Undoing the Resource Curse

At first glance, Libya’s massive oil dependence looks like the country’s biggest weakness. Conflict and corruption spawned by oil recently brought down one government and currently threaten to tear the country apart.

Yet oil is also the key to Libya’s future. It fuels the economy, generating 65 percent of GDP (over $7,300 per person each year) and 95 percent of government revenue. If Libya can reorganize the management of its natural wealth, it will turn oil from a divisive force into the tie that binds the country’s people and regions together. If it fails to manage its oil wealth properly, a sad downward spiral of ethnic conflict, economic stagnation, and lawless violence is inevitable. A successful oil policy in Libya would include revenue sharing, to nurture grassroots democracy and dampen separatist tendencies; cash transfers to citizens, to demonstrate that the new democratic government can deliver on social and economic expectations; and transparency, to guard against the corrosive corruption that was the hallmark of Qaddafi’s regime.

Regional and ethnic divides have long played a central role in Libya’s petrol politics. Cyrenaica, the eastern region of the country, produces the majority of Libya’s oil and contains 80 percent of its reserves. But the region was neglected under Qaddafi, and eastern leaders see this continuing in post-Qaddafi Libya, despite the crucial role they played in the revolution that toppled the old regime. To the south, minority Tebu and Toureg tribes have long faced political and cultural discrimination from the majority Arabs. In 2012, grievances fueled by government neglect escalated into labor strikes and oil blockades that crippled Libya’s oil industry. Protestors demanded more jobs, better pay, and a bigger cut of the profits from oil production.

To mollify protestors, the government announced that it would absorb former militias and launch a jobs program in the south and east. But its inadequate response to corruption, and its failure to more equitably share the oil revenues, fueled further protests. Resistance in the east gained steam under the leadership of Ibrahim Jedhran, who orchestrated the seizure of several oil terminals, and then declared the Political Bureau of Cyrenaica as the regional government in late 2013. After months of trying to buy him off, in April 2014, the central government finally reached a deal with Jedhran to address his corruption and governance concerns. As the deal begins to take effect, it is possible that separatist groups will again target oil facilities in objection to political developments in Tripoli. Separatism remains a powerful centrifugal force, one that will continue to metastasize if the government fails to equitably share the resource wealth.

Decentralization through revenue sharing would help to address these separatist demands, bring the government closer to the people, and strengthen the capacity of local institutions to craft policies that meet local needs. Libyan oil revenue currently flows into a centralized revenue stabilization fund, the Libyan Investment Authority. This is a smart approach from a macroeconomic perspective: a well-managed stabilization fund, such as Chile’s, guards against inflation, insulates a country from global business cycles, and ensures that governments don’t overspend when commodity prices rise. But centralization also comes with high political costs, prompting ongoing unrest, stunting bureaucratic capacity, and weakening democratic accountability. Fortunately, it’s possible to gain the benefits of decentralization without the macroeconomic costs. A predictable percentage of annual oil profits (say, 25 percent of average annual oil revenues, smoothed over 10 years to avoid windfalls in good years and shortfalls in bad) should be transferred to local governments to manage.

One of the few positive legacies of the Qaddafi regime was a relatively capable local government. Although all issues of national consequence were controlled with an iron fist from Tripoli, basic, day-to-day government services were largely administered by municipal governments elected by local "popular congresses." During the uprising in 2011, revolutionary brigades formed their own local coordinating structures, and this decentralized resistance helped topple Qaddafi. After the revolution, brigades and military councils then played a central role in organizing local elections — long before the central government managed to get its own act together. These local councils gained strength in the chaotic post-revolution environment by filling the power vacuum.

Transferring a predictable percentage of revenues to local councils would strengthen their capacity, undermine popular support for separatist demands by opportunistic regional leaders, and nurture the grassroots accountability so essential for enduring democracies. Although some of the local councils remain tied to local militias, the central government should cut a deal: share the wealth, in exchange for a monopoly on force. Initial oil payments should be made conditional on disbanding the local militia and handing over their arms.

Revenue sharing should be based on four principles: derivation (areas where oil production operations occur get a portion of the proceeds from their production operations), need, equity, and population. Indonesia applied these principles in 2001 to decentralize the benefits of oil wealth, contributing to the country’s successful process of democratization since Suharto’s fall from power in 1998. Mexico likewise uses a resource revenue-sharing scheme, spreading most of oil revenues in the Mexican system relatively equally throughout all the states, with a small additional distribution to reward oil-producing municipalities. In Libya, areas that produce and process oil should receive a share of the revenues generated by their local oil operations. Population and need should be considered to ensure that areas with more people, and more poverty, receive more resources. And all municipalities, regardless of income or oil operations, should receive a baseline distribution, in order to spread the wealth across the country.

For the majority of people, democracy means not only political voice at the ballot box, but also the opportunity to realize social and economic freedoms. Failure to fulfill these hopes can fuel disappointment and violent unrest.

Unemployment is high in Libya: 13.5 percent overall, and 25-30 percent for young people. Indeed, demands for more local employment in oil-producing towns helped fueled the protests in Cyrenaica, Fezzan, and Tripolitania. Inequality is also entrenched. Approximately a quarter of Libyans live below the poverty line, despite the country’s relatively high per capita income. Putting oil profits directly into the pockets of citizens will reduce social and economic exclusion and demonstrate that democracy really can deliver material benefits. The Libyan government should pay every adult Libyan at least $500 in cash each year. Although this would amount to less than 7 percent of the value of Libya’s annual resource revenues, $500 a year would make a significant difference in these citizens’ lives.

Alaska’s Permanent Fund is the best-known example of a resource dividend program, with state residents receiving an annual payment of between $800 and $2,000 (53 percent of the Fund’s average investment income). This dividend provides an important safety net for cash-poor rural households who often rely on fluctuating subsistence harvests, and also generates important broader economic benefits (the increase in purchasing power creates thousands of jobs and $1.5 billion in additional economic activity each year). Likewise, Bolivia’s resource dividend program, Renta Digndidad, ensures that revenues from the country’s sizable natural resources improve the livelihoods of citizens. The Direct Hydrocarbon Tax funds a pension scheme that transfers oil profits annually to every Bolivian citizen over 60.

In place of direct resource dividends, governments often use regressive subsidies to redistribute resource rents. Libya is no exception. Prior to the revolution, Qaddafi made heavy use of subsidies to placate the populace, and the situation has deteriorated since his ouster. Fuel subsidies are popular because they keep some basic living costs low, but they distort the economy, encourage the inefficient burning of precious fossil fuels, and benefit the rich far more than they benefit the poor.

Finally, Libya needs to act quickly to reign in corruption and strengthen financial management in the oil sector. Corruption is the most significant political issue facing Libya today, with militias using allegations of administrative and financial corruption, particularly in oil sales, to arrest opponents, notably abducting former Prime Minister Ali Zeidan, and rally public support. The Transitional National Council kept no audit trail to verify the oil revenues reaching the Libyan Central Bank, and outrage over illegal oil exports sparked the strikes that shut down production facilities in Cyrenaica last year. Libyan citizens, aware of their country’s vast resource wealth but still failing to see the benefits, are understandably suspicious of the new officials who now control oil production and sales.

Fortunately, Libya does not need to reinvent the wheel to govern its oil wealth. It should move immediately to joining the Extractive Industries Transparency Initiative (EITI), a global coalition of governments, companies, and civil society groups that work together to ensure transparency and accountability in the extractives sector. Transparency and public monitoring guards against government officials pilfering the public coffers. To date, Libya has refused to participate in the EITI. This is serious mistake.

Liberia was likewise forced to confront the major challenge of natural resource governance in the wake of a civil war. In 2009, the Liberian government passed the Liberian Extractive Industries Transparency Initiative Act, requiring the disclosure of revenues, payments, and contracts from all government agencies and companies involved in natural resources. Liberia has since been on the cutting-edge of extractive industry transparency. Libya should follow the example of Liberia and 23 other natural resource producing countries around the world and join the EITI.

These moves towards oil revenue sharing, resource cash transfers, and transparency won’t be easy, and will require confronting some entrenched and powerful interests. But they are indeed possible, as other countries rebuilding from the ashes of civil wars have demonstrated. If Libyan reformers focus their energies on these three key measures, their democratic transition will stand a fighting chance of success.