Fiscal Space

Over the past few years, Oman has benefited from high oil prices and increased production, which has allowed for stepped-up government spending on public investment projects. This, in turn, has helped spur growth in the non-oil sector, most notably manufacturing and tourism. However, the evolution of the tradable sector beyond the oil sector has been slow, and the country’s export composition is still dominated by oil and gas. Recent spending initiatives are putting pressure on the government’s budget and medium-term fiscal sustainability. These challenges point to the need for the government to build buffers and continue to promote job-creating, non-oil growth, especially in the light of dwindling oil reserves. To be sure, the Omani economy continued to grow in 2012, with our projections indicating overall GDP growth having reached 5%, up from 4.5% in 2011. Due to new recovery technology and investment prompted by high oil prices, oil production is estimated to have increased. Non-oil sector growth is projected at 5.8% in 2012, supported by public investment and increased activity in the services sector. Near- and medium-term growth prospects remain positive. The recent spending initiatives, including government job creation in 2011-2012, increased expenditures by 70% between 2010 and 2012. As a result, the government’s policy space to respond to shocks has been diminished. A sustained drop in oil prices could exhaust available buffers and necessitate borrowing to maintain projected capital spending. If the government continues to spend at the same rate as during the past few years, it will begin to run fiscal deficits after 2015, which would force it to draw on its past savings, borrow, or cut its investment program. The latter would have an adverse impact on growth prospects. Moreover, Oman’s short horizon of proven oil reserves—projected to last less than 20 years according to international agency estimates—gives urgency to the need to rein in spending. It is crucial, however, that this be achieved in a growth-friendly manner. To that end, containing current spending while maintaining capital spending would help create the fiscal space needed for implementing the government’s planned public investment and help mitigate the negative impact on growth. A priority will be to reduce subsidies, particularly on fuel prices, that disproportionately benefit the well off. A gradual alignment with international fuel prices, while ensuring targeted support to protect the poor, would leave more public resources for other priority spending, such as investment in infrastructure that will help generate jobs and growth. Given that energy subsidy reform is complex, both technically and politically, careful planning, including on the timing and pace of reform, is crucial. Another key ingredient for successful subsidy reform is a communications campaign that raises awareness about the cost of subsidies and the benefits of reform, and helps generate broad political and public support. Creating job opportunities for the Omani workforce in the private sector is a top priority for the government. More efforts are needed, however, to alter the preference of Omanis to work in the private sector. A determined effort to foster SMEs will go a long way to deepen economic diversification and create employment. Recent government initiatives, such as providing entrepreneurs with access to finance through the Oman Development Bank, will help give the sector a much-needed boost, as will the development fund to target college and university students seeking to set up businesses. High oil prices provide Oman with the opportunity to boost fiscal buffers and build on progress already made to promote non-oil growth. Diversification into areas with greater employment potential is a key tenet of Vision 2020.