What Cheap Oil Means for Us

On paper, record low oil prices should prove to be an economic bonanza for an emerging market energy importer like Jordan. But what’s the reality?

By Dina al-Wakeel

In 2011, just when it was trying to get back on its feet following the global economic downturn, Jordan’s economy suffered another serious blow when militants started repeatedly targeting the Egyptian export pipeline that supplied the country with gas to generate most of its electricity. This forced Jordan to shift to more expensive oil imports, increasing government spending and piling more debts on the state-run National Electric Power Company (NEPCO).

With increased instability across the region—and the thousands of Syrian refugees that crossed into Jordan as a result—and a continued global economic slowdown, World Bank figures show that Jordan has witnessed a sluggish economic expansion over recent years. World Bank and IMF figures show that GDP growth declined from an average of 8.1 percent between 2004 and 2008, to below 3 percent between 2009 and 2014. While according to the Jordan Independent Economy Watch, a project affiliated to the Identity Center think tank, over 80 percent of government borrowing was used to cover NEPCO’s losses by 2014.

But as the price of oil started on its downward trajectory, losing around 75 percent of its value in the last year and a half, economists have predicted positive outcomes for some aspects of the Kingdom’s economy, which relies on imports for 97 percent of its energy needs. At the same time, however, lower oil prices could also have a negative impact on issues like aid—which our budget relies heavily on and a considerable amount of which comes from Gulf states, particularly Saudi Arabia—investments, and remittances from the thousands of Jordanians who work in the Gulf.

NEPCO and the Electricity Saga

Expensive fuel prices have had a direct impact on NEPCO’s bottom line, whose accumulative losses reached approximately JD5 billion. Late last year, The Jordan Times reported that Umayya Toukan, the finance minister at the time, said the company had made losses of JD1.3 billion in 2014. But as oil prices started plummeting, he expected losses to shrink to JD250 million in 2015.

Kristina Kostial

Kristina Kostial, the IMF’s Mission Chief to Jordan

“NEPCO’s input cost fell sharply because of the decline in oil prices,” said Kristina Kostial, the IMF’s mission chief to Jordan. “This, together with other factors, has helped return NEPCO to operational cost recovery.”

But Kostial also cited other factors behind NEPCO’s turnaround, including diversifying its energy mix and a shift from oil to less expensive liquefied natural gas (LNG)—exempting the company from special taxes on LNG, and the collection of a transit fee for transporting LNG from the new Aqaba terminal to Egypt.

Economist Khalid Wazani agreed. When oil prices hit $120 per barrel, NEPCO’s cost per kilowatt was 180 fills. Today the cost per kilowatt does not exceed 50 to 60 fills, explained Wazani, who is also the strategy and knowledge advisor for Mohammed Bin Rashid Foundation (MBRF). He even said that the company had been back in profit since 2015, and should start settling its debt soon.

Under a three-year stand-by arrangement with the IMF that was struck in 2012, the government approved annual increases to electricity prices to bring NEPCO back to cost recovery by 2017. Prices were hiked several times, until the beginning of this year when, due to notably lower oil prices, they were kept unchanged.

Kostial said if oil prices do recover over the medium-term, then further tariff increases would be recommended. But she also added that electricity prices should be linked to global oil prices. “As is the case for fuel pump prices, we think that tariffs should be automatically adjusted to changes in the oil price, to ensure that NEPCO does not incur losses and can start repaying some of its sizeable debt,” she told Venture. “We also see scope for reducing cross-subsidization of electricity tariffs to ensure the competitiveness of Jordan’s businesses while continuing to protect the most vulnerable.”

Economist Salameh Darawi

Economist Salameh Darawi

Many of the country’s business sectors have been teetering on the brink due to high running costs, mainly high prices of electricity and water. Economist Salameh Darawi said some bigger companies that heavily rely on oil derivatives, including the Jordan Phosphate Mines, the Arab Potash Company, Royal Jordanian, in addition to steel companies, will benefit a great deal, moving from a loss to a profit. Royal Jordanian for one has returned to profits again, as did the phosphate company, after having been in the red for a few years.

But Kostial warned that without further policy action, NEPCO could start running losses if oil prices recover again.

Gulf Aid

This paints a reasonably rosy picture of the state of Jordan’s economy. However, the Kingdom also relies on foreign aid, including the generosity of Arab Gulf states that in 2011, pledged $5 billion over five years to help ease the government’s economic woes as a result of the region’s unrest.

To offset the sharp drop in oil prices that squeezed most of their budgets, Gulf states have opted to slash subsidies and raise prices or reach out to their reserves. Projections by the IMF and HSBC Holdings Plc expect the Saudi economy to grow this year at the slowest pace since 2002. The IMF also cut the UAE’s growth forecast for 2016 to 2.6 percent, the slowest growth rate since 2010.

Kostial said although it was difficult to project the impact of the lower revenue on grants, it was still possible that GCC countries might reduce their aid. She stressed the need for Jordan to continue its economic reform program, which will help the country to gradually reduce its reliance on grants.

But a diplomatic source that Venture spoke to and who declined to be named said Saudi Arabia, at least, will not risk undermining Jordan’s security, and will continue providing the Kingdom with financial aid. “Although they had to take some austerity measures I think Jordan is still at the top of Saudi priority,” said the source. “There will be no willingness to see Jordan face any economic hardships, especially considering the Kingdom’s importance in the region, and being on the border with Syria. There’s a security imperative involved.”

Economist Khalid Wazani

Economist Khalid Wazani

Wazani agreed, saying he believes that Saudi Arabia alone will fulfill its pledges this year to Jordan, while the rest had their own budgets to worry about. “I feel that only Saudi Arabia will fulfill its commitments this year, as it has been really tough for all of the others. And of course Qatar is out of the equation,” said Wazani. Although Qatar pledged to contribute to the $5 billion grant allocated for Jordan, it never met its promises.

Despite the hopes pinned on Saudi Arabia, Darawi warned that Arab-Arab relations were unpredictable. “Whoever says that they can predict the future, especially the Arab-Arab relations, is mistaken. There is no pattern. With the Americans we have a five-year funding agreement, so whether Obama stays or is replaced by another president, we will continue to get these funds. But when it comes to Arab relations, they are subject to the whims [of individual leaders].”

He also pointed out to another fear which is the Kingdom’s ability to attract new investments from these Gulf states, particularly Saudi Arabia and Kuwait who are some of the Kingdom’s main economic partners, due to the harsh financial situation. Kuwaiti investments in Jordan exceed $12 billion, compared to more than $10 billion that Saudi Arabia invested in the transport, infrastructure, energy, finance, commerce, and tourism sectors, according to Petra news agency. Furthermore, Kostial said there could be a slowdown in vital cash remittances sent by Jordanians working in the Gulf over the medium-term. “If oil prices remain low … such benefits could decline over the medium-term because of Jordan’s close linkages with the GCC. This is because these economies might be slowing down, resulting for Jordan in potentially lower exports, travel receipts, foreign direct investment, remittances, and possibly also grants.”

The General Budget

So what does all of this mean for Jordan’s overall budget? On balance, said Kostial, the decline in oil prices has had a limited impact on the central government’s fiscal balance. “Initially, the impact was positive, mainly reflecting the suspension of the cash transfer established in 2012 to compensate for the elimination of fuel subsidies (these transfers are paid only when the oil price exceeds $100 per barrel). As prices declined further, this initial impact has been broadly offset by a decline in government revenue from the general sales tax on petroleum products,” she explained.

From a theoretical point of view that is true, said Darawi, but on the ground it might not be. When fuel prices are expensive people don’t consume as much, but when it’s cheaper they tend to consume more, he argued. Lower commodity prices, including oil derivatives, which the average citizen pays no less than 15 to 30 percent of their income on, constitute an essential part of the consumption basket. Consumers would also buy more food staples whose prices should go down in parallel with shipping prices, he added.

Wazani was similarly positive, saying that energy alone would result in a saving of around JD700 million; JD180 million in direct fuel subsidies (cash transfers), a 40 percent decrease in government spending on the public sector’s vehicle fleet’s oil consumption, and a direct reduction of electricity subsidy which is around JD400 million compared to 2015, and almost one billion compared to oil prices in 2014.

He also called on the government to seize the opportunity and improve the investment environment. “The overall picture is positive for the economy, if and only if, we decide to move the supply side forward,” he said. “This means we have a great opportunity to move the industry and other investments forward as most of their complaints about cost of production, is solved.” This, he added, is also good news for the balance of payments and the foreign reserves.

Whether the impact of falling oil prices is good or bad for our economy, and whether our government seizes the opportunity and ups its game remains to be seen, particularly that many of these changes take longer to filter through the economy.

For now, we can at least celebrate the positive aspects that we know of. “So far, Jordan has benefited from the lower oil prices,” said Kostial. “By enabling households and companies to spend less on oil products and more on other goods and services, it contributed to support domestic demand at a time where exports, tourism, and investment were affected by developments in the region. The lower oil prices also had a significant positive impact on the external current account and on the finances of the electricity company, NEPCO.”