Planning Ahead: Reducing the Negative Impacts of a Lebanese Oil and Gas Revenue Boom

Jad Chaaban, Associate Professor of Economics at the American University of Beirut, co-founder of the Lebanese Economic Association, and LCPS research fellow

March 2016
Planning Ahead: Reducing the Negative Impacts of a Lebanese Oil and Gas Revenue Boom

‘Ten years from now, twenty years from now, you will see: Oil will bring us ruin … oil is the devil’s excrement. ’ This statement from Juan Pablo Pérez Alfonso, one of the people credited with founding OPEC, illustrates a common phenomenon linked to the discovery of hydrocarbon resources, which has been coined the ‘resource curse’ . This concept links increased exploitation and reliance on natural resources with systematic decline in other economic sectors, speciﬁcally agriculture and manufacturing. In a country experiencing the ‘resource curse’, the economy will be geared toward one sector that absorbs all the resources, labor, and attention of policymakers, which eventually reduces investments in other sectors of the economy. These symptoms are even more dangerous in countries with poorly run and corrupt institutions, non-democratic regimes, and weak ﬁnancial systems. Several countries with abundant resources, such as Nigeria, Angola, and Chad experience rampant poverty and widespread economic failures to this day, despite their riches. It is precisely this gloomy condition that Lebanon should try to avoid.

The discovery and extraction of oil and gas off the shores of Lebanon could ultimately translate into a boom in revenues for the government, which in conjunction with poor ﬁscal planning could easily translate into an uncontrolled expansionary budget policy. If these revenues are spent with no oversight and proper planning, Lebanon might end up with large streams of cash that make limited contributions to economic development. There are many reasons to be worried about that outcome.

First, the government has been operating without a proper budget since 2005. Second, there is very little transparency and accountability over public expenditures. Finally, the parliament’s oversight of public ﬁnancial activities is limited. More than 20% of total public spending is channeled through public agencies and autonomous funds (such as the Council of the South, the Fund for the Displaced, and others) which operate outside parliamentary oversight.

Although the oil and gas law enacted by the parliament in August 2010 stipulates the creation of a sovereign wealth fund to manage these resources, it left the details of this fund and its spending parameters to a future law, and placed these expenditure decisions in the hands of the Council of Ministers. With the existing track record of our politicians in mismanaging revenues, there are serious doubts about their capacity to manage additional revenues.

But the ‘resource curse’ could be avoided if appropriate policy adjustments are implemented in conjunction with the development of offshore hydrocarbon resources. The successful experiences of a few resource-rich countries like Norway have been largely attributed to their success in managing resource wealth and its associated risks. The optimal response that takes advantage of a boom while mitigating its potential negative implications includes a set of ﬁscal, monetary, exchange rate, and structural reform policies.

Two principal decisions need to be made when designing a ﬁscal policy response to the resource curse. First, it should be determined how much and on what the government should spend its resource revenues. Second, it should be determined how best to ensure that oil and gas revenues are spent in a transparent, efﬁcient, and equitable manner. Adopting a revenue sterilization policy—whereby foreign exchange reserves are accumulated—can constrain the spending effect and as a result curb currency appreciation. In that respect, the government must resist pressure to enjoy all the additional revenues in the short run and recklessly expand its budget expenditure. On the contrary, it must commit to saving part of the revenue proceeds in order to attain a permanent wealth increase. For such policies to be successful, they must be implemented in a transparent and inclusive manner.

As for how windfall revenues should be allocated, the government must be careful not to spend the wealth in a way that increases domestic aggregate demand for nontradable goods and services, which would consequently appreciate the real exchange rate. In that respect, the government must direct its spending toward the non-resource tradables sectors through subsidies or by investing in physical and human capital to enhance productivity in these sectors.

Moreover, the discovered hydrocarbon resources can be helpful if, and only if, there is an energy substitution strategy away from costly imported oil, which includes the renewal of existing energy production facilities, connecting pipelines with offshore and onshore facilities in an integrated energy demand and consumption framework, and respecting the environment and urban fabric around electricity production sites. Such steps will be complicated and require a detailed level of design and execution. But without such an integrated, overarching plan of action, Lebanon will not be able to escape the very real dangers of ‘the devil’s excrement’. No one wants that to happen— not in ten years, twenty years, or ever.