How to Spend a $210 Billion Oil Price Windfall: Jihad Azour

CAIRO (Capital Markets in Africa) – The significant rise in oil prices over the past year has big implications for the Middle East and North Africa (MENA), where hydrocarbons still play a pivotal role in the economy. Despite this change, it’s imperative that countries in the region stay resolved to cut their dependence on oil and make their economies more diverse and resilient.

Just a year ago, crude was trading below $50 a barrel, amid stories of oversupply and tumbling prices. Today, it is pushing closer to $80 – a level not seen since 2014. It’s the strongest rally since 2011, the last time prices jumped by 60 percent in less than a year. So what impact does this have on MENA countries, and how should they respond?

For most oil-exporting nations, higher crude prices mean windfall export and fiscal revenues. We estimate that MENA oil exporters will earn about $210 billion more in 2018-19 than they would have if oil prices had stayed at 2017 levels. Higher prices will probably boost confidence, helping spur growth and investment in non-oil industries – although heightened geopolitical risk could dampen that optimism.

The favorable environment carries its own danger too: Pressure could mount on policymakers to slow the reforms that aim to diversify their economies away from oil. Exporters may be tempted too to significantly relax their deficit-reduction programs, which they embarked on after the sharp oil price drop in 2014 cut their revenues.

Doing so would be ill-advised. Crude exporters shouldn’t miss this chance to prepare for the next price slump. Indeed, oil futures suggest that prices will fall below $60 per barrel by 2023. Some exporters have already taken steps to strengthen their fiscal positions by curbing their spending and trying to boost non-oil revenue. For instance, Saudi Arabia and the UAE recently introduced a value-added tax. 

There may be scope to ease the pace of deficit reduction in some countries in order to accelerate infrastructure projects and boost education and social spending. However, medium-term targets for non-oil fiscal balance should be kept largely intact to reduce hydrocarbon dependency and ensure adequate savings for future generations.

As you’d expect, the region’s oil importers are having a harder time of it. They face a dual shock of rising crude prices and the risk of sharply lower capital inflows because of pressure on emerging markets globally. Higher energy import bills will weigh on external balances and increase borrowing needs just as it might be getting harder to raise financing to roll over maturing debt.

Under such circumstances, the best choice for MENA oil importers is to keep shoring up state finances by reining in poorly targeted spending, improving public investment and finding ways to lift tax revenue in a fair way. They should take steps too to strengthen their resilience to external shocks, as Morocco is doing with the move toward a more flexible exchange rate regime and Egypt with structural reforms to boost competitiveness.

MENA countries – both oil exporters and importers – have also made important progress in reforming their fuel subsidies in recent years. For example, Algeria is reforming its subsidies by raising taxes on fuel while trying to better support those who are most in need. Jordan and Tunisia have moved toward automatic price adjustment of fuel prices, which will help protect state finances from oil price fluctuations. These efforts should not be abandoned. 

It was easier to justify subsidy reforms after crude prices plummeted almost four years ago, but the recent spike will put these hard-won gains to the test as calls to boost subsidies will probably intensify. Policymakers must resist and continue instead to phase out generalized fuel subsidies in favor of targeted schemes that benefit the poor. That will free up room for more useful spending on capital projects, education and social services.

The gains would be large. Each 1 percentage point of GDP cut in energy subsidies that is redirected to infrastructure spending has the potential over six years to increase GDP by 2 percentage points and create a half-million jobs in the region.

As oil prices fluctuate from one year to another, MENA countries can’t lose focus of the broader challenge in the region: How to secure opportunities and jobs for all citizens. This demands a steadfast commitment to reform that builds a diverse and robust private sector, tackles corruption and reduces the dependence on oil.

Jihad Azour is the director of the Middle East and Central Asia Department at the International Monetary Fund.

Source: Bloomberg Business News