Thursday, 26th April 2018

Can Oman deliver on long-held promise to diversify its economy?

There are positive signs – but no yet conclusive evidence – that speed is picking up in Oman’s efforts to rebalance its economy, supporting the creation of a more diverse business environment in which a new generation of entrepreneurs can operate more easily. The shift away from hydrocarbons dependency could, ironically, be helped by higher oil prices, after three bleak years in which budget and fiscal targets have been missed (GSN 1,052/11,043/81,040/8). With crude oil and condensate output capable of returning to higher levels in the short-/medium-term, an improved performance from hydrocarbons should underpin the implementation of long-mooted reforms, included the Tanfeedh programme to promote private enterprise and, especially, the small- and medium-size enterprises (SMEs) that can create jobs and promote social and economic uplift.

International Monetary Fund data and analysis point to a still challenging macroeconomic outlook, but with hydrocarbons receipts, as always, the dominant factor, higher oil prices can provide the breathing space and headroom needed to usher in change. Now is the time for government – the dominant player in the Omani economy – to strengthen the private sector during a period of higher income. If it can achieve this, a stronger entrepreneur class can emerge that will, in turn, generate a greater share of government revenues from taxes, without being crippled by the burden as has previously seemed the case.

The Ministry of Finance’s budget assumption for 2018 is of an oil price of $50/barrel, which was roughly the average price in 2017, when oil generated OR6.76bn ($17.6bn) of revenues out of total OR9.2bn government expenditure. The average price of Oman crude oil future contracts at the Dubai Mercantile Exchange was just under $63/bbl in Q1 2018 – at which level 2018 hydrocarbons revenues might reach OR8.5bn, although they are likely to be higher still because Omani crude and condensate production has risen as well. In line with Organisation of the Petroleum Exporting Countries (Opec) allies, Oman has voluntarily agreed to limit crude production to 970,000 b/d; its output was nudging this figure in Q1 18 (at 967,045 b/d in March).

If the government thinks it has done its share of constraining production, Petroleum Development Oman (PDO) has the capacity to ramp up output in the short term as output from BP’s Khazaan tight gas project expands. In the medium-term, further increases in production look likely, with the Rabab Harweel Integrated Project and Yibal Khuff scheme coming on stream in 2019 and 2020 respectively. Project manager PDO has an enviable track-record of delivering projects early and below budget. Once on-stream, these two sour gas and oil projects could well push crude and condensate production back up over the 1m b/d average, to reach peaks last seen in 2000 and 2016.

Such projections imply current price levels are maintained, which is increasingly likely given global inventories have reduced and supply is better balanced with demand. The prospects for Oman achieving its 2018 budgetary targets are high when compared with the previous three years.

Also a filip for Omani business is much-enhanced trade with Qatar, brought about by the GCC-3’s embargo – which if Saudi Arabia’s recently discussed plans to build a canal to isolate the peninsula are anything to go by could continue for some time to come. A recent Omani-Qatari business forum in Doha highlighted bilateral trade which had soared by some 120% since mid-2017. This growth was led by Qatari imports of foodstuffs and building materials, and facilitated by the opening of the new Muscat international Airport (MIA) and ferry links between Hamad Port, Salalah and Sohar. Also taking advantage of Oman’s ‘neutrality’, the free trade zone at Al-Mazyouna on the border with Yemen is providing a secure entrepôt while most other gateways to Yemen are paralysed by the civil war.

Viewed from Muscat, this combination of events provides a breathing space and opportunity for the sultanate to pursue its long-held desire to achieve sustainable growth and diversification, a boosted private sector and better investment climate. Meeting these goals would help to create jobs and raise incomes for a predominantly young, often under-employed population. Oman can point to remarkable hikes in GDP – up from $19.5bn in 2000 to $67bn in 2016 – and per capita GDP ($8,600 in 2000 and $15,140 in 2016), but this growth was primarily due to higher hydrocarbons production and prices. All too often, triumphs of ‘Omanisation’, and generalised economic and social uplift have proved elusive, as the deadline for Sultan Qaboos Bin Said Al-Said’s Vision 2020 looms ever closer.

Policies designed to bring about diversification may be starting to work, with the percentage of GDP generated by oil and gas diminishing from 66% in 2000 to 41.1% in 2016. In areas where a conducive business environment has been created, investors have committed and contracts have been signed. Duqm now claims to be the Middle East’s biggest special economic zone, with generous tax exemptions and no restrictions on foreign ownership, currency exchange or the repatriation of capital and profits. Contracts have been signed by a joint venture (JV) between Kuwaiti and Omani state entities for a 230,000 b/d oil refinery at Duqm, where work is scheduled to start this year. The foundation stone has been laid for the Karwa Motors factory, a JV between Qatari (70%) and Omani (30%) sovereign wealth funds to assemble Chinese-designed Higer buses. A fishing port, dry dock and ship repair facility, seafood processing facility, cement plants and a regional airport are in various stages of progress, with communications projects to connect Duqm with the rest of the world.

In Sohar Industrial Free Zone, a refinery improvement project has been completed by Oman Oil Refineries and Petroleum Industries Company (Orpic); a pipeline link with Muscat and to a new fuels terminal at Al-Jefnain, serving MIA, was opened in March. This is another largely state-owned investment, but with participation from Spanish energy logistics company CLH.

State-owned mega-projects are the key drivers in the strategic plan taking the Oman Vision 2020 forward, with the aim of lowering crude oil’s contribution to GDP from 41.4% in 2016 to 26% by 2020. The strategic plan still has some substantial hurdles to overcome, despite progress made in some areas. The diversification away from hydrocarbons achieved so far has not been accompanied by an expansion of the economy’s capacity to sustain higher rates of taxation on the non-oil element of GDP. Strategic mega-projects are not yet delivering surplus revenues – indeed, there is no certainty they will return the capital invested and move into profit (these are not projects where private investors have put their own money at risk, confident of achieving a profit).

State-owned operations have yet to implement full accounting transparency. Thus while Orpic has stated it achieved its highest earnings before interest, taxes, interest, depreciation and amortisation (Ebitda) in 2017, sustaining a positive revenue trend, it didn’t indicate if the costs of capital borrowed were covered.

For additional revenue generation, the government must turn to the private sector – its oft-stated aim, which too often has been ignored in practise. This is where the real issues lie, as measures that might deliver on promises to nurture foreign direct investment (FDI), boost the private sector and create a better investment climate all seem to be stuck. The Tanfeedh programme to promote private sector initiative has huge potential, with its skilful methodology to secure commitment and buy-in from the wider community, and emphasis on transparency and accountability. The programme has generated great enthusiasm and nurtured innovative business ideas.

But will private investors feel they can risk their own money when the government has yet to create a more business-friendly environment? Will companies still be loaded with the burden of employing nationals when additional headcount is not needed for the business to function profitably? The Tanfeedh Programme Handbook notes that global indices of Oman’s commercial and economic environment in 2011-16 were stagnant or in decline. There is no mention of financing arrangements in the Tanfeedh Handbook, save reiterating the requirement to mobilise OR13bn input from the private sector for the projects envisaged.

Other questions include when promulgation will happen of apparently stalled draft laws on FDI, public/private partnerships and labour law revisions, and of proposed SME legislation. Some of these bills had reached final draft stage in 2016, but have not moved forward since. Also in question is the privatisation process, which has yet to get under way.

At present, most of the Tanfeedh initiatives are state-led. There is no harm in this if the private sector also receives encouragement and a conducive business environment is created. But this still does not seem to be the case. The delayed initial report on progress with the first batch of Tanfeedh projects, due to be published in May, is likely to reflect progress on government-led projects, but little real movement on private sector-led schemes – especially those involving SMEs, which are key to deepening economic and social diversification beyond the paternalistic model to which the sultanate has long been wedded.

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