!
TÄNAN VÄGA!