Small States, Big Effects? analyzes the impact of oil price shocks on economic growth in small island developing states (SIDS). The document contains the following key points: 1) Previous studies have found that oil price increases reduce GDP in oil-importing countries, but their effect on SIDS is unclear and may contradict theories. 2) The empirical analysis of 7 SIDS from 1980-2012 finds that oil price increases generally have a positive effect on real GDP growth, even after controlling for global GDP, oil intensity, and fiscal policy. 3) Oil price shocks unambiguously increase consumer prices in all 7 SIDS economies. Exchange rates also adjust differently based on whether the country is an oil exporter or importer

1. Small States, Big Effects?
Oil Price Shocks and Economic Growth in Small Island
Developing States
Alrick Campbell
Crawford School of Public Policy, Australian
National University
November 19, 2014

2. 2
Contents
 Motivation and Problem Statement
 Relation to the Literature
 Stylized Facts
 Data and Methodology
 Main Empirical Results
 Conclusions

3. Motivation and Problem Statement
• Economic viability of small island developing states (SIDS) is under threat
– lack of natural resource endowments and high import content (especially of strategic imports such
as fuel)
– inability to influence international prices; and uncertainties of supply due to remoteness and
insularity (Briguglio, 1995)
• Considerable scholar focus on oil price-GDP links in developed countries.
– Studies mostly find that oil price increases reduce GDP in oil-importing countries
– Effect has become smaller: declining share of energy in GDP, fiscal/monetary policy, exchange rate
policy
• Yet, empirical research in this area is limited in SIDS and may contravene theory!
– Is it somewhat possible that oil price increases contribute to real GDP growth in SIDS?
– Does high levels of oil and energy intensity imply greater GDP loss?
– What is the role of fiscal policy or the type of exchange rate regime in this regard?
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4. Relation to the Literature
• Early Linear Models
– Rasche and Tatom (1977) – The 1973-74 oil price shock led to a 7% decline in real GNP in the United States and as
much as 17% in Japan.
• Asymmetry in the oil-GDP relationship
– Hamilton (1983); Mork (1989): Rising oil prices seem to retard economic activity more than how falling oil prices
stimulate it.
• Magnitude of the oil-GDP relationship
– Blanchard and Gali (2007): A 10% oil price shock would have reduced GDP in the United States by 0.7% prior to 1984
but later declined to 0.25% over a 2-3 year period.
• Studies in SIDS/Developing Countries
– Davies and Sugden (2010) - Quantitative analysis of 13 Pacific islands between 2002 and 2009 show that rising oil
prices feed directly into inflation and slow economic growth
– Rasmussen and Roitman (2011) - A 25% increase in oil prices typically causes GDP to fall by about half of 1% or less.
Higher oil prices increase the import bill, but effects are partially offset by spending on imports by oil exporters.
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5. Stylized Facts – Common Features
Source: United Nations Conference on Trade and Development (UNCTAD)
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6. Stylized Facts – Oil Price and GDP Correlation
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7. Data and Methodology
Data Set
• Sample – 7 countries
– 2 oil exporters – Bahrain and T&T
– 5 oil importers – Cuba, Jamaica, Fiji, Kiribati, Mauritius
– Representative of all regions: Caribbean, Pacific, and Africa,
AIMS
• Annual Data: 1980 - 2012
– crude oil prices(lnop)
– exchange rate (lnrer)
– consumer price index (lncpi)
– domestic GDP (lngdp)
– global GDP(lnwgdp)
• Diagnostic checks
– All series are I(1): ADF and KPSS Tests
– VAR lag length: BIC
Methodology - Recursive SVAR
– Short-run restrictions on the contemporaneous matrix of coefficients
to improve estimation results
퐵푍푡 = 푖=1
푝 A푖푍푡−푝 + 푢푡,
– 푍푡 = 푛표푝푖푡 , 푑푙푛_푟푒푟푡 , 푑푙푛_푐푝푖푡 , 푑푙푛_푔푑푝푡
′
– 푛표푝푖푡 = 0, 푙푛표푝푡 − ln(max 표푝푡−1, 표푝푡−2, 표푝푡−3 , 표푝푡−4 )
휀푡 = 퐵−1푢푡
휀nopi,푡
휀푑푙푛_푟푒푟,푡
휀푑푙푛_푐푝푖,푡
휀푑푙푛_푔푑푝,푡
=
훾11 0 0 0
훾21 훾22 0 0
훾31 훾32 훾33 0
훾41 훾42 훾43 훾44
푢oil price shock,푡
푢exchnage rate shock,푡
푢inflation shock,푡
푢domestic demand shock,푡
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8. Main Empirical Results
• Evidence
– Oil price increases generally have a
positive effect on real GDP growth
even after controlling for
• Global GDP
• Oil Intensity
• Fiscal Policy
– Most countries utilise a fixed
exchange rate system but evidence
does show that they respond
differently
– Consistent with the findings of
Rasmussen and Roitman (2011)
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Note: Estimates for individual countries (1980-2012) are from Equation 13 described in Section 4.3.
Bootstrapped standard error bands are based on Monte Carlo simulation (1000 replications).
The solid line is the mean impact and the shaded region represents one standard deviation confidence interval error bands.

9. Main Empirical Results
• Unambiguous increase in consumer prices
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• Oil exporters - RER appreciates
• Oil importers - RER appreciates initially followed by a
depreciation by the second year

10. Conclusions
• Small states and small effects!
– After a rise in oil prices, all 7 countries experience a temporary increase in real GDP
– The role of energy intensity and fiscal policy is not relevant in explaining this finding
Possible Explanation:
– Exchange rate adjustments: Appreciates for oil exporters and depreciates for oil
importers
– Economic linkages with oil exporters and major economies could be work as natural
shock absorber for small open economies: PetroCaribe (LAC)
• Oil price shocks are inflationary in all 7 SIDS economies
• Further Work
– Importance of other factors
– Cointegration
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11. Thank you for your time and interest.
I look forward to your comments and
questions.
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12. Supplementary Material
• GDP to NOPI • Fiscal Policy
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13. Supplementary Material
• Oil Intensity • Levels VAR
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