Early Warning Signs of the Dutch Disease in Ghana

The issues of resource curse and the Dutch Disease have been subjects of massive research and discussion especially relating to agricultural production upon which many developing countries depend. The term ‘Dutch Disease’ was coined by The Economist in 1976 to refer to the negative consequences of North Sea petroleum on Dutch industrial output and connotes the effects of a hard currency inflows linked with rising resource exports resulting in an appreciation of the real exchange rate (Pegg 2010).

For a conclusion on whether or not the Dutch Disease exists, Larsen (2005) notes that the manufacturing sector must have been dismantled and reversal of the sector must prove cumbersome. The rapid sub-optimal over-expansion of the resource sector coupled with an unfavourably contracting manufacturing sector and an appreciation of the real exchange rate is often used by researchers to refer to the phenomenon of the Dutch Disease (Larsen 2005; Hjort 2006). Corden and Neary (1982) identified two distinct paths through which the phenomenon operates thus; the resource movement and the spending effects. 


They note that the two phenomena are premised on the co-existence of booming and lagging sub-sectors within the traded sector. The resource movement effect is manifested in the migration of skilled workers to the booming extractive sectors who are replaced by unskilled workforce in the agricultural and manufacturing sectors. The rising wages needed to attract the required skilled labour results in exchange rates appreciation with extra spending on domestic goods and services. 


Pegg (2010) also noted that the Dutch Disease is primarily applicable to economies with booming extractive resource sector coupled with a lagging manufacturing and agricultural sector leading to a drift of labour and capital from these sectors into the extractive sector as well as rising cost and reduced competitiveness of the agriculture and manufacturing sectors. Davis and Tilton (2005) however identified the Dutch Disease phenomenon with the benefit of facilitating through the newly discovered resources, the transfer of benefits to the booming sectors of the economy from the less thriving sectors.


How likely is the Dutch Disease?


The spending effect, factor movement effect and exchange rate appreciation are used to assess the presence of Dutch Disease in an economic environment. These three elements are employed to test for initial symptoms of the ‘Dutch Disease’ resulting from the commercial production of oil and gas in Ghana.


The manufacturing sector of Ghana expanded quite rapidly from 7.6 per cent in 2010 to 17.0 per cent in 2011 but sharply declined to five per cent in 2012. Whether the decline in growth from 2011 to 2012 is an optimal or sub-optimal response to the growing oil and gas sector would depend on the flexibility of the economy and the sufficiency of data to prove a real decline resulting from oil production. The initial decline can therefore not be conclusive of the presence of the Dutch Disease. However, some movement of resources such as finances, skilled personnel and investments from the manufacturing sector to the booming oil and gas sector may have accounted for the decline. If the manufacturing sector fails to recover from this initial decline in subsequent years, there might be reason to predict that the economy is falling into the trap of the first symptom of the Dutch Disease.

The second element that is analysed for the imminence of Dutch Disease in Ghana is the spending effect. The distribution and utilisation of petroleum proceeds in the Domestic economy has an effect on the aggregate demand and the competitiveness of the manufacturing sector. The receipts from the petroleum sector are distributed in accordance with the relevant sections of the Petroleum Revenue Management Act, (PRMA) 2011 to the Ghana National Petroleum Corporation (GNPC), the Annual Budget Funding Amount (ABFA) and the Ghana Petroleum Funds (GPFs) with the GPFs comprising the Ghana Heritage Fund (GHF) and the Ghana Stabilization Fund (GSF).


Aside the share of GNPC which is used for the purposes of equity financing and carried and participating interest, a greater portion of the amount allocated for ABFA and GPFs goes into public expenditure. These processes commencing with a substantial rise in aggregate demand, inflated prices, rising interest rates, increases in wages and currency rate appreciation would result in a strain on the competitiveness of the manufacturing sector. The spending effect is not however attributed wholly to rise in public expenditure from the oil sector though this can be linked to the ability of government to continue to roll out the Single Spine Salary Policy (SSSP).


The resulting rise in wages provides the initial channels for the influx of the Dutch disease effects. This backs the findings of Corden and Neary (1982) that the resource movement effect results in the migration of skilled workers attracted by high wages into the booming extraction sectors and who are replaced by unskilled workers in the agriculture and manufacturing sectors. They note that the rising wages leads to exchange rate appreciation and increased spending on domestic goods. Investment of a large proportion of petroleum proceeds and the resulting effects on the domestic economy without complementary policies to limit spending are favourable symptoms of an emerging spending effect which could produce a Dutch Disease effect on Ghana’s economy.


Investment in productive sectors and expansion of the export base through the revenue generated from oil and gas is crucial for sustainability. Significant investment in establishing industry to add value to raw export products such cocoa, coffee and in import substitution industries (such as sugar) as well as agricultural modernisation are useful sustainable investment destinations for petroleum revenues. Spending on priority sectors of the GSGDA should be scaled up gradually to encompass processing industries, develop linkages with the agricultural sector and build a stronger economic base even in the absence of oil and gas.


The ‘gradual scaling-up approach’ is recommended for petroleum revenue utilisation in Ghana. Even though the PRMA prescribes important scaling-up features such as stabilisation buffers and external savings, the limitations placed by the Act and discretion granted to the Finance Minister have reduced the ability to accumulate significant buffers to cater for shocks given the country’s petroleum production profile. For example only one out of the five lifting for 2012 had a percentage lodged in the GHF and GSF. This provides an avenue for random spending in periods of oil revenue surge. Public investment should be planned and gradually scaled-up even during revenue bursts.