Economic history from below the tropics.

Saudi Arabia vs Uruguay, Matchday 2, 20 June at 4pm (BST)

June 20, 2018 by Emiliano Travieso

So the genie comes out of the economic history lamp and you ask for vast green pastures, or plentiful oilfields, or something along those lines. But as usual with genies and wishes there is a catch, or several. First of all, the genie’s gift can be irritatingly resource-specific: you end up with a grassland economy that produces food for ten times its population but has no domestic fossil energy sources—like Uruguay—or with a desert country that has unparalleled oil reserves but relies on imported food to keep workers fed—like Saudi Arabia. The blessing can also be dormant for a long time, since the potential of resource abundance to fuel economic prosperity is endogenous to technological change: the subsoil of Ghawar Field became more important than the Al-Ahsa oasis in eastern Saudi only when structural drilling allowed oil to be discovered there, in the same way in which the comparative advantage of the natural grasslands surrounding the River Plate was only revealed when foreign cattle were introduced.

Thirdly, and in the long run perhaps more importantly, the tendency to focus on the genie’s shiny gift can syphon all the investment, manpower, and skills that other industries would need to develop, producing a dual economy which is at the technological frontier in its natural resource-based industry (such as Uruguay when it comes to computerised cattle traceability, or Saudi in geo-steering technology for placement of oil wells) but with comparatively low labour productivity levels in most other sectors. The best-known drawback of the genie’s blessing is a corollary of the risks of such excessive specialization: natural resource abundance can often translate into export dependence on a handful of products (or a single one), which can, and periodically does, lead to Dutch disease episodes: currency appreciation resulting from export success compromises the competitiveness of other domestic industries. And finally, no natural resource exporter, even swing producers as large as Saudi Arabia, completely controls the international price of their commodity. When the international prices for oil or beef fall, you can be sure the genie will be laughing and your balance of payments will hit the fan (just ask Venezuala).

The gift of natural resource abundance can turn into a diabolic blessing, but it can also sustain high income levels and, crucially for its political sustainability, it can produce large fiscal revenues without having to resort to direct taxation of its citizens on a large scale, which is good for any government, whether in a democratic republic or in a hereditary monarchy. For some reason people tend to like high incomes, low taxes, and public subsidies and provision of welfare. The three rarely come together, but when they do mass immigration follows (even if migrants sometimes don’t get access to the third component).

Take Saudi Arabia since the 1970s or Uruguay before 1914. Fiscal revenue per capita, made almost entirely of indirect taxes on foreign trade and profits from state companies, was extraordinarily high: no state in the world (at least according to the United Kingdom’s Statistical Abstract) collected more custom duties per capita than Uruguay between 1890 and 1910, and no state-run company (or any company for that matter) matches Aramco’s consistent profit margins. First-generation (i.e. foreign-born) immigrants formed a large proportion of the total labour force—43% already by 1973 in Saudi, 27% in Uruguay by 1908, and almost 50% in its capital province—with the large public sector employed then in both cases almost a third of the workforce (with defence looming large). Central government spending was high (at 16% in 1900s Uruguay and 25% in present-day Saudi Arabia, among the highest in the world in their respective periods) sustained not only by fiscal incomes but also by the proven capacity of the state to tap into revenues from natural resource exploitation which meant that the government could borrow internationally at low rates. Also, when you boast one of the ten highest per-capita average incomes in the world investors and lenders are never shy, regardless of how inclusive your political institutions look. 1900s Uruguay’s government led a process of expansion of political voice and secular, progressive social legislation (the 8-hour day, union rights, right of women to divorce, separation of state and church, abolition of the death penalty), whereas the social contract in Saudi Arabia since the 1970s was built around the effective provision of material welfare without leading to political reform or widespread mechanisms for making labour rights effective or preventing human rights violations. In both cases foreign capital and foreign labour arrived to take advantage of high natural resource-to-people ratios.

The genie’s blessing can lead to multiple outcomes which often become sticky, stable equilibria. Commodity-led growth in late-twentieth century Saudi Arabia and pre-1914 Uruguay underpinned the development of two very different societies, but in both cases resulted in a rentier distributive state which could maintain high material standards of living for a small population without taxing them directly. Even if terms of trade were to be favourable in the long run and pastures remain green and oilfields never dry up, natural resource abundance is of course as dependent on the numerator as on the denominator: a rising population can reverse the ratio, and commodity-led development is a small country game, as large economies have to diversify if they want to get richer (on the challenges of that, see Tom’s post on Egypt v. Russia). Uruguay’s early demographic transition (when fertility rates halved from about 6 to 3) in the twentieth century somewhat curbed the impacts of the long stagnation of the livestock economy after 1914, but the current fertility rates in Saudi (at about seven children per female) suggest that the genie might have the last laugh in the twenty-first century Kingdom.

Tom Westland and Emiliano Travieso are PhD students in economic history at the University of Cambridge.