Consider this: Nigeria’s government raked in an astonishing $33 billion from oil exports in 2017– more than the entire GDP of 89 countries. Such resource bounty is common phenomenon in emerging economies. For example, 7 of the top 10 countries for natural resource wealth are emerging economies and, of the top 30 countries which rely most on natural resources for their GDP, over half are in the bottom quarter poorest countries. The obvious question is how such riches can be converted into socio-economic prosperity?
Sadly, rather than benefitting from natural resources, emerging economies endowed with natural wealth often fall prey to the multi-faceted ‘resource curse’. Poor governance and weak institutions allow plutocratic rulers to siphon off profits for their circles of cronies. Large resource exports may lead to a currency appreciation that renders other sectors of the economy uncompetitive for overseas markets. And if too much resource-related capital seeps into the domestic economy, it can bid up the value of local assets, such as real estate, pricing local citizens out of the market.
These tragic outcomes only exacerbate the enormous economic development challenges weighing on these nations. For example, Nigeria is still in the bottom third of countries by GDP per capita (PPP), despite its resource wealth. Its population is exploding at a time when automation and artificial intelligence threaten to make job creation more difficult. Colossal public health and educational investments will be required to transform Nigeria’s youth bulge into a demographic dividend. Meanwhile, the G20’s in-house think tank has estimated a global infrastructure funding gap of $15 trillion to 2040, even before accounting for the unpredictable costs of climate change. Most of this deficit lies in developing countries such as Nigeria.
In recent years, an increasing number of emerging countries have been establishing Natural Resource Funds (NRFs) – sovereign funds financed by natural resource wealth – to regulate the flow of resource-related capital in the economy. Of the 52 NRFs in existence in 2019, 31 were established since 2000.
To date, most NRFs have not been set up with a domestic development mandate. Typically, they were established as Stabilization Funds with the role of smoothing over budget volatility caused by fluctuating commodity prices or as Sovereign Wealth Funds (SWFs) designed to grow capital pools for future generations. In general, SWFs have followed an explicit strategy of investing most of their capital in overseas assets to reap the benefits of global diversification, while minimizing the risk of saturating the local economy with too much capital.
However, as domestic development priorities expand, governments are looking to increase NRF allocations to domestic programs, or they are setting up dedicated Sovereign Development Funds (SDFs) to support national economic development goals. Where such initiatives have been successful, SDFs have co-ordinated their investments through the national fiscal framework and have focused on capacity-building investments that would have been too large, too long-term, or too early-stage for the private sector. These have included efforts to deepen financial markets, develop social infrastructure, seed capital-intensive industrial clusters, or large community-development projects.
For example, Abu Dhabi’s Mubadala Investment Company has been pivotal in creating new industries in the Emirates such as aluminum smelting, aircraft parts manufacturing, and healthcare. Khazanah Nasional Berhad, the SDF of Malaysia, has been instrumental in developing the special economic zone of Iskandar. Dubbed ‘Malaysia’s Shenzhen’, it will form part of an integrated production and services base with Singapore, offering cheaper costs to manufacture than in the city-state. The project had already attracted over $25 billion in overseas investment (as of March 2018).
Turning to Africa, Nigeria’s Sovereign Investment Authority (NSIA) is investing in a Trans-Nigerian gas pipeline to Kano state in the north of the country. This will provide a reliable source of energy to an area ravaged by deforestation because of the burning of firewood for energy. NSIA is also co-investing with Morocco’s sovereign fund, Ithmar Capital, in an off-shore/onshore Trans-African gas pipeline which will provide energy to West African states as well as Europe.
Efforts such as these are to be commended since they develop new industries, create jobs and promote broader prosperity. But, to avoid the ravages of the ‘resource curse,’ we advocate a model coordinated through the national fiscal framework which demarcates the role of provisioning for capital over different timeframes to a series of ‘fit-for-purpose’ funds.
Stabilization funds invested in liquid assets would help to smooth out fiscal bumps due to short-term fluctuations in commodity prices (1-2-year horizon). SDFs would focus on driving social and economic impact over the medium term (5-15-year horizon) through investments in new enterprises and development projects. Meanwhile, SWFs would invest in global assets and securities to build a capital pool for future generations (15+ year horizon).
Given the widely different capabilities and governance requirements for these 3 types of funds, countries such as Nigeria would be well served to channel their surplus oil wealth into such targeted vehicles.
Dr. Indranil Ghosh is the CEO of London-based Tiger Hill Capital. Matthias Lomas in London co-authored this piece.
