Can Arab oil giants move beyond petroleum?

Can Arab oil giants move beyond petroleum?
Comment: The failure of the vast economies of the region to diversify should be ringing alarm bells around the globe, writes Robert Springborg.
8 min read
15 Aug, 2016
Today’s Arab petrostates face uncertain economic futures that require bold yet realistic decisions [Getty]

In April, almost two years after the slide in oil prices first commenced, Saudi Arabia's Deputy Crown Prince Muhammad bin Salman launched Vision 2030.

The goals for the country's future, he stated, were for the country to be "the heart of the Arab and Islamic worlds, the investment powerhouse, and the hub connecting three continents".

It is significant that oil is not identified as one of the three pillars on which the country's future is to rest.

Indeed, in the remainder of his statement, the deputy crown prince mentioned oil three times, each to downplay its importance.

First, he noted that the presence of Muslim holy sites was a gift from Allah "more precious than oil". Second, he observed that "we are not dependent solely on oil for our energy needs". And finally, he pledged to "transform ARAMCO from an oil-producing company into a global industrial conglomerate".

For the effective ruler of the leading petrostate of the Middle East and North Africa to commit to the goal of moving "beyond petroleum", as a one-time CEO of BP pledged a decade ago, raises the question of whether Saudi Arabia will succeed where BP failed.

Just as none of the major international oil companies has thus far diversified beyond oil and gas as the primary sources of its earnings, so has no petrostate, other than the partial exception of the Emirate of Dubai, managed to do so. All of them are more dependent for export receipts and government revenues on the sale of hydrocarbons than they were 30 years ago.

Just as the colonial economies based on agriculture faced huge challenges in "moving beyond" coca, coffee, cotton, jute or some other monocrop - challenges which many of them have yet to effectively meet - so do today's MENA petrostates face uncertain economic futures.

Diversification is even more difficult for them than it was for the classic colonial economies because their dependence upon oil and gas is more profound than was, say, Egypt's former dependence on cotton.

Whether Deputy Crown Prince Muhammad bin Salman's vision is realised or not, he is to be congratulated for recognising that oil can no longer sustain the kingdom, or probably any other petrostate, for that matter.

The downturn in oil and gas prices that commenced in June 2014 is unlikely to prove to be just the onset of yet another cycle, in which lower price stimulates demand while depressing investment in production, thus ultimately driving prices back up again. This time the wolf really is at the door. A long-term decline in oil prices is now on the cards.

The MENA "oil era", which began in earnest after the Second World War, and then dramatically intensified after the 1973 October War - creating not only petrostates but an entire oil-dependent MENA economy - is being succeeded by the "gas and green era".

Renewable energy is the world's fastest growing source of energy

In 1973, oil accounted for just under 53 percent of global fuel consumption, while natural gas accounted for slightly less than 19 percent. By 2013, oil's share had fallen to 35.7 percent, as gas' share rose to 25.6 percent. Over that same period, non-hydrocarbon sources more than tripled their share of total energy consumption, from 5.9 percent to 19.4 percent.

The rate of change from oil to natural gas and non-hydrocarbon energy sources is steadily accelerating.

Renewable energy is the world's fastest growing source of energy, now expanding annually at 2.6 percent. Natural gas' share of total energy consumption is expanding annually at almost 2 percent. As a consequence of this expansion of gas and of renewable sources, oil's share of world energy markets is anticipated by the International Energy Agency to drop below 30 percent by 2040.

As oil's share of global energy markets has declined, its production has diversified. North America's share of global oil production is expanding at the world's fastest rate. By contrast, the Middle East's share is falling and at a steadily faster rate.

It was 36.7 percent in 1973, but had dropped to 31.6 percent by 2014. Oil exports from the Middle East were about 20 million barrels per day some three years ago, but have since slightly declined. The Middle East, in sum, produces an ever-smaller share of a fuel that is losing its market share globally as its production steadily diversifies geographically, due primarily to new extraction technologies.

Prognostications that rapid growth of oil consumption in Asia would more than offset declining rates in the West now appear to be not just premature, but wrong.

Oil consumption in advanced Asian economies, including South Korea and Japan, is falling. In China, its rate of growth has dropped dramatically and even India - forecast by many to be the new great oil market - has seen its consumption of oil flatten out.

Asian consumption, in sum, does not look as if it is going to throw a lifeline to the MENA oil exporters.

The gas picture in MENA is more one of shortage than of boundless abundance. Its share of global gas production, at about 17 percent, is well below its contribution to global oil production and is some 2 percent less than it was in 1973. The region's dependence on gas is nevertheless rapidly expanding; consumption over the past several years rising at an annual rate of more than 6 percent.

In 2015, for the first time, gas' share of primary energy consumption in the MENA rose above that of oil, reaching 50.6 percent, compared with oil's 47.5 percent. An increasing number of MENA countries, even of the petrostate variety, are now importing natural gas either by pipeline or in the form of LNG.

Although the region does have four countries among the world's top ten gas producers, its prospects for regaining market share of gas exports, especially if they are to be extra-regional, are dim. The traditional advantages of MENA oil were that it was plentiful, held in large fields under high pressure and close to sea-borne transport.

MENA gas never had those same advantages - with the possible exception of Qatar's resources.

Changes of extraction technologies and financing render MENA gas much less attractive than that found in, say, the US. Gas extraction and shipment, whether by pipeline or in the form of LNG, is more expensive than that of oil. And new technologies add to that cost.

The West Australian Gorgon gas project had cost $54 billion by the time of its first shipment in April of this year. That shipment turned out to be the last for another two months as problems developed in a cooling system, suggesting just how expensive and complex modern gas gathering and processing systems remain.

Both vulnerability and cost thus militate against expansion of gas fields of this nature in MENA. Vulnerability has been demonstrated in Algeria, where in May a remote gas facility was attacked with RPGs. Other gas facilities have been seized by IS.

Iraq, where security remains inadequate, still flares the bulk of gas produced as a byproduct of oil extraction. Installing gas-gathering equipment poses too many risks.

As MENA economies become more cash-strapped... investment funds for large gas projects will likely dry up

As for cost, MENA national oil companies have typically resorted to their own profits, to their state's budgets, and/or to multinational energy companies for financing, with banks playing a smaller role for them and bonds virtually nothing.

As MENA economies become more cash-strapped, as the holdings of sovereign wealth funds decline, as the profits of national and international energy companies recede, and as global bank financing becomes ever tighter, investment funds for large gas projects in the MENA will likely dry up.

The MENA region could do far more to develop alternative energy sources, starting with solar. Indeed, it has started to move in that direction - as demonstrated by the large project in Morocco. But efficiency and differing times of production and consumption of electricity require MENA electrical grids to be interconnected regionally and across the Mediterranean. Not even the planning for such connections has commenced.

The oil and gas revenues necessary to sustain petrostates are thus running out, just as demands increase as a result of rising costs of production, growing populations, ever greater shortages of domestic food and water supplies, and expanding domestic energy consumption.

The three notable bulges in the budgets of all petrostates, those formed by subsidies, public wages and security expenses, form the essential contours of those states. Seeking to flatten them simultaneously without venting the political steam such pressure will generate will be a parlous undertaking.

To succeed, the sector will need astute political management against the backdrop of a coherent strategy to convert acquiescent consumers into participatory citizens, willing to accept economic cutbacks in return for more political influence.

There is nothing in the deputy crown prince's Vision 2030 that addresses this issue. In the tradition of petrostates, it substitutes a fanciful technocratic solution, promising the pie in the sky of a technologically sophisticated, exporting industrial economy.

If the negative prognosis for oil and gas revenues had not already done so, this vision itself should set alarm bells ringing for the MENA's petrostates - and those beholden to them for their welfare.    

Robert Springborg is Visiting Professor in the Department of War Studies, King's College London, and non-resident Research Fellow of the Italian Institute of International Affairs. Until October, 2013, he was Professor of National Security Affairs at the Naval Postgraduate School and Program Manager for the Middle East for the Center for Civil-Military Relations. 

From 2002 until 2008 he held the MBI Al Jaber Chair in Middle East Studies at the School of Oriental and African Studies in London, where he also served as Director of the London Middle East Institute. Before taking up that Chair he was Director of the American Research Center in Egypt.

Opinions expressed in this article remain those of the author and do not necessarily represent those of The New Arab, its editorial board or staff.