Sunday, December 28, 2008

Resource curse and reversal of (corrupt) contracts

The latest democracy to be a victim of a coup d’├ętat is Guinea, a country rich in natural resources, mainly bauxite, gold, diamonds, iron and nickel. Nearly one-half of the world’s bauxite reserves is located in Guinea.

After overthrowing the elected administration, following the death of a repressive president, the army officials announced that they are going to review mining contracts and stamp out corruption. Actually, stamping out corruption and holding new free and fair election have been favorite lines to justify coups.

Without naming firms, Capt Moussa Dadis Camara told a public meeting in Conakry that any contracts found to be "defective" would be revised.

He outlined his view of the mining sector, which has attracted billions of dollars in investment from international firms.

"We have blocked the mining sector," he said. "There will be a renegotiation of contracts."

Without naming names, Capt Camara vowed to eradicate corruption, saying: "It was the government officials who surrounded the [late] head of state who looted the country."

"Anyone found guilty of corruption will be punished," he added. "Anyone who has misappropriated state assets for his benefit, if caught, will be judged and punished before the people

The junta thinks that there is massive corruption and unfair contracting in the mining sector, its main revenue base. So, it wants a review of unfair deals. Good! But free and fair review as is stated by juntas rarely happen. In Russia, Venezuela, and Bolivia, the governments reviewed contracts in favor of their cronies, often forcing foreign companies to leave the country. Leaders start with good intentions but things take a different turn later on due to inefficient administration and weak regulatory bodies.

Most of the resource-rich countries are marred with corruption because contracting is often done without following normal procedures or by bypassing regulations. Also, nepotism and favoritism is a common feature in countries rich in natural resources. Moreover, coup threats are also high. This means natural resource abundance leads to slower growth. See this paper.

Here is a paper about political foundations, resource curse, and the importance of solid institutions:

(1) politicians tend to over-extract natural resources relative to the efficient extraction path because they discount the future too much, and (2) resource booms improve the efficiency of the extraction path. However, (3) resource booms, by raising the value of being in power and by providing politicians with more resources which they can use to influence the outcome of elections, increase resource misallocation in the rest of the economy. (4) The overall impact of resource booms on the economy depends critically on institutions since these determine the extent to which political incentives map into policy outcomes. Countries with institutions that promote accountability and state competence will tend to benefit from resource booms since these institutions ameliorate the perverse political incentives that such booms create. Countries without such institutions however may suffer from a resource curse.