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WEEKLY NEWSLETTER
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Saudi Arabia
Index
In the early 1970s, the economic situation changed
dramatically. Oil exports expanded substantially, royalty
payments and taxes on foreign oil companies increased sharply,
and oil-exporting governments, including the kingdom, began
setting and raising oil export prices. Saudi Arabia's revenues
per barrel of oil (averaged from total production and oil
revenues) quadrupled from US$0.22 in 1948 to US$0.89 in 1970. By
1973, the price had reached US$1.56 and soared to US$10 and
higher in 1974 following the Arab oil embargo introduced to
pressure Western supporters of Israel during the October 1973
War. In 1982 the average export price per barrel of oil reached
well above US$30. Between 1973 and 1980, government oil revenues
jumped from US$4.3 billion to US$101.8 billion. At last the
higher oil revenues gave Saudi officials the means to make major
structural changes in the economy.
The society encompassed factions eager to promote the
modernization program, as well as some elements within the royal
family and the religious community who feared the social
consequences of rapid economic transformation. Others, mainly
from the technocratic elite, were concerned about the economic
consequences of such a rapid expansion in expenditures. One
choice facing policymakers in the early 1970s was whether to
restrict oil production to a level that was adequate to finance
limited economic and social development or to allow production at
a level that would meet world demand for crude oil. Choosing a
relatively high production level would force a decision on
whether to use resulting revenues for rapid domestic economic and
social development or long-term investments abroad. There were
other policy choices. Those people who wanted to keep oil in the
ground, except for that needed for limited development, argued
strongly that this policy would best preserve the country's
resources for future generations.
The choices appear to have been made by 1974 at the latest,
although the decision-making process was not always clear or
discernible. One issue was clear, however: domestic economic
policy did not drive oil production and export policies. The Al
Saud pledged to keep oil flowing at moderate prices, commensurate
with world needs, arguing that the kingdom was as dependent on
the stability and prosperity of consuming nations as those
nations were on Saudi oil. Moreover, if Saudi Arabia wanted to
ensure that oil would remain the energy source of choice,
moderate prices were essential. In addition to framing the issue
in purely economic terms, the decision had a geopolitical
dimension: since World War II the kingdom had linked itself with
the West and was eager to honor its pledge as a loyal ally on the
international and regional level. This position was also
reflected in its relations with Aramco. Saudi officials argued
that the kingdom had avoided nationalization, opting instead for
a gradual takeover of foreign oil companies operating within
Saudi borders. Despite these attempts to moderate oil prices, the
supply-and-demand fundamentals of the international oil market
combined with the changes in ownership of downstream assets to
raise international oil prices, creating enormous pressures on
the domestic front to invest rising oil revenues in developing
the country's economic and social infrastructure.
By the mid-1970s, the government had decided to use most of
the growing oil revenues for a massive development effort. An
important part of that effort was to industrialize, largely by
investing in processing plants that used the country's
hydrocarbon resources. This policy meant at least a decade of
very large investments to build the plants and the necessary
infrastructure. It meant financing and building the gas-gathering
system, the pipelines for gas and crude oil to bring the raw
material to the two chosen main industrial sites--Al Jubayl (or
Jubail) and Yanbu al Bahr (known as Yanbu)--and building the
industrial sites themselves. The development effort also included
many other projects, such as the huge and costly airports at
Riyadh and Jiddah, hospitals, schools, industrial and plants,
roads and ports. By the mid-1980s the massive expenditures
totaled US$500 billion.
The decision to increase the country's oil and gas resource
development through downstream investments in refineries and
petrochemical plants was logical considering the country's
resource endowment. Three factors motivated such a strategy.
First, downstream investments were capital-intensive, which
fitted Saudi Arabia's small population and large oil revenues.
Second, more value-added income would be extracted and retained,
thereby maximizing Saudi revenues through the export of more
refined petroleum products instead of crude oil. Moreover, the
natural gas that had been largely wasted before the 1980s would
be processed and used.
Third, some Saudi planners saw industrialization as another
opportunity to widen the sphere of economic activity for foreign
and domestic private firms. Participation of foreign private
sector firms was crucial from the outset. Saudi Arabia invited
several international oil companies to invest in joint ventures
in the new export refineries built in the kingdom during the late
1970s and early 1980s. Furthermore, participation by
international petrochemical companies was necessary to obtain the
technology needed. There was also the issue of access to the
markets of the West: Saudi planners anticipated regulatory and
trade problems by exporting petrochemicals to markets that
already had made substantial investments in the petrochemical
industry. Saudi planners therefore hoped that, with the help of
foreign multinationals, they could fit Saudi petrochemical output
into international distribution networks.
On the domestic front, the state would build the basic
industries, the crucial first step in the chain of industrial
processing. Through loans and other incentives, the state would
foster the growth of specific private sector industries that
would be at the lower end of the industrial process. Over a
period, the planners anticipated that the state-owned
conglomerates might be partially privatized.
A large part of the funds spent on development programs were
intended to promote private sector investment and to support
future consumption. Starting in the mid-1970s, the government
decided that an adequate infrastructure was essential to the
kingdom's future development. Providing this infrastructure
included revamping and building electricity, water, sewerage,
desalination, and telecommunication systems. Moreover, it
entailed creating airports and ports and laying a vast network of
roads. In terms of generating and distributing electric power,
the government assisted private companies building and operating
its electricity network through concessionary capital loans and
continuing operating subsidies. Apart from upgrading distribution
facilities for water, the government built several desalination
plants and drilled wells, built dams, and installed pumps.
Telecommunications were quickly brought to international
standards, allowing Saudi Arabia to handle all its communication
needs in local and international telephone, telegraph, maritime,
and television distribution services, via cable, satellite, and
terrestrial transmission systems. Under King Faisal ibn Abd al
Aziz Al Saud (1964-75), there was a massive increase in
government spending on education to an annual level of about 10
percent of the budget.
Saudi planners also saw the need for a subsidy program to
supplement direct government outlays. The major reason was income
distribution. Although direct grants to average citizens would
have been most efficient, the logistics involved would have been
difficult. Conversely, waiting for the oil expenditures to reach
this economic and social objective might have created additional
social tensions. Therefore, the government adopted a widespread
subsidy program for utilities, fuels, agriculture, social
services (both private and public), the industrial sector, and
several other areas. Beyond income distribution, the rationale of
the subsidy program was the need to promote nonoil development
through cheap loans, technical assistance, industrial and
agricultural incentives, and preferential buying of domestic
products by the government. The subsidy program was also designed
to improve education and health services.
The massive development effort entailed many risks. The size
of the effort and the technology involved required the
participation of a huge number of foreign workers for a long
period, with the potential of disrupting the society. The pace of
modernization was also economically disruptive. Some observers
questioned whether Saudi refineries and petrochemical plants
would be efficiently managed and prove competitive within a
reasonable time. By the early 1980s, the country encountered
economic and social tensions--such as the inflation of the mid-
1970s, the takeover of the Grand Mosque in Mecca in November
1979, and disturbances in the Eastern Province in 1979-80--that
dissipated only late in the 1980s.
Another risk of the massive development effort was the loss
of control over expenditures or inadequate justification of
investments. The sudden easing of financial constraints in the
mid-1970s permitted consideration of projects too lavish or too
large earlier. The forced development of the capital at Riyadh
was a sentimental and political decision that required large
expenditures to bring such necessities as water, electricity,
communications, and housing inland to a capital far from the
economic centers of the country. The huge airports at Riyadh and
Jiddah (built at a reported cost of US$3.2 billion and more than
US$5 billion, respectively) were architectural monuments, but
whether they were a wise use of the patrimony of future
generations was unclear.
The rapid rise of public purchases and contracts after 1974
caused foreign businessmen to flock to the kingdom. Because Saudi
agents were usually essential, foreign businessmen frequently
paid them large fees, to be recovered in the contract they were
seeking. The Saudi business sector viewed these practices from a
perspective different from that of some outside observers: agent
fees and influence peddling were called corruption by visiting
journalists but were judged less harshly domestically, although
there was some unease. Some Saudis criticized agent fees
frequently granted to the wealthy, especially people related to
the royal family. The perceived costs, combined with growing
criticism at home, eventually prompted the government to restrict
the use of agents and fees on some defense contracts and to take
other measures to control costs.
Looking back at this huge effort in the early 1990s after
several years of stagnant public investment, the picture was
mixed. On the one hand, the infrastructure had stood the test of
time and provided the citizenry with world-class facilities. On
the other hand, maintaining these investments, some of which
lacked a direct financial payback, despite their more general
economic uses, has been costly. More problematic may be the
public perception that authorities, having fostered such
dependency on government largess, found it extremely difficult to
reduce services.
Several other infrastructure problems became apparent. First,
the vast majority of expenditures were concentrated in a few
cities, predisposing these metropolitan areas to more rapid
economic growth. Second, infrastructural support systems were
programmed at an early stage of the country's development,
rendering some obsolete in the early 1990s. Third, some of the
facilities seemed to have been built as an end in themselves,
leading to unnecessary waste and continuing maintenance costs.
The most entrenched problem from the period of rapid
development of the mid-1970s to the early 1980s stemmed from the
government's willingness to subsidize production, consumption,
and investment. The objectives for subsidies were threefold:
encouraging nonoil economic activity, meeting social goals, and
distributing income. The subsidy program may have created greater
problems than were earlier anticipated. Saudi planners never
thought that oil revenues would constrain expenditures to the
extent that they did in the late 1980s and early 1990s.
Efficiency requires that subsidies be applied directly at the
source. Most Saudi production subsidies have been indirect
subsidies, which have reduced the cost to consumers of
electricity and other industrial inputs, leading to unnecessary
waste. The industrial sector has thereby become a relatively
inefficient producer and has made little effort to wean itself
from government assistance.
Nowhere was this problem more prevalent than in the
agricultural sector where national security was the original
objective in raising output. Saudi Arabia became self-sufficient
in several major food grains but the cost to the budget and the
ecology could not be justified. First, international experience
has shown that food embargoes have generally failed unless
accompanied by a major military campaign. Second, savings on food
purchased from overseas could easily have been invested in
inventory to safeguard against an external threat. Third, no
social benefit emanated from such a program. Agricultural
employment continued to decline, and large conglomerates, rather
than peasant farmers, profited from most subsidies. Fourth,
subsidies could have been related to more appropriate production
methods that promoted water conservation.
Data as of December 1992
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