The development of a structure to evaluate petroleum fiscal systems in Africa
Wait, Charles Victor Requier
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Petroleum fiscal systems are one of the main factors investors consider when making an investment decision. Host governments are tasked with being the custodians of their countries’ natural resources and are therefore responsible for the design, evaluation and implementation of petroleum fiscal systems. It is one of the few real factors that host governments can influence to attract oil sector investment, since host governments cannot influence the geology of their country or the type of oil reserves they hold. Within this context, mineral taxation serves specific functions, while the oil sector’s characteristics make petroleum taxation unique. Furthermore, the scarcity of non-renewable resources such as oil creates economic rent when the resource is extracted. The ‘fair’ division of this economic rent between the host government and the producer (international oil company) is a primary objective of petroleum taxation. Governments can use various taxation and non-taxation instruments to collect their share of economic rent. The different ‘combinations’ of taxation and non-taxation instruments used by host countries are controlled or organised by a country’s petroleum fiscal system. The objective of the host government is to maximise its revenues, while investors want to maximise profits in relation to the risks they take. This creates a trade-off between maximising government revenue and promoting investment. Therefore, oil producing countries face a trade-off between attaining a fair share of economic rent and providing sufficient incentive for upstream exploration and development by international oil companies. Within this context, African countries are in need of oil sector FDI to exploit their natural resources. Oil resources could hold the key to unlocking Africa’s growth potential. However, Africa faces key competitive threats from competing oil producers. Africa must adapt to a range of changing global conditions in terms of the supply of oil resources: more exploration areas and countries are adding to the supply of exploration acreage, more regular bid rounds and growth in the farm-in/farm-out markets, competitive macro-economic conditions and enhanced protections for foreign investors. Accordingly, petroleum fiscal systems are a critical policy consideration. From the government policy perspective (evaluation), the government-take statistic is most often used to evaluate and compare petroleum fiscal systems. The government-take is a measure of the government’s share of economic profits, normally expressed as a percentage. Although data on individual fiscal systems are publicly available, there are no recent mapping and comparative analysis of petroleum fiscal systems between countries. For this reason, this thesis identified the need to conduct such a comparative analysis. Furthermore, the investor perspective influences the government policy perspective in terms of attracting investment. For this reason, the Fraser Institute’s annual survey of the perceived barriers to investment in upstream exploration and production is also considered as part of the comparative analysis. From the wide variation in systems, it is important to emphasise that there is not a one-sizefits-all system that can be applied for all countries. Individual circumstances differ between countries, particularly in terms of the oil sector’s stage of development and the relative importance of the oil sector in comparison to the other sectors of a country’s economy. These factors together with the specific government’s approach to oil sector rents will all influence the specific make-up of the fiscal system. These differences also relate to a country’s state of development, i.e. developed, emerging or developing economy. Considering the wide variation in factors that can affect a country’s oil sector and petroleum taxation, it is difficult to be prescriptive on petroleum fiscal systems. While the government-take statistic is most often used to evaluate and compare petroleum fiscal systems, it does not consider the oil sector’s economy-wide impacts. Currently, there is no measurement instrument that considers the economy-wide impacts (benefits) of the upstream oil sector’s activities, made possible by upstream investment. For this reason, this thesis identified the need to develop a specific tool called the STRUCTURAL TAKE INDICATOR (STI), based on the structure of a country’s economy, which will expand the current limited focus on government take alone. The STI provides further clarity on the issues that are at stake. It is not only the government take (taxation) that is important, but also the extent of the oil sector’s economy-wide impacts. The focus is specifically on petroleum fiscal systems in Africa, considering Nigeria, Angola, Algeria and Chad. Countries that receive significant economic benefits from their oil sector’s activities could consider charging a lower government take, assuming this will promote further investment and with it further economic benefits in terms of the oil sector’s economy-wide impacts. This thesis represents a new contribution to the field of knowledge on petroleum fiscal systems by providing a recent comparative analysis of petroleum fiscal systems as well as developing a specific tool to measure the impacts that are wider than the government take. The oil sector’s economy-wide impacts can most directly be measured by the oil sector’s backward linkages, which embody the oil sector’s purchases from other sectors to enable the production of oil sector output. It is possible to measure forward linkages, but this falls outside the scope of this thesis. The focus of this thesis is the oil sector’s economy-wide (upstream) impacts, i.e. backward linkages. Social accounting matrices (SAMs) are used as the underlying database to analyse oil sector inter-sector linkages. The SAM data are used as input for calculating Leontief sector multipliers (multiplier decomposition) and extended by structural path analysis (SPA), which provides additional detail by tracing the various paths (sectors) through which the oil sector’s multiplier impacts spread throughout the economy. Based on the SAM and SPA analysis, the oil sector can influence the host country’s economy in terms of three categories: the impact on other sectors (activities) through backward linkages, the use of factors of production (capital and labour), and the impact on households. Considering the relative importance of these three components, the components are assigned weights that are used to combine these impact components into a single indicator, i.e. the STI. The STI serves as an additional measure to government take when evaluating petroleum fiscal systems. The development of the STI is a unique contribution to the literature on petroleum fiscal systems. Therefore, the STI serves to enhance the evaluation of petroleum fiscal systems by filling the current gap in the field of petroleum fiscal systems. Countries with a large (positive) STI score receive significant economic benefits from the oil sector’s activities. In such cases, a slightly lower government take could be acceptable, assuming this will promote further investment and with it further economic benefits in terms of the STI. Therefore, such a host government may consider implementing a more lenient fiscal stance in order to promote upstream investment and reap more of the economy-wide benefits. In contrast, host countries with a relatively low (close to zero) STI will have to first consider policies to expand the oil sector’s economy-wide impacts before opting for a more lenient fiscal stance. This is especially true for countries with an established oil sector and a long history of oil production. Within such a context (low STI score), the ancillary policy would be to focus more on the extent of government take, by attempting to increase the fiscal (tax) benefits for the host country until such time as the STI could be improved. However, in the case of countries with a nascent oil sector, still to make significant discoveries, the host government should take cognisance of the lack of proven reserves and production when interpreting their STI, since the sector is still in the start-up phase and still needs to be established before any significant sector linkages can form. Within this context, favourable tax policies tied to policies that stimulate the development of local supply networks (promoting backward-linkages) may be conducive to developing the oil sector and the potential for future economic benefits. Furthermore, the current oil market outlook will affect exploration in the medium to long term. Host countries should incorporate such price fluctuations into their oil sector policy stance. In the current low price environment, the STI is especially important. Focusing on the oil sector’s economy-wide impacts (as measured in the STI), host governments can accommodate investors with more favourable regimes, which can help to sustain investment during periods of oil price downturns. However, the policy should also allow for upward flexibility during periods of sustained price increases.