Fossil fuel or commonly called as Oil is surely nature’s another gift to mankind. As a child, I didn’t realize the significance (like many other things!) of oil and always thought it is just another ‘thing’ that we need in our day-to-day life, like to run our automobiles. Its only when, thanks to my introduction to the Economics subject, I realized that oil, which I thought is ‘just another thing’, is in fact, the lifeline of many economies on this planet. According to some statistics, almost half of the world’s oil reserves are concentrated in the Middle Eastern region which made me wonder if there is a connection between the desert and the oil reserves since most parts of the Middle Eastern region comprise of deserts. According to experts, it takes millions of years for the oil to form and hence, the oil reserves that we see today would have started forming millions of years ago. Therefore, the climatic conditions of the regions where we find the oil today millions of years ago are important than it’s climatic condition today. Also, a substantial amount of oil reserves ae are found in locations which are not deserts, like Venezuela or Canada. Therefore, I think it is safe to say that the desert is as random a location to find oil as it is elsewhere! Well, that’s not the intent of this article of mine; just wanted to write about oil price and dependency of the Middle Eastern economy on the oil price. Looks like I am getting a bit carried away with too much of geology stuff! Now back on track! The Middle East region consists of several countries and there is some ambiguity around the definition and the countries included in the region. I am not getting myself dragged into that, instead of focusing only on those major oil-producing countries of the region and whose economies are predominantly oil revenue dependent, viz., Saudi Arabia, Iran, Iraq, Kuwait, United Arab Emirates, Qatar & Oman. Although, in the last few years a lot of emphases is given on diversification of the economy and become less reliant on oil, still on a substantial part of their revenue comes from oil (and hence, risky as well!). Therefore, it’s no brainer that currently, the economic strength of these counties still largely dependent upon the ‘right’ oil prices. I deliberately used the term right oil price with an intention to say that it should be RIGHT both for oil-producing as well as oil-importing countries & will talk about this in the later part of the blog. When we look at the recent history, the oil prices were generally on the upward trend from the early 2002 until mid-2008 (ignoring the minor spikes during this period) when the price reached over USD 150 per Bbl followed by steep downward trend from mid-2008 to early 2009 with the price reaching below USD 50 at the beginning of 2009. Oil prices quickly recovered to reach around USD 80 by mid-2009 and although didn’t reach the peak of mid-2008 level, stayed within a price range of USD 80 – USD 120 until later part 2014 (around USD 100 most part of this period). Then comes the most recent oil price crash reaching as low as USD 30 per Bbl at the beginning of 2016. As of now, although, the oil prices are on the recovery mode since mid-2016, they we are far away from the historical level (I am not, even for a moment, saying that oil prices should stay at that peak!)

Now let’s correlate these changes in the oil prices to some economic indicators of these countries during these periods of change. To avoid a large amount of data crunching, I will narrow down to some basic economic indicators, i.e., GDP growth, Public Spending and Government Budget Balance of these countries to see the direct impact of the oil prices on these economies. As per the data provided some international agencies like the CIA World Book or the word Bank, GDP of most of these countries grew during the period corresponding to the period during which the oil prices were in the higher bracket and slowed down during the period of lower oil process with the exceptions to this trend from Iraq & Iran. The main reason for the exception in case of Iraq is the prevailing political situation of that country whereas in case of Iran, it is the impact of international sanctions and also Iran’s reduced dependency on oil revenue, ie., about 23% of the GDP, in comparison to the other middle eastern countries where it is in the range of 30% to 50% in case of others. Similar trends can also be seen in case of Public Spending and Budget Balance which show increased spending and budget surpluses during the period of higher oil prices and reduced spending and lower budget surpluses or budget deficits during the lower oil prices which, substantiates the correlation between the oil price and these indicators. Further, the higher overall economic growth rate of over 5% seen in this region has slumped to about 1% in recent years where the prices are lower. But I am not trying to say that everything is doom and gloom here. In the past few years, these countries have been working hard on diversifying their economies to reduce their reliance on oil and move towards a knowledge-based economy. Some of them have achieved substantial success in this direction (for example Iran whose 80% of GDP was from oil in early 2000 which is brought down to about 23% now. Similarly, UAE from 80% to 30% now) and some are countries are slowly but surely getting there (in case of Saudi Arabia, Kuwait, Qatar & Oman, 42 50% of the GDP is from Oil). These countries are focusing on the development of other sectors like services (example: banking), trading, agriculture, minerals, manufacturing, tourism, free trade zones, renewable energy, etc. and these efforts are certainly yielding the desired results. Most of the Middle Eastern countries with the exception of Iran had no taxations until recently and some of these countries have introduced taxation of different types. Oman has already introduced corporate taxation a few years ago and Kuwait levies taxes on foreign-owned corporates. Introduction of Excise duties on tobacco & liquor, agreement on the implementation of Value Added Tax (VAT) by the GCC member countries are efforts in shoring up the government revenues to reduce the reliance on oil. Government subsidies predominantly for energy, housing, healthcare, education & other essentials, as a social welfare measure, are common in the Middle Eastern countries. These subsidies obviously form a substantial part of the government budget outlay (about 10% of GDP according to some estimates) and these governments have already taken steps to reduce and/or abolish some of these subsidies to reduce the burden on the exchequer. All these steps in the right direction are already yielding the desired results and reducing the oil dependency of these countries gradually. Dubai (an emirate in the United Arab Emirate) is a classic example of this success story. Oil revenue which used to contribute almost half Dubai’s GDP now contributes only a mere 5%. Dubai’s economy now largely depends upon banking, hospitality, shipping, and retail & real estate sectors. In the near term, however, it is expected that these countries, in general, will continue to depend on oil to support their budgets. Does this mean that from the point of view of these countries ‘higher oil price’ is the solution? Certainly not, it may help in the short term but in the long run, it is likely to impact the oil prices negatively. Higher oil prices hurt the global economy as a whole since, it negatively impacts the economies of the major oil-importing countries like United States of America, China, India, Japan, etc., leading to the possible reduction in demand and thereby price crash among other things. All the oil-producing countries including the Middle Eastern countries are aware of this fact and hence, they only advocate for a fair oil price rather than a high oil price. But the fundamental question that bothers me is the reason for the oil price volatility that we have been seeing historically. I am not really convinced that it is only the economic factors that drive oil prices. While I understand that the market forces like the demand and supply do impact the price of any commodity including oil, somehow, I am not fully convinced that it is always and only the case, unless I am missing something (quite possible). For example, I am trying to understand what economic factors that changed substantially in the 2H of 2014 when the price dropped from USD 110 Bbl to USD 50 Bbl! Obviously, there are factors like geopolitical situations, heavy trading in futures, potential risks associated with production and supply, etc. But I am sure there is something more that I am not aware at this stage and hence, I will keep it for ‘another day’!