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The $2 Trillion Threat To Middle East Oil

Middle East

The global drive to mitigate the impact of climate change and boost renewable energy is threatening the immense wealth that the Arab Gulf oil producers have accumulated from crude oil over the past decades.

In less than a decade and a half, the six members of the Gulf Cooperation Council (GCC)—Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the United Arab Emirates (UAE)—could see their combined US$2 trillion wealth wiped out, if they do not significantly accelerate fiscal reforms and raise their non-oil revenues and non-oil share of their respective economies to be ready for a world of peak oil demand.   

This warning came from the International Monetary Fund (IMF), which said in a report last week that the GCC countries urgently need deeper reforms in their economies, revenues, and the way they are spending in order to preserve their net financial wealth over the next two decades, in which global oil demand is expected to peak.  

The Threat To Middle East’s Oil Wealth

At the current pace of fiscal reforms, income, and spending, the six oil producers will see their current US$2-trillion wealth exhausted by 2034, the IMF said.

The fundamental change in oil markets, with increased attention to climate policies and potential carbon taxes, poses a huge challenge to the GCC countries, which collectively produce over one-fifth of global oil supply.

Some countries in the region have already started to implement some reforms, including cutting subsidies for fuel and water, or charging non-nationals the market prices of gasoline as compared to subsidized prices for nationals.

Yet, the current reforms across GCC will not be enough, the IMF said. The mere economic diversification away from oil—a difficult goal to achieve in itself—will not be sufficient to stop the wealth erosion in the key oil producers in the Middle East; GCC countries need a significant increase of their non-oil revenues, according to the fund.

But then even higher non-oil revenues may not be enough—governments will likely be forced to downsize in order to rein in public spending, the IMF said.

“[T]here remains significant scope for rational­izing other categories of spending, including reforming the region’s large civil service and reducing public wage bills which are high by international standards,” the IMF’s paper reads.   Related: Could This Be The Decade Of Green Hydrogen?

“Besides strengthening public finances, these reforms would also reduce labor market distortions and facilitate private sector development,” the fund noted.

But The Middle East Is Not Kicking Its Oil Addiction

The petrostates in the Middle East have started to implement some reforms after the oil price crash of 2014-2015 plunged most of the government budgets into deficits, as oil revenues—the key source of income and government spending to support the economies—halved.

The biggest producer in the region and the world’s top oil exporter, Saudi Arabia, continues to run massive deficits five years after the oil price collapse. Although it has its Vision 2030 plan to diversify the economy away from oil, including funding part of the plan with proceeds from the Saudi Aramco IPO, the Kingdom continues to struggle to attract foreign direct investment.  

So it continues to bet big on locking in future demand for its oil with joint ventures in the key oil growth market, Asia. Aramco continues to strike downstream deals in China and India, looking to become a global leader in refining and marketing

Saudi Arabia’s oil and gas sector accounts for about 50 percent of its gross domestic product (GDP), and about 70 percent of export earnings, as per OPEC figures.

In other words, oil makes up half of Saudi Arabia’s economy, and Vision 2030 or not, the Kingdom will have a hard time kicking the oil habit, even if it were earnestly trying to do so.

The dilemma for the Saudis here is that without oil, Saudi Arabia is losing a key leverage in regional and international politics. It’s the Kingdom’s vast oil reserves that have paid for and continue to pay for the lavish lifestyle of the House of Saud, the family ruling the absolute monarchy which is the only country in the world bearing the name of its rulers.

The United Arab Emirates, one of the three OPEC members in the GCC alongside Saudi Arabia and Kuwait, has a mode modest exposure to oil—around 30 percent of the UAE’s economy is directly based on oil and gas production. Abu Dhabi is the emirate most exposed to oil demand and oil prices, while Dubai, for example, is a top luxury tourist destination and is doing quite fine without oil reserves.

Kuwait has a huge sovereign wealth fund, which could help it stave off the total wealth depletion until 2052, according to the IMF.

But Kuwait is heavily dependent on oil, too—the oil and gas sector accounts for about 40 percent of its GDP and a whopping 92 percent of export revenues, according to OPEC.

“Weaning the economy off oil hinges on the emergence of a vibrant non-oil sector that creates jobs for the growing labor force,” the IMF said in a report on Kuwait last month, noting that “The current conjuncture and the exhaustible nature of oil underscore the need to diversify the economy and ensure adequate savings for future generations.”   Related: 5 Weird Ways To Generate Renewable Energy

Oman and Bahrain of the GCC (but not OPEC members) are the most vulnerable producers to the looming peak oil demand, while Qatar—thanks to its huge natural gas reserves and the expected continued rise in global gas demand—could be spared some of the fiscal pressure that its neighbors may feel over the next two decades, the fund says.


Climate Change Dilemma  

Increased efforts to combat climate change have reached the largest oil producing companies in the Middle East—Saudi Aramco and the Abu Dhabi National Oil Company (ADNOC). Aramco is now openly talking about climate change, touting research on lowering emissions, while ADNOC prides itself on being among the top five lowest GHG emitters in the oil and gas industry.  

The irony is that due to their geographical position, oil producers in the Middle East would be more affected by climate change in the coming years than oil producers further north.  

Jim Krane, Wallace S. Wilson Fellow for Energy Studies at Rice University’s Baker Institute, wrote in a paper last month the Gulf oil producers “would benefit most from reducing ongoing accumulations of carbon in the atmosphere and associated adaptation costs.”

“The petro-states of the Gulf should view climate change with more alarm than northern oil producers like Russia, Canada and Norway, which would experience milder short-run damage — or even benefits — from a warming climate,” Krane wrote in the paper published in the British Journal of Middle Eastern Studies.

“A creeping risk to the Gulf oil windfall is materializing in the form of climate action,” Krane wrote, while the IMF said in its report last week that “oil-exporting countries may need to be ready for a post-oil future sooner rather than later.”

By Tsvetana Paraskova for Oilprice.com

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  • Lee James on February 12 2020 said:
    As we think about the impact of a changing climate around the globe, "less-affected" northern countries are increasingly motivated to adapt and mitigate.

    We need to remember that it's not just a changing climate going on. It's the RATE at which climate is changing. Life on Earth is adapted to only a certain amount of variation in the natural world.

    Good luck with our response. We're playing catch-up from here out.
  • Mamdouh Salameh on February 12 2020 said:
    The key word for the Gulf Cooperation Council (GCC) countries is the diversification of their economies which should have started decades ago.

    The International Monetary Fund (IMF) should not exaggerate the impact of climate change on the economies of the GCC countries. The realities of the global oil market are that there will not be a post-oil era or a peak oil demand throughout the 21st century and far beyond and that an imminent global energy transition is an illusion. Oil will continue to be the core business of the global economy well into the future.

    Still, the GCC countries could benefit immensely from diversification. With proven reserves of 644 bb, or 39% of the world’s reserves and a combined GDP exceeding $2.0 trillion, the GCC countries could be a formidable economic bloc. However, their Achilles heel is their continued dependence on the oil export revenues to the tune of 85%-90%.

    However, the greatest threat to their economies actually comes from the steeply-rising domestic oil consumption for power generation and water desalination and a lack of diversification. To forestall such an eventuality, the Gulf countries not only have to accelerate the diversification of their economies and the transition to renewable and nuclear energy for electricity generation but also become smarter in their investment. A precursor of this consumption is the subsidies which despite cuts since the 2014 oil price collapse still exceed $120 bn.

    A proposed diversification entails adding value to their great oil wealth in the form of exporting more refined products rather than crude oil, developing their petrochemical industry and investing in food production.

    The world is already heading towards a future food shortage on a global scale. Food prices could in the future rival, if not, exceed those of crude oil. Why not then invest at least 5% of their oil revenues annually in the Sudan which has the land and the water resources not only to become the food basket of the GCC countries but also a great source of food export revenues for them. Moreover, it will save the GCC countries an estimated $50 bn in food imports annually mostly from the United States.

    Another aspect of diversification is intensive investment in renewable energy, particularly solar power, nuclear energy and water desalination technology.

    Solar power along with nuclear energy could provide all the electricity needs of the Gulf countries. Solar energy could also power an extensive network of water desalination plants along the Arab Gulf countries’ coasts extending from the Arabian Gulf to the Arabian Sea and the Red Sea, not only for drinking but also for irrigation. Moreover solar electricity could in the future be exported to Europe earning a very sizeable income for the Gulf countries.

    The GCC countries are consuming 6.38 mbd, or 33% of their oil production, a big chunk of which is being used to generate electricity and power 199 water desalination plants currently in operation.

    This means that the Arab Gulf countries will have to cut their domestic oil consumption drastically or replace oil by nuclear power and solar energy in electricity generation and water desalination. Failing to do either would result in their relegation to minor crude oil exporters by 2030 or ceasing to remain oil exporters altogether by 2032. This is the real threat to their economies not climate change or peak oil demand.

    Even with full diversification of the economies of the GCC countries, oil will continue to play the most decisive role in their economies.

    Dr Mamdouh G Salameh
    International Oil Economist
    Visiting Professor of Energy Economics at ESCP Europe Business School, London

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