What Should a Resource-Based Economy Do?

In 2012, CIC published a report titled “9 Habits of Highly Effective Resource Economies, Lessons for Canada”. The report is a professional piece of work, written by Madelaine Drohan, the Economist’s correspondent for Canada and a journalist of standing. Its purpose is to propose policy steps to be taken by Canada to take advantage of its resources endowment. The complete wording of the nine recommendations is in the report. An abbreviated version as shown in the report is reproduced here. See http://www.opencanada.org/wp-content/uploads/2012/10/CIC-The-9-Habits-of-Highly-Effective-Resource-Economies.pdf

1. Save your money. Think sovereign wealth fund. A growing number of countries treat resource revenues as capital and not income. Canada is not among them. We’re rich in resources but could be richer still if we did more with what we have. Government can help business find the answers.

Countries with resource endowments need to take advantage of the revenues earned from resources while they last, and to be alert to the fact that they may become redundant. Coal, for example, now sits in the ground in some places because it is replaced by other forms of energy. Some resources like water, wind and solar are renewable.

The establishment of sovereign wealth funds (SWF) is one route to go. Alberta did this in 1976. It is now worth $15.6bn and is used by the government to fund annual budgetary expenditures.

“The investment income earned by the Heritage Fund, less the amount retained in the fund for inflation proofing, is transferred to the province’s main operating fund, the General Revenue Fund, to help pay for priority programs .

 Since 1976, investment income from the Heritage Fund has benefited Albertans in many ways. Approximately $34 billion in investment income has been transferred to the province’s General Revenue Fund to support program spending in areas such as health care, education, infrastructure, debt reduction and social programs, spending in areas such as health care, education, infrastructure, debt reduction and social programs.”

The UAE has the largest SWF at $795.2 bn and Norway $512bn. The latter was evaluated recently by three economists hired by the fund, and the investments found to have performed no better than if it had invested in an exchange traded fund. The expenses of its fund managers could have been saved.

Since money is fungible, the existence of a SWF is an incentive to politicians to spend the money on their pet projects and to engage in deficit financing when perhaps they should not. This is not to argue against SWFs, but to be alert to the issues which arise when a government has one.

2Don’t stand still. Add, extract and build value. We’re rich in resources but could be richer still if we did more with what we have. Government can help business find the answers.

This is an argument for forward integration to undertake more value-added activity in Canada. Why does private enterprise not do more of it? This question should receive greater research attention by government and academia. It varies by industry. In the petroleum industry, there have been no refineries built in Canada since 1984, several refineries have been closed, and there is little prospect for new refineries in Canada. Refining is a low margin business and Canada’s advantage is in exporting crude oil. Each resource will have different possibilities, and one question is why private enterprise has not taken advantage of them if they exist.

3. Research together or fail separately. Crisis is teaching Canadian resource firms the virtues of collaboration — a lesson their global competitors learned long ago.

The recommendation is for collaborative research. Between governments and between government and industry this is possible. Private firms may have difficulties in deciding how to divide up the positive results of any research.

4. Keep up with the world. Put a price on carbon. Canada must find a better balance between resources and the environment. Pricing carbon is a necessary first step.

 I will leave it to others to evaluate a carbon tax.

5. Get on the global boat and cast a wide trade net. Trade patterns are  changing. We need to go global and think less about finished products and more about value chains.

This is an oft-repeated suggestion for Canada to diversify its trade markets for exports and imports. When the US becomes a larger trade partner, the woes are cited. When Canada’s share of US imports decline, as is the case today, the same is heard. It would be a good idea to diversify our trade and heavens know Canada has tried under all types of government. But geographically we inhabit a continent with the largest and wealthiest economy in the world, which speaks the same language and uses almost the same currency. Major diversification is unlikely to happen, at least in my lifetime. Moreover there are so many multilateral, bilateral and other trade deals, that it is not only hard to keep up with them, and the only growth industry may be for trade consultants.

6Don’t bar the gates. Foster home grown champions. Governments must make it easier for Canadian resource firms to become global players. Keeping investment out is not the answer.

This recommendation includes the proposal for one federal as opposed to numerous provincial security laws, as well as the removal of arbitrary barriers to foreign investors. It does recommend powers to screen foreign investment. Reciprocity should be an issue here. (I have discussed FDI policy in other postings).

 7Use your aid to help strengthen good governance overseas. Canada should play to its strengths with its official aid. Focus on resource governance and collaborate with like-minded donors.

I favour good governance overseas (and at home), but I have grave doubts about whether Canada’s aid policy does or can do much about it. To start with the amounts involved are trivial, especially given the way it is sprinkled abroad. Previously I noted:

“For 2010, Canada’s aid budget is about $5.2bn a year (0.33% of GDP) of which CIDA’s share is $3.7bn. In relative terms, the aid budget is about $5 per person per year in the 20 countries that are currently the foci of CIDA’s aid, or perhaps $1 per year for the total population of developing countries. However looked at, the sums received are small change and will not make much of a developmental impact. If they are spent on investment such as schools rather than on current consumption, the impact will be somewhat greater. The annual cost to Canadians is about $158 per capita.”

Governance in developing countries is unlikely to be influenced by these amounts. Moreover Canada has problems with demonstrating good governance at home.

8Stop the temporary labour addiction. Find a long term cure. Overuse of temporary foreign workers is a short-term fix. The solution includes allowing in more permanent residents and hiring more women and aboriginal workers.

Immigration of permanent residents and temporary workers is a large and important issue and not just for resource industries, and not just for Canada. What is happening is that labour is being brought to the work as opposed to outsourcing the work to labour abroad. Both processes have their critics, but the processes reflect a natural response to market forces.

When there is unemployment in Canada, the importation of foreign labour means either that Canadians are unwilling to perform the work at the wage offered, fruit picking for instance, or they do not have the skills to do so, such as welding, carpentry and plumbing. Each points to a particular remedy. Either change the incentives so that the unemployed will do the work and/or provide training for the needed skills. Bringing in foreign workers is an alternative which many industrialized countries do, in Europe for example. There are problems associated with it, but few solutions have been found.

9. Make an inclusive national plan (Hint: it’s more than just energy). Other countries have been more strategic in developing natural resources. Federal-provincial infighting is holding Canada back.

I agree federal-provincial infighting is a disgrace as is the absence of free trade within Canada, which is pathetic, but I don’t see it changing soon. Agricultural and cultural protectionism are outstanding black marks for Canada. If the plan includes the government picking winners among firms, the record is poor.

Consider Northern Telecom, a company that evolved out of Bell Canada when it was protected as the sole supplier to Bell, and a major supplier to other telcos in Canada. Once it was spun off and had to compete in the open market, it failed, with the consequences now being enjoyed by its former employees and investors. There are also examples of Crown corporations with less than exemplary records.

In sum, the report is well written, well documented and a thoughtful analysis of issues a resource-based economy needs to consider. I do not agree with all the proposals, but offer the foregoing as views for further discussion. Madeleine Drohan and the CIC have provided an excellent starting point.

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