Modeling for policy: Managing volatile oil windfalls in a resource-rich developing country

Abstract

Designing policies for allocating revenues from natural resources is one of the most challenging issues faced by policy makers in resource-rich economies. This paper proposes different scenarios for optimizing crude oil revenues through the application and extension of a dynamic general equilibrium model in Iran. Under the base scenario, the government budget includes a predetermined percentage of revenues while in the policy scenario, three mechanisms involving savings, investments and revenue stabilization features are modeled separately. The simulation results for the base scenario show that the percentage changes in government revenue and economic growth are influenced by oil revenue fluctuations. However, in the policy scenario the mechanism proposed strengthens both government budgets and economic growth. The results of this scenario show a gradual decline over time in the reliance of government budgets on oil revenues while revenue from taxes broadens the budget base. Policy-wise, it can be argued that if governments adhere to the designed mechanisms, changes in oil revenues would not affect a country's macroeconomic variables. Also, having a sustainable revenue stream for the government and securing the real economic sectors against oil revenue shocks would enhance the benefits from natural resource endowments.