Natural resource wealth management

THE EFFECTS of the violence visited on the East Timor capital of Dili by the fighting among its fragmented communities were still plainly visible during my first trip in February 2007. Refugee camps greeted travelers emerging from the Dili Airport, checking into the city’s landmark Hotel Timor, and attending services at the Catholic cathedral.

Experts estimated that it would take the East Timor government a decade to address the problem of nearly 160,000 internally displaced persons (IDPs), about 15 percent of the population.

On my second visit three years later, the IDP camps had vanished. It was possible for foreign visitors to step out of the hotel at night for a dinner in a city restaurant. In two years, the government cleared the IDP camps, drawing from the windfall earnings flowing from its offshore oil and gas fields.

From two fields brought into production in 2004, the government began to generate significant revenues, for which it established the Petroleum Fund in 2005. The Petroleum Fund received the revenues, invested them in safe assets, and used the investment earnings to supplement the budget. The government that assumed power in August 2007 quickly decided to use the Petroleum Fund resources to cover the cost of resettling the IDPs.

The government recognized the need to husband the finite wealth from its natural resources for the long-term development needs of the country. The initial yield of $2 billion per year would taper off, but the fields would contribute over their 20-year productive life $30 billion to the treasury. To supplement the budget, the government could automatically withdraw each year the “Estimated Sustainable Income” (ESI), computed on a formula based on the current balance of the Fund, now $7.7 billion, and the present value of future oil revenues.

But the people must benefit from the wealth produced by natural resources. Speaking at a session on Natural Resource Wealth Management at the Asian Development Bank’s annual meeting in Hanoi in early May, Timor Leste Finance Minister Emilia Pires underlined the need to address or avert political crises arising from the failure to alleviate the people’s poverty. It was not politically tenable to maintain a condition where the country was rich but the people were poor.

Timor Leste learned from earlier experience how to deal with the “Dutch Disease.” The Netherlands in the 1960s and the United Kingdom in the 1970s, like Timor Lester, profited from the exploitation of energy sources—in their case, natural gas deposits in the North Sea. The rise in revenue led to the appreciation of the Dutch guilder and the British pound, raising the cost of their manufactured products and making them less competitive in the world market.

Oil revenues also fueled inflation in Timor Leste and caused a surge in the prices of basic commodities. Defying experts concerned with wasteful and unsustainable subsidies, the government used the oil funds for an Economic Stabilization Plan that allowed it to intervene in the market, curb inflation and avoid a food crisis. The Petroleum Fund Law does give the government the flexibility to exceed the withdrawal limits but it must justify the need to Parliament, whose approval it must secure.

To protect the Petroleum Fund from misuse, including populist pressures for dole-out grants, the government established a system for its management that stressed professionalism, accountability and transparency. Operational responsibility for the Fund rested with the East Timor Banking and Payment Authority, supported by the Bank for International Settlements and the Schroeder Investment Management Ltd.

The government has recently placed its financial information on a website (Timor Leste Transparency Portal) and provided 24/7 access to 10-year financial and budget data. Public access to information would promote accountability, reduce the risk of corruption, and raise the confidence of investors in the country. But beyond these instrumental objectives, Minister Pires stressed transparency as required by the right of the people to know how their resources are being managed and for whose benefit.

The Revenue Watch Institute and Transparency International recognized Timor Leste’s efforts, placing it in the group of countries most transparent with government revenues. In 2010, it achieved full compliance with the Extractive Industries Transparency Initiative, only the third country in the world to meet this standard.

With justifiable pride, Minister Pires recounted what the government was able to achieve through the systems it established for the judicious management of the country’s natural resources: an improvement of 14 places in the Human Development Index rankings, 19 places in the Corruption Perception Index, and 7 places in the World Bank Doing Business Report. Even more important, Timor Leste between 2007 and 2009 reduced the poverty incidence from 50 percent to 41 percent.

The world’s youngest nation is providing lessons for older countries that oil need not necessarily become a curse. Timor Leste has demonstrated that it can manage effectively the wealth flowing from natural resources. The next challenge is to develop the capacity of its people, through education and training, to manage the natural resources to ensure that they produce wealth on a sustainable basis.

<em>Edilberto C. de Jesus is president of the Asian Institute of Management.</em>