This paper aims to consider the following questions: Does natural resources rent, specifically crude oil, because of slower growth rates in oil-rich countries with weaker institution quality? How do natural resources rent work and what is the role of exchange rates? Does the combination of natural resources rent and overvaluation affect openness and make growth rates even slower? Although the literature and empirical work in this area is well enriched with supportive evidence, this paper presents a unique perspective on the matter and offers three contributions. It carefully distinguishes between types of natural resources by choosing only crude oil and differentiating between abundance (reserve) from dependency (export); it solely brings exchange overvaluation into the investigation of oil rent, quality of institutions and economic growth literature; and is distinct in doing this through a heterogeneous panel data model.
After an influential paper by Sachs and Warner (1995), who argued that between 1970 and 1990 resource in poor countries performed better than resource-rich countries in economic growth, many scholars tried to explain the reason for lower growth rates among abundant resource countries using several different theories. Sachs and Warner (1995) considered some explanations that had already been suggested, including Raul Prebisch’s (1950) and Hans Singer’s (1950) argument that countries relying on exporting primary goods would face declining terms of trade in primary commodities relative to manufacturing products. Hirschman (1958), Seers (1964), Baldwin (1966), Krugman (1987) and Gylfason et al. (1999), among others, argued that a boom in the natural resources sector might affect production factor allocations and move them from the tradable to non-tradable industry, a phenomenon termed Dutch Disease. An additional line of the argument focused on rent-seeking. Gelb (1988) and Olsen (1994) reasoned that as most governments in resource-rich countries profited from easily-taxed natural resources exploitation, their revenues would likely lead to corruption and inefficient bureaucracies.
Further, Lane and Tornell (1996) and Tornell and Lane (1998) argued that a natural resources windfall could lead to a “feeding frenzy” and end up inefficiently using public goods, which leads to lowering steady state income and growth. Later, Acemoglu et al. (2001, 2004) argue that the so-called natural resource curse may not be the case for all resource-rich countries, as it depends on the institutions, since “resource abundance increases the political benefits of buying votes through inefficient redistribution.” For Mehlum et al. (2006), the quality of institutions in such countries is what is important, as they can be “grabber friendly” or “producer friendly.” Some countries, “due to the weak rule of law, malfunctioning bureaucracy, and corruption,” would have grabber friendly institutions that attract scarce resources from production to unproductive activities, which is bad for economic growth, while producer friendly institutions attract resources into production, which helps higher growth. Robinson et al. (2006) suggest that “natural resources can lead to inefficiently high public sector employment.”
In contrast with the above scholars, Boschini, Pettersson, and Roine (2007) argue that “point-source” resources, like plantation crops, minerals, and fuels, seem to be more problematic than others. Brunnschweiler and Bulte (2008) contend that the universal proxy for resource abundance in earlier works by Sachs and Warner (1995) and others that is, the ratio of primary product export to gross domestic product (GDP)-is more a measure of resource dependence, and a better measure of resource abundance should consider resource stocks. Moreover, Cavalcanti et al. (2011) argue that these earlier researchers worked on cross-sectional regression models, which have an endogeneity problem. Further, they observe that estimations based on such models widely used in the literature do not consider cross country heterogeneity and, therefore, can produce biased and misleading results. For this reason, they choose a heterogeneous panel data model to address both endogeneity and heterogeneity problems.
In considering the above, this paper puts forward three contentions. First, although Cavalcanti et al. (2011) show that heterogeneous panel data is a better approach than earlier approaches, they do not consider rent-seeking as a variable in their model. Moreover, they use resources reserved or stock of resources as resource abundant to investigate whether this causes slower growth in resource-rich countries. However, this paper argues that resource dependence is a crucial variable when examining whether resource-rich countries with weak institutions have slower growth. As underground resources have not yet been exploited, they cannot meaningfully affect economic growth or be considered in rent-seeking behavior. Therefore, based on our best knowledge, no other studies have investigated the impact of the relationship between resource rent and quality of institutions on economic growth through a heterogeneous panel data model.
Second, as Boschini et al. (2007) and others note, some natural resources are more problematic in this regard, and most scholars believe (crude) oil is at the top of such a list. Therefore, this paper targets explicitly 28 oil abundant countries on the OPEC list of world oil exporters, and from that list follow Mehlum et al.’s (2006) lead in only considering countries with 10% or more export to their GDP. A list of these countries and their dependency to the export of oil is in provided in Appendix A. It is not clear why Cavalcanti et al. (2011) look at both oil exporter and importer in their research when considering oil reserved as a variable affecting economic growth. Similarly, it is unclear why Antonakakis et al. (2017), in their paper on “oil dependency, quality of political institutions and economic growth,” considered 76 countries, as according to OPEC, there are no more than 30 countries with 10% or more oil exports in their GDP.
Third, we contend the more likely way natural resources such as oil cause rent-seeking behavior, corruption and therefore slower economic growth in countries with weak institutions is when these countries exercise overvalued exchange rate. Following David Dollar (1992) and Dani Rodrik (2008), who argue countries with overvalued exchange rates have slower economic growth, based on our best knowledge, this paper solely includes exchange rates in the investigation of oil rent and quality of institutions on economic growth, with the aim to looking at the interaction between oil rent and overvalued exchange rates.
The remainder of the paper is structured as follows: Section 2 discusses how to find currency overvaluation in countries of study (if any), Section 3 looks at the empirical model and data, Section 4 presents empirical results, and Section 5 provides some concluding remarks.
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