Dutch Disease is an economic concept that happens when one sector of an economy experiences exponential growth and other sectors decline. A common example is when natural resources are booming, the currency of a country goes up, and then it has a negative impact on other aspects of the economy. Dutch Disease is often common in countries that rely heavily on the exportation of natural resources.
Origins of the Dutch Disease
Dutch Disease originated from an analysis of the economic situation in the Netherlands that appeared in The Economist magazine in 1977. In 1959 the Western European country discovered natural gas fields, which led to an increase in revenue because of exportation of natural gas. On the downside, the boom in natural gas exports led to high unemployment and a decline in manufacturing. This happened because the increase in export earnings led to a bump in the exchange rate and made other goods in the country more expensive to export. When goods become more expensive to export, other countries may be more reluctant to purchase them and turn to cheaper alternatives instead. The outcome is that those goods become uncompetitive.
The Netherlands isn’t the only example of Dutch Disease. Great Britain also experienced the economic saga in the 1970s when it became possible to drill North Sea Oil off the coast of Scotland. Soon after, Britain transitioned from becoming an importer of oil to an exporter. The British pound went up as a result, but their other exports weren’t competitive enough and workers pressed for higher wages.
The idea of Dutch disease is a paradox to some since in an ideal situation, a country specializing in an industry that gives them a competitive advantage can seem like a formula for economic success. That said, this doesn’t always work when the country relies solely on that export and does not develop other aspects of its economy. Problems also occur when and if the natural resource runs out as the country doesn’t have other thriving sectors to rely on, especially when all other sectors are underdeveloped.
Other Issues With Dutch Disease
Dutch Disease can create a host of other issues such as income inequality. The discovery of natural resources sometimes doesn’t have the trickle down effect it could have in terms of distributing the economic benefits across a society. A select elite few may become wealthy or in some cases, foreign multinationals reap the benefits.
Another issue that can arise is growth in real wages. When wealth increases, spending on services is likely to go up also. Consequently, manufacturing firms may need to increase wages to keep workers. When wages go up, companies may be forced to increase the prices of exported goods, making them less competitive.
Preventing Dutch Disease
A diverse economy is one way to prevent Dutch disease. For instance, a country that exports oil can also focus on investing resources in developing other sectors such as agriculture and manufacturing. One way to do this is by using the revenue from the natural resource that was discovered to develop other sectors. This often requires efficient governance to execute.
Sovereign wealth funds are another strategy some countries use. These funds are a way for governments to save income from the natural resources discovered and use it as an income stream in the future. If countries can find a way to keep the exchange rate down, this may also help prevent Dutch Disease.
