The paradox of no gas reserves in democratic countries

Italy is moving away from Russian gas, but only finds it in autocratic regimes. Economists explain why.

In the last two weeks the Italian government has started an important plan to reduce Italy’s dependence on Russian energy. Prime minister Mario Draghi has made several diplomatic visits to assure his country additional quantities of gas and oil. He went to Algeria and Egypt before Easter. This week he was supposed to fly to Congo and Angola but he was replaced by Luigi Di Maio, Italy’s foreign minister, due to a positive Covid-19 test. Next week meetings in Azerbaijan and (probably) Qatar are scheduled.

These 5 different countries share a bizarre characteristic: none of them is ruled by a democratic government. It seems like there are no natural gas resources within democratic states. How is this possible?

It may sound weird but it is a common paradox, which has been studied by economists since the ’80. Experts have dubbed it “natural resource course”. It indicates that many countries cannot set off a stable economic growth, despite the large stock of natural resources they have.

“It all derives from the political institutions a country has. Where institutions have been modelled to funnel positive effects to only a few people, typically the elite of the country, there is little or negative growth”, says Marco Lossani, full professor at Università Cattolica in Milan, where he teaches international and developing economics. “History plays an important role in determining a country’s institutional structures, but things can change. History is not a conviction as discontinuity is part of the process.”

Countries like the ones Draghi visited are examples of this course. Also Nigeria, Iran, Venezuela are part of it. Russia does not make any exception either. Lossani points out that there is also the “natural resource blessing”, when institutions are inclusive, rather than extractive, like Norway, Botswana and Australia.

Although political institutions are surely the focal point, in the natural resource paradox causes and consequences are strictly connected. Natural resources, whose prices in international markets are highly volatile, can cause temporary increments of a nation’s wealth. The national resource boom, which is also often linked to sudden discoveries, leads to distortions in the allocation of the productive factors and in the distribution of wealth among the population. It also negatively affects the property rights which are frequently used by elites to reinforce their power or to perpetuate ethnic or civil conflicts.

Where institutions aren’t inclusive, the large stock of natural resources expands consumption while decreasing investments and public expenditure is often higher than fiscal revenues. These elements cause high deficits and national debt, leading to a depreciation of local currencies. Low investments do not allow youth to receive suitable healthcare and education, harshly impacting on their future, and the industrial sector to expand. This latter element is particularly harmful as it obliges countries to import more (impacting on their debt) and isolate their own extractive industry due to the lack of companies along the supply chain.

A transfer to inclusive institutions happens in many ways: normally through protests, violence or coups, less frequently as a peaceful political process.

To be less dependent on natural resources, countries should start industrial diversification, which is not a simple process as institutions should stop their rent-seeking approach. In recent years nations of the Arabian Peninsula have decided to move away from natural resources. Their attempt to diversify is having positive results. “Dubai was the first. It tried to transform itself into a financial hub, giving up sharia rules and adopting European financial and banking principles. It also invested in real estate and in tourism. Gulf states heavily count on the aviation sector as almost each of them has a worldwide flag carrier”, says Lossani.

Long before the Gulf states, South Asian countries started the same process, even though results are controversial. Malaysia and Indonesia, for example, invested in manifacturing as climate conditions were better than those in the Arabian Peninsula but results are still being debated by economists.

While some countries try to diversify their economy, others don’t. And exactly those countries are Italy’s main gas suppliers.