Financial Transparency Coalition

This blog post is the second post in a series on the connection between extractive industries and corruption in developing countries. You can read part one here.

In a blog post last week I discussed the relationship of extractive industries and corruption, noting that while they are related, the presence of extractive industries alone does not inherently lead to their political exploitation. Rather, it is the effect that these industries have on other economic and political conditions that can drive corruption.

Conceptually, we can think about this in terms of a model presented by Tsegaye Lemma, a policy analyst with the United Nation Development Program’s Bureau for Development Policy. Lemma defines corruption as a function of monopoly, discretion, accountability, integrity, and transparency. Specifically:

Corruption = (Monopoly + Discretion) – (Accountability + Integrity + Transparency)

Extractive industries can affect each of these components of governance and economic conditions. Below, I consider alternative hypotheses to explain the connection between extractive industries and corruption and, using this framework, will point out how these industries affect each of these categories of governance and economics.

Natural resources and land are often owned or controlled by the government

In principle, state ownership of natural resources would be a net benefit for a nation if it had good governance and the profits from the extraction are used to the benefit of the public. The fact that a government has substantial control of a significant portion of an economy does not alone give rise to corruption. Yet without good governance and strong accountability, government ownership of mineral wealth can contribute to corruption. For example, in some countries with large quantities of extractive industries, the line between government and private sector becomes blurred and sometimes erased. In these cases, this blurring may mean private entities will have high levels of political sway and, in turn, political officials have more opportunities to profit from corrupt behavior.

This explanation is related to Lemma’s parameters of discretion and integrity. Extractive industries can reduce the integrity of government by opening opportunities for private sector companies to influence politics, and government officials to seek illicit wealth through those industries. Governments with large ownership stakes in the economies have more discretion over decisions that typically remain in the private sector—giving rise to opportunities for corrupt behavior.

Natural resources dominate the economy, crowding out other industries, and limiting competition

Termed “Dutch Disease,” economists generally accept the principle that natural resource wealth can crowd out other productive industries, such as manufacturing and agriculture. For example, recent evidence has suggested that the oil sector in Gabon is crowding out other economic sectors, including agriculture. To see why this phenomenon can lead to corruption, I’ll use an enlightening example from Nicholas Shaxton’s paper on oil, corruption, and the resource curse. In the paper, Shaxton defines two hypothetical countries, Agricolia, a nation whose main industry is agriculture, and Petroland, a nation whose main source of economic activity is in extractive industries. He says:

In the economy of Agricolia, citizens who want to prosper must work hard and cooperate with others—say, by building fl our mills or trading networks—to get ahead. These are horizontal political relationships, essential building blocks of successful, unified societies. In Petroland, however, the relationships are more often vertical: to get ahead individuals look upwards to get access to a piece of the oil rent, and compete against, rather than collaborate with fellow citizens. Agricola is about production; Petroland is about acquisition. This dynamic leads to both conflict and corruption, which this analysis views as two sides of the same coin. Both involve different ways of fighting for a share of the ‘cake’, in a zero-sum game.

In essence, this explanation captures the monopoly characteristic of Lemma’s model, which has a positive relationship with corruption.

Nations with wealth from natural resources does not depend on its citizens for taxation—less accountability.

As we see in countries like South Sudan (which derives nearly 98% of its government budget from oil) and Libya, the government and its leaders can use uses profits from natural resources to govern. As a result, those leaders are not held accountable to their populations through taxation. By contrast, citizens in countries without natural resource wealth have an opportunity to have a direct relationship, through taxation, with their leaders. In oil-dependent states, the state has a relationship with the mineral or with extraction companies and is not accountable to its people. Fitting into the model above, this dynamic leads to a decrease in government accountability, therefore increasing corruption.

No country with natural resource wealth would ever choose to leave those minerals in the ground for the sake of reducing corruption. So how do we think about solutions to this problem, particularly given the indirect relationship between extractive industries and corruption? I’ll answer that question next week when I wrap up this series by talking about some was to increase accountability, integrity, and transparency.