By Abir Khan
As conflicts between Iran and Israel continue, OPEC’s oil prices are on the rise due to war premiums and supply disruptions. Though the price of oil is on the rise at the moment due to geopolitical instabilities (a suboptimal market share cut), only a few months ago oil trended the opposite. In particular, the price of Saudi Oil seemed to be plummeting this February, at “the lowest pricing in 27 months“. Though this can also be attributed to worries about geopolitical conflict, it’s just as likely that Saudi Arabia was worried about their market share and a weakening demand overseas.
This demand trend followed a profound 3.7% fourth quarter year on year shrinkage of Saudi Arabia’s GDP, with a staggering 16.4% decrease in Oil activities that quarter. Consider the fact that US Shale Oil bloomed by 9% last year defying expert expectations in part due to a constant efficiency increase of US fracking production responsible for a 36% cost reduction from 2014. Then consider that the US is on track to recover from its oil sales to Europe to weaken Russia’s influence and even increase production of Oil. It seems that Saudi Arabia’s oil is in a particularly precarious place, or rather it has been since the 2014-2016 oil price plunge.
The 2014-2016 Oil Price Plunge
Predatory pricing is defined as the attempt to weed out competitors by setting the prices of your goods with the intention of outlasting them. Saudi Arabia tried this exact pricing scheme against US Shale Oil in 2014, viewing the competition as an “existential threat to Saudi Arabia’s place in the world and to continued rule of the Al Saud royal family”. During this time period, despite outward confidence that the pricing was a winning strategy, while quietly wondering how long they could keep the prices of their rentier resource low. Not long, as it turns out, being reckless with your own bargaining chip is rather unsustainable and instead US Shale Oil simply adapted to compete at the lower prices. The pricing scheme seemed to end around 2016, and resulted in the US lifting its own ban on being an exporter of oil to the world. If the goal was to eliminate competitors, then the pricing scheme not only didn’t work, but had some rather adverse effects on Saudi Oil. First and foremost, the price plunge created a period of low expectation for oil growth which marks a decrease in output overtime as it drives away investors and weakens productivity. Despite Saudi Arabia spending during the price war as if nothing was amiss, the aftermath was ugly for the country. Within the public sector, minister salaries were cut by 20 percent, consultative assembly members had their perquisites cut, stipends for housing among the Shura council were reduced by 15 percent, and civil servants found their overtime pay and vacation being limited. With the government bleeding money, and a projected 300,000 new workers entering the economy that they wouldn’t be able to absorb, it’s hard to call the pricing scheme a success by any means.
Diversification of Revenue
If predatory pricing won’t work, what will? Almost immediately after the 2016 oil plunge, Saudi Arabia began talks of Vision 2030, a framework towards diversifying their economy, lessening their reliance on oil. This plan includes massive infrastructure investments corresponding to a deficit increase as the plan is in tandem with a net revenue decrease for Saudi Arabia.
In terms of achieving diversification, the plan is a solid, stable, and economically sound approach. A marker would be the average 4.8% yearly increase in non-oil GDP for Saudi Arabia. Just last month, Saudi Arabia’s GDP became 50% non-oil. According to Harvard Growth Lab, the transition of Saudi Arabia’s economy could use diversification as well, more participation in the private sector would be tremendously beneficial, and it is likely that the inclusion of women in the workforce could be a great boon towards that end. A primary example of a new industry focus Saudi Arabia is investing in is the digital technology sector, having committed to devoting an annual 2.5 percent of GDP towards the innovation and development sector until 2040.
Is this the beginning of the twilight of Saudi Oil rentierism? If such is the case, new avenues may open for the US to approach relations with a less cautious economic attitude, as a less oil-revenue reliant Saudi Arabia will have less incentive to pull stunts such as the 1973 oil embargo, or the 2014-2016 pricing war. With less risk in dealing with Saudi Arabia, it’s also possible for the US to hold the country more accountable, be it towards human rights or economic relations. The importance to how we interact with Saudi Arabia going forward cannot be understated, as of the writing of this article, in this very moment the US is attempting to normalize ties between Saudi Arabia and Israel, a gambit to write an exit strategy towards the Israel-Palestine conflict by leveraging ties with Saudi Arabia. Whatever the future may hold for US-Saudi Relations, it appears as if oil will have a diminished role within it.