How diversification will drive the UAE through times of low oil prices
It is oft-repeated now that 2016 is proving to be a challenging year for businesses in the GCC countries. Several industries are beginning to feel the pinch of the volatile oil price, which has dropped by more than 70 per cent since June 2014.
While there are green shoots of recovery, for the hydrocarbon-rich states of the Arabian Gulf, oil price volatility has certainly had a serious impact on their bottom lines. A closer look at market trends during this era of disruption, however, shows that these circumstances come with opportunities for diversification – prospects which, when seized, will make for resilient regional economies.
For the region, oil revenues are a major contributor to government income. In the UAE, for example, oil constitutes more than 50 per cent oil of total revenue from exports. However, the government pumps back the revenues to the economy through investments in infrastructure, health care and education. Through this model, GCC economies have raised the standards of living of its people.
One could argue that everything is connected in this system. The oil harnessed from say, the Zakum, Abu Al Bukhoosh or Bab fields, has not only made the livelihoods of the people in these fields, but also touched the lives of those who are employed in ancillary sectors – be it in banking, shipping, logistics and others. Oil thus runs through the very veins of the UAE economy.
While this model has made significant contributions to the development of this region, there is room for improvement through a concerted effort to diversify the economy to include non-oil tradable goods. That is taking the diversification narrative to the next level. Currently, while the need to diversify the economy is an accepted fact, the role that non-oil tradable goods play seems to be under-discussed.
Typically, any economic diversification narrative is dominated by the need to build “soft power” skills such as tourism, information technology, education and other sectors. The role of industrial manufacturing – especially the downstream drive within the petrochemicals sector and supporting industries – needs to be supported today to draw on the natural synergies offered by the economy.
This insight was understood by the region’s leadership as early as four decades ago, when they embarked on developing a globally competitive petrochemicals industry.
In the early 1970s, the petrochemicals industry began out of the necessity to use the associated gas in the region’s oilfields, a resource that was previously flared, causing pollution as well as wasted depleting natural resources. Today, the UAE is home to an 11.9 million tonnes petrochemicals portfolio, according to the Gulf Petrochemicals and Chemicals Association (GPCA). From a macroeconomic perspective, economic diversification has brought huge socioeconomic benefits to the UAE economy.
For example, despite oil revenues serving as a barometer for liquidity, the Abu Dhabi exchange’s index dropped by a far lesser degree (12 per cent) than the price of Brent crude over the past two years. If the UAE leadership were to have depended solely on oil and gas reserves 40 years ago, then the subsequent impact of oil price decline would have been catastrophic.
The diversification into manufacturing and in particular petrochemicals industries has proven to be a wise venture. This is made evident by examining the prices fluctuation of Brent versus polyethylene during the period of June 2014 to January 2016. The drop in oil prices during this time had been 72 per cent, while that of polyethylene was 35 per cent. In fact, polyethylene prices have been less volatile than Brent crude at every bearish period since 2003 – whether it was during shock waves at the Lehman Brothers collapse in 2008 or the difficult early-period euro debt crisis in 2012, this petrochemical commodity has been consistently less volatile than its upstream counterpart.
This is a testimony to the GCC leadership which took steps to venture into petrochemicals manufacturing to reduce the heavy reliance of national economies on volatile oil revenues.
While it might be true that we are living in challenging times rather than dwelling on the negatives, let us look at the obstacles as an opportunity to evolve rather than decline. Research by the IMF has found that diversification for oil-exporting countries usually takes place in times of declining resource revenues and requires decades of development in the non-oil tradable sector.
In the UAE, the foundations for the non-oil sector – for energy-intensive industries such as petrochemicals, aluminium; and service sectors such as ilogistics and shipping – have already been laid. The development of advanced manufacturing and the emphasis placed on innovation will have a spillover effect that benefits the rest of the economy. GPCA research supports this fact: every direct job created in the GCC petrochemicals sector leads to the emergence of an additional four job opportunities in supporting industries.
Looking ahead, there are several policies that can support the non-oil sector. Providing enablers such as government funds or private incubators to organisations that focus on innovation, entrepreneurship and human capital will help in developing non-oil industries.
Encouraging a research mindset, where organisations question, collaborate and test solutions with outside entities, will also drive innovation. The next step, then, is for a consistent and open innovation perspective to take root that brings together government, businesses and academia.
After all, successful diversification of the economy cannot, and should not, occur from one stakeholder alone. The future lies in collaboration.
Abdulwahab Al Sadoun is secretary general of the Gulf Petrochemicals & Chemicals Association
Published: March 31, 2016 04:00 AM