By: Mustafa Ansari, analyst, energy research at APICORP
An economic slowdown coupled with energy reforms has adversely affected domestic fuel consumption growth across most of the GCC, and in some cases even led to negative growth. While a similar trend could be observed in most countries in the region, it was especially pronounced in Saudi Arabia. The region’s largest fuel consumer saw a 10 per cent decrease in demand for diesel in 2016, while gasoline demand flat lined. The UAE is the only GCC country where demand for both gasoline and diesel increased in the same period in the wake of the energy liberalisation plans implemented in August 2015.
Ever since January 2015, oil prices have teetered around the US$50 mark, placing huge fiscal pressures on net oil-exporting countries. Declining GDP growth rates and reduced government revenues led many countries in the region to initiate energy reforms and cut subsidies. While the new prices were still low by international standards, the reforms represented a fundamental shift in economic and social policies. The resulting effects of higher domestic energy prices and lower economic growth have in turn driven domestic demand for petroleum products down.
This development means that net energy exporters have benefitted from higher export volumes than they would have otherwise, slightly offsetting the lower revenues.
But oil prices have failed to recover, despite a collective agreement from OPEC in November 2016 to cut output. In the 16 years since the turn of the century, the MENA region added more than 4.8 million barrels per day (bpd) to global oil demand, second only to China’s 7.9m bpd and ahead of Africa, Latin America and the rest of Asia (excluding China). But demand will likely slow down further as countries in the region continue to undergo energy reforms.
Slowing GCC demand sends mixed signals
Rapidly growing demand for petroleum products has long been typical for the GCC countries. High population growth, robust economic performance until recently, and low fuel prices led to rising demand for gasoline and diesel in the transportation sector, and in the case of Saudi Arabia and Kuwait, rising demand for liquids in the power sector.
Governments therefore prioritised the expansion of the downstream sector, adding 1.2 million bpd of refining capacity in the last five years, with diesel representing more than half the additions and 350,000 bpd of gasoline. In early 2016, the GCC introduced energy price reforms that led to a hike in domestic prices, including gasoline and diesel. Whilst prices remained relatively low by global standards, the region began to experience a slowdown in demand growth and in some cases negative growth.
Annual gasoline demand growth averaged 6.2 per cent between 2010 and 2015 but shrunk to 0.4 per cent in 2016. The change in diesel demand was even more significant, going from an average of 4 per cent growth between 2010 and 2015 to a 6 per cent decline in 2016. Beyond the impact of the reform, the slowdown in economic activity also contributed to lower demand growth, and as these economies recover, some of this demand growth will gradually return.
UAE demand least affected
Despite its strong fiscal position, the UAE was one of the first countries in the GCC to liberalise its gasoline and diesel prices back in August 2015. The government still sets the domestic fuel prices on a monthly basis, but these are directly linked to international prices. The UAE has introduced electricity reforms, but the impact on the country’s nationals has been limited (especially in Abu Dhabi) with non-UAE nationals bearing the brunt of the reform. Subsidies for natural gas, which account for the bulk of the UAE’s subsidies, remain in place.
Amongst its GCC peers, the UAE was the only country where demand for both gasoline and diesel increased in 2016 compared with the year before (plus 20 per cent and 40 per cent, respectively). The trend in gasoline demand since 2010 has been upwards, having increased each year with the exception of 2014 when it slipped from 70,000 bpd to 63,000 bpd. Meanwhile, demand for diesel had been shrinking marginally from 85,000 bpd in 2010 to 71,000 bpd in 2015. But a significant increase to 99,000 bpd could be observed in
2016, when domestic retail prices dropped further in line with international prices. Liberalising prices in the UAE has received wide media attention. With the continued slump in oil prices, the initial impact on gasoline was negligible as prices were already close to international levels. But gasoline prices soon went from an average of $0.48 in 2015 to as low as $0.36 in March 2016, as international prices dipped below $30 per barrel in the beginning of 2016. For diesel, however, the situation is different: a prolonged trend of price cuts continued into 2016, with prices dropping to their lowest level in July. This contributed to an increase in demand for both products. Average demand for gasoline in 2015 jumped up from 69,000 bpd in the first half of the year to 108,000 bpd in the second half. Similarly, average demand for diesel increased from 69,000 bpd to 74,000 bpd over the same timeline. Although prices have fluctuated this year, they have remained on a relatively low level. Notably, there did not seem to be a correlation between monthly prices and demand, but an upside trend in demand could be noticed throughout the year.
VAT set to exert downward pressure on demand
Energy consumption is certainly important for growth. For decades, the provision of cheap energy has been a main pillar of GCC development strategy aimed at achieving key economic, social and political objectives. Low energy prices have enabled the GCC to achieve some of these objectives. Earlier in the year, the UAE announced that a 5 per cent value added tax (VAT) will be implemented from January 2018 as part of their efforts to diversify revenues. Whilst the tax will be exempt on products such as social services, health and education, it will be imposed on general household goods including electronics, entertainment, new vehicles and transportation fuel. In most countries, businesses can claim back VAT on commercial vehicles, but at this stage the rate in the UAE for both individual and commercial vehicles will be the same.
Although the tax is low by international standards, it will nevertheless increase domestic prices and will likely place downward pressure on demand. Certainly, for the oil industry, a slowdown in fuel consumption may lead to lower output levels, lower utilisation rates, lower demand for skilled labour and higher costs. Rapid demand growth in the past meant that the level of investment required to keep pace became unsustainable. But on the upside, lower consumption will free up more products for exports. In 2014 the UAE added 417,000 bpd of refining capacity with the start-up of Ruwais where it substantially affected trade balances, turning the country into a net exporter of both gasoline and fuel oil and substantially raising diesel exports.
With the ramp-up of the Ruwais refinery in 2015 and an additional 70,000 bpd of refining capacity expected in the next five years from the Jebel Ali condensate splitter expansion, the UAE could further benefit from higher export revenues.
What’s next for the GCC?
In its July update, the IMF predicted a considerable slowdown in growth, especially if oil prices remain low. MENA GDP growth is expected to average 2.7 per cent this year and to recover modestly to 3.3 per cent by 2020. Oil prices might remain lower over the long term, meaning that further policy reforms will be necessary to alleviate fiscal pressures. But there is a bright spot amidst the gloom. Energy consumption growth is clearly slowing down in most countries in response to energy subsidy cuts, which will help regional governments save millions whilst also freeing up more products for exports.
The UAE are well placed to take the lead in this new opportunity. Rapid demand growth in the past meant that the level of investment required to keep pace became unsustainable. Lower domestic demand levels will ensure that the region can maintain its position as a leading energy exporter, whilst simultaneously working towards economic diversification to reduce dependence on export revenues. In the absence of economic recovery, demand growth for transportation fuel products could decline further.
Whilst gasoline demand has not dropped significantly, not least due to fuel switching from premium to regular grades, governments need to invest more in public transport to reduce reliance on transportation fuel. Still, with a global oversupply of products, the GCC countries are challenged to ensure that they remain competitive. But, as the regional economies enter the recovery phase, we are set to see some of this demand growth gradually return.