July 9, 2008

July 9, 2008 | WebMemo on Trade, Economic Freedom

The 2008 Index: How to Escape the "Curse of Oil"

An examination of the rankings of oil-rich counties in the 2008 Index of Economic Freedom, published by The Heritage Foundation and The Wall Street Journal, reveals that, for the most part, citizens of oil-producing countries are stuck in poverty. Many live under brutal and dictatorial regimes. These factors combine to create what economists have long termed the "curse of oil."[1]

But that does not mean oil-rich countries are doomed to economic mediocrity. As the following statistics will demonstrate, it is a nation's policies, not its products, that determine its economic well-being.

Subsequently, oil-rich nations with opportunities to increase economic freedom, such as Iraq, should adopt policies capable of defeating the "curse of oil." 

"Oil-Cursed" Countries Get Failing Grades
As illustrated by the table,[2] the majority of countries from where most of the world's oil supply is lifted fall into either the "Mostly Unfree" or "Repressed" rankings in the 2008 Index. The high per capita income levels that would be expected in countries with great resource wealth are simply not present.
Many of these countries have low scores on most of the 10 freedoms that are reviewed in the Index, especially property rights, labor freedom, financial freedom and, above all, freedom from corruption, as described in the following excerpts from the 2008 Index:[3]

  • Business Freedom: "Iran's economy is unfree in many ways. Business [is] regulated heavily by an intrusive and highly inefficient bureaucracy. Obtaining a business license takes 670 days, compared to the world average of 234 days. Bureaucratic hurdles … increase the cost of doing business. Closing a business is difficult."
  • Trade Freedom: "Kazakhstan's … non-transparent regulations and standards, service market access barriers, import licensing requirements, opaque government procurement, weak enforcement of intellectual property rights, and customs inefficiency and complexity add to the cost of trade."
  • Fiscal Freedom: "Russia has weak or average scores in every area. The top individual income and corporate tax rates are relatively low at 13 percent and 24 percent, respectively, but overall tax revenue is relatively high as a percentage of GDP."
  • Government Size: "Libya scores poorly in … government size. … Oil dominates the economy, and the government dominates the oil sector. Total government expenditures, including consumption and transfer payments, are very high."
  • Monetary Freedom: "Inflation [in Venezuela] is high … averaging 14.9 percent between 2004 and 2006. [Recent 2008 estimates are as high as 30 percent.[4]] Relatively unstable prices [are caused by] government controls [on] most prices through regulation, subsidies, and numerous state-owned enterprises and utilities and uses … guaranteed minimum prices to protect agricultural producers … [distorting] domestic prices."
  • Investment Freedom: "Investment is basically unwelcome [in Angola], corruption is crippling, and political influence mars the judiciary. Commercial regulations are a severe hindrance to opening and closing a business, and inconsistent, confusing regulations make it hard to operate a successful company."
  • Financial Freedom: "Brazil suffers from weak financial freedom and a large central government. Significant restrictions on foreign capital exist in many areas, and the government remains heavily involved in the banking and financial sectors."
  • Property Rights: "The right to hold and accumulate private property [in Venezuela] was further eroded in 2007 by changes in the constitution, nationalization, and expropriations."
  • Freedom from Corruption: "Corruption is perceived as pervasive [in Nigeria, which] ranks 142nd out of 163 countries in Transparency International's Corruption Perceptions Index for 2006. Corruption is endemic at all levels of government and society, and the president, vice president, governors, and deputy governors are constitutionally immune from civil and criminal prosecution."
  • Labor Freedom: "Algeria's labor market is shackled by restrictive employment regulations that hinder employment opportunity and productivity growth. Further flexibility in the labor market is needed to increase the private sector's competitiveness."

Exceptions That Prove the Rule

  • Chile: How did Chile (Index rank #8) escape the "curse of copper"? The Index specifically praises the Chilean government's openness to foreign investment as well as its effort to fight corruption and protect property rights. Overall, rule of law in Chile is "remarkably open and transparent."[5] Furthermore, in 1985, the Chilean government created the Copper Stabilization Fund (later renamed the Economic and Social Stabilization Fund) "to hold excess copper revenues so that social spending can be maintained during periods of copper shortfalls." [6], [7]
  • Norway: The Index ranks Norway 34th in the world. "Norwegians enjoy high levels of business freedom, trade freedom, property rights, and freedom from corruption. The average tariff rate is low, although some non-tariff barriers complicate trade. Starting a business takes only a few days, and the overall protection of business operations is high. Norway has an efficient, independent judiciary that protects property rights effectively, and corruption is negligible."[8]

The Best Solution: Get It Right from the Start
Iraq is one oil-cursed nation that has been given a chance to start over. Having recently traded a dictatorship for a fledgling federal constitutional form of government, officials in the oil-rich autonomous Iraqi region of Kurdistan want to capitalize on the stability fostered by the U.S. and Iraqi military forces. Under the newly established Iraqi federal system, the Kurds have gained the right to exploit their extraordinary oil reserves and are planning to mange these resources more like the Chileans or Norwegians and less like the Venezuelans or Nigerians.

The Kurds, too, believe that sharing the prosperity from the oil fairly (thereby raising per capita income) and planning for a brighter future requires economic diversification. Kurdish leaders have stated that they do not want an "oil economy" and will place equal emphasis on sectors such as agriculture and tourism.[9] They are actively encouraging private investment and business formation.

The Sunni and Shiite Iraqis should take notice. There is no reason they or other oil-rich nations cannot follow suit.

James M. Roberts is Research Fellow for Economic Freedom and Growth in the Center for International Trade and Economics (CITE) at The Heritage Foundation. Daniel J. Leahy of Bend, Oregon, is a consultant on petroleum and natural resource issues and a graduate student in management at Concordia University in Portland, Oregon.CITE intern James Bezjian made valuable contributions to this memo.


[1] "The Curse of Oil: The Paradox of Plenty," The Economist, December 20, 2005, at http://www.economist.com/business/displaystory.cfm?
story_id=5323394
(July 7, 2008). See Also: Stephen P. A. Brown and Richard Alm, "Running on Empty? How Economic Freedom Affects Oil Supplies," Economic Letter-Insights from the Federal Reserve Bank of Dallas, Vol. 1, No. 4, April 2006, at http://www.dallasfed.org/research/eclett/2006/el0604.html (July 9, 2008).

[2] As illustrated by the table,*.

[3] All Index quotations in the 10 freedoms are from Kim R. Holmes, Edwin R. Feulner, and Mary Anastasia O'Grady, 2008 Index of Economic Freedom (Washington, D.C.: The Heritage Foundation and Dow Jones & Company, Inc., 2008), at http://www.heritage.org/index/countries.cfm.

[4] Fabiola Sanchez, "Venezuela's monthly inflation hits 3.2 percent, highest this year," Associated Press, June 9, 2008.

[5] Holmes, Feulner, and O'Grady, 2008 Index, pp. 137-138.

[6] Chloe Hayward, "Sovereign wealth funds: Copper lifts Chile's reserves," Euromoney, April 2008, at http://www.euromoney.com/Article/1899676/SubPage/9449/
ChannelPage/0/Region/12/Sovereign-wealth-funds
-Copper-lifts-Chiles-reserves.html
(July 7, 2008).

[7] "Background Note: Chile," U.S. Department of State, Bureau of Western Hemisphere Affairs, January 2008, at http://www.state.gov/r/pa/ei/bgn/1981.htm (July 2, 2008).

[8] Holmes, Feulner, and O'Grady, 2008 Index, pp. 301-302.

[9] Ben Lando, "Tourism, not terrorism: Resort rising in semi-autonomous northern Iraq," The Washington Times, June 18, 2008, p. A21.

About the Author

James M. Roberts Research Fellow For Economic Freedom and Growth
Center for Trade and Economics (CTE)