Abstract
Natural resources are being discovered in more countries, both rich and poor. Many of the new and aspiring resource exporters are low-income countries that are still receiving substantial levels of foreign aid. Resource discoveries open up enormous opportunities, but also expose producing countries to huge trade and fiscal shocks from volatile commodity markets if their exports are highly concentrated. A large literature on theresource curseshows that these are damaging unless countries manage to cushion the effects through countercyclical policy. It also shows that the countries least likely to do so successfully are those with weaker institutions, and these are most likely to remain as clients of the aid system. This paper considers the question of how donors should respond to their clients'potential windfalls. It discusses several ways in which the focus and nature of foreign aid programs will need to change, including the level of financial assistance. The paper develops some ideas on how a donor like the International Development Association might structure its program of financial transfers to mitigate volatility. The paper outlines ways in which the International Development Association could use hedging instruments to vary disbursements while still working within a framework of country allocations that are not contingent on oil prices. Simulations suggest that the International Development Association could be structured to provide a larger degree of insurance if it is calibrated to hedge against large declines in resource prices. These suggestions are intended to complement other mechanisms, including self-insurance using Sovereign Wealth Funds (where possible) and the facilities of the International Monetary Fund.
Highlights
Oil, gas and minerals are being discovered in more countries, both rich and poor
Some agriculture-based countries like Zimbabwe are evolving into hard-mineral exporters with investments in diamond and platinum mining
Other established mineral exporters such as Zambia have begun to see a dramatic increase in mining tax revenues as investments are fully depreciated and new agreements negotiated and some, like Mongolia, have seen large increases in estimates of proven reserves
Summary
Gas and minerals are being discovered in more countries, both rich and poor. Tanzania, Mozambique, Kenya and Uganda, traditionally regarded as energy-poor, are poised for resource booms and Ghana has already experienced the initial phases. Even though some of these mechanisms mark a shift away from resource transfer towards broader strategies for engagement, there is still the question of how to cope with trade and fiscal volatility for those components of the program that do involve financial support This is, less necessary for countries that have the capacity to manage volatility, but even some of these will face political constraints to limiting spending and the risk that hard-won savings built up in a SWF could be raided by a future, less prudent, government.. The attractive feature of this arrangement is that it is precisely at the time when oil prices are high – and aid less needed—that country risk is highest, since it is in this state that Uganda would have the most incentive to renege on a forward contract and would face margin calls on any futures contract Another approach would be to adjust the level of program disbursements in response to resource shocks so that countercyclical aid flows provide a degree of insurance to the development program. It is not too early to begin planning, a few years before substantial resource revenues begin to flow into the budgets of new producers
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