Clive Thomas, Stabroek

A Guyana State-owned oil refinery could put the aspirational target of a green state in peril

By  October 22, 2017  stabroek news

Today’s column concludes my discussion of Decision Rule 2, which posits: there is no overall economic justification for a Guyana state-owned oil refinery (of approximately 100,000 barrels/day). An effective local content requirements (LCRs) regime for its coming petroleum sector does not support this either, despite the claim it is required in order to maximize downstream value added. Today’s column draws on my previous review of the World Bank’s study of 48 countries experiences in this field. Before addressing this directly, a couple of observations are warranted.

First, in last week’s recap of UNCTAD’s review of South Africa’s experiences, I had stressed in support of Decision Rule 2 that, the earlier naïve/trivial view of LCRs as simply the percentage share of local inputs in a domestic producer’s output, has evolved into the more dynamic economic notion of: “localization/indigenization of production, value added, and development potential of domestic firms, operating throughout the petroleum sector’s value chain”.

Additionally, when modern trade analysts refer to the need to guard against the protectionism inherent in LCRs, they are not only referring to the naïve/trivial notion of their keeping out imports from other countries, but to the more dynamic concept of hurting (in any way), the commercial interests of trading partners. Such hurting arises in multiple guises: local subsidies, tax expenditures for domestic firms, bailouts, subsidized/cheap credit, or indeed, the use of non-market rules and directives in government procurement.

Such principles are underwritten in the World Trade Organization’s (WTO) legal framework. The WTO regulates LCRs under three general provisions and one plurilateral provision. The three general are: Trade Related Investment Measures (TRIMs); Agreement on Subsidies and Countervailing Measures (ASCM); and, the General Agreement on Trade in Services (GATS). And, the plurilateral provision refers to Government Procurement Measures (GPM).

Furthermore, under the EU-Cariforum, Economic Partnership Agreement (EPA), Guyana has enshrined similar obligations. Thus, any Guyana refinery that harms the commercial interests of its trading partners are legally challengeable.

The irony however, remains: an enormous range of countries large and small, rich and poor, industrialized and non-industrialized, and located in every region of the globe have implemented LCRs in the recent past. Further, they continue to do so. This practice however, does not guarantee Guyana would get away with it.

 

World Bank findings

My previous presentation of the World Bank’s review of 48 countries experiences with state-owned refineries had elicited diametrically opposed, but equally wanting responses. Several readers felt that by reputation alone, the World Bank study is solid and definitive. They completely accepted its findings. Others, chastised the World Bank for being “neo-liberal”/biased, and consequently, dismissed their findings “on principle”. None of those I had questioned at the time (on both sides), admitted to having studied, or even read, the research findings for the 48 studies. Today, I do not expect an improvement on this. I do believe, however, if taken on the merits of the work, the many findings are extremely useful. I have reduced these to eight main ones, listed below.

 

Findings I-IV

The first finding focused on design features; distinguishing between assertive policies (mandated targets) and encouraging policies (relying on incentives and aspirational targets). It recommended the use of cost-benefit appraisals precedent to any target-setting.

The second finding stresses that LCRs should be coordinated into the public sector’s development policies, with clearly defined institutional responsibilities, for oversight and monitoring of performances.

The third finding is that LCRs regimes, should be driven by letting markets lead, because of their intrinsic superiority (efficiency) when compared to non-market modalities.

The three findings indicated above led logically to the fourth, which is: LCRs should prioritize the promotion of competition and innovation as their overarching objective in order to stymie incipient protectionism and the development of vested interests.

 

Main findings V-VIII

The fifth main finding is that LCRs should be biased towards technology and knowledge spillovers from petroleum to other sectors through backward, adjacent and forward linkages.

The sixth finding zeroes in on the pervasive skills shortages found in all the studied countries. A stunning finding is that, irrespective of the design orientation of LCRs, the skills factor has had the most important impact on outcomes.

The seventh finding reminds us that a LCRs regime has both direct and indirect costs. These are the administrative/compliance direct costs of the institutional/regulatory bodies and the indirect costs to the economy of poorly/wastefully/misguidedly operated LCRs. This suggests that the more complex/vague/ambiguous are the LCRs, the more difficult they are to monitor/regulate, thereby, emphasizing the importance of cost-benefit appraisals for each and every LCR.

The final finding is that varied experiences reveal industrial clusters at home, linked to regional (Caricom) ones could create trade synergies and broaden the geographic impact of Guyana’s petroleum find.

Schedule 1 summarizes the findings.

 

Schedule 1: World Bank Main Findings

Item      Main Findings on LCRs1 in Petroleum Sector

  1. Key Design Features: Assertive (mandated targets) or Accommodating

(incentivizing behaviours)

–              Clear and realistic objectives

–              Cost-benefit appraisals for all LCR

  1. Coordination of Government agencies and clear delineation of institutional                responsibilities for oversight and monitoring.
  1. Address market inefficiency as the overall strategy.
  2. Promote economy-wide competition and emergence of an efficient domestic economy.
  1. Foster technologies and spillover effects.
  2. Support development of adequate local skills
  3. Avoid imposing high administrative and compliance costs.
  4. Develop industrial clusters and regional trade synergies.

Note:      1LCRs = Local content requirements/policies.

Source:   S. Tordo et al, LCRs in the Oil and Gas Sector, World Bank, 2013.

 

Conclusion

Clearly none of these findings would support a project as reported on by Pedro Haas. I believe, however, that my general review conducted over the past few weeks reveals clearly that, not only is there no overall economic justification for a state-owned oil refinery, but further, the strategic option for promoting a green state, sustainable development, and the pursuit of the Sustainable Development Agenda and Goals, would come crashing down, if in the present circumstances the Guyana state misguidedly seeks to build such an oil refinery, at a cost of 1.6 times its GDP.

 

I shall expand on the implications of this conclusion, with some proposals next week.

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