Nova workboard

a blog from young economists at Nova SBE

The Norwegian Medicine for Dutch Disease

Winter is coming: and with it, flues! Indeed, we are actually writing this article with a box of tissues by our side. In order to bring a bit of this spirit into the world of macroeconomics, we decided to talk about another common yet not so known disease, named after the Dutch.  Put in simple terms, the Dutch disease refers to the negative consequences of large increases in a country’s income, generated by unilateral transfers or, as we’ll see in this post, by other phenomenon such as an increase in availability of a natural resource driving an export boom. This export boom will divide the economy in three – the booming tradable sector, the lagging tradable sector and the non-tradable sector[1]. With the Dutch Disease, the lagging tradable sector will be crowded out by the other two. This happens because with an increase in availability of natural resources, exports increase, domestic demand expands and there is a real exchange rate appreciation. If there is an increase on expenditure on domestic non-tradable goods and their price rises, the lagging tradable sector will be harmed losing capital and labor that will move away to the non-tradable sector.

Although the export boom may seem beneficial for the economy, there are plenty of examples that illustrate that natural resource abundance need not imply economic prosperity. Congo, rich in diamonds and gold, yet having the lowest GDP per capita in the world and nearly 49 million living under the poverty line[2]. Mozambique has a natural yearly capacity of over 100 million m3 of natural gas, a number putting it on the top 10 of countries with the largest extraction worldwide, but it’s placed 178th out of 187 on the United Nations Human Development Index. Russia, Venezuela, Saudi Arabia… none of these countries escaped this dreadful illness. So what made Norway so special?

That little kingdom is surprisingly one of the few countries in which an unexpected and large natural resource discovery actually catalyzed growth. The massive oil discovery in Norway took place in the late 60’s, and although it was firstly explored and fully financed by private companies such as Philips Petroleum Company, it was soon taken over by the Norwegian government. Contrary to what we would expect, that poor, austere economy prospered: GDP is growing at a relatively fast pace since the 1970s. In 2012, the oil sector represented 23% of GDP, 30% of government revenue, 29% of total investment and 52% of exports[3].

Moreover, the Viking’s land managed to stay with a real exchange rate that did not deviate considerably from the equilibrium value[4]. Fluctuations occurred around an apparently stable equilibrium level.

Back to our question, then. What’s the Nordic recipe for dodging a disaster?

Besides being privileged by an unique background featuring a highly educated workforce and a corruption-free environment, the government had a very important role with the creation of a sovereign wealth fund known as The Oil Fund. There, 96% of Norway’s oil earnings are placed for savings which are non-withdrawable until oil runs out and, most importantly, are non-investable inside Norway. The creation of this fund acts as sterilization, and the oil revenue flowing out of the country prevents inflation.

In addition, the government also applied a specific tax system to the oil sector that made possible to recollect, in addition to a 28% tax rate over the profit of all oil companies, an extra tax of 50% over the sector. The government collects 78% of the revenues from the oil companies, and despite the high taxes that harm firms and households, Norway’s institutional wonders compensate for that loss.

So as you can see, the answer doesn’t lay in the barbarian Nordic DNA. Credibility of governors and institutions, along with planning, long-term vision and self-discipline may lead the way!

#701 and #743

[1] Corden, Neary, 1982

[2] Banque Central du Congo

[3] Norwegian Petroleum Directorate

[4] Real equilibrium Exchange rates for Norway, Q.Farooq Akram


Author: studentnovasbe

Master student in Nova Sbe

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