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Government economic policies to shield canadian economy from rising oil and resources prices

Sign up for weekly updates from the Carnegie Endowment for International Peace If you enjoyed reading this, subscribe for more! Because this syndrome is taking an increasing toll on oil operations, the oil industry has a strong economic incentive to take affirmative steps, collectively, to mitigate it.

And the industry is uniquely positioned to do so. Instability Hurts the Oil Industry, Its Shareholders, and Other Stakeholders The capital cost of developing petroleum projects has increased 300 percent since 2003, according to industry analysts. Waste, inefficiency, and delays associated with operations in unstable environments are major drivers of these increasing costs.

These higher costs are, in the end, largely passed on to the host country governments, but they also result in lower profits accruing to the project or oil company shareholders. The largest private oil companies, which are increasingly competing with national oil companies and non-oil companies, face the most restrictions on their operations.

An international relations expert, she has experience working on anticorruption and rule of law, assistance, and energy issues.

  1. Once again, both the company and the country suffer losses. Some were caught in the wave of prosecutions that followed the discovery of the corruption.
  2. Previous article in issue. Exemplar Countries and Checklists for Instability Six countries—one from every region—illustrate the trends that signal increasing political and economic instability.
  3. Foreign Corrupt Practices Act—could be part of this effort. Despite the large volume of world-wide emergency reserves, their effectiveness in protecting world economies is not assured.

Establish a voluntary group of companies to draft recommendations aimed at addressing oil curse syndromes. Maximize corporate social responsibility outlays. Companies can share the most effective methods, promote diversified economic development and good resource governance, and spend funds collectively to increase their impact.

Work more intensively with host governments to improve the management of oil proceeds. The industry can offer collective advice on opportunities for enhanced socioeconomic development and optimized use of oil revenues.

Companies could, for example, consider minimum standards expected of a host government before they will bid on new concessions. They could also advocate with Western governments to develop tougher corruption and environmental standards that all oil companies must meet to compete for contracts in producing countries.

Countries with oil are twice as likely to experience civil war as those without. This in turn would reduce operating costs, increase production, raise standards of living for the people in these countries, and create new demand and markets. Western governments, international nongovernmental organizations NGOsand multilateral organizations have therefore launched initiatives, often in partnership with the oil industry, to promote transparency, good governance, and social welfare in troubled oil-rich countries see appendix B for a description of these initiatives.

But, though well-meaning, these efforts have failed—so far—to make a perceptible dent in corruption or to significantly reduce political and economic dysfunction. Sarah Chayes Sarah Chayes is internationally recognized for her innovative thinking on corruption and its implications.

Her work explores how severe corruption can help prompt such crises as terrorism, revolutions and their violent aftermaths, and environmental degradation. Oil industry professionals recognize that this dysfunction takes a financial toll on operations and shareholders some 59 percent of projects came in over projected budgets, according to a 2014—2015 survey3 and delays the development of major markets for industry products see appendix A for information about the rapidly rising capital costs of developing projects.

What is less well understood is the interplay between economic dysfunction, corruption, and instability or insecurity.

  • As a result, the production cost per barrel of oil tends to be higher than in green and yellow countries;
  • Because this syndrome is taking an increasing toll on oil operations, the oil industry has a strong economic incentive to take affirmative steps, collectively, to mitigate it;
  • Popular uprisings quickly spread across the Middle East, resulting in economic shock and political upheaval in Egypt;
  • The oil industry has no legal obligation to help the people living in the countries in which it operates;
  • Corruption can also fuel violent competition among evenly matched kleptocratic elites or symbiotic alliances between governments and dangerous transnational criminal organizations;
  • Oil companies could leverage those relationships to assist host governments in adopting the best long-term policies for translating oil revenues into socioeconomic development.

The oil industry stands to gain from undertaking such a remedial effort. Improving governance and reducing corruption would increase stability. First, a better understanding of the cascading repercussions of so-called Dutch disease and corruption—the primary drivers of oil curse symptoms—is needed.

Dutch disease is almost unavoidable in countries whose primary export is oil. Local manufacturing and agriculture suffer as exports decrease and local prices for domestic production begin to rise. This inflation hurts populations not sharing in the oil boom. Dutch disease has shrunk the agricultural and manufacturing sectors of many developing oil-producing countries, including Algeria, Colombia, Ecuador, Nigeria where oil production undermined the preexisting cocoa, palm oil, and rubber industries ,5 Trinidad, and Venezuela.

Despite the economic growth fueled by oil revenues, the loss of jobs and economic opportunities in the agriculture and manufacturing sectors can impose hardship on large numbers of people, often the poorest members of society. Oil is capital intensive, typically employing a relatively small number of highly trained workers. Governments often address rising unemployment by using the new oil revenues to enlarge the public sector, creating unproductive jobs and thus stunting economic growth.

Although developing countries are the hardest hit, even large, diversified economies like Canada and Australia have recently experienced the problems associated with Dutch disease in their oil-producing regions.

Holland subsequently imposed effective economic policies to solve the unexpected problems, demonstrating that Dutch disease, when it develops, can be mitigated. To prevent Dutch disease, the most effective approach is to use oil revenues to invest and promote development in the nonresource sectors.

When this happens, real estate and stock market values begin to inflate. Growth of the oil-based gross domestic product GDP may look encouraging, and luxury goods—mostly imported—are being bought and sold in capitals.

However, in countries with poor governance, the wealth is usually unevenly distributed, and overall social welfare indicators often fail to improve. Because excessive reliance on finite resources with volatile prices can lead to wide fluctuations in national income, countries that become heavily dependent on oil revenues are at increased risk of political and social instability. Russia, Iraq, Angola, and nearly every other country with significant reliance on revenues from oil exports experienced macroeconomic shock when oil prices fell in late 2014.

Budgets were cut nearly in half, with corresponding cuts in social outlays. Some countries faced sovereign default when oil prices fell far below their fiscal breakeven point.

As a result of sharp cuts in budgets, in the May 2015 provincial election, angry voters ousted the pro-oil Conservative Party, which had ruled for forty-four years. Oil Dependence Compounds the Risk of Corruption A dysfunctional economy is not the only problem oil-producing countries may experience.

Too often, oil-rich countries with weak institutions and little public accountability may succumb to systemic corruption. When royalties and taxes do reach government coffers, cronyism and fraud in the public procurement process mean that they are often diverted into the pockets of powerful elites, rather than invested in public goods.

In some countries, the local content partners or purported nonprofits that receive corporate social responsibility CSR dollars do not provide economic opportunities or social benefits to the local population because they are elements of the patronage network controlled by corrupt officials or their family members.

Oil companies based in the United States and the United Kingdom, where antibribery legislation is enforced, take the risk of prosecution for this crime seriously. Armies of compliance professionals analyze bribery risk and ensure that companies are staying within the letter of the law. In countries that are members of the Extractive Industries Transparency Initiative EITI ,17 oil companies also report the payments they make to governments as part of a multi-stakeholder effort to increase transparency.

Still, oil companies understandably take pains to avoid alienating host nation officials whose attitudes affect the fate of their multibillion-dollar investments. And oil companies have limited or no recourse when confronted with questionable government-specified local partners or when billions of dollars in oil revenues disappear before they reach host government coffers as has happened in Nigeria, Libya, Brazil, and other countries suffering from government economic policies to shield canadian economy from rising oil and resources prices corruption.

The private oil industry is hit too when corruption takes root in a government or a national oil company partner. When local contractors exist to capture revenues for the corrupt elite, their work is often substandard, expensive, or both. Corrupt officials frequently extract ancillary payments through customs clearance fees and warehousing fees and by modifying the terms of contracts.

In the past decade, historic manifestations of corruption have driven indignant populations to a variety of extreme actions. Corruption can also fuel violent competition among evenly matched kleptocratic elites or symbiotic alliances between governments and dangerous transnational criminal organizations. An oil company working in an acutely corrupt country may find itself caught between the government and the aggrieved population. Attacks on oil-production facilities and pipelines may occur when the population blames the companies for the perceived failure to deliver prosperity.

The hollowed-out, corrupt security forces in some countries may constrain the legitimate use of force to protect the oil companies or to responsibly restore order should civil unrest or insurgency occur. Militant extremists make the argument that the corruption and abuse that populations suffer are due to the moral impurity of their national governments.

In desperation at the lack of recourse, many are swayed by these arguments.

The Oil Curse: A Remedial Role for the Oil Industry

Sudan fought for decades—at a cost of over 1 million dead—in an ultimately futile effort to hold on to oil-rich South Sudan. While the civil war in the new country has its origins in the struggle for power between ethnic groups, oil facilities are the prizes for the combatants. The discovery of the Leviathan gas field off the coasts of Israel, Egypt, Turkey, Lebanon, Cyprus, and Syria in 2010 has exacerbated preexisting tensions, further increasing the risk of conflict in the region.

Instability Is Spreading in Oil-Producing Countries Poor governance, mismanagement of oil revenues, and acute corruption on the part of host governments have all contributed to increasing political and economic instability and conflict in oil-producing countries—with enormous costs to the oil industry.

Given that large petroleum endowments located onshore in stable countries are becoming a thing of the past, oil companies increasingly face a choice between technically easy—but risky—oil and technically difficult projects such as offshore or shale reservoirs in more stable environments.

Exemplar Countries and Checklists for Instability Six countries—one from every region—illustrate the trends that signal increasing government economic policies to shield canadian economy from rising oil and resources prices and economic instability.

They also demonstrate how swiftly corruption—whatever its origin—can destabilize an oil-producing country. Stable Countries designated green have: There are several factors that differentiate green counties from other oil-producing countries. Their government officials are subject to more public oversight to ensure that the oil income, along with other tax receipts, is spent in ways that benefit the community. For example, Norway uses a sovereign wealth fund to stabilize the impact of volatile oil prices and ensure benefits for future generations.

It took time for Norway to establish a sovereign wealth fund that achieved satisfactory results. It is worth noting that most stabilization funds have a dismal track record because corrupt governments can easily raid them. Oil operations in Australia have been disrupted by labor unrest. The United States faces public opposition in many parts of the country to hydraulic fracturing, or fracking, as well as offshore and Arctic drilling. Oil-producing regions of the United States are now confronting layoffs and economic contraction.

Notwithstanding their stable conditions, moreover, some oil companies view certain green countries as risky because of costly labor-related disruptions, or because their taxes, royalties, regulations, and permits can be revised retroactively or canceled after project funds have been invested.

Norway ranks high on governance and transparency indicators. It has responsibly administered its sovereign wealth fund to provide for future generations.

Its GDP growth rate of 2. Norway still has challenges: Nevertheless, its low Gini coefficient—a common measure of income inequality—shows that Norway is investing its oil revenues in the welfare of its people. Economic Dysfunction Countries designated in yellow are worse off on the instability scale. They may have some or all of the following indicators: These countries are therefore susceptible to civil unrest that may worsen over time.

Ultimately, these problems can lead to more serious dysfunction, including conflict. Malaysia Malaysia is often said to be a rare success story among petroleum-rich countries, and it is one of the more successful economic performers in Asia, with a GDP growth rate of 6 percent in 2014. Analysts have urged the country to take steps to improve the transparency and management of its sovereign wealth funds. Its prime minister is embroiled in a series of corruption scandals.

However, the immediate risk of conflict remains low see table 2. Like Malaysia, Brazil is ranked yellow. But Brazil is further along the instability scale because acute corruption within its oil industry has caused political upheaval, economic dysfunction, and popular protests. The scandal has caused widespread economic loss to oil company workers and the businesses that cater to them,36 and there is increasing evidence of capital flight as the middle class tries to preserve its savings.

Some were caught in the wave of prosecutions that followed the discovery of the corruption. Therefore, its level of volatility is assessed as moderate see table 3. Politically and Economically Risky Orange countries are characterized by complex, volatile, and unpredictable conditions, making the risk of unexpectedly high operating costs, disruption, or project failure greater than is often perceived.