Natural Resources Decrease Income Inequality in Resource-Rich Countries

16:28, March 29, 2021

The main conditions are a developed democracy and a transparent market economy

A group of researchers from Russia, Germany, the Czech Republic, and Switzerland contest the common belief that resource-based economies have higher levels of within-country inequality than resource-scarce economies. The researchers document a direct causal link between natural resources and within-country inequality and conclude that the extraction of oil and gas can reduce inequality or has no significant effect on it.

The results were published in the journal Empirical Economics.

“When we compare the natural resource rents to GDP 10 years after the discovery of natural resources vs. 1 year before the discovery, we observe that the resource rents increase by approximately 3 times in Denmark, 13 times in Norway, and 42 times in the Netherlands,” says Olga Popova, an associate professor of the department of economics at Ural Federal University and a senior researcher at the Leibniz Institute for East and Southeast European Studies, co-author of the study. “However, we did not observe an increase in income inequality in the studied countries compared to the control ones. Moreover, in Norway, Denmark and the Netherlands, inequality was significantly lower.”

The researchers have examined the causal effect of natural resource discoveries on income inequality using data from 1947 to 2009 and applying the synthetic control method, a method proposed by American and European economists in early 2000s. They focused on the natural discoveries in Denmark, the Netherlands, and Norway in the 1960–1970s and used top 1% and top 10% income shares as the measure of income inequality. The data was compared with the statistics of the same period on the income of the population in the control countries - Finland, Sweden, Germany, Ireland, France, Switzerland. These countries are comparable to Norway, Denmark, and the Netherlands geographically and in terms of ethnic diversity, level of democracy, economic development, education, and health, but are not rich in natural resources.

The researchers believe that by the time the oil and gas were discovered in these countries, political and economic institutions were developed there. This blocked the risks of concentration of control over resources, property, and capital in the hands of the elites, expansion of the state apparatus, and the exacerbation of corruption.

“The maturity of democratic and market institutions hindered the flow of labor to the extractive industries and regions, prevented inflation, degradation of education, and technological lags. Combining these achievements, Norway, Denmark, and the Netherlands have avoided the “resource curse” and, ultimately, an increase in inequality,” the researchers state.

Equal and fair redistribution of resource rents ensured real accountability of the government to voters, and an open and transparent economy. This happened, for example, with the help of national reserve fund and high taxes. This stimulated further economic growth, including in high-tech industries, the development of the social sphere, the creation of new jobs, and a salary growth. Moreover, these developments have occurred soon after the start of production and export of oil and gas resources. The result is the creation of welfare states and, at the same time, a 5-10% reduction in taxes on personal and corporate income by the end of the last decade.

“The key to understanding the causal link between the availability and use of natural resources, on the one hand, and income inequality, on the other, should be sought in the history of the producing countries, in the prevailing political and economic structures and principles,” says Olga Popova.

Future work of researchers will be devoted to the analysis of other resource-rich economies, such as Russia, Kazakhstan, and Iran.  

Article: Hartwell, C., Horvath, R., Horvathova, E. et al. Natural resources and income inequality in developed countries: synthetic control method evidence. Empir Econ (2021). doi.org/10.1007/s00181-021-02023-5