The sharp correction in oil prices last year was a result of several factors that included subdued energy demand from China and Europe as well as increasing supply that didn’t match demand levels. After peaking at $115 per barrel in June last year, prices fell dramatically, by more than 50%. As of June 2015, Brent crude oil stands at around $61 per barrel. This extended period of comparatively low oil prices has forced a response from the Gulf states, where a significant portion of government revenue comes from hyrdrocarbon exports. The initial response was to reassure the public that low oil prices would not affect infrastructure and social projects. However, as the period of low oil prices dragged on, it became clear that fulfilling this commitment would be costly. This suggests that GCC states need to formulate clear, long-term strategies that address tough issues like subsidy reform and dependence on oil as a source of government revenue.
Saudi Arabia’s current dependence on foreign reserves to counter the effect of low oil prices is unsustainable. While the Kingdom’s large foreign reserves (about $700 billion worth) are sufficient to allow the government to push through a long period of low oil prices, new alternatives must be explored immediately for two reasons. Firstly, Saudi Arabia is dipping into its foreign reserves at an unprecedented rate. Their value decreased by $20 billion and $16 billion respectively in February and March of this year. Secondly, Saudi Arabia has repeatedly confirmed its commitment to large infrastructure projects. Finance Minister Ibrahim al-Assaf announced in May that the government had committed to almost 2,600 projects, the total cost of which is valued at $50 billion. He also emphasised that the focus of the government budget will be on enabling the private sector to lead economic growth.
This is a commendable step that will help the Kingdom reduce reliance on government spending and foreign reserves. But more steps need to be taken in order to boost government revenue, drive economic growth and increase private-sector participation. In June, Saudi Arabia opened its $590-billion stock market (Tadawul) to foreign investors such as banks, brokerages, fund managers and insurance companies with at least $5 billion in assets under management. It hopes that this will create an inflow of capital that will play a role in boosting the local economy. Steps like these, which create renewable sources of revenue and economic growth, are much more valuable and sustainable than relying on foreign reserves.
In Bahrain and Oman, the fiscal situation is more pressing due to the minimal resources of both countries compared to their Gulf neighbours. Credit rating agencies Standard & Poor’s and Moody’s both issued negative outlooks for Bahrain and Oman earlier this year. The plunge in oil prices was quoted as the main reason behind these decisions.
To help with development projects in these two countries, the GCC Development Fund is providing $10 billion to Oman and another $10 billion to Bahrain. A large part of this money will go towards developing housing projects, of which both countries are in critical need. Nonetheless, new sources of internal revenue must be found. Following recent consultations with Oman, the International Monetary Fund (IMF) issued a report urging the country to contain expenditure growth and find ways to increase non-oil sources of revenue. The report highlighted the need to ease the burden on the government as a main source of employment. Job security, high pay and attractive benefits make working in the public sector a much more appealing option for Omanis. This puts a strain on the government budget, which cannot continue accommodating an increasing flow of Omani graduates looking for employment. A strict, long-term plan is needed to encourage young Omanis to explore a wide variety of employment opportunities outside the public sector.
In Bahrain, the delay in creating a clear fiscal plan is impeding progress towards fiscal consolidation. A rift is emerging between the Ministry of Finance and the Council of Representatives on issues such as public debt and subsidies. The situation is exacerbated by the sense of urgency created by low oil prices—especially given oil revenue represents about 88% of total government revenue. The government’s commitment to large projects planned before the recent volatility in oil prices is evident in the two-year budget plan for 2015–2016. For 2015, roughly 12% of the budget is dedicated to such projects. Among these, housing remains a top priority, and its funding will come through the state budget as well as the GCC Development Fund. Given the weight of these projects, expenditure must be trimmed elsewhere to create a more balanced fiscal situation. This is where subsidy reforms should play a key role, and Bahrain has already taken some steps in the right direction. In April, the government increased the price of natural gas for commercial use by $0.25 per mmBtu (million British Thermal Units) to reach $2.50 per mmBtu. The plan is to then raise the price by $0.25 each year until it reaches $4 per mmBtu in 2021. This step was mostly welcomed by the public. On the other hand, the proposed plan to remove meat subsidies was met with widespread criticism. Moving forward, Bahrain should identify costs that can be cut and those that are strategically important to maintain.
In Qatar, large-scale spending is necessary as the country prepares for several ‘mega’ projects, including the FIFA World Cup 2022. The expected fiscal surplus of $8 billion for the 2014–2015 puts the country in a comfortable position to continue its rapid expansion of investment spending. Albeit, this surplus is significantly lower than the 2013–2014 level of $15.6 billion and 2012–2013 level of $11.3 billion. Nonetheless, Qatar plans to use this fiscal buffer to continue its ambitious investment programme, which includes capital spending of $182 billion on the non-hydrocarbon sector between 2014 and 2018. According to the Ministry of Finance, another significant portion of spending will be on major projects in health, education, infrastructure and transportation, as well as projects related to the World Cup. Statements by the ministry illustrate that if oil prices fall below the budgeted price of $65 per barrel, the country will use its strong financial position and reserves to uphold its commitment to all budgeted expenses. However, Qatar must keep in mind a long-term strategy that goes beyond projects planned for the next 5–10 years if it hopes to boost its non-oil sectors. Qatar’s current phase of heavy investment spending should be seen as a golden opportunity to invest in building rigorous infrastructure that will put the non-hydrocarbon private sector at the forefront.
While the United Arab Emirates (UAE) has some key non-oil sectors contributing to its GDP, its dependence on hydrocarbons as a significant source of government revenue remains high. Oil and gas revenues represent almost two-thirds of total export revenues. This is unsustainable in the long run, especially if the current period of low oil prices stretches on further. The solution is to continue the diversification process that is already in place. This diversification must be broad-based and inclusive of all sectors with room for growth. Tourism and education are two sectors into which the UAE has diversified. However, efforts to expand these sectors must be increased to provide new sources of revenue as well as new employment opportunities for Emiratis.
While Kuwait has a relatively low break-even oil price ($50 per barrel), the country needs a major push to spur economic growth. This is because this low break-even price is not indicative of a well-diversified economy, but rather of one with subdued spending levels. In 2014, the economy grew by just 1.4% year-on-year. The 2015–2016 budget was decreased by 17.8% compared to the previous year. Moreover, actual spending is usually markedly lower than planned spending due to lengthy bureaucratic processes. Hence, the first step is to establish a more unified approach to identifying key investment projects and then creating clear responsibilities among government entities to ensure that planned projects come to fruition.
With predictions pointing towards a prolonged period of low oil prices, Gulf states must find new ways to stay committed to their large development project plans without increasing the burden on government budgets. Public–Private Partnerships (PPP) are a possibility that needs further exploration. PPPs allow countries to moderate spending without affecting the social benefits that citizens expect. At the moment, housing has been the convenient choice for such partnerships, but collaborations in fields like healthcare and education should also be studied. More importantly, GCC states ought to take this period of low oil prices as a wake-up call regarding the need to build self-sustaining non-oil economies that can weather periods of oil-price volatility.
The author is research assistant, Geo-economics and Strategy Programme, IISS
