Oman in Transition: Institutional Uncertainty and Economic Reforms

by Nicola Iezza

Oman’s prosperity derives from its endowments of natural resources, mainly gas and oil, combined with the inspired leadership of Sultan Qaboos bin Said al-Said. The 78-year-old ruler assumed power in 1970 after a bloodless coup. Since then, Muscat launched an economic and social transformation programme that led the country to reach an annual GDP of over $80 billion (USD) and a literacy rate of 95%. Strong central institutions and the willingness of Sultan Qaboos to boost development have been essential elements of this success. However, the era of the Sultan is coming to an end: suffering from a tumour, nobody knows how much time he has left. Oman maintains structural economic problems that only a committed leadership can solve. Therefore, the succession process and the absence of reforms could lead the economy to unprecedented levels of unsustainability.

 

Oman’s Economy and Oil: Curse or Blessing?

 

Oman is a country rich in oil and gas. There is widespread economic literature about the curse that affects countries holding large quantities of natural resources. There are four empirically demonstrated recurring issues witnessed by observers: 1. extreme dependence on row materials; 2. low saving rates; 3. poor growth performances, and 3. high volatility. Those stylized facts could be counterintuitive, as people usually expect resources to be a blessing. Instead, they reflect a vicious economic dynamic known as the Dutch disease.

The Dutch disease, experienced in the Netherlands after the discovery of gas deposits in the North Sea during the 1960s, operates in three stages. Firstly, the discovery of resources produces a large increase in wealth and foreign investments. Secondly, the inflow of capital leads to an appreciation of the exchange rate, causing a decline of the domestic manufacturing sector as imports become more competitive. Finally, non-resource exports experience difficulties in foreign markets, shrinking or even collapsing. Disposing of large wealth coming from resources extraction produces other detrimental side effects such as corruption, rent-seeking attitude by elites and even conflicts. Oman, despite the efforts undertaken for decades, continues to suffer from the obstacles of an oil curse in the inability to develop (consistently) sectors out of its hydrocarbon production.

 

Dutch Disease, Omani Problem

 

The natural resource curse does not follow the same trend in every country. Several economists have stressed the role of strong institutions, committed to savings and balanced growth, as the principal antidote. In the Gulf region, the UAE, for instance, has proven to be able to wisely manage its vast oil and gas resources toward innovation and prosperity. 
 

Since the 1970s, Sultan Qaboos has embraced a package of reforms to avoid the negative side effects of an hydrocarbon reserves dependent economy. Despite initial management, 2011 marks a change as protesters took to the streets and blamed the Sultan for the country’s high unemployment rate; widespread corruption and rising prices of basic goods. To settle the issue peacefully, Sultan Qaboos opted for costly reforms; Muscat organized 50,000 new government jobs; raised the minimum wage; subsidised more than 80,000 low-income households and increased opportunities for university enrolment and salaries. 

The reforms were made during a peak period for oil prices - $110 (USD) per barrel - and relative economic prosperity, as in Oman the hydrocarbon sector accounts for almost 75% of the economy. Nevertheless, oil prices have substantially decreased to the level of $60 (USD) per barrel- and even to a low of $27 (USD) in 2016. Government spending in deficit has soared to double digits for years, while growth has stagnated. In July, the IMF cut the forecast for 2019 to a growth of 0,3%. Concurrently, Moody’s downgraded Oman’s credit rating to Baa3, the lowest investment-grade rating – junk, as financial operators call it. As a substantial rise in oil prices is not on the horizon, Muscat must be seriously concerned about the health of its economy. 

 

Strategies of Diversification

 

Oman needs to overcome credit problems and assure investors that the country is financially solid. The Sultanate has planned a 5% value-added tax (VAT) from 2020. The VAT inaugurates a process of normalisation in a country that has never experienced individual taxation. However, the real challenge for Muscat is to boost economic diversification and growth. The oil curse is a major obstacle toward it. Sultan Qaboos has not been able to diversify the economy since the 1970s, notwithstanding the creation of the Oman Investment Fund (OIF) and new government strategies.

The last one, Vision 2040, aims at offsetting the declining hydrocarbon revenues through investments in five strategic sectors: manufacturing, tourism, logistics, mining and fishing. With a vision of becoming a logistics and transportation hub for the region, Muscat retains close ties with Beijing in the context of the Belt and Road Initiative (BRI). The two governments have signed a Memorandum of Understanding (MoU) in May 2018, with China planning to invest $10 billion (USD) in ports and commercial hubs of the country. The nonchalance of Sultan Qaboos in finding allies for the economic diversification of Oman has increased criticism from the West, despite the Sultanate’s long-standing, careful, politics of neutrality on the international stage.

 

A Leap in the Dark: Succession in Oman

 

The future of the country is more uncertain than ever: three years ago, Sultan Qaboos left the country to Germany for a medical treatment lasting eight months. Notwithstanding that, the Sultanate still lacks a designated heir. Qaboos does not have children nor has yet indicated who will be the next ruler of the country. Omani laws are winding concerning succession. After the death of the Sultan, a family council will have three days to choose the next ruler; if the council fails, its members have to open two envelopes left by the Sultan and currently guarded in Muscat’s Palace. They contain the names of the two preferred heirs designated by Sultan Qaboos.

This process is causing concerns both in Oman and abroad and is unlikely to run smoothly. On one hand, without a preferred candidate, the Sultanate could be the stage for a bloody dispute involving more than one contender. On the other hand, to disclose the names that Qaboos hid in the envelopes now is correspondingly dangerous because powerful external actors could have the possibility to co-opt the next Sultan even before he ascends the throne. The neutrality and balancing role of Oman could be put into question by the next administration. Moreover, a prolonged succession could hamper the efforts undertaken over the last years to overcome the reliance over the hydrocarbon economy, as political uncertainty makes investments problematic and leave space for the Dutch Disease to operate.  This process is vital for Oman: at the current pace of extraction, oil reserves would last only for some 14 years, while gas reserves are expected to end a decade later. As such, the presence of strong institutions able to guide the country toward economic diversification is increasingly crucial for Oman to overcome the oil curse. Oman is experiencing two transitions: political—the Sultan’s succession—and economic—to develop a resilient and diversified economy. Both are complementary and necessary for the prosperity of the country. 

***

EGIC will closely follow the political developments in Oman. The dynamics of succession for the throne could have important repercussion for the economy of the country and at the international political stage in the Gulf and in neighbouring Yemen. The outcome of the Omani succession could change the equilibrium of the region to a direction which nowadays appears inconceivable. The internal economic outlook of Oman, together with the delicate transition in the sultanate, will probably shape the next decade of Oman’s foreign policy, as the country is in desperate need for external allies in the delicate economic transition toward a post-hydrocarbon economy.

09 October 2019

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