ABHISHEK ROY – APRIL 29, 2019
Recently, Saudi Aramco, the oil giant, divulged its earnings for the first time and turned out to be the most profitable company in the world. Its net profit of $111 billion on revenues of $356 billion is massive. In comparison, ExxonMobil earned profits of $20.8 billion this year and Apple, $59.5 billion.
Aramco, one of Saudi Arabia’s main sources of power, wealth, and influence in the world, might seem like a cash cow. However, in the wake of rising awareness about depleting fossil fuels and environmental damage, the governing figures of the country understand the need for change in its economy. To understand the whole picture, let’s look at the economy of this oil-rich nation, the way it’s transforming its economy, and its position in the world economy in the foreseeable future.
The oil economy
There is a long history to the formation of the Saudi Aramco, one of the largest companies in the world. After World War I, Standard Oil of California (SoCal) gained concessions from the Arabian government to search for oil on the mainland. A new subsidiary was created and later renamed to Arabian American Oil Co. (Aramco).
In the 1970s, the Saudi government slowly increased its ‘participation interest’ in Aramco’s assets, initially from 25% to 60%, then finally to 100%. Following the formation of OPEC (Organization of Petroleum Exporting Countries) and the control of Aramco, the Saudi economy boomed. Vast oil fields were discovered, those of which are now responsible for 12% of the total oil production around the world.
Alternate Energy industry
A major shift towards alternate energy is underway across the world. This stems from the fear of running out of non-renewable resources and the dire need for environmental sustainability. A lot of research is going on in alternative energy with massive investment driving this emerging industry. This sector is projected to reach $2 trillion in value by 2025.
Keep in mind that this transition is not solely based on the fear of running out of oil. One of the main reasons behind the transition from coal to oil was because of the much larger amount of energy stored in the resource and its relative abundance about a century ago. Similarly, it is time to pave the way for another energy transition to cleaner resources not only because of the fear of running out of oil reserves, but also because of the need for economic and environmental sustainability. In the US, 17.1% of total energy production in 2018 was from renewable resources. The renewable energy sector maintained investment levels of over $30 billion, with investment concentrated in solar, wind and nuclear energy.
The power markets in several large Latin American countries are also thriving. The renewable energy industry is supposed to increase its installed capacity in these regions by over 20%, bringing with it investments worth nearly $20 billion.
The Asia-Pacific region is forecasted to outpace both Europe and the US in terms of renewable energy installations and projects. In 2017, China promised to invest over $360 billion in renewable energy projects that accounted for 45% of the industry’s global investment that year. Wind, solar and biomass energy are also making headway in India. The renewable energy industry has gained a lot of momentum, which will only increase in the coming years and as energy demands increase.
Saudi Arabia’s diversification
Recognizing the need to survive in a world where oil may no longer be liquid gold, the crown prince of Saudi Arabia is working on a massive program to modernize the Saudi economy by diversifying it from the petro-state it is now, and establishing the country’s foothold in the technology and entertainment industry. Vision 2030 is the blueprint that Mohammed Bin Salman is following to transform various sectors of the Saudi industry, which includes financial, energy, and agricultural, just to name a few.
According to trade theory, free trade allows countries to specialize in the resources that they can produce most efficiently, as the countries will produce the goods that they have a comparative advantage in. However, this can lead to overdependence on a single or few goods and services. Fluctuations in global demand for that particular good can lead to volatile trade conditions for the country.
In the context of Saudi Arabia, the country controls one-fifth of the world’s oil reserves. 65%-70% of the country’s exports consists of crude and refined petroleum, discounting other polymer and petroleum-derived products. At its current rate of production, Aramco’s reserve of 260 billion barrels is supposed to last only about 90 years. Some reports calculate the time-period to be even shorter than that.
As such, Vision 2030, through the diversification of its industries and trade, is integral to Saudi Arabia’s survival. The program aims to build a viable private sector, develop its technology and renewable energy industry, and bring about changes in everyday life of their citizens through improvements to quality of life.
This program has attracted a lot of investor interest. Orders for Aramco’s new bonds are worth over $100 billion, 10 times more than anticipated. All of this has contributed to the sovereign fund established by the Saudi government for future investing. Aramco is also anticipated to launch an IPO (initial public offering), where a portion of the nationalized company will be open to the public sector as well.
Institutions like Softbank have also backed these Saudi endeavors. One notable project is Neom, which is one of the biggest projects under Vision 2030. $500 billion from the Saudi sovereign fund, Softbank, and other investors is going to fuel the construction of a futuristic city larger than Dubai, which will include cutting edge biotech, finance and investing industries, renewable energy, and ‘more robots than humans.’ In a sense, this is the capstone project of the crown prince in his effort to diversify the economy and attract investors.
The future
Vision 2030 is not only a plan for survival, but also a plan to stay relevant in the coming decades. With the renewable energy industry picking up pace, and technological innovations like machine learning and AI being rapidly developed, manufacturing and petroleum economies will soon become obsolete.
There are two possible outcomes for Saudi Arabia’s position in the world in the coming decades. With such fast-paced economic changes, Saudi Arabia may never be able to emerge from its dependence over oil. The recent $300 billion budget proposed by the Saudi government has been criticized to be a sign of veering away from the unnecessary extravagance that Vision 2030 was aimed to do away with. Investors are wary because this budget put heavy pressure on the national debt. Moreover, the success of the Aramco bonds could possibly overshadow the imminent public offering of Aramco shares. Many officials believe that much more money can be raised for the Saudi sovereign fund through issuing bonds, and thus argue there is no need to go public. This would again be a major blow to the vision of developing a thriving private sector and fueling investment. Such hindrances may pile up, and prove to be too difficult to overcome for the kingdom.
On the other hand, Saudi Arabia’s effort to diversify the economy and build its services industry may help it emerge as a transformed, powerful and sustainable economy. With the amount of financial power in its hands to foster new growth, Saudi Arabia may emerge as the next hub of tech startups and financial giants. In the coming decades, if the transformation is successful in every respect, Saudi Arabia may not remain synonymous with just oil anymore.
Overall, Saudi Arabia has attracted a lot of attention and investors for the projects. The advisory board of the Neom project contains executives from Facebook, Masayoshi Son (the head of Softbank) and the president of Y Combinator. Saudi Arabia has an immense repository of funds which, if utilized properly, can lead to amazing changes in the economy by aligning it with the needs of the future. Vision 2030 will not end in 2030. The economy is heavily dependent on oil and changing the foothold of a country as large and powerful as Saudi Arabia will take many more decades. The journey into the constantly changing brave new world will take time, blood and sweat. In Aldous Huxley’s words, “stability isn’t nearly so spectacular as instability.”
Featured Image Source: The Atlantic
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