October 31, 2004

Iraq: Not Quite Norway

I'm a bit surprised that Slate never asked Daniel Gross for his opinion on the upcoming election. For my money, he's the best writer they've got (along with Fred Kaplan) -- always interesting, always digging up fun or useful little business/economic tales, facts, studies, whatever. So it's with a bit of reluctance that I have to disagree with his take on why Iraqi should create a Norway-style oil fund:
The Norwegian economy remains heavily dependent on oil (though much less than the Saudi economy): Petroleum industries account for about 17 percent of Norwegian GDP and a hefty 45 percent of exports. But the rapid growth of the fund means Norway won't suffer massively if the oil market suddenly tanks or if production begins to dwindle. (In 30 years, Norway has pumped about 29 percent of its total reserves.) In a land of high taxes, the fund functions as a substitute for national savings. When the government runs deficits, it's allowed to transfer cash out of the funds. Unlike many other oil-dependent economies—like Russia and Saudi Arabia—Norway won't have to alter spending habits dramatically if revenues suddenly decline.

Of course, Iraq isn't directly analogous to Norway—any more than it is directly analogous to Alaska. And I'm sure most Iraqis would rather have a dividend check than see their oil wealth pile up in a vast investment pool. But Iraq has endured enough internal and external shocks in the past few decades. Maybe the shattered nation needs a fiscal shock absorber more than a gift certificate.
Note that Norway's oil fund doesn't pay direct dividends to the country's citizens like Alaska's does, but opts for long-term public investments. But is that what Iraq needs right now? In the short- and medium-term, you're probably just going to want to send oil money directly to Iraqis, both to lift incomes and give those who are disgruntled some sort of "stake" in the country's security.

In the long term, of course, a Norway style fund is a great idea. But that's no guarantee it can happen. In an old issue of Foreign Affairs, Nancy Birdsall and Arvind Subramian pointed out that plenty of countries have tried to replicate Norway's success, to no avail. Governments in Venezuela, Azerbaijan, and Chad have too often raided the oil-trust fund; you have to imagine that this sort of thing could easily happen in Iraq, especially if the government decided it needed to authorize some emergency defense spending. Norway doesn't have this problem because it's a peaceful country with strong democratic institutions and an ingrained respect for the rule of law. Until that sort of thing becomes the norm in Iraq, the country's probably better off just giving the proceeds directly to the people. If the government wants to make public investments, it can tax those proceeds after they've been distributed, and be held accountable like other democratic governments.

One caveat: Gross argues that having the government manage the volatility in the price of oil would be more effective than having households manage it. (Since the government can use the trust fund as a massive savings account, to spend when prices are low, and save when prices are high.) Again, true in Norway, but true elsewhere? Again, Birdsall and Subramian note that in countries like Indonesia and Nigeria, governments splurged on idiotic investments during times of high oil prices, leaving them poor and deficit-ridden when oil prices fell. I think Birdsall and Subramian overstate their case when they say that households always manage volatility better than the government (in the '90s, the U.S. government was doing a much better job of saving money than households were; and the two are equally bad today), but their thesis is probably true for developing countries.
-- Brad Plumer 3:03 PM || ||