Resource Boom, Growth and Poverty in Laos:What Can We Learn from Other Countries and

Policy Simulation?

Phouphet KYOPHILAVONG, National University of Laos

Philippine International Convention Center, Nov 28-29, 2012

37th Annual Conference of the Federation of ASEAN Economics Association(FAEA)

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Outline of presentation

• Introduction

• Problem statement, objective and scope

• Characteristics of CGE model

• Simulation design

• Results/discussions

• SAM and coefficients/parameters

• Conclusion/policy recommendation

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• Laos is ranked as one of the most resources-rich countries in Asia. More than 570 mineral deposits have been identified (WB, 2001).

Introduction

• FDI has suddenly increased since 2003. This is mainly from resource sectors (mining and hydropower).

• Laos is LDC- About 34% of population is under poverty line (WB and DOS, 2009).

• About 30% of GDP is from agriculture, 26% is from industryand 34% is from services.

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Introduction

• The national development goal is to liberate the country from the group of LDCs by the year 2020 (GoL, 2004).

• Enhancing the sustainable economic growth and reduction ofPoverty reduction are top priorities of government (GoL, 2004).

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FDI Inflows

Source: 　 Ministry of Planning and Investment (2011).

Introduction

-500,000,000

1,000,000,000 1,500,000,000 2,000,000,000 2,500,000,000 3,000,000,000 3,500,000,000 4,000,000,000 4,500,000,000 5,000,000,000

1989

1990

1991

1992

1993

1994

1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

US$

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FDI Inflows (Resource Sectors) (2005-2010)

Introduction

No. Sectors Projects Value (Million. US$) 1 Electricity Generation 28 3,4422 Mining 123 2,8853 Services 205 1,4854 Agriculture 170 1,1765 Manufacturing 196 9466 Hotel & Restaurant 73 5847 Construction 31 3128 Trading 86 1669 Banking 16 157

10 Telecom 2 11611 Wood Industry 22 10812 Consultances 49 2113 Garment 21 16

1,022 15,845TOTAL

Source: 　 Ministry of Planning and Investment (2011).

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IntroductionContribution of Resources Sector

Sources: WB(2011) and IMF(2011).

2008 2009 2010 2011

Real GDP growth (%) 7.5 7.5 8.4 8.6 Resources sector (% point) 2 2.5 3.9 3.6

Domestic Revenues (% of GDP) 13.9 13.8 13.9 15.1 Minining 2.4 2.2 1.6 3.5 Hydropower 0.7 0.5 0.4 0.6

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Problem statement

• Theoretically, abundant natural resources are a “big push” that could promote growth.

• Empirical studies have illustrated that resource-rich countries grow more slowly compared to resource-poor countries.

• Despite the possible positive or negative impact of resource boom, there are few research studies on this issue.

• Various factors account for low growth in resource-rich countries: one of the most important factors is referred to as “Dutch disease” (Gregory, 1976; Cordon, 1982).

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Research Question

• Does resources-boom improve macroeconomic variables?

How resource-boom affects Lao economy?

• What is the policy recommendation to deal with Adverse impact from booming sector?

• Does resources-boom have positive impact on other sectors?

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Literature Reviews

•There are few studied of CGE model analysis for the Lao economy.

• Fukase and Martin (1999) built a simple CGE model to analyze the economic effect of joining the AFTA.

• Warr (2006) built a two sectors, multi-household CGE model to analyze the impact of the hydropower dam (NT2).

• Lack of CGE model building for analyzing impact of resource booms on Lao economy.

• Warr and Menon (2006) built CGE model to assess the impact of road improvement on poverty

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Lao CGE Model

• Single-country, static CGE model.

• PEP-1-1 model which developed by Decaluwe et al, 2009

• Factors: Capital, skilled labor, unskilled labor and land.

• Sectors: Mining, Industry, Agriculture, Private services, and Government services (will expand more sectors).

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Lao CGE ModelNested structure of production

Output (XSTj)

Value added (VAj)

Aggregate intermediateconsumption (Cij)

Composite labor (LDCj)

Composite capital(KDCj)

Labor 1 Labor 2 Capital 1 Capital 2

Production 1 (DIi,j)

Production 2 (DIi,j)

--- ---

Leontief

CES Leontief

CES CES

Source: Decaluwe et al (2009).

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Lao CGE Model

• Small country assumption.

• Current account balance is fixed.

• Current government expenditure is fixed.

• Minimum consumption of commodity i by type h household.

• Numeraire is the nominal exchange rate.

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Macro-SAM for Laos (2009)

• No existing national Social Account Matrix (SAM), national Input- Output table.

• Build the Lao SAM from various data sources.

we extract Lao SAM from GTAP data base [1] (version 7) following by McDonald and Thierfelder (2004) and PEP(2011). we extract Lao SAM from GTAP data base [1] (version 7) following by McDonald and Thierfelder (2004) and PEP(2011). we extract Lao SAM from GTAP data base [1] (version 7) following by McDonald and Thierfelder (2004) and PEP(2011).

Firstly, extract Lao SAM from GTAP data base (version 7) following by McDonald and Thierfelder (2004) and PEP(2011)

Thirdly, updated Macro-SAM (2004) to 2009 by using various sources of data (NSC, ADB, IMF, and WB).

Secondly, adjustment of coefficient by consultation economistsin NSC, and government agencies.

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Basic Structure of Lao Economy from SAM

Household Income Expenditure

Wage income 38.8 Direct tax 4.1Capital income 43.9 ConsumptionLand rent 12.0 Agriculture 11.8Natural resources 5.4 Industry 55.6Total 100.0 Private services 24.8

Government services 0.7 Mining 0.0Saving 3.0Total 100.0

Sources: authors' computations.

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Factor of production

Basic Structure of Lao Economy from SAM

Agriculture Industry Private services

Government services

Mining Total

Wage income 20.9 7.9 38.3 32.5 0.4 100.0Capital income 16.3 14.6 54.5 0.0 14.5 100.0Land rent 100.0 100.0Natural resources 100.0 100.0Wage income 0.4 5.0 7.8 60.3 2.4Capital income 24.9 67.6 64.1 0.0 26.2Land rent 37.1 0.0 0.0 0.0 0.0Natural resources 71.4Total (value added) 100.0 100.0 100.0 100.0 100.0Sources: authors' computations.

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Consumption and outputBasic Structure of Lao Economy from SAM

Comsumption share

Output share

Import Export Import/ consumption

Export/ output

Agriculture 12.7 17.6 31.6 4.3 8.6 4.6Industry 59.8 20.3 6.3 0.9 1.7 0.9Private services 26.7 43.7 12.1 1.7 3.3 1.8Government services 0.8 8.2 0.0 0.0 0.0 0.0Mining 0.0 10.2 50.0 93.1 13.7 99.6Total 100.0 100.0 100.0 100.0Sources: authors' computations.

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Parameters

• Different parameters lead to different policy results (Abler et al, 1999).

• Some parameters (Elasticity of Substitution (ES) function and Elasticity of Transformation (ET) function) come from PEP model follows Warr (2006).

Simulation Design

• There are various channels of impact of mining sector on Lao economy:

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Simulation 1: Increase capital stock in miningWe assume that the supply of capital in the mining sector will increase by about 10%.

Simulation 2: Increase productivityWe therefore assume that total factor productivity will increase by 5%.

Simulation 3: Impact of miningSimulation 3 combines the first two simulations

Simulation Design

• There are various channels of impact of mining sector on Lao economy:

Capital inflow Total factor productivity

Simulation 1 increase 10%

Simulation 2 Increase 5%

Simulation 3 increase 10% increase 5%

Source: the authors.

• We focus on:

Simulation ResultsImpact on macroeconomic variables

Simulation 1 Simulation 2 Simulation 3GDP 1.107 0.633 1.74Consumption -2.818 -1.478 -4.296Investment 3.81 2.082 5.894Export 0.05 -0.018 0.041Import 3.131 1.691 4.822Source: Authors' simulation.

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Simulation ResultsImpact on output

Simulation 1 Simulation 2 Simulation 3Agriculture -0.81 -0.4 -1.25Industry 0.29 0.16 0.45Private services 1.23 0.67 1.91Government services -1.96 -1.06 -3.02Mining 6.77 3.63 10.4Source: Authors' simulation.

Simulation ResultsImpact on exports

Simulation 1 Simulation 2 Simulation 3Agriculture -0.91 -1.04 -2.95Industry -1.55 -0.84 -2.40Private services -1.87 -1.01 -2.89Government servicesMining 6.96 3.73 5.345Source: Authors' simulation.

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Conclusions

• Increase capital and productivity of mining sector has positive impact on Lao economy in term of increase real value of GDP, output, export and investment.

• But it also decline real output, value added and export of agriculture sector.

• Booming in mining sector might cause the Dutch disease effects in Lao economy.

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Policy Recommendation

• Expenditure of booming sector revenues should focus on promote tradable goods especially on human resource development, infrastructure and health care (Larsen, 2006; Levy, 2007).

• Reduce/maintain low level of foreign borrowing is important for Laos during booming sector (Usui, 1996).

• Support linkage between mining sector and the rest of economy,and diversify economy.

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• It is important saving windfall for using when booming sector finishing. Setting up mining fund for saving or investment in emergency time and external shock are crucial

• It is crucial to pay back debt as soon as possible during government has windfall from mining (Usui, 1997).

Policy Recommendation

• It is important to avoid real exchange rate appreciation thougthcontrol inflation and depreciate nominal exchange rate.

Limitation of this study (Need to Improve)

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• This model is static CGE model which do not reflect investment flows from mining investment.

• Disaggregation of sectors according to data availability.

• It is important to capture winner and loser from the impact of mining by spilt the household to various categories.

• Finding appropriate elasticity from other countries which have similar economic structure like Laos.

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Limitation of this study

• Conduct other simulation scenarios and combine them together to capture impact of mining sector.

• Conducting policy implementation to cope with adverse impact on mining sector (fiscal policy and other policy).

• It is important to focus on windfall management (transfer) because it is crucial for sustainable economic growth and poverty reduction.

Thank You Very Much For Attention