Efforts to Prevent the Resource Curse Paradox: The Case of Trinidad and Tobago ByEwart S. Williams

March 20131

Trinidad & Tobago: Our Location

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Background Trinidad and Tobago is a small Caribbean island with a population of 1.3 million people. Oil production in Trinidad and Tobago dates back to the early 1900s, but oil began to displace agriculture as the prime mover of the economy in the 1950s. With the commercialization of natural gas and the development of a downstream petrochemical sector in the mid-1970s, the dominance of the energy sector in the economy was further consolidated.

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We are a fairly small oil producer with output peaking at around 230 thousand barrels per day in the mid-1970s. Currently oil production has fallen below 90 thousand barrels per day. Oil and gas production together is now the equivalent of around 800 thousand barrels per day. Our petrochemical sector has assumed a certain strategic importance; we are now one of the world’s major fertilizer suppliers and the major supplier of natural gas to the east coast of the US.

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Crude Oil and Natural Gas Production5

Currently, the energy sector accounts for: 44 per cent of GDP 58 per cent of government revenues (check) 83 per cent of total exports.

About 60 per cent of crude oil production comes from three foreign companies ( BP, BHP Billiton and Repsol); the remaining 40 per cent is produced by our state-owned oil and gas company, Petrotrin. Natural gas production is dominated by three foreign companies (BP, British Gas and EOG).

The Energy Sector6

1/ Estimate for the period January to September 2012. 2/ For the first quarter of 2012.

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To better highlight some of the challenges that Trinidad and Tobago faces, as an oil and gas economy, our latest Ryder-Scott report aptly tells the story. While proven oil reserves are projected to last only 12-14 years, there are possible reserves estimated at the equivalent of 35 years production. The shift from possible to proven reserves requires significant investments in exploration, which were not taking place for several years, because (according to the investors) of the disincentives of the energy tax regime.

Energy Reserves8

Whatever the merits of that claim, the reality is that with all the new discoveries, including in Africa, foreign investors now have many options and we need to reform our energy tax regime in order to compete. The Government has begun to implement a program of energy tax reform, which is already showing some signs of success.

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Oil and Gas ReservesProven Probable Possible TotalOil (million barrels) 606 335 1,561 2,502 In years of production1 14 8 35 57

Gas (trillion cubic feet) 13.3 6.0 6.2 25.5 In years of production1 9 5 4 18Sources: Ministry of Energy and Energy Affairs (2007 Oil Audit) and Ryder Scott Company (2011 Gas Audit).1/ Based on oil production of 44.3 million barrels in 2007 and gas production of 1.5 trillion cubic feet in 2011.

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Gas Reserves and Production11

Some of the Benefits from the Energy Sector Our overriding macro-economic strategy has been and continues to be “to convert the rents from the offshore economy to build a vibrant, internationally competitive onshore economy”. The ultimate objective of the strategy is not solely to increase economic growth, employment and living standards in the short term but, to achieve long term economic sustainability --- in other words, the idea is to be able to maintain or increase living standards when oil and gas resources have been depleted. Against this stated objective, how have we done?

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Selected Economic IndicatorsTrinidad and Tobago13

Social and Economic Performance There is no doubt that over the past several decades, energy revenues have financed improvements in the economic and social infrastructure, facilitated the expansion of employment and led to significant improvements in personal incomes and social welfare. For example: Since the setback from the oil shock of the mid 1980s, per capita incomes have more to doubled to around US$16,000 over the last decade. Poverty levels have declined to 12-16 percent. External reserves now stand at a robust US$ 9.3 billion, the equivalent of 12 months imports.

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Social and Economic Performance (cont’d) Buoyant energy revenues have obviated the need for government borrowing, leaving a relatively manageable public debt burden ( 51.6 per cent of GDP). With low debt and ample reserves, the international rating agencies have maintained an Investment Grade rating for Trinidad and Tobago. The downstream expansion of the energy sector (into methanol, fertilizers, iron and steel) is widely considered a major success for a small island economy. We have made great improvements in our social infrastructure, and the expansion of educational opportunities which is state-financed up to the tertiary level stands out.

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Emerging ChallengesBut with all these successes: Have we avoided the resource curse? Are we close to our stated objective of transforming our economy into an internationally competitive, dynamic economy, which is less dependent on the energy sector? The answer is definitely not. And what’s worse, the prospects for our natural gas industry are uncertain, in part, because the projected expansion in shale gas will have a major impact on gas prices and the fortunes of countries like Trinidad and Tobago and other emerging gas producers such as Mozambique.

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Our Major Challenges and Some Possible LessonsMany of the challenges that Trinidad and Tobago have been facing are common to resource-rich countries and either are being faced or will eventually be faced by the new African producers as they try to manage the windfall gains from their energy resources.

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Some Unintended Consequences The economy has been subject to booms and busts, with booms characterized by overheating, significant price and wage pressures and housing bubbles Downturns have seen sharp increases in unemployment, large fiscal deficits and stresses in the financial system The severity of the downturn in the mid-1980s forced Trinidad and Tobago into a standby arrangement with the IMF.

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Unintended Consequences (cont’d) Evidence points to some increase in income inequality as the incomes of the more educated increase faster than the rest of the labor force. While the non-tradable sectors (construction and services) have expanded rapidly, export manufacturing has stagnated and agriculture and tourism have languished.

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The abundance of energy revenues has prompted the erosion of the non-energy tax base and a proliferation of government subsidies, which have weakened the underlying structure of the public finances and reduced the efficiency of the economy. Efforts to significantly ramp-up public investment have exposed weaknesses in project implementation and serious skills and management gaps in the public sector

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Un-intended Consequences (cont’d) The rise in incomes has outpaced the growth in some infrastructure such as roads (thus traffic jams), and the exponential growth of the financial system and financial innovations have outpaced our regulatory capacity; (financial legislative reform has been lagging) Rising expectations and a get-rich mentality of certain sections of the population have contributed to a major rise in crime (both violent and white collar crime).

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Because of time constraints I will focus on four major challenges that we are currently addressing (with varying degrees of success)Fiscal policy management in the context of large increases in revenues from depleting assets The challenge of developing a vibrant non-energy tradable sector (the Dutch disease phenomenon)Promoting increased local participation in the foreign-dominated resource sector Sharing the wealth between current and future generations. 

Our Major Challenges and Some Possible Lessons for Mozambique (cont’d)22

Fiscal Policy Issues There are several aspects to the fiscal policy challenge in my country and indeed in most resource-rich countries. There is first of all the choice of overall policy stance, and the tendency for the Government to spend most of the windfall revenues. This pro-cyclical fiscal stance invariably leads to overheating in booms, increasing inflationary pressures and resulting in the appreciation of the real exchange rate. A second issue is getting the right balance between social objectives (reflected in allocations to subsidies and transfers) and spending on economic infrastructure (a priority for future growth).

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(a). Fiscal Policy Issues Given the high level of poverty in Mozambique, the Government would need to allocate significant funds toward poverty alleviation. But even so care must be taken to have targeted programs and to achieve a high level of efficiency in social sector spending. We in Trinidad and Tobago faced a serious problem in trying to implement an expanded investment program with the limited range of technical and project management resources available to the public sector. To increase project implementation the Government tried other options viz;

(i) the creation of a system of special purpose vehicles (which permitted the recruitment of the appropriate skills by-passing the civil service complicated and bureaucratic procedures) ; (ii) A regime of outsourcing called BOLT – Build, Operate, Lease and Transfer;(iii) government-to-government arrangements.

Each of these options has presented its own challenges for transparency and the avoidance of corruption.

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On the revenue side there is also the need to guard against the erosion of the non-energy tax base. With ample energy sector revenues, there is a tendency for non-energy tax administration to become lax, for governments to easily give into political pressures to ease the tax burden. ( removal of VAT, energy subsidies, property tax etc.) Some analysts suggest that the approach should be to see the energy taxes as temporary revenues (a windfall), that should not lead to a proportionate easing of the domestic tax effort. Of course, a major challenge for any resource rich country is the formulation of an energy tax regime that ensures a fair share for the country and its people but, at the same time provides adequate incentives for investment. Arriving at a suitable tax regime is invariably a harrowing experience because of transfer pricing problems that arise in vertically-integrated multi-national corporations and the disparity between the local and the corporations’ technical expertise.

(b). Fiscal Policy Issues25

Ensuring the Development of the Non-energy Tradable sector In Trinidad and Tobago, the non-energy sector has contributed greatly to the rapid growth of economic activity and employment. Most of this growth (in the non-energy sector) has come from non-tradables – in particular, a construction boom, an explosion in the distribution sector (fancy malls etc. ) and an expansion of banking activity (reflected in sizable increases in consumer credit). All these activities are good for short-term employment creation, but they depend on the surge in government expenditure, which in turn depends on continued energy revenues abundance. In summary, these activities are not sustainable.

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There was a decline in agriculture from the equivalent of 10-11 percent of GDP to 3 percent of GDP, in part, because the level of wages in government ‘make work’ schemes made agricultural work unattractive and because with higher incomes consumers, could afford imported food. There was a decline in non-energy manufacturing exports and tourism, in part, because of a decline in competitiveness due to wage pressures, a decline in productivity and the appreciation of the real exchange rate. Declines in investment in the tradable goods sectors because investors could easily make money through investments in property development and other less risky activities. There is no doubt that Trinidad and Tobago has suffered and continues to suffer an acute case of Dutch Disease.

(a). Ensuring the Development of the Non-energy Tradable sector27

(b). Developing the Non-tradable Sector (contd) We are now trying to address the non-energy sector challenge, within the framework of a consultative process involving Government, business and labor and through a targeting of specific industries for development, including through public-private sector initiatives. Our conclusion is that, in our economy, simply concentrating on the establishment of an enabling environment and waiting for private sector initiative may be insufficient for true economic transformation

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Promoting Increased Local Participation in the Resource-based Sector In Trinidad and Tobago, we have set the promotion of increased local participation in the energy sector as an critical economic as well as socio-political objective. We consider this important not only for the financial linkages and the value added involved but also for the impact that local content could have on knowledge transfer and for effective policy formulation. We have defined local content broadly to include:

local service providers; local capital investment and financing; and increasing the level of local technical and management expertise in the foreign companies.

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Even in the absence of a comprehensive strategy, we have built up a sizable corps of local service providers. However, there is still the contention that, given Trinidad and Tobago’s open door policy, too often local service companies face unfair competition from foreign counterparts. On this basis, some stakeholders will like to see local content legislation, along the lines of what obtains in Ghana, Nigeria and Brazil. It would be important however, that any legislation introduced is consistent with the Government’s free trade stance and the need to promote competition.

 

(a). Promoting Increased Local Participation in the Resource-based Sector30

We have had very limited success in integrating the local finance and energy sectors. The foreign energy companies make little or no use of our capital market and none are listed on the stock exchange. Investment in the sector is largely financed by foreign direct investment, inter-company transfers and retained profits. We are now meeting a significant part of our skills requirement from locals. Prior to the 1980s, strong industry training programs ensured skilled manpower. Programs were discontinued around the middle of the 1980s, when the industry went into a slump. When industry picked up in the early 1990s, state-funded institutions began to provide the training. Currently, in most cases, the domestic operations of the large international energy corporations are headed by locals. Of course ultimate decision-making continues to reside abroad.

(b). Promoting Increased Local Participation in the Resource-based Sector31

Addressing Stabilization and Inter-generational equity Perhaps belatedly, in 2007 the Trinidad and Tobago Government formally introduced a Heritage and Stabilization Fund (HSF) as an instrument of macro-economic management as well as a savings vehicle. As you know, over the past two decades many resource rich countries have introduced sovereign wealth funds. By putting excess revenues aside, the HSF addresses the vexing problem of the pro-cyclicality in fiscal policy and accrues savings for future generations. Permit me 5-10 minutes to outline the salient features of our Heritage and Stabilization Fund.

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The HSF

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