PETROANALYSIS || ARTICLE

Institutions, Policies and National Oil Companies

Published on

June 11, 2018

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Article by

Omar Chique

Institutions refer to rules, values, norms and practices that shape or constrain political behavior (Pieters and Pierre, 1998). Attempts to understand observed behavior independent of the structure will only lead to biased descriptions of individual motives. Institutions are flexible. As North (1990) points out, institutional change arises out of the relationship between: (a) institutions and the organizations that evolve from the incentives provided by the former; and (b) the feedback process where policy makers and entrepreneurs react to available opportunities. He postulates the existence of a threshold value that triggers institutional change, out of the perception of policy makers and entrepreneurs that to change is in their best interest.
These institutions shape the strategy of National Oil Companies (NOC’s), which experienced high oil prices in the last decade. Windfalls are defined as revenues in excess of expectations (Hildreth, 1998; Wilson and Sylvia, 1993). Several responses to windfalls are presented in the literature. Policy makers could isolate the windfall from conventional budget by creating funds. However, depletion of the funds might lead to increased vulnerability, and reacts to politician´s desires to build coalitions. Under these circumstances, budgeting becomes chaotic. This may lead to relaxation of authority and managerial responsibilities in the budgeting process, as dominant coalitions form – rent seekers – to control the allocation of the funds (Levine et al., 1981; Wilson and Sylvia, 1993).
Oil producing countries may experience economic stagnation in the presence of windfalls. As in the Dutch disease, where non- mineral sectors reduce competitiveness and collapse; with added corruption and indebtedness. Beyond that, it is the structure of ownership (degree of participation and relationship between public and private oil operators) that they choose to manage their mineral wealth what matters most (Jones and Weinthal, 2010). It shapes incentives for subsequent institution building. It affects the type of fiscal regime that emerges and hence the prospects for building state capacity and achieving long term growth.
Certain NOC’s underperformed after the last windfall. Among them Petrobras and PDVSA. Some observers claim that there were abrupt changes in the environment – among them low oil prices – that led to their demise. However, public reports indicate that the root causes of the problems existed before the oil price drop of 2014. They just took some time to unfold operationally and financially. This means that underperformance started before 2014, but it was not in the agenda of policy makers. According to Jones and Baumgartner (2005; Jensen et al., 2016), policy makers, in response to information from the environment, pass from under-reaction to overreaction. This is called the Dynamic Model of Choice for Public Policy (DMCPP). Changes in the environment, that might require changes in policy, are sometimes ignored, primarily, because of bounded rationality and agency concerns.
However, these ignored signals do not necessarily vanish. They build up pressure that may produce policy action in the future. This implies that the response of policy makers to these signals do not always adjust smoothly; they may become bursts of changes once attention to these previously ignored signals is granted. In this model, then, policy response is not always synchronized with signals from the environment. Signals require strength beyond certain dynamic threshold to deserve special attention. New signals must “compete” with the existing agenda. In the meantime, policy making in NOC’s subject to such institutional ambiance, may lead to financial and operational performance oscillations, as we are witnessing now.

References:

Chique, O. (2016) Dynamic Performance Management of Upstream Oil Companies, PhD dissertation, University of Palermo, Italy
Jensen, J., Mortensen, P., and Serritzlew, S. (2016) The Dynamic Model of Choice for Public Policy Reconsidered: A Formal Analysis with an Application to US Budget Data, Journal of Public Administration Research and Theory, 2016, Vol. 26, No. 2
Jones, P., Weinthal E. (2010) Oil Is Not a Curse: Ownership Structure and Institutions in Soviet Successor States, Cambridge University Press, U.K.
North, D. (1990) Institutions, Institutional Change and Economic Performance, Cambridge University Press, USA
Pieters, B., Pierre, J. (1998) Institutions and Time: Problems of Conceptualization and Explanation, Journal of Public Administration Research and Theory, 1998:4
Wilson, L., Sylvia, R. (1993) Changing Revenue Conditions and State Budgetary Decisions, Journal of Public Administration Research and Theory, 1993:3

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