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3

Maximizing the Benefits fromAfrica’s Oil and Gas Resources

3.1 Introduction

Africa is blessed with vast natural resource-rich environ-ments. These resources constitute a principal source ofpublic revenue and national wealth. Crude oil and nat-ural gas, in particular, contribute significantly to the eco-nomies of resource-rich African countries (see Chapter 2).

Under the right circumstances, an “oil bonanza” ornatural resource boom can be an important catalystfor growth and development. Unfortunately, in manyAfrican countries natural resource booms have set offdynamic growth processes only to a limited extent. Thefailure of natural resource wealth to lead to the expectedeconomic growth and development has been attributedto several factors, including1

1 See the African Development Report 2007 (AfDB, 2007a) for a detailedliterature review and analysis.

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Benefits from Africa’s Oil and Gas Resources

� “Dutch disease”—the syndrome of rising realexchange rates and wages driving out pre-existingexport- and import-competing industries;

� rent seeking by elites and others who could otherwiseput their energies into profit-making activities;

� price volatility and the “asymmetry of adjustment”(it is easier to ramp up public expenditure than towind it down again);

� inflexibility in labor, product, and asset markets; and� tensions between oil-producing and non-oil-

producing regions within countries.

3.1.1 What Is the Resource Curse?

Essentially, the resource curse refers to the inverseassociation between development and natural resourceabundance. It describes a situation whereby an export-oriented natural resources sector in a country generateslarge revenues for government but leads paradoxicallyto economic stagnation and political instability (Over-seas Development Institute (ODI), 2006). It is commonlyused to describe the negative development outcomesassociated with non-renewable extractive resources(petroleum and other minerals). It has often beenasserted that petroleum, in particular, brings trouble—waste, corruption, consumption, debt overhang, deteri-oration, falling apart of public services, wars, and otherforms of conflicts, among others. Thus, growth in nat-ural resource-abundant countries tends to be slower than

79


Oil and Gas in Africa

expected—considering their resource wealth—and, inmany cases, is actually slower than in resource-scarcecountries.

A common thread in explaining the resource curse—along with the other broad explanations providedabove—is the central role of government behavior. Thekey issue here is how governments administer resourcewealth and how they use natural resource revenues.

3.2 Wealth Creation

3.2.1 Oil and Gas Resources and Wealth Creation

Three key factors underpin the facilitation and process ofoil exploration and production: crude oil prices, technol-ogy, and fiscal regime. The legal framework that embod-ies the fiscal regime under which oil companies operatewill—together with geological, geographical, and politi-cal factors—make a country or region more or less attrac-tive for investors. The competitiveness of the regimeis an essential determinant of the amount of upstreaminvestment in exploration, discovery, and production bymultinational oil companies. African countries are noexception to this conventional wisdom.

The rent from oil exploitation is very large. The shar-ing of this substantial rent between the governmentsof oil-producing and oil-consuming countries and oilcompanies has historically been contentious. The gov-ernments of both producing and consuming countries

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have tried to extract a sizable proportion of this rent.This was a key issue in OPEC countries’ struggle forascendancy in the world oil market in the 1970s (seeChapter 2).

A variety of upstream arrangements exist in manyoil-producing countries. However, there are three majortypes of upstream arrangements: joint ventures (JV), pro-duction sharing arrangements (PSA), and service con-tracts (SC). Joint ventures are typically partnershipsbetween state oil companies (SOCs) and multinationaloil companies (MNOCs). In a JV type of petroleumagreement, the participants jointly share the risks ofexploration and production in proportion to their equityshare. The oil produced is also shared based on rela-tive equity shares. Typically, the SOC has the majorityshare in the joint venture. A major problem with thisarrangement, from the perspective of MNOCs, is thedelay that often accompanies state oil companies’ contri-bution to the joint venture exploration and productioncosts.

In a production sharing arrangement (PSA), theMNOC typically finances all exploration and develop-ment costs. If no oil is found in commercial quantity,the MNOC bears all the risks associated with explo-ration and development. If oil production commencesand profitable extraction is achieved, the profit is sharedbetween the company and the SOC/government accord-ing to an agreed formula. This option is much pre-ferred by MNOCs because it gives them significantautonomy in operations and there is rapid recovery

81



of upstream investment. Increasingly, oil-prospecting oroil-producing countries favor PSAs since this arrange-ment eliminates the need for the government to commitscarce funds upfront for the exploitation of its oil and gasresources.

The third major type of petroleum agreement is theservice contract (SC) model. One sub-type involves apure service contract, in which a company is contractedto undertake specific upstream activity—for example,drilling or seismic surveys—and is paid for this service.Another sub-type is “the risk service contract,” underwhich the oil company undertakes all the explorationrisks and is paid for its services at a fixed rate of return,if oil is found. Costs are reimbursed at an agreed mark-up over the investment in the oil discovered. However,if no oil is found, the company bears the full investmentloss.

Structural changes in the world oil industry havebrought significant changes to upstream petroleumagreements. Prior to the 1970s, when the MNOCs fullycontrolled the world oil industry, concession agreementsdominated the world oil industry. However, in the 1970swhen OPEC gained ascendancy over multinationals asthe key player in the industry, the SC model assumedgreater importance from the producing countries inexploitation of oil and gas in their domain. Total orpartial nationalization became the dominant trend inoil-producing countries. New oil agreements emerged inresponse to the demands of producing countries and alsoin line with the prevailing economic nationalism of the

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era, implicit in the emergence of SCs. In recent times,similar “nationalization processes” have materialized insuch countries as Venezuela and Russia.

The type of agreement selected in an oil-producingcountry should ideally depend on three important para-meters: the size of reserves, the exploration and pro-duction costs, and the recovery factor. Risk service con-tracts seem to be dominant in countries with largereserves and low costs. Host countries with low costsand reserves tend to demand various levies to maximizethe rent they can extract from oil. Production shar-ing arrangements dominate in countries with mediumcosts and large reserves. Joint venture royalty/tax sys-tems are dominant in countries with low reserves andhigh costs. Furthermore, higher exploration and produc-tion costs and risks associated with limited reserves ordeepwater offshore exploration often require more flex-ible fiscal terms for oil companies. The structure of roy-alty tax is “water depth dependent,” as demonstrated inTable 3.1, which shows the cases of this relationship forNigeria. Deep offshore oil exploration attracts no royaltypayment.

More than one type of agreement can be availablein a number of African countries. This largely reflectsthe diversity in costs and reserves in various oil fieldsin the countries—offshore and onshore— as well as theprevailing regime (policy) at the time the contractualarrangements are established, and so on. Again, Nigeriais an example of a country where the three major typesof agreements operate simultaneously.

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Table 3.1: Royalty Regime and Other Levies forOffshore Oil in Nigeria

Water depthin meters

Royalty (%) Signature bonus($ millions)

Below 100 meters 18.50 10Up to 200 meters 16.67 10Up to 500 meters 12.00 20Up to 800 meters 8.00 25Up to 1000 meters 4.00 20Beyond 1000 meters 0.00 20

Data Source: NNPC (2008).

Table 3.2 provides information on the competitivenessof African oil-producing countries in relation to otheroil-producing non-African countries. African countriesfall into two categories: low cost and medium cost pro-ducers (for example, Algeria and Nigeria, respectively).Among Africa’s major oil-producing countries, Angolahas the highest exploration and production costs at $8,compared with $5.25 in Nigeria; $4.25 in Algeria; and $3in Saudi Arabia. The range of upstream costs is from $3at the low end to $14.5 at the upper end in the U.S. Gulfof Mexico.

3.2.2 Management of Oil and Gas Resources

This section presents a summary of the approachesadopted by African nations to manage, conserve, andenhance their oil and gas resources. It also highlights

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Table 3.2: Petroleum Exploration and Production Costs (US$,year 2000)

Country Exploration Cost Production Cost Total Cost

Low costSaudi Arabia 1.50 1.50 3.00Kuwait 1.75 1.80 3.55Iraq 2.25 1.50 3.75Iran 1.75 2.50 4.25Venezuela 1.20 3.42 4.62Algeria 2.15 2.50 4.65

Medium costUnited Arab Emirates 3.00 1.80 4.80Kazakhstan 3.50 1.30 4.80Nigeria 3.00 2.25 5.25Oman 3.75 2.50 6.35Brazil 3.80 3.20 7.00China 3.50 4.00 7.50Russia 4.25 3.50 7.75Angola 5.00 3.00 8.00Indonesia 2.50 6.00 8.50

High costU.S. Lowe-48 onshore 4.95 3.57 8.52Canada Western 6.75 3.00 9.75North Sea 7.50 3.00 10.50Canada Eastern 8.00 3.80 11.80U.S. Gulf of Mexico 11.00 3.50 14.50

Source: Al-Attar and Alomair (2005).

the benefits and wealth these countries can reap fromutilizing these resources (AfDB, 2007).2

Overall, management of non-renewable resourcesinvolves

2 A detailed analysis is presented in the African Development Report 2007(AfDB, 2007a).

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� ensuring the availability (exploration and extraction)of the resources;

� allocating resources to competing players—this mayentail participation of local versus internationalplayers;

� creating an environment for resource industries toflourish;

� ensuring integrity in the management of revenuesreceived from the extraction, mining, and processingof resources;

� developing policies to manage national ownership ofnon-renewable resources;

� limiting the environmental impact of resourceexploitation;

� ensuring health and safety in the process of resourceexploitation;

� converting resource use into sustainable economicdevelopment through linkages; and

� using resource rents for economic and social capitaldevelopment and ensuring the overall creation ofwealth and well-being in the country.

One of the key concerns is that African governmentsthat are major producers of fossil fuels (and other min-erals) do not receive sufficiently large rents or revenuesfrom the production of these extractive products. Thisis attributable to a number of reasons, including con-tracts and regimes that are not designed to extractmaximum rents; and mineral policies that are designed

86



primarily to promote and attract investments and havenot evolved with changing global dynamics and nationalinterests.

Mineral resource rent is the value of mineralresources minus all the necessary production costs. A taxsystem can be designed to capture rents using condi-tional payments—payments that are closely linked toactually realized rents. That is, one pays if one meetsthe criteria to pay. The fiscal system must offer incen-tives to explore and invest while securing a fair share ofrevenues for public use. The mineral tax system cannotmove too far out of line with those countries of similar“prospectivity” (degree of assurance to find and extractat economically competitive and viable conditions). Itcan be structured to reduce investment risks and securehigher government revenues. A mineral resource tax sys-tem can differ from the general tax system and stillremain neutral. The system can use production shar-ing, taxes and royalties, or degrees of state-ownership,each with equivalent fiscal effect. Investors will be inter-ested in the overall impact of the tax regime undera range of assumptions about output costs and prices.This impact has two aspects: The tax burden and thetax structure. The tax burden—specifically the averagetax burden—is the share the government takes in taxes,duties, and royalties over the life of a resource field(that is, the period when resources are extracted froman oil or gas field). But the tax structure is the way inwhich the tax burden is imposed at different points inthe life of the resource field. In appraising a mineral

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resource project, large companies will first examine theintrinsic economics of the project under the given fiscalregime. This usually involves estimation of an expectedrate of return in discounted cash flow terms, in con-stant prices, in an all-equity case. This return will haveto exceed the corporate threshold adjusted for specialproject and political risks. The average tax burden is vitalto this assessment, but so is the timing of the majorpart of the tax burden and thus the tax structure. Forthe latter, when a given tax burden is imposed, theinvestor’s expected rate of return must be high enoughto encourage the investor to invest. Expectations of fiscalstability will reduce investors’ perceptions of risk andincrease the rents that the state can secure (ESMAP,2004).

Governments need to devise and implement appropri-ate and modern tax regimes for mineral resource extrac-tion. One of the challenges is that governments rarelybelieve that companies pay too much tax; companiesrarely believe they pay too little tax; and citizens rarelybelieve that they actually see the full benefits from thetaxes that are paid.

One of the main forms of government incomefrom mineral resource exploitation is royalties, a tax-ation form that has created controversy across theglobe, unlike any other form of mineral resource tax(Otto and Cordes, 2004). Other common tax formsthat cumulatively comprise “the government take”include state tax, revenue tax, corporate tax, income

88



tax, production sharing, state equity (part ownership),and various special mineral resource taxes (ESMAP,2004).

An analysis of fiscal regimes (policies, legal framework,fiscal system, revenue collection, and so on) for fos-sil fuels in Africa reveals that these regimes are by nomeans uniform. A multitude of royalties, taxes, resourcerents, incentives, state equity levels, and so on, havebeen developed to foster interest in exploration andinvestments, on the one hand, and to capture some ofthe benefits for the state and the public, on the otherhand. Table 3.3 outlines some of the key characteristicsof fiscal regimes in Africa. As clearly demonstrated inthe table, the “taxation levels” and principles appliedare as heterogeneous as the landscape and people inAfrica.

3.2.3 Sustainable Resource Development

Sustainable development of non-renewable resources,including oil and gas, encompasses all the policies,principles, and practices that support the utilization ofresources in a manner that does not prevent future gen-erations from accessing the resource(s) or its benefits(UNECA and AfDB, 2007). A key purpose is to ensure thatmineral-hosting nations in Africa benefit from their min-eral resource endowments in the short and long terms,for example, by using the revenues accrued from mineralresource development for socioeconomic development

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programs, creation of manufacturing industries, andother initiatives (Rogers, 2007).

The following specific principles, which are notice-ably absent in the majority of African countries, canimprove and enhance extraction to ensure more sustain-able development (Otto and Cordes, 2004; Rogers, 2007):

� preserving strategic minerals of importance for futuredevelopment (and generations);

� enforcing production quotas or caps;� limiting the number of exploration licenses used,

the areas available for exploration, or the number ofextraction sites;

� ensuring longer production life by limiting annualcapacity;

� establishing a profits trust framework; and� instituting incentives to promote potential alterna-

tives.

The majority of countries have taken important stepsto formulate policies and legislation, and to incorporatefiscal terms into their strategies (AfDB, 2007a). However,more coherent principles, structures, and, above all, duediligence in enforcement would considerably increasebenefits and sustainability for all countries. Some con-crete issues related to sustainable development need tobe improved. These include incorporating environmen-tal aspects into the full extraction cycle and securingproper rehabilitation. Above all, although the coun-tries have the means and measures in place to secure

91



significant economic and social benefits from fossil fuelsand mineral exploitation, a number of key questionsremain:

� Are African countries benefiting enough from theresources at hand?

� Is the wealth created reaching the poor and the gen-eral population to a sufficient degree?

3.3 Resource Curse: The African Context andExperience

For oil and gas producers and exporters, higher oil pricesare expected to be a blessing rather than a curse. Yet theevidence shows that in many of the net oil-exportingcountries (in Africa and elsewhere), it has been a majorsource of economic, social, political, and environmentalproblems, rather than a treasure. The co-existence ofsignificant oil wealth and large-scale poverty is certainlya “paradox of plenty,” if not an outright resource cursein itself.

The essential issue is that to create and sustainlong-term wealth—rather than a short-term oil boom—mineral resources have to be converted into other formsof capital (human, financial, and infrastructure) andmore sustainable livelihood opportunities.

Drawing on an appropriate theoretical framework (seealso AfDB, 2007a), this chapter examines the Africanevidence of the paradox of plenty and the “resource

92



curse” with a view to exploring the following issues andquestions:

� Is natural resource abundance—in particular, fossilfuels—in Africa a curse or a blessing?

� Has the management of natural resources reallystunted the growth and development prospects ofmany resource-rich African economies?

� How does volatility in the export value of resourcescontribute to volatility in growth in GDP percapita and to long-term growth and development ingeneral?

� What political and social factors allow some resource-abundant countries to utilize their natural resourcesto promote development and prevent others fromdoing so?

� How, or why, has the potential resource curse beenavoided in some cases and how can it be overcomein the future?

In most of the analyses that follow, African countries arecategorized as

1. Resource-rich (encompassing both oil and mineralexporters);

2. Oil-rich (oil and gas);

3. Mineral-rich (other minerals, such as metals); and

4. Resource-scarce.

Africa has 22 resource-rich countries, defined in thisstudy as countries where fuel and mineral exports

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contribute over 20 percent to GDP. These countriesaccount for slightly more than two-thirds of Africa’s GDPand for half of its population (Table 3.4). Half of thesecountries are oil exporters (fossil fuels), while the otherhalf are mineral exporters (metals and other minerals).In contrast, there are 31 resource-scarce countries, whichaccount for 30 percent and 48 percent of regional GDPand population, respectively.

3.3.1 High Export Dependence in Africa’sResource-Rich Countries

Africa’s resource-rich countries continue to be highlydependent on natural resource exports for both foreignexchange and revenues. For example, fuels accountedfor 65 percent of the total increase in export values inAfrican countries between 2000 and 2005. Since 1990,the share of fuels in the total exports of African oil-exporting countries has increased by about 12 percentagepoints, to almost 90 percent (IMF, 2006).

In the last five years, buoyant oil, gas, and mineralprice increases have enabled resource-rich African coun-tries to increase their natural resource exports and thustheir revenues substantially. These increased revenuesare a significant source of income for these countries,demonstrating the importance of natural resources inoutput growth and capacity to generate export revenues.For example, oil revenues account for more than halfof all revenues in Angola, Congo, Equatorial Guinea,Gabon, and Nigeria. In fact, in U.S. dollar terms oil

94



Tab

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95



revenues increased about 3.5 times between 2002 and2006. In addition to the upsurge in revenue, produc-tion also expanded significantly, by 45 percent on aver-age, especially in Angola, Chad, and Equatorial Guinea(IMF, 2006). Thus, oil-exporting countries, in particular,are highly revenue (fiscal) dependent on oil, implyingthe need for prudent fiscal discipline to minimize theadverse effects of the boom-bust cycle of oil prices.

The data shows that government expenditures haverisen in recent years, but not at nearly the same rateas natural resource revenues. Before the current boom,non-oil deficits exceeded oil revenues in many resource-rich African countries (such as in Angola, Congo, andNigeria); since then, the ratio of non-oil fiscal deficits tooil revenues has improved noticeably (Table 3.5). Thisreflects both the rapid rise in oil revenues and the nar-rowing of non-oil fiscal balances.

Table 3.5: Fiscal Balance, Investment Rates, and Terms of TradeChanges (in %)

2000–2003 2004–2007

TOT FD INV TOT FD INV

Oil-exportingcountries

6.70 1.06 21.02 8.23 7.71 21.77

Mineral-exportingcountries

−0.93 −4.14 16.33 4.11 −0.32 20.39

Other 1.77 −5.35 22.61 −1.94 −1.22 24.70Africa 2.78 −1.83 19.87 5.84 2.43 21.85

FD: Fiscal Deficit GDP; INV: Domestic investment growth; TOT: Change inTerms of TradeSource: Authors’ calculations based on the AfDB Socio Economic Database.

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The relatively cautious fiscal policies in many resource-rich African countries are helping these countries reducetheir macroeconomic vulnerabilities. In other words, agood number of countries have used natural resourcerevenues to strengthen their external positions by reduc-ing external debt (especially Gabon and Nigeria); accu-mulating external reserves (Angola, Congo, EquatorialGuinea, Gabon, and Nigeria); and reducing domes-tic and external arrears (Angola, Equatorial Guinea,Gabon, and Nigeria). Cameroon, Angola, and Congohave also improved their non-oil primary fiscal balances(IMF, 2007).

3.3.2 Foreign Direct Investment in Resource-Rich Countries

A major concern about foreign direct investment (FDI) toAfrica is that the overwhelming majority of the inflowsgo into natural resource exploitation. Most of the flowsto the top recipient countries—Angola, Algeria, Sudan,Nigeria, and Gabon—go to oil and gas projects.

3.3.3 Growth Performance: Resource-Rich Countries

Before the first oil shock in the 1970s, average oil-richAfrican countries enjoyed favorable macroeconomicconditions: robust economic growth, moderate infla-tion, manageable fiscal deficits and external debt, andexternal current account surpluses. The pro-cyclical poli-cies they followed during the oil boom of the 1970swere intended to use the oil bonanza for economic

97



and social development and to encourage economicdiversification. Unfortunately, these objectives werenot achieved since the actual results were economicimbalances that caused major distress when oil pricesplunged in the 1980s and stayed low for over a decade(IMF, 2007).

Indeed, as Figure 3.1 shows, resource-rich Africa expe-rienced a very disappointing two decades—1980–1999.However, a reversal has occurred in the last five toten years, and current growth rates are in fact trend-ing upwards. Cumulatively, resource-rich countries onlyexperienced an average growth rate of 2.4 percent from1981 to 2006, considerably lower than the 3.8 percent

400

500

600

700

800

900

1000

1100

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1980

1981

1982

1983

1984

1985

1986

1987

1988

1989

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1991

1992

1993

1994

1995

1996

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1998

1999

2000

2001

2002

2003

2004

2005

2006

Resource Rich countries : 2000 US$ GDP per Capita Oil Exp countries : 2000 US$ GDP per Capita Mineral Exporter countries : 2000 US$ GDP per Capita

Figure 3.1: Natural Resource Abundance and Real GDP PerCapita

Source: AfDB Statistical Department, 2007; Computed from database.

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average for resource-scarce countries. Resource-richAfrican countries are, nevertheless, richer than theirresource-scarce peers (US$991 versus US$671 per capita,as Table 3.4 shows). The gap narrowed considerablyduring the 1980–2000 period but is widening againin conjunction with the recent resource boom (it has,all-in-all, narrowed from approximately 50 percent to 30percent).

3.3.4 Savings in Resource-Rich Countries

One of the features of many countries that are endowedwith abundant natural resources is that they save lessthan what is expected, considering the rents obtainedfrom extracting and selling natural resources. Presum-ably, if the countries saved more, they would grow at asustainable and faster rate. To gain a better understand-ing of sustainable development, it is useful to examinethe concept of genuine saving.3

Genuine saving corresponds to an increase in thewealth of a nation. According to the so-called Hartwickrule, any depletion of natural resources or damage bystock pollutants must be compensated for by increases innon-human and/or human capital. This rule of zero gen-uine saving can be seen as a rule of thumb or motivatedby max–min egalitarianism. It requires that resource-rich

3 Genuine saving is defined as public and private saving at home andabroad, net of depreciation, plus current spending on education to cap-ture changes in intangible human capital, minus depletion of naturalexhaustible and renewable resources, minus damage of stock pollutants(CO2 and particulate matter).

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countries adopt a strategy for transforming their naturalresource wealth into other forms of productive capital(World Bank, 2006c; and Ploeg, 2007).

Resource-rich countries in Africa therefore needcredible and transparent rules for sustainable consump-tion and investment to ensure that exhaustible nat-ural resources are gradually transformed into productiveassets at home or abroad. Furthermore, countries withhigh population growth rates need positive rather thanzero genuine saving rates to maintain constant consump-tion per head. They thus need to save more than theirexhaustible resource rents—but only rarely manage todo so.

Analysis suggests that resource-rich countries withnegative genuine saving, such as Nigeria, would expe-rience increases in productive capital by a factor of fiveor four if the Hartwick rule were applied. Effectively, forcountries with negative genuine saving, the erosion oftheir natural resource wealth exceeds their accumulationof other assets. They squander their natural resources atthe expense of future generations without investing inother forms of intangible or productive wealth. This isan unfortunate feature of several resource-rich Africaneconomies (Figure 3.2).

3.3.5 Human Capital Development andIncome Distribution

One of the dilemmas of natural resource abundanceis that it may, pervasively, cause a country to neglect

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Figure 3.2: Counterfactual Exercise—Imposing the HartwickRule

Source: World Bank (2006c), “Where is the Wealth of Nations?”

human capital development—the same basic causes andeffects outlined above in reference to negative genuinesaving. High levels of natural resource revenues can thusdivert attention from diversification and wealth creation,including from institutional and human development(World Bank, 2006c; and Ploeg, 2007). The logical expres-sion of such a potential correlation between resourceabundance and neglect of human capital developmentwould, in the medium to long term, be reflected in a lowbasic human development status. The United NationsHuman Development Index (HDI), a comparative mea-sure of life expectancy, literacy, education, and standardof living in countries worldwide, provides a standardmeans of measuring human well-being and country

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Table 3.6: Resource Abundance and Social Performance

Human DevelopmentIndex (HDI) (Scale 0–1;Niger lowest with 0.31;

Seychelles highestwith 0.84)

IncomeInequality

(GINICoefficientIndex; scale

0–100)*

1- Resource-rich countries 0.51 31.1

Oil-exporting countries 0.55 15.3

Mineral-exporting countries 0.46 46.8

2- Resource-scarce countries 0.51 26.8

5- Africa 0.51 45.9

∗ For the GINI Coefficient Index; 0 corresponds to perfect equalitySources: UNDP (2006), Human Development Report 2006; World Bank(2006d).

development status. As reported by the UNDP in its 2006Human Development Report, Africa dominates the lowend of the HDI (29 of the 31 countries with a low humandevelopment status). Only the Island States of Seychellesand Mauritius qualify as having a high human devel-opment status. The remaining 22 countries, includingall the North African Arab states, have a middle-levelhuman development status. It is also worth noting thatoil-rich Norway has the highest HDI among all countriesin the world (UNDP, 2006).

A deeper analysis of HDI data (Table 3.6) indi-cates that there is no difference between resource-richand resource-scarce countries (0.51). However, oil-richcountries are doing considerably better in this aspectthan primarily mineral-rich countries (0.55 comparedwith 0.46).

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Another important aspect, frequently highlightedas problematic in resource-rich countries, is increasedincome inequality. Oil, gas, and mining industries areoften characterized by their “enclave nature,” withfew forward and backward linkages into the economy.During exploration and production, such industriesemploy only a relatively small number of highly-skilled,well-paid workers and generally import the majorityof inputs. Furthermore, there is a considerable riskthat public expenditure during a resource boom mayexacerbate inequality, for example, concentrating expen-diture in the formal sector in towns and cities, skew-ing distribution (not benefiting rural households), andprioritizing the interests of the elites and wealthierclasses. Because of these tendencies, society tends toidentify the production and export of natural resourceswith the interests of the rich (Overseas DevelopmentInstitute, 2006). As Table 3.6 shows, income inequal-ity is noticeably higher in resource-rich African coun-tries (Gini Coefficient of 31.1) than in resource-scarcecountries (Gini Coefficient of 26.8). Nevertheless, it isagain worth noting that income inequality is more pro-nounced in mineral-rich countries than in oil-exportingcountries.

3.4 Policies and Governance

In most countries and legal regimes, oil, gas, and miner-als are vested to the state. Revenues in the first instance

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accrue to the government, inviting government action,in one way or another, to spend some of the accruedrevenues. There is a recurrent debate on how or whythis very often results in policy failures and poor gov-ernance. Several strands of arguments are presentedbelow (see also the African Development Report—ADR,2007).

3.4.1 Poor Decision-Making

The first strand argues that large windfall revenueslead to poor decision-making by governments. This isattributable to several factors, including the following(Ploeg, 2007; Auty, 2001; Auty, 2004; Stevens, 2003):

� Resource booms raise expectations and increaseappetite for spending. The promise of naturalresource wealth dramatically expands the horizonsof governments in natural resource-exporting coun-tries. A boom mentality not only affects the waygovernments behave—creating grandiose plans andideas; it also shapes how people respond. Work ethicsmay be undermined, resulting in decline in produc-tivity.

� The development of oil, gas, or minerals raises expec-tations among the population. This pressures govern-ments to “do something,” thus encouraging speedyresponses. This often leads to quick, inappropriate,and poorly coordinated decisions.

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� Having more money to “play with” tends to weakenprudence and normal procedures of “due diligence.”In particular, governments may decide on capitalspending without due thought to recurrent spendingimplications.

� Governments often dramatically increase publicspending based on unrealistic revenue projections.In resource-dependent countries, windfalls increaseboth public spending and the appetite for trans-fers by a factor that is more than proportionate tothe size of the boom itself. This means that spend-ing quickly surpasses revenues. Nonetheless, vari-ous interest groups continue to demand even largershares of national income when natural resource rev-enues go into a downtrend.

3.4.2 Corruption and Rent Seeking

It is often argued that natural resource booms oftendecrease the quality of public spending and encour-age rent seeking (Ploeg, 2007; Auty, 2001; Auty, 2004;Stevens, 2003). Centralization, and, hence, concentra-tion of fiscal resources from resource booms, fostersexcessive and imprudent investment. It also leads to mis-management and misallocation of resources and, in themost severe cases, corruption.

The key issue is that natural resource revenues tendto replace more stable and sustainable revenue streams,exacerbating problems of transparency and account-ability. With sizeable resource revenues, the reliance

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on non-resource taxes and other government incomesdecreases. This tends to free natural resource-exportinggovernments from the types of citizen demands for fiscaltransparency and accountability that arise when peo-ple pay taxes directly to the government. Thus, naturalresource export earnings actually sever important linksbetween the people and their governments, links relatedto popular interests and control mechanisms.

The larger the public purse, the less noticeable theleakage to interest groups. Rent seeking is greater inresource-rich countries because wealth is concentratedin the public sector (or possibly in a small number ofcompanies). Therefore, the bulk of the rents createdin these economies are channeled by bureaucrats, themajority of whom are members of the politically domi-nant groups. Such rent-seeking behavior produces unde-sirable results for the economy. First, rent-seeking behav-ior imposes significant losses on the economy. Second,it distracts attention away from long-term developmentgoals to maximizing rent creation and capture. Third,rent seeking creates extremely powerful lobby groupsthat are able to block needed economic reforms. Fourth,societies face severe impediments to innovation as aresult of the behavior of special interest groups. Fifth,rent seeking makes it more difficult for governments toadjust spending when faced with revenue fluctuations.Finally, rent seeking is tantamount to the creation ofmonopoly power in an economy and the social costs ofsuch monopolization are higher if the costs to maintainthat monopoly are added (Stevens, 2003).

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Governance indicators, such as government effective-ness, voice and accountability, political instability andviolence, the rule of law, regulatory quality, and controlof corruption are markedly weaker in oil-rich Africancountries (see Table 3.7). The data furthermore indicatesthat this problem is by far most common in relation tooil exploration and revenue, as the performance of oil-exporting countries is clearly worse than that of coun-tries with other minerals.

The literature emphasizes the role of governments inthe misallocation of resource revenues (Stevens, 2003).Resource booms have adverse effects because they pro-vide incentives for politicians to engage in inefficientredistribution of revenues and income in return for polit-ical support. However, it is important to note that thestatus of existing institutions (before the resource boom)is crucial, as it determines the extent to which politicianscan respond to these perverse incentives. Regardless ofthe starting point, pressure from the public to raisepublic spending is likely to be significant—leading toinefficient redistribution in the form of public employ-ment provisions, subsidies to farmers, labor market reg-ulations, and protection of domestic industries frominternational competition.

3.4.3 State Predation

The attainment of political independence did nottransform the structure of a good number of Africanstates, which remained forceful and authoritarian. Thus,

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Tab

le3.

7:N

atur

alRe

sour

ceA

bund

ance

and

Gov

erna

nce

Indi

cato

rs

Vo

ice

and

acco

unta

bili

tyPo

litic

alst

abili

tyG

ove

rnm

ent

effe

ctiv

enes

sR

egul

ato

ryq

ualit

yR

ule

of

law

Co

ntr

olo

fco

rrup

tio

n20

0620

0620

0620

0620

0620

06

1-Re

sour

ce-r

ich

coun

trie

s−0

.8−0

.7−0

.8−0

.7−0

.9−0

.8

Oil-

exp

ortin

gco

untr

ies

−1.3

−1.0

−1.0

−1.0

−1.1

−1.0

Min

eral

-exp

ortin

gco

untr

ies

−0.4

−0.3

−0.5

−0.5

−0.6

−0.5

2-Re

sour

ce-s

carc

eco

untr

ies

−0.5

−0.4

−0.7

−0.7

−0.6

−0.5

Dat

aSo

urce

:Kau

fman

n,Kr

aay

and

Mas

truz

zi(2

007)

.

108



instead of transforming the state and making it relevantto the needs and aspirations of the populations, someemerging post-colonial leaders were content with usingthe enormous authoritarian structures of the state toappropriate economic gains for private ends. In responseto the forces of globalization—epitomized by the endof the Cold War, growing pressures for both economicand political liberalization, as well as increasing inter-nal resistance and demands for democratization—manystate regimes have resorted to repression and predation.A predatory state is characterized by the concentration ofpower at the top and the personalization of networks fordelegation of this power, which is enforced by ruthlessrepression. In this context, economic inducements forgovernment officials and generalized corruption are thegovernment way of life (Castells, 2000).

Predatory rule has two major consequences on nat-ural resource wealth and revenue management in mostfragile African states. First, access to state power isequivalent to access to wealth and to the sources offuture wealth. Second, political support is built aroundclientele networks, which link power-holders with seg-ments of the population. The concern of the variouselites, ultimately connected to the top of state power,is how to gain support and consolidate clienteles whilemaximizing the amount of resources needed to obtainthis support. These networks are formed along eth-nic, regional, territorial, religious, and economic lines(Castells, 2000).

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Predatory states use different violent and non-violentstrategies to manage mineral and oil resources and toappropriate the proceeds accruing from their exploita-tion and sale. Since minerals are extracted in enclaveproduction centers, sometimes located offshore, thecommon strategy is to negotiate royalties and otheragreements directly with foreign companies. These dealsare often shrouded in mystery, making it difficult, if notimpossible, to track how much money is generated orhow these revenues are spent. According to oil industryexperts, OPEC countries on average retain some 75 per-cent of their oil revenues for the state budget, allowingfor operating expenses. In the case of African oil produc-ers, this proportion, even in the best-case scenario, fallsin the range of 55 percent to 70 percent. The differencerepresents supplementary profits shared by the oil com-panies and African elites (Hibou, 1999).

3.4.4 Sociocultural and Political Impacts

As outlined above, countries that have abundant point-source natural resources (such as oil) tend to have lessprudent policies and poor governance. They also tend tohave weaker institutional capacities (Stevens, 2003). Thefollowing paragraphs discuss some of the reasons for thisrelationship and how it can be avoided.

Resource rents are an invitation to non-productivelobbying and rent seeking. This problem occurs mostlyin countries with “grabber-friendly” institutions, whilecountries with “producer-friendly” institutions generally

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do not suffer from the curse. In other words, countries thatavoided the resource curse in previous resource booms didso because they had transparent and sound institutionsand because they adopted specific policies—includinginstitutional capacity building—to minimize the impactof, and damage caused by, the resource windfalls.

Countries in which governance (hence transparency)is initially poor are thought to face a substantial riskof turning resource windfalls into catastrophe. Indeed,there is evidence that governance is likely to deterioratefurther in a resource boom, even from a low-start status,because of the windfalls. Governance and effective pub-lic spending are thus critical for both living standardsand private activity and, since the public sector is a largepart of the economy, its own productivity growth is akey component of overall growth. This in turn requiresthat governments aspire to overall national goals, thusbecoming accountable to citizens, regardless of their owninterests and aspirations.

Poor economic performance during previous naturalresource booms underscores the importance of soundmacroeconomic policies and strong institutions. Thelarge public investment projects of the 1970s and 1980s,when governance and institutions were extremely weakin most of Africa, were often undertaken with littlescrutiny and accountability. The return on public invest-ment was correspondingly low. Meanwhile, poor macro-economic management of natural resource price cyclesin several African countries resulted in large exchangerate appreciation, erosion of the competitiveness of

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non-oil sectors, and high inflation. Given that manyAfrican countries leveraged their natural resource wealthto access credit from foreign suppliers and governments,the early 1990s witnessed a sharp rise in external debt,well above 100 percent of GDP, in most cases, result-ing in unsustainable external debt levels. These macro-economic imbalances have eventually called for verypainful policy adjustments, such as sharp fiscal contrac-tion, trade liberalization, exchange rate adjustment, anddebt rescheduling (Collier and Goderis, 2007).

In addition, with weak institutions and legal sys-tems, there is a higher return on rent seeking, and ahigher occurrence of crime, corruption, unfair companytakeovers, and other shady dealings. A resource bonanzathus elicits more rent seekers and reduces the numberof productive entrepreneurs. In the long run, profitsfall, resulting in an economy that is worse off. Thus, ifinstitutions are weak and conditions are not favorable,dependency on oil and on other natural resources effec-tively hinders democracy and the quality of governance(Ross, 1999; Ploeg, 2007).

Box 3.1: GOVERNANCE AND TRANSPARENCY IN NATURALRESOURCE EXPLOITATION AND MANAGEMENT

Governance remains the overarching and most critical challenge fornatural resource exploitation and management. Although African gov-ernments bear prime responsibility for managing natural-resourcewealth in a fair, transparent, and accountable way, they are only onepart of an intricate web of interests and relationships, which includeregional actors, foreign governments, and multinational extractivecompanies. The main governance-related challenges facing resource-rich countries can be summarized as follows:

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TransparencyTransparency is the key issue in establishing accountable governancestructures and fighting corruption. However, this has to start with theconcession contract itself, as well as with revenues accruing from thesale of the resources:

� Corruption in the allocation of resource concessions underminesgovernance in resource-rich countries and also entails a poor dealfor their citizens. There is overwhelming evidence that concessionallocation is often obscure and involves a lot of corruption.

� Concession contracts often contain confidentiality clauses and aretherefore not open to public scrutiny. Without knowing the detailsof the deals signed by their government, the citizens of a givencountry have no way of holding their politicians accountable.

� Transparency is equally important for the revenue flows of natural-resource rents between extractive industry companies and hostgovernments. If the companies publish what they pay and thegovernments publish what they earn, the revenue flows can betraced and governments can be held accountable for sustain-able management of these revenues and fair distribution of thewealth.

Data Sources: Heinrich Boll Foundation (2007); Alley et al. (2007).

3.4.5 Resource Governance Policy Initiatives

The last decade has seen a growing recognition thatimproved transparency and accountability for the hugerevenues generated by oil, gas, and mineral industries isvital to avoiding the “resource curse” and extending thebenefits of natural resource abundance to poverty reduc-tion. Consequently, several international policy initia-tives, mechanisms, and standards have been launchedto address these dilemmas, improve governance, andreduce the observed environmental and socioeconomicimpacts of extractive industry activities. These include(see also AfDB, 2007a)

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� The Extractive Industries Transparency Initiative(EITI)

� The international Publish What You Pay (PWYP)campaign

� The International Council on Mining and Metals(ICMM)

� The Kimberley Process Certification Scheme (KPCS)� The Equator Principles (social and environmental

standards)� The African Peer Review Mechanism (APRM)

The most important of these—from an Africanperspective—are discussed below.

3.4.5.1 THE EXTRACTIVE INDUSTRIESTRANSPARENCY INITIATIVE

This initiative was launched by the UK government in2002 to address the general failure to transform resourcewealth into sustainable development (the “resourcecurse” or “paradox of plenty”) and the associated gov-ernance problems in the extractive industries sector. TheEITI aims to intervene in the middle of the value chain—collection of taxes and royalties stage—but neitherupstream nor downstream. The EITI has grown into aworldwide initiative. More than 20 countries have com-mitted to its principles and criteria, the majority of themAfrican countries (see also www.eitransparency.org).

Assessment of African Participation: A considerable num-ber of African countries have endorsed the EITI and areapplying its principles to various extents. It is worth

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noting that the initiative is very much focused on the oiland gas sectors. Its scope and mandate can be expanded,revenue transparency strengthened, and the initiativeextended to upstream and downstream issues and toenvironmental stewardship (Jourdan, 2006).

The Nigeria Extractive Industries Transparency Initia-tive (NEITI), operating the EITI “plus” model, is the mostadvanced and comprehensive of all the initiatives ofparticipating countries. The NEITI was launched in 2004and yielded the first-ever comprehensive financial, phys-ical, and process audits of Nigeria’s oil and gas sectorsfor the 1999–2004 period. Cameroon and Mauritaniahave appointed stakeholder committees at the highestlevels of government, drawn up action plans, and offeredworkshops and training for civil society. These two coun-tries have also issued two reports (www.eitransparency.org).

In summary, and looking ahead, the EITI has recordedsome significant achievements, although it is voluntaryin nature. It is increasingly being recognized as a partialsolution to the problem of corruption in energy-richdeveloping countries. However, the EITI faces a num-ber of challenges that need to be addressed (EITI, 2007;AfDB, 2007b):

1. Not all countries that have adhered to the EITI havestarted implementing it in its full extent. Manycountries thus only show rhetorical commitmentand only actually implement the initiative to a lim-ited extent.

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2. Civil society organizations play an important role inthe EITI and in its implementation at the nationallevel, where such a multi-stakeholder initiative isoften difficult to realize. However, in a number ofcountries, records have emerged of civil society rep-resentatives being harassed.

3. The EITI does not address the core problems of cor-ruption, mismanagement, and accountability com-prehensively.

The success of the EITI as a concept is increasingly threat-ened by the lack of clarity about what it means in prac-tice. These problems and issues must be addressed, andEITI is only a first step in the right direction. One of theundeniable effects of the EITI process is that it has raisedinternational awareness that transparency in oil, gas,and mining revenues is vital to preventing corruptionin countries that depend on resource revenues and toensuring that these revenues are used to promote growthand development. The EITI has brought together com-panies, investors, governments, civil society groups, andinternational institutions to promote this shared vision.

3.4.5.2 THE INTERNATIONAL PUBLISH WHAT YOUPAY CAMPAIGN

The Publish What You Pay (PWYP) initiative is a coali-tion of over 300 global civil society organizations frommore than 50 countries. It aims to promote full trans-parency in the payment, receipt, and managementof revenues paid to resource-rich developing country

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governments by the oil, gas, and mining industries.PWYP campaigns are focused on achieving mandatorydisclosure of payments made by oil, gas, and miningcompanies to governments and other public agencies.This is commonly accepted as a necessary first steptowards a more accountable system for the managementof natural resource revenues. Such disclosures will notonly allow members of civil society to draw a compar-ison and thus hold their governments accountable forthe management of revenues; it will also strengthen thesocial standing of companies by demonstrating their pos-itive contribution to society.

Assessment of African Participation: The response ofAfrican countries to the PWYP initiative has been posi-tive, with a considerable number of NGOs pledging theircommitment. To date, NGOs from 23 African countrieshave joined the coalition. Nigeria has been a strongsupporter of the initiative and is home to 47 PWYPcoalition-member NGOs (PWYP, 2007).

The debate on PWYP (a voluntary principle) raises thesame issues highlighted above in relation to the EITIinitiative.

3.4.5.3 EQUATOR BANK PRINCIPLES

Ideally, banks and financial institutions should be madeaccountable for oil- and mineral-backed loans and dis-bursements, particularly when they undermine attemptsby the international community and international finan-cial institutions to control the flow of money that

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involves corrupt natural-resource deals. The two mostwell-known global banking initiatives that target thisissue are the “Equator Principles,” which set social andenvironmental standards for project finance deals, andthe “Wolfsberg Group,” which has developed a set ofanti-money laundering principles. However, both ofthese initiatives are voluntary.

The Equator Principles are essentially a voluntaryfinancial industry benchmark for determining, assess-ing, and managing social and environmental risks inproject financing. Institutions that have adhered to thePrinciples (known as “Equator Principles Financial Insti-tutions” or “EPFIs”) have consequently adopted thesevalues and principles. The initiative is currently sup-ported by some 50 banks from 16 countries. In theircurrent form, the Principles are based on the environ-mental and social safeguard policies of the InternationalFinance Corporation (IFC). As such, they do not pro-vide any specific guidance for extractive sector projects—a considerable limitation in itself. Nevertheless, theEPFIs have committed themselves to not providing loansto projects where the borrower is unable to addressand comply with the general principles and overallstated policies and procedures (www.equatorprinciples.com).

A distinct disadvantage of the Equator Principles isthat they are driven by the Western world and do not, assuch, focus on developmental impacts in the developingworld (Jourdan, 2007). It would thus be beneficial forfinancial institutions to look at developmental aspects as

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well. Given the important role that banks play in financ-ing private sector projects around the world, it is criticalthat signatories to the Equator Principles join in theglobal push for transparency in extractive sectors. Whatis further needed, to boost the effect of this and similarinitiatives, is mandatory transparency in the financingof resource projects. This ideally implies putting an endto resource-backed loans for governments, investors, andothers who refuse to manage resource revenues in atransparent manner. This would also call for an amend-ment of money laundering regulations, recognizing thatresource deals and resource-backed loans constitute asignificant “yellow flag” for potential money laundering(Jourdan, 2007).

3.4.5.4 AFRICAN PEER REVIEW MECHANISM(APRM)

The African Union’s New Partnership for Africa’s Devel-opment (NEPAD) identifies good governance as a basicrequirement for peace, security, and sustainable growthand development. One of its “immediate desired out-comes” is that “Africa adopts and implements principlesof democracy and good political, economic, and cor-porate governance, and the protection of human rightsbecomes entrenched in every African country.” For thispurpose, NEPAD set up the African Peer Review Mecha-nism (APRM), an innovative tool aimed at peer review ofgovernance benchmarks and design of action plans forimprovement.

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Participation in the system is voluntary and a panelappointed by the APRM Secretariat oversees implementa-tion throughout Africa. The process consists of a numberof stages (website: www.aprm.org.za). The ultimate statedgoal of the APRM is to encourage African countries toplan a way forward on governance issues and imple-ment relevant plans in this direction. The APRM processis designed to help participating countries develop andpromote the adoption of laws, policies, and practicesthat lead to political stability, high rates of economicgrowth, sustainable development, and continental eco-nomic integration.

Assessment of African Participation: At present, 27 coun-tries have committed to the APRM and 13 of them havehad reviews launched. To date, Ghana, Rwanda, andKenya are the three countries that have completed theentire process. The broad inclusiveness of the process hasdemonstrated the presence in countries of a strength-ened culture of political dialog and empowerment. How-ever, implementation has posed some challenges, forinstance, the establishment of an appropriate nationalstructure, the financing of the process, and the organi-zation of a participatory and all-inclusive self-assessmentsystem (APRM, 2007; AfDB, 2007c).

Voluntary participation in the APRM assessment hasresulted in very high expectations, and it is imperativefor member countries and stakeholders to now see the“dividends” from the APRM in terms of enhanced gov-ernance and improved living standards. The APRM is

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a cornerstone of NEPAD, the first African-initiated and-led instrument to take full ownership of the continent’sfuture by addressing the key governance challenges thatconstitute major constraints.

3.5 Summary and Conclusion

The conclusion from the analysis in this chapter is thatthe true potential benefits of having significant naturalresource wealth have not been fully exploited by oil-richAfrican countries. Overall, the performance of resource-rich countries in Africa has been disappointing, espe-cially from 1980 to 2000.

However, despite the challenges and issues involved,a natural resource boom can, under the right circum-stances, be an important catalyst for growth and devel-opment. The often referred to “natural resource curse”can be avoided with the right knowledge, institutions,and policies. Several African countries have demon-strated this, and there is reason for cautious optimismthat more countries have learned hard lessons from pastresource booms, and, in future, will pursue strategies andpolicies that will allow them to fully reap the benefits ofnatural resource wealth.

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