Commodity Booms, Local State Capacity, and Development

Abstract

State capacity may shape whether natural resources generate prosperity, as it determines if windfalls are effectively turned into useful projects or wasted. We test this hypothesis studying the 2004-2011 mining boom in Peru, where mines' profits are redistributed as windfall transfers to local governments. Our empirical strategy combines geological data with the central government's mining windfalls allocation formula to identify the windfalls' effects on household incomes and other measures of economic development. Proxying local state capacity with the ability to tax and relying on a triple difference strategy we uncover significant variation in treatment response, with positive effects of windfalls limited to high state capacity localities. We find suggestive evidence that only localities with high state capacity succeed at transforming windfalls into infrastructure stocks, which in turns contributes to structural transformation and market integration. Lastly, social unrest increases in low state capacity localities that receive windfalls but fail to perceive their benefits. Our findings underscore important complementarities between investments in extractive industries and in state capacity.