A one-sided dependence on raw materials can make it harder to make changes to the structure of an economy – explains the D1 category paper recently published by Hungarian researchers.
Tamás Barczikay, research fellow at the Institute of Political Science of the ELKH Research Centre for the Social Sciences, Zsuzsánna Biedermann, research fellow at the Institute of Global Economics of the ELKH Research Centre for Economics and Regional Studies, and László Szalai, assistant professor at the Department of Economics, at the Faculty of Economics of the Budapest University of Technology, published a study entitled “An investigation of a partial Dutch disease in Botswana” in the August 2020 issue of Resources Policy.
The authors write that countries rich in raw materials experience difficulties in diversifying their own economies. Increased revenues and capital inflows as a result of extraction can lead to an appreciation of the local currency, while lasting appreciation can make the export sector uncompetitive and crowd out the manufacturing industry (a phenomenon known as ‘Dutch disease’).
Botswana is one of the ‘success stories’ of sub-Saharan Africa. Despite a dependency on raw materials, it has successfully maintained dynamic economic growth over a period of decades. Thanks to its diamond mining, which began in the 1970s, Botswana was able to become an upper middle income country in the space of a generation. In Botswana, the level of corruption and social tensions are remarkably low relative to other countries in Africa, and the state organization and development institutions are stable and strong. However, there is another side to the coin: despite a low population of 2.2 million, unemployment is persistently high, wealth disparities are significant when measured on a global scale, the economy is struggling with competitiveness problems and the export structure is one-sided: 85% of export earnings come from diamonds. This situation is a growing problem, as diamond mining is expected to expected to experience a permanent and rapid decline as early as 2025, and ten years after the depletion of the mines, Botswana’s GDP is expected to be 47% lower than it would be with continued mining production
Although Botswana’s policymakers have for decades sought to offset the competitiveness problems caused by the diamond mining boom with a number of micro and macro-level support measures, they have failed to substantially reduce diamond dependency and diversify the export sector. In their study, the authors sought evidence as to whether Dutch disease was responsible (in part) for the lack of diversification. Hungarian researchers used a nonlinear autoregressive, split-delay model to study the cointegration of the pula exchange rate and the diamond price index. The pula exchange rate was determined for Botswana’s main trading partners using monthly data. It was concluded that the Dutch disease was prevalent in trade with Namibia and South Africa between 2006 and 2018, and that its crowding-out effect on the manufacturing industry hampered efforts to diversify the economy. Researchers have called this a partial Dutch disease effect, as it only manifests itself in certain commercial relations.
Today, a significant proportion of developing countries fall into the category of being rich in raw materials, and these countries generally face difficulties in terms of industrialization and job creation. Exploring the causes of industrialization difficulties is therefore of paramount importance. The study also includes a methodological innovation, as it shows a partial Dutch disease effect with the help of exchange rate pairs used for trading partners. This contributes to more informed economic policy decisions in commodity-rich countries based on empirical evidence.