Low oil price gives Arab nations chance to reform economies

THE WORLD -which saw the price of oil fall by around 50 per cent since 2014 - has seen prices plummet before. But for the time being, it is ‘back to normality’ for the global commodity. However, it is not business as usual for the major oil exporters of the Middle East and North Africa (MENA), writes World Review expert Dr Carole Nakhle. There is now a general consensus that the price of oil which hit an unusual record high of around US$100 per barrel, between 2011 and 2014 was simply abnormal and it was just a question of time before the oil market re-adjusted. In the long term, a US$60 per barrel oil price is not too bad; it was, after all, much lower for many years - as in the 1990s and the first half of the 21st century. Experience shows that predicting the oil price is not easy. What can be expected, however, is greater volatility at lower prices levels compared with the last three to four years. The most obvious impact of lower oil prices on net oil exporters is deterioration in external accounts. The impact on a country’s wider economy, however, varies on how much it is dependent on oil. Economies could be hurt, particularly in the Arab world where oil accounts for more than half the budget revenues and exports earnings. Oil export losses in 2015 are expected to reach US$300 billion or 21 per cent of GDP in the countries of the Gulf Cooperation Council (GCC) and US$90 billion or 10 per cent of GDP in the non-GCC countries, according to the International Monetary Fund (IMF). Such losses will translate into shrinking fiscal revenues because oil export revenues are captured almost entirely by governments. This will therefore result in large budget deficits. The outcome is even more dramatic if one adds the stronger US Dollar (USD) to the existing trend of lower oil prices. Most OPEC producers will suffer because they also have fixed exchange rates - their currencies appreciate together with the USD. These countries, like Saudi Arabia, will not only get less dollar revenues - because of lower oil prices - they also have to translate them into less domestic currency when they plan their domestic expenditures. On the contrary, countries like Russia and Azerbaijan with flexible exchange rates can counterbalance the effect of lower oil prices on domestic expenditure to some extent. They get less USD revenues - because of lower oil prices - but can exchange them into more domestic currency - because their domestic currency depreciates against the USD, because of flexible exchange rate. It is argued that most oil exporters need oil prices to be considerably above US$60 to balance their budgets but such prices should be treated with caution: after all, budgets can be amended. The question is where will the axe fall: domestic consumption or investment? The wisest option would be to reduce consumption, including reforming the overly generous and inefficient energy subsidies. Middle East energy consumption grew by 4.4 per cent - the fastest of any region in 2014. Lower oil prices can therefore be an opportunity to reform local economies and achieve a stable, not spasmodic, growth. Identifying sources of non-oil revenue would also support efforts to contain spending, but this is unlikely because economic diversification is limited in many countries. Both reforming energy subsidies and diversifying the economy have been advocated by experts and international organisations for many years – especially for MENA economies. It is more likely that capital spending will be reduced instead - simply because of the political sensitivity attached to consumption which has increased in recent years in response to rising social pressures. Of course, net oil exporters are not all in the same position - some manage their wealth better than others. Reforming local economies has acquired a greater sense of urgency not because oil prices are lower but because there is a new dynamic shaping both the global oil market and politics. The geopolitical risk will continue to be present but the difference today is that it can be better accommodated. Only a few years ago, political problems in the Middle East would have sent oil prices soaring. Today, political instability is translating into supply disruptions in the region - see Yemen, Syria, Libya - but no spikes in the oil price have been recorded. Because of the new-found strength in US oil production, the global economy seems to be able to cope better with oil supply problems. It is not surprising to see the IMF recommending oil exporters to treat the oil price decline as largely permanent - a belief echoed by several industry experts and leaders. For a more in-depth look at this subject with scenarios looking to future outcomes, go to our sister site: Geopolitical Information Service. Sign in for 3 Free Reports or Subscribe.

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