Manage risks raised by oil exports

Last week Kenya moved a step closer to becoming the first country in East Africa to export oil. Media reports indicate that the crude oil was transported in the Early Oil Pilot Scheme and will be kept in Mombasa as the country looks for viable international markets.

While Kenyans may be jubilant at the prospect of earning revenue from oil, and hope that those proceeds will lead to prosperity and an improvement in their quality of life, key risks have to be managed.
First is the resource curse.

We are all familiar with the resource curse where natural resources such as oil lead to conflict, facilitate corruption and generate an immense income divide with most citizens failing to benefit from the process of natural wealth.

The resource curse, as the IMF points out, indicates that on average after major oil discoveries, growth underperforms post-discovery forecasts. It is especially pronounced in countries with weaker political institutions. These countries not only fail to meet growth forecasts but their average growth rate is lower than before a discovery.

IMF points out that an oil discovery should increase output and hence growth; oil discoveries are worth 0.52 percentage point a year in growth over the first five years.

Kenya has only transported the oil to port, whether a buyer has been found is unclear and raises questions as to whether the country has the expertise to consistently find good quality buyers as well as ensure consistent supply. In the resource curse, countries are tripped up by the steps needed to turn discoveries into dollars. Time will tell whether Kenya will buck this trend.

The second risk is to manage profligate spending linked to an anticipation of oil-related revenue. Ghana is an example of a country that went on a borrowing spree based on overly optimistic revenue projections linked to generous oil barrel prices. When the commodity slump emerged, Ghana found itself unable to generate the revenue projected and service new debt obligations.

READ: Poor left out of mining profits as 'resource curse' hits Kenya

Kenya has to manage this dynamic carefully because, as the IMF points out, if oil prices fall enough, Kenya may see projects cancelled and miss out on anticipated investment, taxes, and jobs. And even if prices go higher, Kenya may only get a share of the increased profits through taxes.

Overly rosy expectations may lead to overly optimistic borrowing and risk over-exposure for both the lender and borrower. Thus, there is a need to manage exactly what oil can deliver in terms of revenue.

Finally, the global tide is turning away from fossil fuels; Kenya faces a conundrum. As the IMF points out, if there is no progress in combating climate change, poor countries are likely to be disproportionately harmed by the floods, droughts, and other weather-related problems.

But if global actions to address climate change are successful, poorer countries that are rich in fossil fuels will likely face a steep fall in the value of coal, gas, and oil deposits leading to a massive reduction in the value of their natural wealth.

In short, let Kenya be realistic that as a latecomer to the oil game, there are important risks to manage. And if we fail to manage them, the oil-related jubilance will fade very quickly.