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Summary Globalization, Growth and Development
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Lecture 1: Growth and natural resourcesDutch disease
When a natural resource is discovered this will create a flow of resources into the country. This
leads to an appreciation to a country’s currency and the possibility that other sectors are
negatively affected (because of a worsened competitive position). Because of the focus on the
export of this natural resources, the country becomes more vulnerable to trade shocks.
➢ The net effect of this model is that overall wellbeing is increasing
➢ When you relax basic aspects of the model, you can see decreases as well
Entry point to thinking about resource abundance and economic performance: Dutch
disease.
- Mechanism: as resources flow into a growing sector (e.g. following a natural resource
discovery) a country’s currency appreciates and other exporting sectors of the economy
become less competitive
- Dutch Disease reasoning suggests that dependence on natural resource exports could
expose countries to trade shocks
- Note: in canonical Dutch Disease models an increase in the price of exported good is
welfare increasing
- Although possibility of ‘disease’ under departures from base-case conditions
Note: Dutch Disease model is static and does not try to explain long-term economic growth.
There model shows the discovery of a resource and the immediate effect of this.
➢ This lecture focuses on the long-term effect of resource abundance
Sachs and Warner: the ‘resource curse’ (1990s-2000s)
Series of studies by Sachs and Warner document a negative relationship between resource
exports as a share of GDP and subsequent growth.
• Relationship was found to hold true even after controlling for a wide range of other
determinants of growth, such as the initial per capita income, trade policy, government
efficiency, investment rates etc.
• Sachs and Warner posit that their analysis offers a dynamic perspective on Dutch
Disease
The natural resource curse: rents versus volatility
Does dependence on natural resources slow growth?
• Sachs and Warner (1995): appreciation of real exchange rate leads to decline of non-
resource export sectors. A substantial loss in learning by doing in the non-resource
export sectors results in a fall in total factor productivity growth
o Appreciation of real exchange rate = channel (mechanism)
o Non-resource industries have lower learning by doing because they are
handicapped
o Lower learning by doing = lower technology change = lower productivity growth
• Natural resources may also invite rapacious rent seeking (increasing wealth by taking a
larger share of profits from an existing scarce resource) and thus hamper growth
o Reduced need for tax revenue may lead to reduced pressure for political reform
o Less productive investments/economic activity
o Could be that because of lot of export of oil, taxes are less needed (they remove
the signal between the population and government about what is the most
efficient way to allocate resources)
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,Objections to Sachs and Warner
1. Brunnschweiler and Bulte (2008):
a. They argue that Sachs and Warner measure resource dependence (S&W use
resource exports as a % of GDP) and NOT resource abundance. Having many
natural resources doesn’t mean that you are dependent e.g. Canada, US,
Australia. It could also be the case that a country has huge amount of natural
resources but doesn't utilize them. A country can be highly dependent on natural
resources, without having an abundance. This would indicate that its other
sectors are underdeveloped.
b. Brunnschweiler and Bulte instead look at resource abundance, and find that
resource abundance is associated with higher economic growth. This adds to
the idea of a natural resource curse → the dependence is negative, but overall
natural resource wealth is positive.
2. Van der Ploeg and Poelhekke (2009):
a. Replicate Sachs and Warners results → use updated data from 58 countries from
1970-2003 (cross-country regression analysis). They calculate growth rates and
collected information about natural resources. They are particularly interested in
natural resource export. They find that an increase in exports of natural
resources (as a share of GDP) results in a reduction in economic growth. They
also find that there is a convergence where poorer countries are on average
growing faster than richer countries. Openness to trade and good rule of law
are also associated with higher economic growth. Population growth is
negatively linked, indicating that positive economic growth is more difficult to
maintain when the population is growing rapidly.
Annual growth equation = share of exports as share of GDP
b. Volatility of income lowers growth → They argue that natural resources and
the dependence on natural resources can have both a direct and indirect impact
on growth:
i. Direct impact on growth
ii. Indirect impact on volatility → poor countries tend to be specialized in
volatile commodities and have poor financial markets
c. Acknowledge the issue of abundance vs. dependence (from Brunnschweiler and
Bulte), but focus on resource dependence
Resource dependence: curse, negative effect on growth
Resource abundance: positive effect on growth (because independent)
Some stylized facts
• ( — ) relationship → Countries with high volatility of GDP per capita growth have lower
growth in GDP per capita
• ( + ) relationship → Countries that depend on natural resources have more volatile
growth rates
• Developing countries have more volatile output growth than developed countries
• Countries with poorly developed financial systems are more volatile
• Landlocked countries suffer more form volatility
Van der Ploeg & Poelhekke — Table 2
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, • Authors include volatility into their model by adding the "Standard deviation of GDP per
capita growth variable. They believe that the model suggested by Sachs & Warner is
misspecified. Their results show that when they include volatility the variable Total
Resources 1970" becomes insignificant. They believe this variable actually captures the
volatility (omitted variable bias).
• Volatility is what actually drives lower economic growth
Why might volatility hamper growth?
• Multiple economic arguments:
o Aghion et al. (2006): that volatility could result in liquidity constraints for firms,
which reduces innovation (firms cut back on R&D)
▪ Especially if financial institutions are poorly developed; with complete
financial markets long-term investment is counter-cyclical, mitigating
volatility
o Irreversible investments (Bernanke, 1983): investments that improve
productivity/infrastructure are made over long periods of time. If government
receipts are volatile then these investments are interrupted and often
abandoned.
o Note however: volatility could also induce precautionary saving and thus more
investment and growth
• Political arguments
o Bonanzas (e.g. newly discovered goldmine) induce false sense of security. They
take measures that are not constructive. Ignore the importance of taxation. This
takes pressure of the government to improve conditions, improve efficiency and
establish a good financial system. Can also reduce in more rent-seeking
behaviour.
MV analysis of the relationship between natural resource dependence and economic
growth
Van der Poel and Poelhekke use a model by Ramey and Ramey (1995):
Growth is the dependent variable. X variables are baseline characteristics.
Authors also include the variable ( σi ) which is the standard deviation of growth ( εit )
The authors use a two-stage method with Maximum Likelihood Estimation
1. Estimate growth in y on X, panel data (from 62 countries over 33 years)
2. Calculate residuals and calculate country-specific standard deviations
3. Re-estimate (1) including, now, also estimate of growth volatility
Note: maximum likelihood estimation more efficient; includes modeling of volatility.
Key findings (table 3, model 6a)
The authors differentiate between point-resources, e.g. mines or oil wells (one location), and
diffuse resources, e.g. agriculture or forestry (wider area). They find that there is a strong
positive relationship between natural point source exports and volatility i.e. growth rate tends
to be more volatility if exports come from point sources. They also find that volatility is lower
when the country has higher initial financial development.
When they add volatility to the model and regress GDP per capita on a number of characteristics,
volatility comes in strongly negative, i.e. greater volatility is associated with lower growth. The
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, direct effect of natural resources (dependence) is positive, but the negative effect through
volatility is stronger. This means the net effect is negative.
They also find that landlocked countries tend to be more volatile, and that openness to trade
lowers volatility and has an indirect positive impact on GDP per capita growth.
Some other findings include:
- Investment in physical and human capital boost growth
- Population growth reduces growth
- Poor countries catch up (conditional convergence)
- (Financial development reduces growth)
- Volatility of growth reduces growth
- Natural resources increase growth directly, but also increase volatility and thus decrease
growth indirectly
Concerns: Volatility and financial markets
- Volatility reduces welfare of risk averse agents. People always want to reduce their
exposure to risk and will plan this in advance. Without insurance you have to
compensate for this risk beforehand (ex ante), and your growth rate can become
considerably lower (ex post).
- Effect of risk on growth can be strong. Micro evidence for rural Zimbabwe: capital stock
40% lower than with perfect insurance
How does risk affect growth?
It is not self-evident that volatility harms innovation. It is also possible that volatility leads to
greater savings and thus more investments. Producers may invest more is they face more risk to
increase their profits. Projects with higher variances may also have higher expected returns.
The ex ante effect is more general. People make choices because of the risks they are facing. This
is done to lower the exposure to risk.
The ex post effect may be good for growth.
How does this relate to the van der Ploeg & Poelhekke analysis? Measuring volatility
- Ramey and Ramey 1995:
Sigma as measure of the volatility a country is exposed to
- Note that standard deviation can be low if:
o Volatility is high but the smoothing is effective
o Volatility is low but the smoothing ineffective
- The two are observationally equivalent: not clear that Ramey-Ramey correctly identify
countries with high volatility
- They are not capturing the exposure to risk that countries have in the volatility variable.
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