/ 16 May 2016

Low oil prices: An opportunity to set democratic frameworks for governing oil resources

Democratic management of such a wealth-creating sector is a value in its own right.
Democratic management of such a wealth-creating sector is a value in its own right.

How do governments respond to the historically low oil prices? Could current price levels contribute to lowering the opportunities for corruption and, by contrast, provide an opportunity to initiate and adopt more democratic and inclusive frameworks to govern and benefit from oil revenues?

Low oil prices

Oil prices have dropped from $145 per barrel when the price peaked in 2008, to an average of $35 in the first quarter of 2016. This is said to be historically low. However, according to an estimate from the Harvard Business Review, the average price of a barrel of oil for the last 150 years is actually at the level of current prices. Even when compared to the past 10 years, oil prices are higher in real terms according to the World Economic Forum. Hence, there seems to be no historic low, despite what is often presented.

Indeed, while oil prices have changed compared to recent years, in the long term there is no significant variation. So why have recent changes in the oil industry created a commotion? It is because the way prices are determined has changed dramatically. New producers, technological advances and related costs are all factors that influence the current price.

The big oil producers have changed over the years, with the United States almost doubling the number of barrels of crude oil per day in less than 10 years. Shifts in countries like Iran, Iraq and Venezuela have also had an impact as the first two have increased their oil production, while Venezuela is falling behind, according to data from the US Energy Information Administration from 2008-2015.

In addition to these shifts, new and cheaper technologies for exploration and exploitation have made a difference in how prices are determined, as members of the Organization of Petroleum Exporting Countries (OPEC) can no longer control oil prices.

The United States’ share of oil production has increased because of new fracking techniques to exploit oil shale reserves. The same technologies are being used in other shale gas producing countries like Argentina, Colombia and China. When traditional oil producers like Qatar, Russia, Saudi Arabia and Venezuela decide to freeze oil production to control the tumbling prices, as just done in February 2016, new shale oil companies are ready to fill the need.

The conclusion is that oil prices are not low, but rather that they were historically high until recently and the way oil prices have been defined over the past decades has changed.

Governments, citizens and oil

Once the oil prices picture clears, we can better analyse how governments are reacting to this new scenario. As the oil industry changes and expectations of large revenues decrease, governments and citizens respond.

Different scenarios can be built depending on countries’ levels of economic dependency of oil, the numbers of years to deplete countries’ oil reserves, the amount of sovereign wealth funds governments managed to invest during prosperous years, population sizes, the quality of political institutions and more.

Bernhard Hartmann and Saji Sam explore some of these factors in their recent study What Low Oil Prices Really Mean. They compare population scale versus the years to deplete oil reserves and sovereign wealth funds, plus the share of oil and gas revenue in government budgets for 2013. The main conclusion is that countries with low oil reserves, big populations and over-dependency on oil might face severe stress when $50 a barrel becomes the standard price.

In countries where budgetary constraints are not critical due to large oil reserves, solid investment in wealth funds, small population and prudent economic management, reforms are discretionary to governments. This might be the case in countries like the United Arab Emirates, according to the authors. In countries like Norway where all these conditions coincide, reforms might be at the discretion of its government and democratic institutions as well.

But in countries like Nigeria, Russia or Venezuela stress can be more evident, pressuring governments not only to revisit their oil dependency and budget priorities, but also the whole framework for governing oil and gas.

Revenue sharing schemes, administration of resource ownership and extraction rules, transparency and stakeholder participation in the decision chain might be one way forward. For countries like Nigeria, Russia or Venezuela, much needed reforms might no longer be at the discretion of government officials, but would come from citizens demanding strategic changes in the governance of oil and gas management, as seen in recent developments in a number of countries as described below.

In Venezuela, citizens are demanding reforms by changing the balance in power structures. In late 2015 the government of Nicolás Maduro and his party lost the parliamentary elections for the first time in 16 years. With a more than 100 percent inflation rate, a 10 percent decrease in the gross domestic product (GDP) in 2015 and new dynamics in international oil prices, citizens demand political reforms, from releasing imprisoned opposition leaders to free media.

The reforms requested in Venezuela aim to strengthen democracy and indirectly the management of the oil revenues.

In countries like Brazil and Ghana, two newcomers on the oil and gas markets, the disillusion caused by the falling prices has contributed to citizens and politicians alike questioning and revisiting the way the oil industry is governed. In both cases, there are demands for political reforms to decrease corruption and strengthen transparency in the oil industry.

The International Institute for Democracy and Electoral Assistance (International IDEA), together with the Natural Resource Governance Institute (NRGI), is currently providing support to political parties in Ghana to better respond to these citizens’ demands in the middle of an election year.

Window of opportunity

A lot of pressure is put on countries and communities to adopt flexible oil investment frameworks, to gain competitiveness in the international oil market. Resource-rich countries or communities can also quickly implement oil exploration and exploitation projects to prevent investors flying to other locations. Under high oil prices such pressure becomes more evident, pushing countries to sometimes adopt short-term investment friendly policies and reforms, that at times undermine democratic and sustainability standards. The opportunity to get rich quickly can bewitch the most skeptical.

The new state of oil prices is an opportunity for governments, citizens, interest groups and business associations to create strategic alliances to promote more democratic and transparent frameworks to govern oil revenues. With no pressure from high oil prices, quick exploitation and exploration agreements that often lead to loopholes and inconsistencies can be avoided.

The current ‘low’ level of oil prices is predicted to continue, at least for a while. So governments, social movements, and interest and business groups dedicated to democratic governance in policy and practice, should push for and adopt the necessary political reforms in the oil sector; including better transparency, more stakeholder participation, increased accountability and sound economic policies for sustainable and inclusive development and a redistribution policy that is long-term and sustainable.

Why would more democratic frameworks to govern oil revenues matter? The more inclusive the consensus on how to manage oil resources in truly democratic ways, the better for investors’ profit in the long term. A national consensus on this matter gives predictability for companies in terms of legal frameworks, government policies and citizens’ take on oil governance, as the case of Norway has shown over time. But above all, democratic management of such a wealth-creating sector is a value in its own right, irrespective of what it might lead to.

The author, Catalina Perdomo, is a program officer on democracy and development at the International Institute for Democracy and Electoral Assistance (International IDEA).