Human Capacity Problems in Developing Countries and Local Content Requirements in the Extractive Industries

Capturing more value in the local economy is a priority for resource-rich developing countries in their quest for leveraging natural resources for development objectives. Research suggests that there is nothing inherent in resource abundance that condemns countries to either low growth or unsustainability (1). Rather than focusing on mineral resources narrowly, it can therefore be suggested that human capital under-development may be one of the root causes of poor performance of resource-rich economies in developing countries, particularly in Africa (2).

In many resource-rich developing countries, particularly in sub-Saharan Africa, less than 20% of total transnational corporations’ (TNCs) investments in the mineral sector remain in the host country.In Nigeria, for example, an estimated $15 billion is spent annually on servicing operations in the oil and gas industry. However, only very little proportion of this amount and the accruable profit is available to indigenous oil servicing firms or spent in developing Nigeria’s industrial base.

As a consequence, the sustained rise in mineral commodity prices has led to record profits for the energy and mining industries without commensurate reduction of poverty in host countries. In the petroleum industry, for instance, oil prices have quadrupled between 2002 and 2007, driven by growing Asian demand. China alone accounted for 29% of the growth in global oil demand in 2006 compared to 20% in 2000. This was compounded by tight inventories in OECD countries and refinery bottlenecks, as well as declining rate of new oil discoveries. Other factors include supply fears (geopolitics) and the financialisation of commodity markets. In 2011, 7 out of the 11 largest (Fortune Global 500) companies were from the energy and mining sector. Africa represented 38% of Total’s reserves and global production and absorbed 45% of the group’s investment in exploration and production.

In many cases, the low level of human capital in host countries means that the buyer (the TNC) in the oil and gas exploration and exploitation knows more about the good being sold than the seller (host country government). In such instances, the asymmetry of information and unequal expertise result into a weak bargaining power of the resource owner (host country government) relative to the company for maximising the profits accruing from its wealth.

Policy frameworks and strategies that strengthen capacities, create knowledge for economic innovation and human capital are therefore critical to negotiate symbiotic agreements and create better production (backward and forward) and horizontal linkages between the extractive industries and the national economy. These policy frameworks would help foster value retention locally through mineral beneficiation, employment creation, technology and knowledge transfer, and industrial development. This is put forward by the African Union’s African Mining Vision 2050 (3).

In order to fully realise the development outcome of the extractive industries, developing countries commonly impose local content requirement (4) on Foreign Direct Investment (FDI) (5). Building an educated and skilled workforce to labour fit for market requirements is one of the major challenges to overcome.

In spite of this observation, developing countries relying on natural resource wealth tend to neglect the importance of nurturing a diversified and skilled workforce that can support other economic sectors once the non renewable resource wealth has dried up. While the costs of such a neglect might not be felt in the short term, as capital-intense activities take up a larger share of national production, its effect is likely to become significant in the longer run as soon as economies start to diversify (6).

When a country’s wealth depends on investments in manufacturing or other productive activities, human capital investments is an essential part of wealth creation. But, when the wealth arises from an endowment of natural resources, investment in a skilled workforce is not necessary for the realisation of current income. Without a focus on wealth creation, or sustainability, insufficient attention will be paid to investments in human capital (or other productive investments).

Addressing human capital deficiencies

Evidence from several resource-rich countries - Angola, Botswana, Brazil, Chile, Equatorial Guinea, Nigeria and Trinidad and Tobago suggests ways for addressing the skills shortage: by creating an educational base (to support development in the long run) and by improving the direct participation of the local workers with companies in the industry value chain.

With regard to the educational base, the training of personnel, the provision of relevant education, the development of Research and Development (R&D) programmes, and the collaboration between major companies, local universities and training institutes is paramount to design programmes with an appropriate syllabus to meet the skills requirements of the industry. In Chile, the government created an environment that generated positive synergies between the government, universities, mining firms and local companies, which resulted in mining clusters.

The introduction of local content provisions for training and hiring national workforce, and the creation of industry linkages and extensive supplier development programmes, including training, product development, testing and factory auditing are some of the ways governments can involve local workers in the value chains.

Several resource-rich countries have applied hiring quotas or targets for training of local workers. Countries like Nigeria and Angola have even set targets of participation, to increase local staffing in oil companies. However, companies have encountered difficulties in achieving these targets, especially for more specialised staff. These policies are more effective when complemented with training programmes supported by the extractive industries and intended to ensure the availability of skilled workers, in accordance with the sector’s changing requirements. In Trinidad and Tobago, support measures to local entrepreneurs and special preferences in terms of participation and training were applied for a certain period for local capabilities development, business opportunities and diversification.

Partnership between companies and governments on local content strategies could have mutually beneficial results if they align public economic policies and priorities for industrial development, private sector development, investment promotion and competitiveness. For example, company’s local content agreements on training and employment for nationals, and preference to local suppliers, could be better aligned with public policies for human capital development, job creation, and technology transfer. This may include specific policy and regulatory measures included in the procurement plans in support of local entrepreneurship as well as policy making capacity to better regulate and monitor the implementation of the relevant measures. In Equatorial Guinea for example, the Hydrocarbons Law stipulates that TNCs should not only train workers, but also contribute to the training of ministry personnel and to maintaining oil related institutes and training centers. Botswana requires mining investors to have a localisation and training plan that will enable local personnel to take over skilled positions over a pre-determined time.

Conclusion

Human capital deficiencies are complex and fixing problems for natural resource exploitation and development is a long term exercise. Addressing these deficiencies is essential to increase beneficiation and to enable domestic companies and institutions to learn, interact and compete with foreign affiliates. From the developing countries’ perspective, skills shortages hinder the incorporation of local workers into the extractive industries and the development of an industrial base necessary to spread the benefits of these sectors to other areas, or the possibility to build a competitive local supply industry. From the operating companies’ perspective, skills shortages can cause the delay of new projects, increase costs and even hamper the fulfillment of local content requirements. However, the cases of Brazil, Chile and Trinidad and Tobago where elements of these problems have been dealt with serve as good examples for other developing countries, particularly in Africa.

Policy recommendations

The capacities of resource-rich developing countries need to be strengthened and mineral wealth should be invested in the creation of knowledge for economic innovation, and in human, social and physical capital formation, including infrastructure for development. A quick human capital formation can occur through vocational training programmes. As part of their corporate social responsibility, companies can emphasise human capital formation areas where they have comparative advantages.

Policy strategies to achieve higher local content can be achieved by consciously building “local capability development” (7). It can be argued that this strategy is more of a “Pull” model that would involve considerable undertakings from the oil companies such as providing direct and prolonged assistance to indigenous firms to improve their quality and reliability. The limits of this model lies on the profit-oriented nature of the TNCs, mainly driven by the maximisation of their shareholders value. In this case, voluntarily collaboration for talent creation may be shortcoming. Therefore, an effective local content policy should be driven by an optimal balance of both incentives and strict regulations with the host government encouraging a multi-stakeholder approach to human capital development.

Claudine Sigam is UNCTAD ́s Project Officer for Optimization of Natural Resources Management in Africa

Footnotes

1. Mikesell, R. (1997). “Explaining the resource curse, with special reference to mineral- exporting countries.” Resources Policy, Vol. 23, No. 4. 
2. Human capital refers to the aggregate skills, abilities and knowledge, and other competencies of an organisation’s workforce. 
3. “The term beneficiation, used broadly to describe the successive processes of adding value to raw materials from their extraction through to the sale of finished products to consumers, covers a wide range of very different activities.
4. Local content can be defined in different ways but a common denominator is value addition in the host country economy.
5. An important consideration for any local content policy is the consistence with international trade and investment agreements such as the Trade-Related Investment Measures (TRIMs) of the World Trade Organization (WTO).
6. Humprheys, M, Sachs, J.D. and J. Stiglitz (eds.) (2007) Escaping the Resource Curse. New York: Columbia University Press.
7. Warner, Michael. 2011. “Do local content regulations drive national competitiveness or create a pathway to protectionism? Solutions Briefing #5. Local Content Solutions This article uses evidence from practices highlighted in UNCTAD’s recent publication entitled “Extractive industries: Optimising Value retention in host countries”.

This article was published in GREAT Insights Volume 1, Issue 5 (July 2012).