Put simply, Oman has dealt with the impact of the regional and global slowdown relatively well.
Roubini Global Economics (RGE) expects the economy to grow by about 4 per cent this year, in line with the Mena and GCC average, before expanding 4.5 per cent in 2011. Strong government spending is the main driver.
Oman is taking advantage of higher-than-budgeted oil prices to maintain an expansionary fiscal policy in both 2010 and 2011. Government consumption will be less supportive in 2011 and beyond, though, assuming that the oil price and demand rise only gradually.
Domestically, the private non-oil sector is small and highly influenced by policy. Moreover, despite ample liquidity in the global economy, Oman is likely to grow at just below its potential growth rate, and like the rest of the GCC, much lower than the trend growth of the 2005-08 boom period.
In fact, the government recently conceded that growth would be softer than initially projected, though it still holds to a very optimistic 5 per cent growth rate for 2010.
Diversification drive
Although oil remains a linchpin of Omani growth, with small reserves and limitations on scaling up oil production, channelling the oil revenues into the non-energy sector is the key policy priority.
Oman, with a large population and the second-lowest hydrocarbon production per capita in the GCC, was quick to launch a diversification programme. In fact, the non-hydrocarbon sector is starting to provide not only a greater share of growth but also revenues.
An increase in government capital spending is a major driver of growth, as Oman invests to boost its future productivity.
Although growth in the oil sector will outstrip overall growth this year, for the first time in five years Oman — like its peers Saudi Arabia, Qatar and Kuwait — has substantially increased its capital expenditure.
Strengthening oil prices have facilitated expansionary fiscal policy, which is supportive of the private sector.
Although it is early to be talking about the success of the efforts to shift the drivers of growth, the scale of investment across Oman's non-oil sector has been impressive. For instance the upgrades to the aviation and overland transport sectors are improving transport infrastructure.
Development spending increased by 26 per cent year-on-year between January and July 2010. Moreover, by September 2010 government contracts worth $11.5 billion (Dh42.2 billion) (more than 60 per cent of the related budget) had been allocated. Major investments have been made in the construction, manufacturing and real estate sectors as well as industry. As consumer confidence picks up, both wholesale and retail trade will increase, strengthening the services sector, which currently contributes 51 per cent to Oman's GDP.
In the telecom sector, the two main service providers have been investing in broadband infrastructure, as a low penetration rate (estimated at 3 per cent) gives scope for significant growth.
Meanwhile, weaker external demand, particularly from Europe, may weigh on tourism, though it should continue to grow in 2011, albeit more slowly than in 2010.
Supply-demand mismatches and government contracts for social housing will support the construction and real estate sectors.
The government has also put efforts into increasing the share of the gas sector in the country's output, with the target of 10 per cent in 2020. Doing so would help meet domestic power needs, and any excess could be absorbed in a region that is relatively gas-poor (aside from Qatar).
The framework of the Vision 2020 diversification plan provides key guidelines as to where the Omani economy is heading. Oman's seventh Five-Year Development Plan (2006-2010) continues a series of long-term strategic ventures and covers the expansion of manufacturing industries in Salalah and Sohar, construction of three new airports (at Sohar, Ras Al Hadd and Duqm) as well as a modern port in the latter.
In aggregate, Oman's aim is to increase the contribution of the industrial and services sectors to 29 per cent and 47 per cent respectively by 2020.
Tourism is at the heart of the service sector expansion, but Oman wishes to avoid attracting the masses. Moreover, it faces competition from its neighbours, and will have to use its natural and cultural endowments and its early-mover advantage carefully.
Oil reliance
Unlike its GCC peers, which cut production in 2009 and have held it steady in 2010, as a non-Opec member Oman has not been bound by production restrictions. That enabled the country to reach a nine-year high in oil output in September 2010, as well as increase oil and gas exports by 8.6 per cent and 11.7 per cent in January-April 2010.
This increase in production of hydrocarbons and related infrastructure should be a significant driver of economic growth in the medium term.
Although Oman's economy has begun to diversify from oil, its fiscal finances have not. In 2010 oil will contribute close to 99 per cent of government's revenues.
The country's low oil output per capita means the state reserve fund and central bank reserves are relatively small. On the positive side, debt levels remain low (see figure 1). However, Oman now relies on an oil price of well over $50 per barrel to balance the budget, akin to the situation among its neighbours, leaving it vulnerable to any drop in oil demand and output.
With oil trading in a $70-$85 range, Oman's finances are strong this year. The government is expected to run a surplus, as the current spending plan is based on a conservative price assumption of around $50 per barrel (see figure 2).
Hydrocarbon exports account for about half of Oman's export revenues, making the country dangerously dependent on the oil industry. Oil exports are mainly destined for China, followed by Japan and Singapore, where demand should continue to strengthen.
Having increased by 7 per cent year-on-year in September 2010, new gas fields discovered in early 2010 should add to output and provide a boost to the industrial sector, which contributes 48 per cent of GDP.
The UAE remains Oman's main non-oil trading partner, even though both exports to Oman and from Oman fell in 2009. Nevertheless, with the overall foreign trade surplus surging, so is the current account surplus.
Financial health
With stronger growth, inflation has picked up, reaching 3.4 per cent in August this year. Further increases in food prices could exacerbate the inflationary pressures of fiscal and monetary stimulus. RGE expects inflation to average just under 4 per cent this year. In 2011 a relatively stronger economy will push inflation above 4 per cent. Although Oman is not likely to hike interest rates in 2010, lest it pressure the dollar peg, it has begun to shift towards a more neutral policy stance.
With banks more able and willing to extend credit, Oman has reversed measures introduced when credit was tight. Deposits climbed 9.5 per cent during January-August 2010, outpacing loan growth of 5.6 per cent, improving the liquidity position of Omani banks.
Greater demand for credit, as investors' confidence slowly returns, should slowly manifest itself in stronger loan growth. Capital adequacy ratios (CARs) declined in the first half of this year, but banks are expected to maintain required capitalisation levels.
Banks' net profits have suffered from write-downs of delinquent assets, but provisioning numbers continue to decline.
Lending to the public sector continues to be dominant. In fact, slackening credit growth to the private sector in the first half mirrored and contributed to the rather modest pace of non-oil growth. However, the trend should shift, as risk appetite on the part of lenders improves and more funding is needed for Oman's diverse infrastructure projects.
High levels of unemployment, particularly among nationals, make job creation a political imperative.
The unemployment rate among Omanis remains significant at an estimated 15 per cent, but the pace of hiring Omanis continues to increase under the Omanisation initiative. However, at 25 per cent of the total, the proportion of the expatriate labour force is high.
Although RGE is sceptical that the planned infrastructure investment projects will meet the goal of adding 4,000 positions this year, job creation will lead to improved demand, consumption and savings over time.
Given that Oman is an ally of the US, one of the main risks lies with Oman's geopolitical ties. Close proximity to Iran makes it vulnerable to that country's volatile foreign policy.
However, the location of Oman's main ports, on the outer edge of the Arabian Gulf, towards the Indian Ocean, means the country would most likely be able to continue trading with its most prominent partners should Iran decide to blockade the Strait of Hormuz, even temporarily.
The outlook
Expansion of the oil sector, extensive state outlays and a relatively isolated and less leveraged financial system than elsewhere kept Oman resilient during the financial crisis, with growth slowing modestly but remaining positive.
Those factors are likewise buoying the country during the uncertain economic recovery. The improving sentiment in the GCC, and return of capital flows to the region following the restructuring of Dubai World debt, will also be positive for Oman, helping it meet its financing needs.
Doubtless, there are restraints ahead, as Oman's revenue outlook contains future investment, with inward flows thus far limited and the country's capital markets remaining less developed than in its neighbours. Also, global growth outlook remains clouded.
Slowly but surely, however, Oman is quietly making headway.
The writers are Junior Analyst, Mena, and Senior Research Analyst, China and Oil Exporting Economies, RGE, respectively. The article is adapted from RGE's forthcoming Economic Outlook, available in December 2010.
