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Transformation, not diversification?

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Rabah Arezki - Middle East and North Africa World Bank
ERF Conference on “Arab Oil Exporters: Coping with a New Global Oil Order”

Kuwait, November 26-27, 2017
www.erf.org.eg

Published in: Government & Nonprofit
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Transformation, not diversification?

  1. 1. TRANSFORMATION, NOT DIVERSIFICATION? Rabah Arezki Chief Economist Middle East and North Africa World Bank
  2. 2. MAIN LESSONS 11/27/2017World Bank - Transformation, not Diversification? 1 energy markets are subject to technological change which entails both risks and opportunities for fossil fuel dependent economies top-down diversification policies haven’t worked, need for a policy shift emphasizing transformation (behavioral change with a focus on internal as opposed to external factors) embracing the “letter and spirit” of modern corporate governance could bring about transformation through both enhanced transparency and efficiency
  3. 3. NARROW VS. BROAD VIEW OF ECONOMIC/ENERGY CYCLES 11/27/2017World Bank - Transformation, not Diversification? 2 2 (somewhat orthogonal) views: •“narrow” view: emphasizing “short term” factors. relatively small shocks can have large effects (under the assumption of inelastic S & D in the short run. e.g. Kilian (AER 2009)) •“broad” view: emphasizing “medium run” factors specifically technological change dates at least it back to Kondratiev and Schumpeter (creative destruction theory)  medium term business cycle literature. (Gertler and Comin, AER 2005) and endogenous technological adoption (Anzoategui et al. NBER WP 2016)  market size effect on entry and innovation (e.g. Acemoglu et al. QJE 2004)
  4. 4. RETHINKING THE 2014 OIL PRICE COLLAPSE 11/27/2017World Bank - Transformation, not Diversification? 3 Most studies thus far have emphasized supply factors (e.g. Arezki and Blanchard, 2014) as a dominant factors arguing the drop will have net positive impact on the global economy (Obstfeld, Arezki and Milesi Ferretti 2016). But is it really a “pure supply” shock? Need to step back a little and take broad view: 1. expansion of the Chinese economy 2. “market size effect” stimulating entry and R&D spending toward “process innovation” 3. (Knightian) uncertainty (coupled with gradual learning) over whether or not R&D will pan out 4. when the market & strategic players (OPEC) realize the innovation will pan out (fracking but also 3D imaging), two effects: i. (persistent) feedback effect on oil prices through expectational channels (“ballooning recoverable oil reserves”) ii. strategic response by OPEC (reinforced i. in 2014 unlike in 1985)
  5. 5. LOW FOR LONG 11/27/2017World Bank - Transformation, not Diversification? 4 Sources: World Bank, International Monetary Fund (IMF) and Economist Intelligence Unit (EIU), Commodity prices reports. Note: f stands for forecast.
  6. 6. OIL PRICES AND R&D SPENDING COMOVE 11/27/2017World Bank - Transformation, not Diversification? 5
  7. 7. INNOVATING “AWAY” FROM OIL 11/27/2017World Bank - Transformation, not Diversification? 6 0 0.5 1 1.5 2 2.5 0 2000 4000 6000 8000 10000 12000 14000 16000 18000 20000 78 80 82 84 86 88 90 92 94 96 98 00 02 04 06 08 10 12 Clean vs Dirty Patents Dirty Patents Clean Patents Ratio: Clean vs Dirty Source:Aghion,Dechezlepretre,Hemous,Martin and Van Reenen (2012), calculations based on the PATSTAT database.
  8. 8. RISKS AND OPPORTUNITIES STEMMING FROM TECHNOLOGICAL CHANGE 11/27/2017World Bank - Transformation, not Diversification? 7 Risks: intensive margin : low for long oil prices (from surpluses to deficits) extensive margin: stranded oil (existential threat to concentrated economies) Opportunities: Intensive margin: efficiency gains (rationalization following oil price drop which allowed sustained production at lower cost) extensive margin: new industries (e.g. solar potential: 6h of deserts’ solar irradiation amount to the world’s demand for a year)
  9. 9. STRANDED ASSETS Post Paris COP21: NDCs/carbon budgets entail to keep only 1/3 of oil (Canada, Arctic). Reserves unburnt: 50% of gas & 80% of coal (mainly China, Russia, US). Reserves 3x the carbon budget. In the Middle East 260 billion barrels of oil cannot be burnt (30% of oil reserves). McGlade and Ekins (2015, Nature) 11/27/2017World Bank - Transformation, not Diversification? 8
  10. 10. UNTAPPED POTENTIAL 11/27/2017World Bank - Transformation, not Diversification? 9
  11. 11. TRANSFORMATION AND ATTITUDES TOWARD INNOVATION 11/27/2017World Bank - Transformation, not Diversification? 10 Traditional approach: Top-down diversification (picking winners often with a focus on external factors i.e. macro and regulation) New approach: transformation aiming at “behavioral change” Attitudes toward innovation shape the exposure of firms/countries/citizens to market disruptions (the latter originating from technological change). Resource rich countries tend to innovate very little everything else being equal. Resource “endowment’ interact with policies/institutional arrangements =>here the focus on “within (large/SOEs) firm” transformation as opposed to “outside the firm environment” (contestability…)
  12. 12. ATTITUDES TOWARD “INNOVATION” 11/27/2017World Bank - Transformation, not Diversification? 11 Source: Hofstede Insights
  13. 13. INNOVATION AND RESOURCE DEPENDENCE 11/27/2017World Bank - Transformation, not Diversification? 12 Source: World Development Indicators, World Bank
  14. 14. TRANSPARENCY AND STATE PARTICIPATION 11/27/2017World Bank - Transformation, not Diversification? 13 Source: Natural Resource Governance Institute 0 10 20 30 40 50 60 70 80 90 Turkmenistan(oil&gas) Gabon(oil&gas) SaudiArabia(oil&gas) Sudan(oil&gas) Libya(oil&gas) Bahrain(oil&gas) Cuba(oil&gas) EquatorialGuinea(oil&gas) Oman(oil&gas) UnitedArabEmirates(oil&gas) Qatar(oil&gas) Iran(oil&gas) Chad(oil&gas) Bangladesh(oil&gas) Algeria(oil&gas) Uzbekistan(oil&gas) Uganda(oil&gas) SouthSudan(oil&gas) DemocraticRepublicofCongo(oil&gas) Myanmar(oil&gas) Kuwait(oil&gas) Congo(oil&gas) Egypt(oil&gas) Russia(oil&gas) Venezuela(oil&gas) Azerbaijan(oil&gas) Malaysia(oil&gas) Timor-Leste(oil&gas) Nigeria(oil&gas) Angola(oil&gas) Yemen(oil&gas) Ecuador(oil&gas) China(oil&gas) Iraq(oil&gas) Kazakhstan(oil&gas) Vietnam(oil&gas) Argentina(oil&gas) Cameroon(oil&gas) Colombia(oil&gas) Coted'Ivoire(oil&gas) Tunisia(oil&gas) Bolivia(oil&gas) Ukraine(oil&gas) Brazil(oil&gas) TrinidadandTobago(oil&gas) Indonesia(oil&gas) Mexico(oil&gas) Tanzania(oil&gas) Ghana(oil&gas) Mozambique(oil&gas) UnitedStatesofAmerica(Gulfof… Canada(Alberta)(oil&gas) UnitedKingdom(oil&gas) India(oil&gas) Norway(oil&gas) SOEs-government transfer disclosure
  15. 15. NECESSITY AS THE MOTHER OF TRANSFORMATION 11/27/2017World Bank - Transformation, not Diversification? 14 necessity is the mother of invention (Hanlon, Ectra 2015). Soft vs. strict budget constraints for firms (SOEs typically on the soft side) and individuals/gvts (oil rents => patronage spending to quell masses). Make or break moment for rigid systems. Ownership (and organizational structure) matter. State owned enterprise vs. private corporation (privately owned or publicly listed). SOEs typically not transparent and less innovative but changing with Petrobas and China oil companies which have conducted IPOs…. Delegation to managers. Separate control from management. More generally empowered managers are key for development. Many countries in MNA have criminalized business mistake especially for top executive in SOEs. => embracing “letter and spirit” of modern corporate governance (a function of ownership & organizational structure and manager empowerment) is key to achieving transparency & efficiency
  16. 16. TRANSFORMATION: FROM “OIL TO ENERGY” CORPORATIONS 11/27/2017World Bank - Transformation, not Diversification? 15 The coming shift in big state oil? ARAMCO announcement over a 5 percent IPO 1. SOEs: multiple objectives accompanied by soft budget constraints. Many SOEs sits on the largest and cheapest to extract reserves but many are heavily indebted (e.g. Venezuela). Status quo not sustainable: risks going from stranded oil to stranded firms? 2. Publicly listed firms (also to a lesser extent privately owned firms): more transparency, more diffused ownership and a hard budget constraint. Lead to more accountability (to share holders), better performance and more innovation. (Gilfe et al. 2016 JF). e.g. able to significantly increase efficiency after the collapse in oil prices and continue producing at lower prices. Can the IPO help and spillover to the rest of the economy? How should they be structured? Transparency: where you list matter? Disclosure rules (contrast to private placement) in the stock exchange where the stock is (cross) listed. Tying your hands/commitment device. Pecking order of where one should list. NY>London>HK>Japan? Dodd-Frank & EU regulations on disclosure rules for extractives>EITI (voluntary basis). Innovation: patent typically increase significantly after IPOs. Acharya et. al (forthcoming JF). R&D significantly increased in China oil sector after series of IPOs. Access to cheap oil reserves by major Western corporations is limited and influenced the direction of technological change (away from oil). The latter have become energy as opposed to exclusively oil corporations. If they were to regain some access together with the improvement of corporate governance of SOEs we may witness a move toward clean(er) oil?
  17. 17. THANK YOU 11/27/2017World Bank - Transformation, not Diversification? 16

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