66 depending on their overall fiscal policy needs

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66 Depending on their overall fiscal policy needs, host governments seek different levels of front-loading. To achieve their objectives while maintaining a reasonable level of investment incentives, it may be necessary to accept a tradeoff between regressive features (royalties, cost recovery limits) and progressive features (RoR, R-Factor based taxes or production sharing). Although progressive regimes are most successful in optimizing the government take under varying economic conditions, they may increase revenue volatility. Various risk management strategies exist to smooth revenue volatility, the costs and benefits of which need to be care- fully considered. 67 28 World Bank Working Paper 65. Often the contract provides for the host government to have the option to participate, directly or through its NOC, up to a certain percentage participating interest. The percentage participation of the State/NOC affects the project IRR for the contractor. It is important to note that the IRR is one of the parameters used by oil companies to rank their investment opportunities. Companies set a target rate(s) that reflects the project risk and the investor’s corporate profile. All other things being equal, investment opportunities with an IRR below the target rate are not likely to be considered. Although target rates are unique to each company, a fifteen percent target rate would not be uncommon. This should be taken into consideration by the host government in determining its level of participation in any given asset. 66. In all our models, no interest rate was applied to unrecovered expenditure related to the NOC carry. The NOC and the contractor were assumed to pay the same corporate tax rate. In reality, often profit oil splits are calculated at project level, while corporate taxes are calculated at company level (each co-venturer pays taxes separately). Furthermore, the existence and extent of ring fencing affects the overall level of tax receipts. 67. These range from hedging to the use of special reserve funds (SRF). The analysis of the cost and ben- efits of alternative risk management strategies is beyond the scope of this paper. In general terms, policy mak- ers will be reluctant to take the political risks of a hedging program. Therefore the creation of an SRF may be preferred, especially if the government is able to implement a stable long-range fiscal plan designed to cre- ate and preserve a SRF’s balance at such a level that it can be used to effectively insure the state against rev- enue fluctuations. If, given the expected level of revenue and the spending needs of the country, a SRF fund may not be able to provide such insurance, a hedging program may need to be considered.
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CHAPTER 8 Conclusion C ountries compete with each other to attract foreign investment to develop their natural resources. To achieve this objective, they must assess their position in the global marketplace and evaluate their particular situation, boundary conditions, concerns and objectives. In evaluating options to encourage oil exploration and production
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  • Winter '14
  • Bijay K Behra
  • host government, fiscal systems, world bank working

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