Muscat accelerates economic diversification

06 November 2013

Oman is planning to invest more than $50bn in megaprojects over the coming decade, as it looks to broaden the economy. However, high spending will leave it vulnerable to oil price shocks

Oman’s economy has been one of the most stable in the region over the past few years, but challenges loom for the sultanate as it seeks to diversify its economy and address high unemployment among its citizens.

Oil has underpinned the economy ever since production began in the 1960s, and while output peaked more than a decade ago, higher crude prices over the past few years have helped Muscat achieve budget surpluses that are paving the way for future growth.  

Oman’s recent prosperity also stems in part from a conservative fiscal policy, which has helped the sultanate avoid the boom-and-bust cycles that have plagued some of its neighbours in recent years.

Resilient economy

“Oman has been one of the most resilient economies since the crisis of 2008,” says Fabio Scacciavillani, an economist at the Oman Investment Fund, the sultanate’s sovereign wealth fund. “They have adopted a very gradual approach, without making grandiose plans that [lead to] bottlenecks, as has been the case in Qatar and Dubai.”

The next few years are likely to see some of the largest investments in megaprojects Oman has ever witnessed

Ahmed bin Hassan al-Dheeb, Commerce ministry

In 2012, gross domestic product (GDP) rose by nearly 11.5 per cent to about RO30bn ($78.1bn) as both the oil and non-oil sectors recorded high growth rates, according to Oman’s National Centre for Statistics and Information. During the first half of this year, GDP growth was slightly less robust, rising 2 per cent to RO15.5bn, compared with RO15.2bn during the same period a year ago. The main reason for the slowdown was a slight dip in revenues from oil activities, as total revenues from petroleum declined by 3.3 per cent to RO7.6bn.

Closer analysis shows revenues from crude fell 4.1 per cent to RO7bn, while natural gas revenues increased by 6.6 per cent to RO600m during the first half of the year. 

As part of plans to use its oil revenues more efficiently, the Omani government has stepped up spending to diversify the economy. It is planning to invest more than $50bn in megaprojects in the next 10-15 years, mainly in the transport, oil and gas, and manufacturing sectors, according to Ahmed bin Hassan al-Dheeb, undersecretary to the Commerce & Industry Ministry.

“The next few years are likely to see some of the largest investments in megaprojects the country has ever witnessed,” said Al-Dheeb, speaking at MEED’s Oman Projects Forum in Muscat in late October.

Among the major schemes that have been launched is the 260-kilometre Batinah Expressway, which will be the sultanate’s first dual four-lane road. The $2.6bn project will connect Sohar and Muscat, and is expected to reduce the travel time between the capital and the UAE border by at least an hour.

Oman is also in the planning stages of building a national rail network, which will link into the proposed GCC-wide railway that will run from Kuwait to Muscat and on to Salalah. Billions of dollars of aid pledged by GCC countries to the sultanate in the wake of protests in early 2011 will partially fund the development of these two schemes, which have been selected for the role they will play in strengthening the wider GCC economy and supporting the flow of trade in the region.

Meanwhile, Muscat airport is being expanded to allow for a further 12 million passengers a year, and additional expansions are planned. A new terminal is also being built at Salalah airport, which will raise capacity to 1 million passengers a year by 2014.

Encouraging industry

Oman has established a number of special economic zones and industrial estates in Duqm, Sohar, Al-Mazunah and Salalah to encourage new industries and start-ups. In 2012, the Free Trade Zones Authority announced it would invest $450m in extending the zones, which will involve expanding land plots and constructing warehouses, roads and staff accommodation.

To strengthen the economic contribution made by small-to-medium-sized enterprises (SMEs), a new fund was launched in February with an initial capital of $182m to help young Omani nationals establish their own businesses.

Highlighting the government’s resolve to reduce its dependence on oil revenues, the Sohar industrial hub and port, located 200km north of the capital Muscat, is a focal point for a downstream industrialisation push. Oman Refineries & Petroleum Industries Company (Orpic) is carrying out a $1.5bn expansion of its refinery complex, while Sohar Aluminium is hoping to invest $2.4bn to expand the capacity of its smelter complex.

By 2020, Oman aims to increase the industrial sector’s contribution to GDP to 15 per cent, while reducing the oil sector’s contribution to 9 per cent.

The sultanate’s tourism sector is also becoming an increasingly important part of the economy. Boosted by the unrest in other parts of the region, international tourism revenues pushed past the $1bn mark for the first time last year, having added $100m to the 2011 total and up more than $300m compared with the 2010 figure.

Tourism currently accounts for about 3 per cent of Oman’s GDP and indirectly supports 70,000 jobs. The aim is for the industry’s contribution to the economy to rise to 5 per cent by 2015 and for the sector to support more than 130,000 jobs. At present, Oman receives about 1-1.5 million visitors each year. The government hopes to increase this to 12 million by 2020.

Public expenditure

Muscat’s reliance on crude revenues poses long-term risks, as the country is one of the most oil-strapped of the Gulf states. Current projections show the sultanate has just 17 years of production left at current extraction rates from its ageing oil fields. Adding to the fiscal challenges are the massive public expenditures initiated by the government to curb unrest in the wake of the Arab Uprisingsin 2011.

Demands for more jobs and better pay were among the key factors that fuelled the protests. Up to 45,000 new positions need to be created each year to absorb entrants into the labour force and to reduce unemployment, which is particularly high among young people.

The Omani government moved quickly to stem protests, raising the minimum wage by 43 per cent and creating more than 100,000 new jobs in the civil and defence sectors over the past two years. But analysts say these measures carry long-term risks. In May, the Washington-based IMF warned that Muscat needs to curb spending and boost
non-oil revenue in the medium term, or else run the risk of having its economy slide into deficit.

The oil price needed by the government to balance its budget rose to $80 a barrel in 2012, from $62 a barrel in 2008. It is expected to climb further to $120 a barrel by 2018, exceeding currently projected prices. A sustained drop in prices would greatly expose Oman.

“The accumulated fiscal buffers would provide an initial cushion, but would erode quickly,” the IMF said in its report following annual consultations with Oman. “The increasing wage bill and current spending, if not contained, could endanger the government’s longer-term fiscal sustainability.”

That the majority of new expenditure over the past few years has been on subsidies and wages is problematic for two reasons, according to Farouk Soussa, chief economist for the Middle East at the US’ Citigroup.

“One, the quality of that expenditure isn’t very high as it’s not very productive,” he says. “It’s not laying down the foundation for future growth. The second reason is that it’s very difficult to curtail benefits and wages when oil prices come down [and revenues decline].”

Unlike other GCC countries, Oman does not have massive sovereign wealth funds it can deploy to smooth consumption over the medium term, which means that if its revenues fail to cover its expenses, it will either have to borrow money internationally or start curtailing expenditure aggressively. This poses a dilemma for the government: can it afford to take on the economic and political risks of
cutting back on spending? “The answer to that is tricky,” says Soussa. “The risk of stirring up social unrest from any such austerity is higher in Oman, where you have about half the working-age population out of a job. This is a major problem for the government.”

Oman is not the only GCC state to face this predicament. Countries across the region have been using their vast oil wealth to fund short-term fixes to address high unemployment and quell unrest, but governments are reaching their limits in terms of the social benefits they can provide to their citizens.

The government in Muscat recognises that while social measures are an important tool, increasing recurrent spending is not going to be sustainable, says Dima Jardaneh, a sovereign analyst covering Oman for the US’ Standard & Poor’s. “The problem with recurrent spending is once you start it, it is very hard to undo. So I don’t expect to see large programmes to employ Omani nationals in the public sector beyond this year and the next at the latest,” she says.

Among the strategies Oman proposes to use to reduce spending is a plan to trim the number of companies it owns. The government has said it will reveal the names of firms it plans to privatise in the upcoming 2014 state budget.

Succession challenge

Another potential risk on the horizon for Oman is the issue of succession. While the country’s ruler, Sultan Qaboos bin Said al-Said, appears to be in good health, he will turn 73 in November and has no openly appointed successor. 

Although briefly married in the mid-1970s, Sultan Qaboos has no children. The question of succession is of particular importance because the sultan wields so much power. He appoints all the ministers, approves all legislation and holds the posts of prime minister and minister of defence, finance and foreign affairs.

While this arrangement has proved to be effective for many years, it may not sit well with a new generation of young Omani nationals, who have grown increasingly bold in voicing their opinions about the future of the country.

Key fact

Oman saw revenues from crude fall 4.1 per cent in the first half of this year

Source: MEED

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