The Curse of Natural Resources
- Stella Wilson
- Jun 30, 2022
- 3 min read
Figure 1: The Curse of the Natural Resources
Figure 2: The Balance of Wealth Sources and Median Monthly Income
The curse of natural resources, also known as the paradox of plenty, refers to the failure of numerous resource-rich countries to effectively exploit their natural resource wealth, leading to lower economic growth, stability, development, and higher rates of conflict. Undemocratic governments often control natural resources, thus using high profits to maintain control of the country and reducing democracy. This periodical will examine the causes of the curse, and how economies can reduce their vulnerability to this paradox.
This thesis first emerged during the 1920s and 30s in Latin America, where many economies suffered as a result of the global slump in commodity prices during the Great Depression. However, this criticism of resource-led development was rooted in predictions of declining global demand and commodity prices. Post-war studies then argued that the curse is empirically demonstrable, even after controlling for variations in commodity prices.
The curse of natural resources occurs when countries focus the majority of their investments on a single primary sector industry such as mining or oil production, leading to the neglect of other sectors. It can then become difficult to continue developing the economy and leads to dependence on commodity prices. This is because most of the resources used in the primary sector are exhaustible, so cannot be sustained in the long run. This is why countries like Qatar and the United Arab Emirates have invested greatly in infrastructure, education and healthcare so that the country can continue to experience economic growth and development in the long term. In addition, as primary sector output is usually dependent on the climate and weather conditions, production is susceptible to natural disasters, climate change and global warming.
Sachs and Warner (1995, 1999) identified a mechanism in which natural resource endowment decreases economic growth. Positive wealth shocks from the natural resource sector increase demand and therefore prices for non-traded goods (which include electricity, water, housing, commodities and public services). This increases the costs for manufacturing that uses non-traded goods as inputs, decreasing the competitiveness of these manufactured goods, which are often sold on an international market, impeding export growth and thus economic growth.
Gylfason et al. (1999) instead suggested that natural resource abundance crowds out entrepreneurial activity and innovation, and high wages encourage entrepreneurial individuals to instead seek employment in the natural resource industry. Furthermore, natural resource industries typically require and therefore induce, less education. This can decrease the quality of the human capital in an economy, reducing the development of tertiary industries, which are more economically and environmentally sustainable and thus lead to greater economic growth in the long run.
Gylfason et al. also noted that high, easily appropriable profits in the natural resource sector encourage government corruption and rent-seeking behaviour. These profits can also increase political control through investments in security and patronage spending, and reduce a government’s need for tax revenues and therefore their incentive to introduce pro-growth reforms.
The phenomenon of ‘Dutch disease’ also limits economic growth. This is where a country’s exportation of natural resources causes the currency to appreciate, harming the country’s international competitiveness in exporting other products and shrinking their export economy. First observed in the Netherlands in 1959, it has since taken place in Venezuela, Angola, and the Democratic Republic of Congo.
Despite numerous mechanisms decreasing economic growth and development in resource-rich countries, government policy can be used to combat the curse of natural resources and ensure that natural resources benefit the population. When negotiating contracts for the exploitation of natural resources, governments should insist that local populations benefit from infrastructure constructed as part of this exploitation, such as transport and healthcare facilities. They should also prepare for environmental damage, which often occurs as a result of resource extraction, by establishing systems of public compensation for environmental damage.
Furthermore, governments should ensure complete transparency in negotiation processes and revenue management, in order to avoid often-pervasive corruption. They should also invest large amounts of the revenue from natural resources into infrastructure and other industries that support long-term growth.
Some countries have succeeded in making themselves less vulnerable to the curse of natural resources. For example, Saudi Arabia has reduced its reliance on crude oil from 75 percent of exports in 2010 to 55 percent in 2018. This has allowed it to develop the rest of its economy and made it less susceptible to fluctuating commodity prices.
As explored above, the numerous causes of this curse make it difficult to avoid. This is particularly true for less developed countries which often lack the institutions needed to combat the curse, notably democratic governments focused on long-term, sustainable growth. However, countries including Canada, Chile and Botswana have managed to beat the resource curse through diversification and government regulations. They have proven that the curse is not inevitable, and that, given careful management, natural resources can significantly aid economic growth and development.
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