This paper addresses one of the most serious problems of green national accounting. This is the lack of a methodology with which to estimate the correction to ...
The Valuation of Capital Gains and Losses on Natural Resources in the Construction of Green National Accounts* Anil Markandya and Pamela MASON Department of Economics and International Development University of Bath, Claverton Down, Bath, BA2 7AY, UK
Paper prepared for the Tenth Annual Conference of the European Association of Environmental and Resource Economists Crete, June 2000
Abstract This paper addresses one of the most serious problems of green national accounting. This is the lack of a methodology with which to estimate the correction to the national income of open economies that should be made for capital gains. We describe briefly the theoretical model on which the green national accounting framework is based, and the two major criticisms that have been made of this framework. The first of these is the fact that it does not account for capital gains, and the second is that while it accounts for the value of depleted resources, it does not necessarily do so using prices that are compatible with sustainability, resulting in a possible overestimation of sustainable income. While the problem of capital gains has been highlighted in the theoretical literature, very little empirical analysis has been done, due to the fact that such analysis requires estimates of future paths of natural resource prices and patterns of trade. This paper proposes and applies a methodology with which this difficulty can be overcome. We take scenarios of global economic growth and resource use developed by the International Institute of Applied Systems Analysis and the World Energy Council, and we derive the paths of resource prices and interest rates implied for each scenario. The fact that the scenarios are developed under an assumption of economic sustainability means that the prices derived represent sustainability prices. We then use these paths to calculate the capital gains implied for three world regions, namely Western Europe, the Former Soviet Union and the Middle East and North Africa, and compare them to the resource rents that would be deducted under the current green national accounting framework to account for the value of depleted natural resources. The results of this analysis illustrate its importance as an empirical exercise. For both Western Europe and the Middle East and North Africa, capital gains are shown to be as important as resource rents for the calculation of sustainable national income. The fact that the majority of the natural resources extracted by the Former Soviet Union are used domestically means that for that region, resource rents are more significant.
* This paper has been prepared under the SAUNER project, funded by the European Commission DGXII
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1. Introduction In this paper we explore the possibility of using global economic growth scenarios to provide information on the nature of capital gains, and on their relevance to the calculation of sustainable income. This issue is important for practical applications of green national accounting, as it has been shown that the current green national accounting framework is incomplete in not allowing for capital gains. Thus, it is important to carry out empirical analysis in order to ascertain how important the issue of capital gains is for national accounting. The paper begins with an overview of the theory behind the use of Net National Product (NNP) as a measure of an economy's income, based on Weitzman's (1976) seminal contribution. We look also at the use that has been made of this theoretical framework in the development of a framework of green national accounting, which involves adjusting national income as conventionally measured for environmental issues such as the depletion of natural resource stocks. We then go on in section 3 to discuss the two major criticisms that have been made of the green national accounting framework. The first is that, even if all environmental and other factors are accounted for, green NNP is generally not a measure of sustainable income. This is because unless the economy is already on a sustainable path, the prices at which depleted natural resource stocks etc. are valued are not consistent with sustainability. This may result in an undervaluation of the depleted environmental stocks and an overestimation of sustainable income. The second criticism concerns capital gains. Neither the conventional nor the green national accounting framework accounts for the capital gains and losses that accrue to an economy's assets due to exogenous price changes over time. It is this criticism in particular that is addressed by this paper. Section 4 describes the methodology that we use to address the problem of estimating the capital gains that accrue to an economy's oil and gas stocks, due to the fact that energy prices may be expected to rise over the next century as energy sources become more scarce. Estimating capital gains requires estimates of future resource prices and of the trade in resources. We use high quality scenarios that have been developed by the International Institute for Applied Systems Analysis (IIASA) and the World Energy Council (WEC). These scenarios, while they are not forecasts as such, consist of internally consistent hypothetical paths of resource use and trade, which can be used to ascertain the likely magnitudes of capital gains. Section 4.1 describes the different potential sets of circumstances explored by the scenarios. Section 4.2 then describes how we have derived from these scenarios the sets of natural resource prices and interest rates required to calculate capital gains. We then go on to describe how we use the natural resource prices and interest rates derived from the scenarios to calculate the capital gains to three world regions, namely Western Europe, the Middle East and North Africa, and the Former Soviet Union. These regions were chosen because of their diversity. The results thus offer an overview of the effects that capital gains may have on the sustainable income of different economies. The fact that the Middle East and North Africa is a significant natural resource exporter, the Former Soviet Union is a significant producer but not a significant exporter, and Western Europe is a net importer, turns out to be decisive in the relative significance of capital gains for these economies. 2
Section 5 presents the results of the analysis. We show the capital gains to each region under each scenario, illustrating also the relationship that capital gains bear to the region's GDP, and to the resource rents on the region's depleted resource stocks. The results suggest that capital gains can be as significant to the calculation of sustainable national income as resource rents. For the Middle East and North Africa, capital gains are shown to be almost 2% of GDP under one scenario, showing that when a region is a significant exporter of resources, capital gains can have an impact, albeit small, on sustainable income. The calculation of capital gains is, by definition, speculative, requiring as it does projections of natural resource prices into the future. We argue that the methodology presented here, by using the best quality scenario analysis available, provides the most promising way to make progress in this difficult area. The analysis in this paper constitutes a preliminary exercise in using this methodology to estimate capital gains for national accounting purposes.
2. The role of capital gains in calculating Green Net National Product Since the beginning of the 1990's the theory of green national accounting has developed in response to a growing concern that the economic indicators that we use to measure progress take insufficient account of the role of environmental factors in our current and continued wellbeing. This section describes the theoretical foundation behind the measure of Net National Product (NNP) that has been used to develop the green national accounting framework. The theoretical foundation of the use of NNP as a measure of income is Weitzman's (1976) proof, for an economy with a constant consumption discount rate and with no exogenous technical progress or price changes, that national income defined as consumption plus the value of net investment is equal to the interest rate times the maximised present value of the consumption path. Since the present value of the consumption (or utility) path over time is usually referred to as the intertemporal "welfare" of an economy, we call this type of income "welfare-based income." That is: Y
W
•
∞
= C + P K = r ∫ C ∗ (s )e − rs ds
(1)
s =t
Where YW is welfare-based income, C is consumption, C* is the PV-optimal path of consumption, P is a vector of prices at which the vector of capital stocks K is valued and r •
is the consumption discount rate. P K is thus "net investment", which means the sum of the value of changes, both positive and negative, in the vector of capital stocks. Notably for the subsequent development of the green national accounting framework, Weitzman •
pointed out that K should include the depreciation of natural capital stocks. Equation (1) shows that welfare-based income, represents the "return" on the economy's "wealth", where wealth describes the PV of the future consumption path and the rate of return is the consumption discount rate. Thus, NNP in the Weitzman tradition represents income in the sense of the consumption that, if maintained at a constant level, would yield the same present value of consumption as the PV-maximising path. Several authors have used this result in models of resource depletion and pollution to 3
calculate an environmentally corrected net national product known as Green NNP. One of the early theoretical explorations of correcting the national accounts for environmental and other non-market goods was Mäler (1991) who provided a theoretical rationale for deducting certain items from national accounts. In a similar vein, Hartwick (1990) suggests netting out the value of decreases in the stocks of renewable and non-renewable resources in the calculation of green NNP. This value is known as resource rents. However, this methodology has been criticised for two major reasons. The first is that income measured in the Weitzman-Hartwick tradition is not, even in theory, a measure of sustainable income, where sustainable income is defined as the amount that, given current circumstances, could be consumed in the current period without reducing consumption possibilities in the future. The second is that the context of Weitzman's (1976) analysis is the closed economy, and the capital gains and losses that accrue to an economy's assets due to exogenous price changes over time are not accounted for. We will briefly describe each of these problems in turn.
2.1
The distinction between NNP and sustainable income
One of the reasons for the lack of clarity in the interpretation of national income, is that the word "income" in the income accounting literature has at least two distinct meanings. The first meaning corresponds to welfare-based income, the theoretical foundations for which have been discussed above. This measure of income corresponds to the assumption of a path of economic growth that maximises the net present value of consumption using a constant discount rate. This path will not necessarily be sustainable, in that under certain circumstances the PV-maximising path may involve decreasing utility at some point in the future1. The second main definition of income is sustainable income. This is income in the sense of the maximum that can be consumed without reducing the capital stock so that consumption possibilities are reduced in the future. This is also known as Hicksian income, since it is based on Hicks's (1946) definition of income as "the maximum amount …(an economy or individual) … can spend this week, and still expect to be able to spend the same amount in each ensuing week." (Hicks 1946 p 174).2 Pezzey (1994) and Asheim (1994) showed that in general, welfare-based income and sustainable income are not equal. If the PV-maximising path is unique and not constant, then welfare-based income in the tradition of Weitzman is not attainable as sustainable income. Rather, welfare-based income identifies an “upper bound” on sustainable income, and is attainable only if an unsustainable consumption path can be switched to a sustainable path without changing the supporting prices, that is, if prices are exogenous. This does not hold for the closed economy of Weitzman's analysis. One of the conclusions of Pezzey's and Asheim's analyses is that in adjusting national income for the value of depleted natural capital stocks in order to measure sustainable income, one must ensure that the prices at which they are valued correspond to a sustainable economic path. This point has been raised because the methodology with 1
Dasgupta and Heal (1974) illustrate a case in which the consumption path that maximises the net present value of utility is eventually decreasing. 2 This distinction has caused some difficulty in interpretation of national income, in that income is often thought of as being the amount that can be consumed sustainably. For instance, Ahmad, El Serafy and Lutz (1989) note that "income is sustainable by definition: if it cannot be sustained, then it is wrongly estimated".
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which we tackle the problem described in the next section, that of accounting for capital gains, is argued also to account for the problem of unsustainable prices, since the prices we use are derived from sustainable scenarios.
2.2
NNP and Capital Gains
The second major criticism of Green NNP calculated in the Weitzman-Hartwick tradition is that it does not account for capital gains or losses resulting from exogenously changing prices, or from exogenous technical progress. Asheim (1996) and Sefton and Weale (1996) pointed out that calculating the Green NNP of an open economy whose sole activity is to extract and export a non-renewable resource yields a paradoxical figure of zero, implying that the economy earns no net income from the resource stock, since the entire net revenue must be invested as resource rents. This problem derives, as noted above, from the fact that Weitzman's (1976) model is a closed economy model with no technical progress, so that there are no capital gains. Sefton and Weale resolve this counter-intuitive situation by developing a measure of income that accounts for the future paths of resource prices and rates of interest. The income measure derived by Sefton and Weale consists of Green NNP, with the deduction of resource rents applying to resources used in domestic production rather than resources extracted domestically, and corrected for the effect of future of resource price and interest rate changes on the value of the economy's assets. This means a deduction for an increasing resource price path if the economy is a net resource importer and vice versa. Likewise, there is a deduction for an increasing interest rate path if the economy is a net creditor, and vice-versa. Sefton and Weale's national accounting framework is derived in the Weitzman tradition, and thus is not a measure of sustainable income. In the following section we describe a framework for calculating sustainable national income that is derived in a context of sustainability, so that the prices at which the depletion of natural assets are valued are consistent with a sustainable path. This framework also accounts for the capital gains to the economy's natural resource stock and its invested capital stock. Section 4 then goes on to discuss how we use simulated scenarios of global economic growth and resource use to make estimates of the adjustments to national accounts for capital gains that this framework suggests.
3. A framework for calculating sustainable national income As stated at the outset, the object of this paper is to explore the types of adjustment that might have to be made in the measurement of sustainable income, to account for the capital gains to natural resource stocks due to exogenously changing prices. In this section we describe briefly a national accounting framework that accounts both for the reduction in value of the resource stock due to depletion and for the increase or decrease in value of both manmade and natural asset stocks due to exogenously changing prices. This framework was developed by Mason (1999), and the derivation is described here. We assume that the representative agent in an economy has a utility discount such that the optimal intertemporal consumption path is constant. The economy exports the resource as well as using it in domestic production. Investment in the international capital market, A(t) 5
yields the international interest rate, r, which varies exogenously as does the export price of the resource, PR. Production in the international economy can take any form. Assumptions regarding the nature of domestic production, F(K,R1), are the standard concavity assumptions; FK>0, FKK 0, FR1R1 < 0, FKR1 = FR1K > 0 . K is the domestic stock of manmade capital, and R1 is the extracted resource allocated to domestic production. The produced good is a composite consumption-investment good. This good can be used to augment the domestic capital stock, K, it can be used for domestic consumption C1 or it can be exported, C2 at the price PC. The revenues from the resources R2 which are exported at price PR and from the exported consumption/investment good can be used to augment the stock of invested capital held abroad, or to import an alternative consumption good M at the price PM. The time-variant utility discount rate, δ(t), is such that constant consumption is the optimal strategy. The prices at which consumption goods are bought and sold, PC and PM, are assumed to be exogenous and constant. The economy's problem is to: ∞
Max
C1 ,C 2 r M , R1 , R2
∫ U (C , M )e
−δ (t )t
1
dt
0
•
s.t. K = F (K , R1 ) − C1 − C 2 •
A = r (t )A + P R (t )R2 + P C C 2 − P M M •
S = − R1 − R2 U C1 > 0, U C1C1 < 0, U M > 0, U MM < 0 K ( 0) = K 0 , S( 0) = S0 , A( 0) = A0 Writing the Hamiltonian, the first order conditions for an interior solution and the adjoint equations shows that the solution to this problem is one of sustainable consumption. It is then possible to derive an expression for sustainable investment for the economy by writing an "Augmented Hamiltonian", which consists of the current value Hamiltonian "augmented" by the capital gains to the economy's assets due to exogenously changing prices. It is hypothesised and later proved that this expression is a measure of the sustainable utility income of the economy. Differentiating this expression with respect to time and setting the result equal to zero results in an expression for the economy's sustainable investment, that is, the amount that must be invested in order to keep sustainable welfare constant. Sustainable consumption may then be expressed as gross output plus trade revenues, less than the amount of sustainable investment. Differentiating this expression shows that, as long as the rule for sustainable investment is obeyed, consumption remains constant and is thus sustainable. The expression for sustainable consumption, and thus sustainable income, is the following: S
ψ 1 1 F (K , R1 ) + C (rA + P R R2 ) − S [R1 + R2 ] + C ψK P P
∞ •
∫PR e 2
s =t
− δ (τ )dτ
∫ 0
S
+
1 PC
∞ •
∫ r Ae
− δ (τ )dτ
∫ 0
(2)
s =t
That is, sustainable income consists of output plus the revenues from capital invested abroad and from resource exports, minus resource rents (the value of depleted resource stocks) plus capital gains to resource stocks, plus capital gains to capital stocks held abroad. For simplicity we have not allowed in this formulation for depreciation to manmade capital; generally this would also have to be deducted from national income. 6
The first two terms represent GNP as currently measured. The third term consists of resource rents; this is the factor that is deducted from NNP under the Weitzman-Hartwick measure of national income as part of net investment in capital stocks. Under the present framework by contrast, the prices at which the depletion of the stocks is valued are sustainability prices. The final two terms account for capital gains from the exogenously natural resource prices and interest rate, respectively. These terms correspond to the adjustments for capital gains suggested in Sefton and Weale's extended measure of NNP in the Weitzman tradition. This paper makes empirical estimates of the first of these two terms, the capital gains accruing from an exogenously changing resource price, and compares this factor with the adjustment that must be made to NNP for resource rents. It is clear from equation (2) that we calculate capital gains only on exported resources. This can be explained intuitively as follows. Capital gains accrue to the owners of the resource stock on the entire path of resource extraction into the future. However, equivalent capital losses accrue to domestic consumers of these resources, cancelling out the capital gains to the resource owners. The net capital gains to the economy accrue then only to exported resources. It is extremely difficult to estimate the capital gains factor for the obvious reason that it requires estimates of the future paths of interest rates and natural resource prices. In the next section we suggest how simulation analysis of various scenarios of global growth and natural resource use can be used to overcome this problem, and to estimate the capital gains that would accrue to resource stocks, under a variety of assumptions.
4. An alternative approach to estimating the corrections to national income: using simulated sustainability scenarios to calculate capital gains. We have seen in section 2 that one of the most important problems with Green national accounting is that while adjustments are made to account for the value of depleted natural stocks, no adjustment is currently made for the positive or negative effects on income of exogenous changes in the prices of assets. Some work has been done in this area, as reported by Brekke (1997). Aslaksen et al (1990) calculate the capital gains to Norway's petroleum wealth, using official price projections and production plans. In this section we describe the methodology for estimating the corrections that should be made to the NNP of three regions, namely Western Europe, the Former Soviet Union and the Middle East and North Africa, for capital gains to natural resource extraction due to exogenously changing prices. This methodology has involved taking estimates of the resource stocks of the European Union and the costs at which these stocks can be extracted. Price paths for energy resources and interest rates on manmade capital have been derived using economic growth scenarios developed by the International Institute for Applied Systems Analysis (IIASA) and the World Energy Council (WEC). We noted above that the task of estimating capital gains involves making projections of prices and resource production and trade, and thus a degree of inaccuracy is inevitable. However, the fact that considerable time and resources have been devoted to making the IIASA-WEC scenario projections as realistic as possible means that they offer as reliable an indication of the possible significance of capital gains as is currently available. 7
The other advantage of using global simulation analysis for this task relates to the problem of the prices at which natural resource stocks are measured, and the fact that these prices may not be sustainable prices. The fact that we use simulated scenarios that involve sustainability of wellbeing means that the prices derived from these scenarios can be thought of as sustainability prices, thus avoiding the potential problem of undervaluation of natural resources. The next section describes briefly the scenarios from which we derive the expected sustainability prices, and section 4.3 goes on to describe the methodology by which the capital gains were estimated.
4.1
The IIASA global growth scenarios
This section describes the economic growth scenarios from which the prices are derived. This study has been performed by IIASA and the World Energy Council (WEC), and is described fully in Nakicicenovic et al (1998). The study involved developing and analysing scenarios for the following 11 world regions:
Acronym AFR CPA LAM MEA PAS SAS EEU FSU NAM PAO WEU
Region Sub-Saharan Africa Centrally Planned Asia and China Latin America and the Caribbean Middle East and North Africa Other Pacific Asia South Asia Central and Eastern Europe Former Soviet Union North America Pacific OECD Western Europe
The modelling was done by using a "scenario generator" to derive paths of final energy demand. The driving forces of the model are assumptions as to population growth and per capital economic growth. The modelling was undertaken for three scenarios, A, B and C. One of the common features of the scenarios that make them appropriate for the purpose of this paper is that they involve considerable economic development, particularly in developing countries. Thus, the prices that we derive from each of the scenarios can be broadly interpreted as sustainability prices. All of the scenarios assume the same demographic growth, namely that the world's population grows from 5 billion in 1990 to 10 billion by the year 2050 and to almost 12 billion by 2100. The assumptions of each scenario have been checked for internal consistency, and the exercise has been subjected to rigorous regional expert review. Scenario A is the "high growth" scenario, involving high economic growth and rapid technical progress. Economic growth is 2% in the OECD countries and almost twice as high in developing countries. This growth, and associated high levels of capital investment facilitate the assumed rapid rates of technical progress. This scenario assumes that oil and gas remain dominant during the 21st century. 8
The economic growth rates assumed under case A for the three regions which we analyse here and for the world are as shown in Table 1 below
Table 1: Economic growth rates, 1990-2100 in percent per year - Scenario A 1990 to 2020
2020 to 2050
2050 to 2070
2070 to 2100
FSU
1.2
5.4
3.4
2.2
MEA
3.6
3.9
2.9
2.1
WEU
2.2
1.7
1.4
1.4
World
2.7
2.6
2.4
2.1
Scenario B is the "base case" scenario and involves more modest assumptions regarding economic growth and technical progress. This scenario assumes that economic development in the South is less even. The lower rates of technical progress and lower energy demand mean that fossil fuels are relatively more important than in the other two scenarios that we analyse. Any possible sustainability constraints of this scenario concern financial and environmental factors rather than resource availability per se. The growth assumptions for the areas of interest in this scenario are shown in table 2 below. Table 2: Economic growth rates, 1990-2100 in percent per year - Scenario B 1990 to 2020
2020 to 2050
2050 to 2070
2070 to 2100
FSU
0.7
3.8
3.2
2.4
MEA
3.3
3.0
2.9
2.5
WEU
1.9
1.3
1.1
1.1
World
2.2
2.0
2.0
2.1
Scenario C is an environmental case and is optimistic not only regarding rates of economic growth and technical progress but also regarding international co-operation in the solving of environmental problems. Thus scenario C involves a series of measures for environmental controls, high levels of investment in environmentally friendly technology and policies to encourage energy efficiency. Although economic growth is higher in this case than in scenario B, energy use is lower. International agreements to reduce international inequality are also assumed, with transfers from industrialised to developing countries. Table 3 shows economic growth rates for scenario C. Table 3: Economic growth rates, 1990-2100 in percent per year - Scenario C 1990 to 2020
2020 to 2050
2050 to 2070
2070 to 2100
FSU
1.1
3.3
2.6
1.9
MEA
3.3
3.0
3.2
2.8
WEU
1.7
1.1
1.0
1.0
World
2.2
2.1
2.1
2.2
The next section describes the methodology used to derive the paths of resource prices and interest rates implied by the IIASA-WEC scenarios.
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4.2
Deriving price paths and capital gains from the economic growth
scenarios3. We saw in section 3 that estimates of future resource price changes are needed in order to make an estimate of the capital gains to resource stocks. The economic growth scenarios described in section 4.1 do not report the paths of resource prices or of interest rates. Thus, the price paths used in this study have been derived by working backwards from the economic growth scenarios, via a production function that is almost identical to the one used in the development of the scenarios. The production function is a nested CES function of the following form:
[
Y = aK ρα Lρ (α −1) + bE ρ
]
1 ρ
Where Y is GDP, K is manmade capital, L is labour, and E is energy use. The value for α was taken from information provided on the development of the scenarios, and varies between regions. The value of ρ was assumed to be 0.4. The first step was to differentiate the function with respect to E: ∂Y = Y 1− ρ bE ρ −1 ∂E This expression was set equal to the initial energy price assumed in the scenarios and, using GDP and Energy use, the value of b was estimated for each of the regions. Labour was then set equal to 1, as an index that grows at the same rate as the rates of population growth assumed in the scenarios. This allows the production function to be solved for a for each of the regions. The production function was then fully specified. This production function was used, by inputting the paths of GDP, capital stocks and energy use over time, to derive price paths for both energy and interest rates from 1990 to 2100. Appendix 1 shows graphically the rates at which the world average energy price rises over time under each of the scenarios. These price paths can be seen to approximate the Hotelling (1931) efficient price paths in that they rise monotonically over time. However, the rate at which they rise is less than the rate of interest. This can be explained at least in part by the fact that technical progress in energy efficiency and in the development of alternatives sources of energy reduces the scarcity of energy reserves. This factor offsets the effect of resource depletion on energy prices. Prices rise most steeply in the case of scenario C, reflecting the more rapid reduction in the energy intensity of output.
3
This work has been carried out as part of the EC-DGXII funded SAUNER project, with the help of Marco Hacker of the University of Stuttgart.
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4.3
Using derived energy prices and interest rates to calculate capital gains
This section describes how we use the energy prices derived from the IIASA-WEC economic growth scenarios to calculate the capital gains to the oil and gas assets of the European Union, the Former Soviet Union and the Middle East and North Africa. We saw in section 3 that an economy's sustainable income can be written by adding the capital gains from exogenous price changes to green net national product, provided that the prices at which assets and factors are valued are compatible with sustainability. S
∞ •
The capital gains to the resource stock are
∫ P R2 e
∫t
− rdτ
•
, Where P is the rate of change of
s =t
the resource rice and R2 is the economy's resource exports. In discrete time this factor can s T 1 be written as ∑ (Pt − Pt −1 )R2 • ∏ . We therefore use the price paths derived from t =0 t =τ 1 + rτ the growth scenarios, to calculate the path of price changes over time. These are combined with the paths of net resource imports and exports that are reported as part of the IIASAWEC growth scenarios in order to calculate the capital gains in each period from 1990 to 2100. The discounted capital gains for the year 1990, according to the scenarios, are calculated by compiling the discount factor using the interest rates derived from each scenario. We assume that each region uses as a discount rate its domestic return to capital. One of the major aims of this analysis is to ascertain whether or not capital gains are as significant to the process of green national accounting as resource rents, which hitherto have been one of the main focuses of green NNP. Therefore, for each region we estimate also the resource rents on oil and gas stocks extracted in the year 1990. Resource rents are calculated as the net profit on resource extraction. In the absence of data on market power, we assume that the individual regions do not have significant market power in global energy markets, so that that the excess of revenue over extraction costs represents resource rents (rents that accrue due to the decrease in the value of the non-renewable resource stocks) rather than monopoly profits. In order to calculate net profits we use extraction cost data that has been complied as part of the EC-funded SAUNER project4. One of the outputs of this project is a database of regional and world hydrocarbon resources for regions that are identical to those of the IIASA-WEC study except for the fact that the European Union is separated from the rest of Western Europe. This database includes the costs at which various classes of resource stocks can be extracted. On the assumption that lowest cost reserves are extracted first, we can use these costs, together with the our derived prices and the data on total extraction from the IIASA-WEC scenarios to estimate the net profit from resource extraction for each of the regions.
S
− rdτ
∫ t
4
This work has been carried out under the SAUNER project by Horst Wagner and Richard Nötstaller of the Montanuniversität Leoben in Austria.
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5. Results: Estimated Capital gains and their significance The methodology described above has been used to estimate the capital gains and losses that accrued to the three regions, Western Europe, the Former Soviet Union and the Middle East and North Africa in 1990 due to exogenously changing natural resource prices. These estimates were made for the three scenarios A, B and C as described in section 4.1. We also estimate resource rents, using the paths of resource extraction reported as part of the scenarios. One of the most significant results of this exercise is that it appears that capital gains and losses from rising resource prices can be at least as significant as resource rents for the calculation of sustainable income, indicating that the estimation of capital gains is an important exercise for national income accounting. Table 4 below summarises the main results of the estimation procedure. In the table, WEU refers to Western Europe, MEA refers to the Middle East and North Africa and FSU refers to the Former Soviet Union. All prices are in 1990 US dollars and both the Capital Gains and the Resource Rents terms refer to the correction that would be made to the 1990 NNP of the region in question under the NNP framework described in section 3.
Table 4: Capital Gains and Resource Rents under three different sets of assumptions. Scenario
Region
GDP (US$ 109)
A A A B B B C C C
WEU MEA FSU WEU MEA FSU WEU MEA FSU
7008.6 573.3 785 7008.6 573.3 785 7008.6 573.3 785
Capital Gains (US$ 109) -3.189 10.640 1.551 -1.802 4.302 2.911 -3.454 6.995 4.806
Resource Rents (US$ 109) 2.319 9.824 8.974 2.319 9.824 8.974 2.319 9.824 8.974
Capital Gains as % of GDP 0.046 1.86 0.2 0.026 0.75 0.37 0.049 1.22 0.61
CG as % of Resource Rents 137.5 108.3 17.3 77.7 43.8 32.4 148.9 71.2 53.6
These figures allow us to make some interesting observations on the types of adjustment that should be made to the NNP of the regions in order to estimate sustainable income. Conventional Green NNP is, as noted in section 2, adjusted for the value of depleted natural resources but not for capital gains and losses. The table shows the importance of the capital gains factor, since in all the scenarios capital gains are a significant proportion of resource rents. For Western Europe in the case of scenarios A and C, capital gains can be seen to be the more important factor. Capital gains vary between scenarios, since they are affected by changes in expected future resource prices, production and trade. Resource rents on the other hand are calculated using current (i.e. 1990) data, which of not vary between scenarios. It should also be noted that the interest rates derived from the scenarios are relatively low, being around 3% in 1990 and falling over time as the energy intensity of output decreases and the capital intensity increases. Western Europe suffers capital losses due to rising resource prices because the region is, in all scenarios, a net resource importer. Thus, in adjusting NNP to measure sustainable income Western Europe must subtract both resource rents, as the reduction in value of its 12
resource stocks, and the value of capital losses. Western Europe's capital losses are comparable to resource rents in each scenario, although they are relatively low in scenario B due to lower resource imports and a lower rate of price increases. Although capital gains are as important a factor as resource rents for the sustainable income of Western Europe, neither factor is very significant as a proportion of GDP. This is because neither resource production nor net resource imports account for a significant proportion of Europe's economic activity. The Middle East and North Africa (MEA) is the region for which both capital gains and resource rents are most significant in terms of adjusting GDP. However, in contrast to the case of Western Europe, the region's capital gains from a rising resource price are positive, since the MEA is a significant net exporter of oil and gas. This means that while the MEA would deduct the value of depleted natural resource stocks from NNP, the value of capital gains from increasing prices would be added. In case A, the positive effect of capital gains more than compensates for the required deduction for resource depletion. Thus in this case, the net effect of global resource depletion on the sustainable income of the region is positive. Capital gains are lower in case B, again because of the lower price increases and they are relatively high in case C due to the high rates of resource price increases. The case of the Former Soviet Union makes an interesting comparison with the other two regions. The variations between the scenarios are similar to those for the WEU and MEA. However, there is a much larger variation between capital gains and resource rents. The value of resource rents due to depleted FSU resource stocks is almost as high as those of the MEA. Capital gains, on the other hand, are similar in magnitude to the capital losses of Western Europe. This is explained by the fact that while the FSU is a significant producer of oil and gas in each scenario, it is not a significant exporter. This is particularly noticeable in scenario A, and can be explained by the assumption of relatively high growth rates for the FSU, requiring relatively more of the extracted resources to be used domestically. This comparison highlights the fact that the effect of capital gains on the sustainable income of an economy depends on the particular circumstances of the economy. General conclusions that we can draw from this analysis are that capital gains and losses seem to be as relevant to the calculation of national income as are resource rents. They are more likely to be relevant, however, if a country or region is a significant net importer or exporter of natural resources. If a region is a significant producer of natural resources and most of the resources are consumed domestically, resource rents are likely to be more significant than capital gains.
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6. Conclusion Two significant criticisms have been made of the current practice in green national accounting. The first criticism is that, while green accounting takes account of the value of the depletion of natural resource stocks, it does not necessarily do so using the sustainability prices that would be appropriate if the object of national accounting is to measure sustainable income. The second criticism is that the national accounting framework was developed in the context of a closed economy and therefore does not account for the capital gains and losses that accrue to open economies. This paper has reported on empirical and simulation work undertaken to improve the information available on the possible capital gains to open economies due to exogenously changing natural resource prices. Although the problem of capital gains has been highlighted in the theoretical literature, very little empirical analysis has been done, due to the fact that it requires projections of natural resource prices and trade in natural resources over time. The analysis reported in this paper has illustrated the potential for using high quality global economic growth and natural resource use scenarios to provide information as to the possible magnitudes and significance of capital gains for accounting purposes. Section 3 of the paper described the derivation of a framework for sustainable national income accounting, which involves extending standard NNP for capital gains. Section 4 then described the methodology by which we estimate the capital gains terms of this framework. We have used information provided by IIASA-WEC on their scenarios of global economic growth and resource use to derive the paths of natural resource prices and interest rates implied by the scenarios. These paths were then used to estimate the capital gains, under three different scenarios, that might be used to adjust the 1990 national accounts of three world regions, namely Western Europe, the Former Soviet Union and the Middle East and North Africa. The results of this analysis were presented in section 5. The most important result is that for both Western Europe and the Middle East and North Africa, it is shown that the significance of capital gains, under all the scenarios, is similar to, and sometimes greater than, the significance of resource rents. For Western Europe the capital gains are negative, since the region is a net importer of oil and gas. These results indicate that the issue of capital gains is as important to the calculation of national income as the issue of resource rents. The capital gains of the Former Soviet Union due to rising resource prices was shown to be a significantly lower proportion of resource rents. This is because, while the region is a significant producer of oil and gas, it is not a significant exporter. Thus, the main conclusion of this exercise is that capital gains are an important factor in calculating the sustainable income of open economies, particularly those which import or export significant quantities of natural resources.
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7. Appendix 1: Average World Energy Prices Under Scenarios A, B and C.
Average world energy prices: Scenario A
US$ (1990)
40.00 30.00 20.00 10.00
19 90 19 99 20 08 20 17 20 26 20 35 20 44 20 53 20 62 20 71 20 80 20 89 20 98
0.00
Years
2094
2086
2078
2070
2062
2054
2046
2038
2030
2022
2014
2006
1998
30.00 25.00 20.00 15.00 10.00 5.00 0.00 1990
US$ (1990)
Average world energy price: Scenario B
Years
15
109
100
91
82
73
64
55
46
37
28
19
10
50.00 40.00 30.00 20.00 10.00 0.00 1
US$ (1990)
Average world energy price: Scenario C
Years
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Mäler, Karl-Goran, (1991) "National Accounts and Environmental Resources” Environmental and Resource Economics 1 (1) pp 1-15. Mason, P.J. (1999) "Sustainability and the Depletion of Renewable and Non-Renewable Resources" PhD thesis, University of York. Nakicenovic, N., Grübler, A. and McDonald, A. eds. (1998) "Global Energy Perspectives" Cambridge, Cambridge University Press. Pezzey, J. (1994) “The Optimal Sustainable Depletion of Non-Renewable Resources.” Mimeo, University College, London. Schrattenholzer, L. and Schäfer, A. (1996) "World Regional Scenarios Described with the 11R Model of Energy-Economy-Environment Interactions" IIASA working paper, WP-96-108. Sefton, J.A. and Weale, M.R. (1996) “The Net National Product and Exhaustible Resources- The Effects of Foreign Trade.” Journal of Public Economics 61(1) pp 21-47. Weitzman, M.L. (1976) “On the Welfare Significance of National Product in a Dynamic Economy” Quarterly Journal of Economics, 91, pp 156-162..
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