Squeezed by falling oil prices and costly subsidies, Riyadh is finally getting serious about economic reform
By Megan Darby
The notion that state-owned Saudi Aramco could float on the stock exchange has set the business world alight.
It is the world’s largest oil producer, with ten times the reserves of US giant ExxonMobil. On that basis, it could be worth trillions of dollars.
What has it got to do with climate change? Well, it is the latest sign that Saudi Arabia is ready to overhaul its petro-powered economy.
Catalysed by slumping oil prices, a reform agenda is taking shape. “In terms of climate, there is a cautious optimism amongst reform-minded technocrats in the Kingdom,” says Glada Lahn, a Middle East analyst at Chatham House.
Yet she warns it could be derailed by heightened sectarian tensions in the region, triggered by Saudi Arabia’s execution of a Shiite cleric this week.
Championing change is 30-year-old deputy crown prince Muhammad bin Salman, based on advice commissioned from McKinsey. The leading consultancy last month set out a blueprint for moving the Kingdom’s economy beyond its dependence on oil.
“The country can no longer rely on oil revenue and public spending for growth,” it concluded, “in the face of a changing global energy market.”
It proposed investing some US$4 trillion in other sectors like mining, finance and tourism by 2030. That could boost non-oil revenues from 10% to 70% of the government total.
This approach was foreshadowed in the country’s climate pledge submitted to the UN in November. Riyadh framed the document around economic diversification, with the avoidance of 130 million tonnes of CO2 equivalent emissions by 2030 a potential “co-benefit”.
Compared to other national contributions, it was an opaque plan, full of caveats. But by Saudi standards, Lahn says, it was “the most substantial commitment they have ever made to the international negotiations”.
The Kingdom could achieve double those carbon savings, largely by reining in wasteful use of energy, she estimates. “They have been quite conservative. That doesn’t mean to say that [target] won’t be revised up. A lot of it is about confidence-building.”
The latest budget on 28 December underlined the economic necessity of sharpening up efficiency. While it did put money aside in the boom years, on current trends Saudi Arabia will burn through its cash reserves by 2020.
A quarter of its spending goes on defence, with conflicts ongoing in Yemen and Syria. And following the Arab spring, it ramped up benefits in a bid to prevent unrest spreading.
Digging in for several years of cheap oil, officials targeted politically sensitive state handouts. They hiked the petrol price 50% to 24 cents a litre – still a fifth of the global average, but a sharp increase.
“We want to reach free energy markets,” Prince Muhammad told the Economist, implying a total phase-out of consumer subsidies.
Market pricing would give Saudis more incentive to save energy at home – many don’t bother to turn the air con off when they go on holiday, given the negligible expense. In turn, they would win more credibility in claiming to be constructive players on the international climate scene.
The Kingdom went big on PR in Paris, where 195 countries struck a climate pact last month, insisting they were committed to a deal. Behind closed doors, observers say its negotiators fought to water down ambition.
Ultimately, the agreement targeted net zero emissions in the second half of this century. That means phasing out fossil fuel use almost entirely.
None of this means Saudi Arabia is quitting oil production any time soon. With a well-established infrastructure, it is competitive on cost and should be able to hold onto market share longer than most.
That would appear to be behind a repeated refusal to cut supplies in order to shore up the slumping oil price: Aramco hopes to drive competitors out of business.
“Clearly, they must be anticipating a sort of strategy where they are the last man standing in thirty years’ time,” says Anthony Hobley, CEO of think tank the Carbon Tracker Initiative.
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But the reforms do show an eye to a future in which oil may no longer be the cash cow of recent decades.
Aramco is set to decide in the next few months whether to open up part of the business to outside investors. One option is solely to sell shares in the downstream (refining and retail) businesses.
Of more interest to analysts is the extraction side. A public listing would force the company to submit to audits and verify just how much oil it has. That is where the big money – and climate impact – lies.
The share sale is a chance to raise cash for more climate-friendly investments, Hobley adds, such as solar power in the sun-frazzled desert.
In an economy based on one commodity, all plans are provisional. Previous Saudi attempts at reform have fallen fallow at the first sign of an upturn in the oil market.
This time, there seems to be a serious intent to put things on a more stable footing. But between regional hostilities and austerity at home, it won’t be easy.