Going Dutch?

With vast natural deposits, Mozambique is uniquely placed for a sustained economic boom, and the LNG sector is strategic in this regard. According to the country’s IMF report, there are potentially reserves of over 100 tcf from recent discoveries in Anadarko and Eni, which could make Mozambique the third largest exporter globally.

As a result of this, the government is presented a unique opportunity to raise living standards, as the country currently ranks 178 of 187 nations of the Human Development Index; however it also comes with potential costs. In a phenomenon widely known as Dutch Disease, Mozambique faces a potential decrease in long-term competiveness derived from the negative economic impact of a rapid increase of foreign capital inflows. According to Alex Segura, Resident Representative of the IMF in Mozambique, the rapid development of natural resources can create undesirable distortions in the economy, and these need to be managed through stronger fiscal rule and the introduction of measures that smooth out volatility. This dynamic poses economic, social, and financial challenges, which the government must manage in order to achieve sustainable long-term growth.

One of the most difficult hurdles that the government faces is mitigating volatility in the medium and long term. According to several growth scenarios posed by the IMF, resource revenues could potentially make up 40-50% of total revenues, which in turn sharply increases the country’s exposure to swings in the global economic cycle. This would not only have a significant impact on domestic economic activity, but also on government revenue. In terms of fiscal policy, the government’s ability to tax the non-resource sector would be sharply diminished, including industries such as transportation, agriculture, and tourism; the shift towards LNG development would create a tax policy gap that the government must quickly fill to attain the right kind of mix that rebalances revenues. In terms of energy framework, the government should adopt comprehensive policies on royalties and windfall revenues, as well as on strengthening its regulatory legislation. This requires appropriate fiscal policies that enhance transparency and accountability to best maximize the allocation of revenue derived from expansion of the country’s LNG sector.

In the short term, volatility could also come in terms of rapid upswings and downswings in foreign capital. Given the sustained growth of the local gas industry and expected rise in global demand for this resource over the coming decades, Mozambique faces currency distortions. This in turn could decrease competiveness across other sectors in the economy. One of the key measures to counteract this phenomenon is the creation of a sovereign wealth/development fund. This fund would act as a balancing tool that diversifies Mozambique’s money through investment in non-resource related areas.

Another key issue that the country faces through the rapid development of extractive projects is the creation of infrastructure that also supports growth across other spheres. Besides the vulnerability to global commodity markets that comes with relying on the extractive sector, recently exemplified by the fall of oil prices, there is an opportunity cost incurred from not developing supportive industries. Key to tackling this issue is the establishment of a well-designed public policy strategy that maximizes the allocation of resources in order to achieve broad-based growth. An instrumental area is investing in supportive infrastructure that aims to improve the national transportation and the energy grid. In the case of Mozambique, successful projects such as Cahora Bassa demonstrate the positive economic benefits derived from direct employment, as well as associated economic activity as an indigenous industry flourishes.

Mozambique has been presented with a path to achieving sustainable long-term economic growth, which could lift millions of citizens out of poverty and expand its middle class. However, in this process the government must develop a comprehensive set of policies that have a long-term outlook to maximize the benefits from developing vast gas reserves, while avoiding the pitfalls of sudden shifts in investment flows and the temptations of short term economic gains.