In its latest brief on economic and financial developments in Saudi Arabia, National Bank of Kuwait (NBK) examined the Kingdom’s investment programs and policies aimed at expanding production capacity across the oil and gas sectors, and diversifying the economy by improving competitiveness and developing new industries. Central to these efforts are a host of economic reform measures and investor friendly regulations. Over the short-term, the success of such efforts may not be too obvious in light of the rise in oil prices by more than twofold since 2002 and unremitting growth in oil production that raised oil’s contribution to the economy dramatically.
Higher oil prices have made profit margins in downstream and upstream oil projects very attractive prompting the Kingdom launch a five-year, $70 billion investment program to raise oil production capacity to 12.5 million barrels per day (mbd) by 2009, expand refining capacity by 0.5 mbd, upgrade one of its refineries, and raise its gas production by 2 billion cubic feet per day (bcfd).
Investments in oil-related industries have skyrocketed as well. Saudi Basic Industries Corporation, the country’s dominant petrochemicals producer, intends to spend more than $10 billion to raise its production capacity to 64 million metric tons by 2008, while there are more than $10 billion in new investments by smaller private investors.
Oil dependency, however, keeps Saudi Arabia’s economy vulnerable to variations in oil prices, and the Kingdom continues to explore alternatives to revenues from oil exports. Home to the world’s fourth-largest gas reserves of 243.6 trillion cubic feet, and with only 15% of its territory explored so far, the country has the potential to be a major gas producer on the world stage. To help develop this sector, the government plans to locate new sources of gas and increase natural gas production by more than 130% by 2009. State-owned Saudi Aramco has already reported four gas discoveries and work is in progress on a $1.2 billion gas plant, but an estimated $9 billion in investments is still needed to meet these goals. In addition, despite already being one of the largest electricity producers in the region, Saudi Arabia hopes to attract $40 billion from private investors to help double its production by 2020. To this end, the energy sector has been revamped and gone public, and new regulations have been introduced.
According to NBK report, the Saudi government recognizes the essential role that privatization and foreign direct investment (FDI) can play in the development of non-oil-dependent economic sectors. Hence, it has already undertaken several steps toward attaining this goal. The first major privatization transaction took place in 2003 when 20% of Saudi Telecommunication Company shareholding was sold to the general public. The second major transaction took place in December 2004 through a public offering that sold 50% of the National Company for Cooperation Insurance. In addition, the private sector is currently managing Saudi ports by providing all support, operations, and maintenance services.
Twenty major service sectors are at different stages in the ongoing privatization process, including water and transport projects, telecommunications, education services, government joint investments, Saudi Arabian Mining Company, and shares in local refineries. The Saudi government did not adopt a time schedule to carry out the privatization process for each sector, but major steps were taken in each. The first private airlines were licensed this year, ending Saudi Arabian Airlines’ monopoly. In addition, contracts were signed for the first independent water and power project.
Besides selling shares in state-owned enterprises, the government has also enacted a number of laws and regulations to expand areas for private sector activities and to promote FDI. The 2000 foreign investment law allowed 100% foreign ownership (previously limited to 49%) in selected sectors and established the Saudi Arabian General Investment Authority (SAGIA). The government body, which has representative offices in a number of Saudi embassies and international airports, operates as a “one-stop shop” for investors.
NBK reports that in order to make the environment more hospitable and achieve the government’s objective of making Saudi Arabia one of the top 10 world destinations in the area of investment competitiveness by 2010, the country has undertaken a series of reforms and initiatives. A new capital markets law was approved in mid-2003, strengthening the management and operations of the stock market. The 2004 tax law reduced corporate income tax on foreign companies from 45% to 20% (except in the hydrocarbon sector, where tax rates are still between 30% and 85%). In 2005, Saudi Arabia removed the minimum capital investment requirements on foreign investors (except in wholesale trade and retailing services). A new government procurement law was also passed under which 100% foreign-owned companies could bid for government contracts. The general visa application process is currently being streamlined, with priority to trade visas. For businessmen of selected nationalities, the application process has already been facilitated. Short-term work visas and tourist visas will soon be issued to promote the inflow of business tourists and pilgrims. The government has also announced the launch of six new economic cities in less developed regions that will grant investors preferential treatment, including a tax credit and a doubled grace period for repayment of loans provided by the Saudi Industrial Development Fund.
As a result, Saudi Arabia has succeeded in increasing private and foreign investments, and participation rose in key sectors, including gas, insurance, banking, mobile telephony, electricity and water desalination, petrochemicals, railroads, and higher education. In its 2006 report, SAGIA indicated it had licensed more than 4,000 new projects worth more than $100 billion since its inception, and that foreign capital accounted for 46% of those licensed investments. The agency also reported that FDI inflows had increased significantly in the last five years, from the average $600 million seen between 2001 and 2003 to $2 billion in 2004, $12.1billion in 2005, and $18.3 billion in 2006. This meant total FDI stock reached $46 billion, or 13% of GDP, with the United States standing as the Kingdom’s largest investor, followed by Japan and the United Arab Emirates. FDI supported the growth in private investments, which remained stable, averaging 5.6% between 2003 and 2005 to reach $30.6 billion. To reduce the rising costs of projects, Saudi authorities my consider extending projects over a longer period of time.
Economic policy has not focused only on internal domestic issues. Indeed, the Saudi government has also sought to further advance the country’s integration with the regional and global economy. The first step aimed at improving and cementing Saudi Arabia’s bilateral and multilateral trade relations on a regional level, starting with the customs union formed with the other five members of the GCC in 2003 that lowered custom duties on most products to 5%. Saudi Arabia then granted GCC citizens equal treatment as its Saudi citizens in areas such as investing in the stock market, establishing a company, private sector employment, social security benefits, government procurement, shipping, and retail, including real estate, according to NBK report.
On a broader scale, the Kingdom’s accession to the World Trade Organization (WTO) was finalized toward the end of 2005, ending about 12 years of negotiations. WTO accession has committed the Kingdom to lowering its tariff barriers and other trade barriers and to accelerating the liberalization process of its key sectors, including telecommunications, banking, and insurance. The Kingdom had also signed 39 bilateral agreements, notably with its largest trading partners, the European Union, the United States, and China.
Perhaps the planned GCC currency union to be implemented by 2010 is one of the most visible efforts on the part of Saudi Arabia to enhance regional economic integration. Though this represents a regional initiative, Saudi Arabia is a key player in bringing it to reality given its size at roughly half of the region when measured by GDP. Progress with preparations for the introduction of a single currency, which to date includes agreement on the convergence criteria and pegging of all six GCC currencies to the U.S. dollar, has recently received a setback with Oman’s withdrawal from the project on concerns that it will not be ready by 2010, and Kuwait’s decision to abandon pegging its currency to the US dollar. This has raised a lot of speculation that implementation risks postponement. However, the official stand of Saudi Arabia has remained in support of the project, while denying rumors and speculation that it may revalue the Saudi riyal or change its exchange rate policy in light of the significant depreciation in the U.S. dollar against other major currencies.
Looking forward, Saudi Arabia has the potential to continue to grow rapidly -driven by the strength of global energy demand, substantial public and private investment, an improving business environment benefiting from liberalization and privatization initiatives, and a rapidly growing population enjoying higher purchasing power.
