NS3040 Fall Term 2014 Economic Security: Resources.

NS3040 Fall Term 2014

Economic Security: Resources

Resource Security

• Daniel Yergin, Ensuring Energy Security, Foreign Affairs, 2006

• Classic article outlining strategy for countries to pursue in minimizing risks from energy shocks and supply interruptions

• Theodore Moran, Feeding the Dragon, Milken Institute Review

• Examines Chinese resource strategy to see if country is trying to tie-up world supplies of strategic resources

• Michael Ross, Blood Barrels: Why Oil Wealth Fuels Conflict, Foreign Affairs, 2008

• Attempts to explain the oil curse

• Why many oil producing countries are prone to conflict, instability, and poor economic performance 2

Daniel Yergin: Ensuring Energy Security I

• Energy security a major issue since Churchill’s time – shifting British Navy from coal to oil

• Churchill’s advice: “Safety and security in oil lie in variety and variety alone”

• Energy security focus often driven by tight oil markets and high oil prices, but new concerns in recent years:

• Power blackouts more common

• Increased risk of terrorist attacks to energy infrastructures

• Instability in many producing countries

• Increased threat posed by Iran

• Natural disasters seem to be more frequent

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Daniel Yergin: Ensuring Energy Security II

• “Energy Security” means different things for different countries:

• Developed world – availability of sufficient supplies at affordable prices

• Energy exporting countries – security of demand for exports

• For Russia, aim is to reassert state control over strategic resources and gain primacy over main pipelines to international markets

• For China and India – their ability to rapidly adjust to their new dependence on global markets after long standing commitments to self sufficiency

• For Japan – how to manage dependence on imported natural gas --

• For many countries – whether to build new nuclear plants and perhaps return to clean coal

• For Canada -- access to U.S. and Chinese markets4

Daniel Yergin: Ensuring Energy Security III

• Main principles for energy security• Original energy security system created in

response to 1973 Arab oil embargo• International Energy Agency (IEA) created

• Intended to ensure coordination among industrialized countries in the event of supply disruption

• Encourage collaboration on energy policies

• Avoid hostile scrambles for supplies and

• Deter any future use of an oil weapon by exporters

• Early actions to increase energy security

• Strategic petroleum reserve

• Encourage increased exploration, technology, alternative energy

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Daniel Yergin: Energy Security IV

To maintain energy security – key principles•Churchill’s diversification of supply still important

• Oil is abundant and peak-oil not yet a problem

•Resilience – develop a security margin in the energy supply system – buffer against shocks•Recognize reality of integration – there is only one oil market -- a complex and worldwide system

• For all consumers, security resides in the stability of this market

•Importance of information

• High quality information underspends well-functioning markets

• IEA has led way in improving flow of information about world markets and energy prospects

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Michael Ross: Blood Barrels I

• Wants to explain why conflict developing country oil producers.

• Not just oil – conflict often associated with diamonds and other minerals

• These countries often have a hard time sustaining growth for long periods of time

• Many have been plagued with:

• High levels of debt,

• High unemployment

• Sluggish or declining economies

• Half of members of OPEC were poorer in 2005 than they had been in 1975

• Countries that had seemed on verge of great promise, Algeria, Nigeria, Iraq, and Iran were unable to capitalize on oil 7

Michael Ross: Blood Barrels II

• Some causes of instability and poor performance• Dutch Disease – tendency for exchange rate to

become overvalued

• Discourages diversification

• Hurts non-oil export industries

• Sudden glut of revenues

• Few countries have fiscal discipline to invest windfalls prudently

• Many White Elephants

• Governance problems

• Tends to be increase in corruption

• Tendency for more authoritarian governments

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Michael Ross: Blood Barrels III

• Biggest danger associated with oil – armed conflict

• Among developing countries, oil producers twice as likely to suffer internal rebellion

• Oil wealth can trigger conflict in three ways• 1. Can cause economic instability which leads to

political instability

• When people lose jobs become more frustrated by government and easier to recruit into rebel armies

• Most oil producers have periods of booms and busts – during busts, government has harder time financially combatting rebel or separatist groups

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Michael Ross: Blood Barrels IV

• 2. Oil wealth often helps support insurgencies

• Raising money is relatively easy – steel oil and sell it on black market

• Get foreign financing on promise of friendly deals once in power

• Extort money from companies in remote areas

• 3. Oil wealth encourages separatism

• Oil and gas often produced in enclaves that provide considerable revenue for central government, but few jobs for locals

• Locals feel not getting fair share – want autonomy

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Threats to Oil Companies

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Michael Ross: Blood Barrels V

• Possible ways to combat problems – no single way to bring peace to oil producing states

• 1. Cut off funding for insurgents who profit from oil trade

• Refusing to buy oil that is sold by insurgents

• 2. Encourage governments of resource-rich states to be more transparent

• Lack of transparency facilitates corruption and reduces public confidence in state

• 3. Help oil states better manage the flow of their oil revenues – companies should bear more of risk of volatile prices

• Not mentioned by Ross – direct payment to population – sharing of oil wealth directly

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U.S. Oil Imports: Venezuela

• Venezuela: Falling Production

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Venezuelan Oil Exports, 2011

• Venezuela Regional Trade -- ALBA

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U.S. Crude Oil Supply, 2012

• U.S. Import Picture

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T. Moran: Feeding the Dragon I

• Asks question: • Has China embarked on a long-term strategy of

controlling access to natural resources from around the world?

• A plausible case could be made:

• Japan attempted to do something similar in the 1930s

• China may be anxious to reduce its dependence on the commercial goodwill of foreigners

• Rapid sustained economic growth would be far more difficult without large and growing imports of resources

• China might fear some sort of future resource-linked sanctions – human rights, refusal to join climate accords etc.

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China’s Global Investments

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T. Moran: Feeding the Dragon II

• Argues while can make a plausible case that China is trying to control world supplies of resources

• Chinese companies have taken equity stakes in African oil fields

• Extended loans to mining and petroleum investors in Latin America

• Written long-term procurement contracts for minerals and natural gas from Australia

• Important question is

• Whether or not these steps reduce other buyers’ access to world supplies, or

• Actually might these tactics actually serve the interests of non-Chinese buyers – increasing global supplies.

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T. Moran: Feeding the Dragon III

• Need to look at the evidence.• Best done by examining Chinese natural-resource

procurement deals• Four broad types of Chinese resource transactions:

• 1. Equity stakes in large, established producers

• 2. Equity states in start-ups and small producers aiming for expansion

• 3. Loans to established producers in which the debt is linked to a purchase

• 4. Loans to back the expansion of small developing firms

• 1 and 3 simply gives a Chinese company a legal claim on the output of an established producer

• Has zero sum implications

• China’s access comes at the expenses of other importing nations

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T. Moran: Feeding the Dragon IV

• If deals were 2 or 4

• The procurement arrangements expands and/or diversifies output – all resource users stand to gain

• Moran then examines China’s 16 largest procurement deals from 1996 – 2009

• Resources included oil, natural gas, bauxite, copper etc• Some cases (3 of 16) where Chinese companies took an

equity stake to create a “special relationship” with an established producer

• Typical pattern (13 of 16) was for Chinese enterprises to

• Take equity stakes or

• Write long-term procurement contracts with producers that operate at the competitive fringe and need Chinese capital and expertise to expand

• Everyone gained

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T. Moran: Feeding the Dragon V

• Rare earths and Lithium – Exceptions to Rule?• More than 90 percent of rare earths used in U.S.

now come from China• Driven by cost not scarcity• However concern over Chinese restricting exports

• Many rare earths used in high-tech products, green technologies

• Potential danger here that China might try to lock up other supplies of rare earths

• Lithium important for high performance batteries

• China currently the leading producer

• However lithium available from many regions

• Half world reserves in Bolivia

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T. Moran: Feeding the Dragon VI

• Summing up• Finds much of China’s resource investment is

flowing into regions and countries avoided by Western investors

• Sudan, Iran, Zimbabwe

• China does not make demands for improved governance

• Feels concerns about China’s push to secure resources well grounded but probably misdirected

• Over-all effect so far has been positive

• Primary reason that Chinese policies are making resource markets more competitive rather than less is China’s willingness to invest where other’s won’t

• Concludes China a problematic partner in efforts to coax outlier states into the global civil society22