Will Saudi Arabia’s big energy gamble pay off?

As the global energy industry experiences major economic shocks, key players are announcing ground-breaking initiatives to adapt to a changing landscape.

Presently, Saudi Arabia and other Gulf states are facing great uncertainty about the future, punctuated by strikes and general social discontent among the citizenry. The International Monetary Fund (IMF) projected a 12.3% budget deficit this year for members of the Saudi led Gulf Corporation Council and a lower job creation rate than anticipated. With 11.7 million people comprising Saudi Arabia’s labour force, of which 80% are non-Saudi nationals, the official unemployment rate among male Saudis is at around 11.5% (other estimates are closer to 25%) and a staggering 32% among females. This places Saudi Arabia at 129 on the world unemployment index.

In a survival of the fittest tactic, Saudi Arabia's Deputy Crown Prince Mohammed bin Salman is directing the effort to create a public investment fund based on the IPO of Saudi Aramco valued at $2 trillion (conservative estimates value it closer to $250 billion). This comes at a time when Saudi Arabia is undergoing major domestic and foreign policy restructuring, and as the country’s foreign reserves and global oil prices are trying to recover. What this fund will do and how it will operate are largely unknown. As importantly, Saudi Arabia has yet to articulate how it will mitigate the significant risks associated with transforming its economy in the span of two decades.

Putting Saudi Arabia’s metamorphosis into global context, one can identify several major obstacles to success:

Firstly, Saudi Arabia must transform and diversify its investments so as to survive declining oil prices in the years to come. The IMF’s World Economic Outlook recently showcased not only slow and risky growth forecasts in developing and emerging economies, but also moderate growth in advanced economies. The former is a partial reflection of factors including, economic downturn in Russia, Venezuela, Nigeria, and Brazil and downward trending oil prices and subsequent sluggish growth in oil exporting countries. The lack of oil market equilibrium is still unsettling and exacerbated, in part, by stagnant demand and threats by Iran and Saudi Arabia to increase production. Government budget woes, coupled with the already skyrocketing debt and bankruptcies of conventional energy companies, such as Paragon Offshore, Hercules Offshore, and Energy XXI, only complicate matters further.

Secondly, as Saudi Arabia looks to move beyond oil and become a key player in the new energy landscape, it must also be aware of the great uncertainties associated with investing in the global renewables market. Currently, several major renewable energy companies are undergoing fiscal challenges due to government policy fluctuations and inadequate management decisions. Regulatory shifts in Nevada, for instance, forced the United States’ largest solar rooftop company SolarCity to pull out of the state, despite steady consumer demand. US-based SunEdison, one of the world’s largest renewable energy developers, just filed for bankruptcy with debt totalling $16.1 billion. This comes after the solar thermal giant, Abengoa announced a debt restructuring plan to avoid becoming Spain’s biggest corporate failure. Due to broader economic slowdown and a widening tariff deficit, Spain is alarming investors with plans to slash renewable energy subsidies and sovereign guarantees. This has led some investors, including Masdar and Deutsche Bank, to take Spain to the World Bank’s International Center for Settlement of Investment Disputes.

Contrary to the common misconception that oil prices are entirely to blame, a recent Mercatus report attributed this financial instability in the renewables sector to inadequate business strategies and poor execution in a rapidly changing energy landscape. Bloomberg New Energy Finance executives similarly ascribed SunEdison’s bankruptcy to a “relentless pursuit of growth” and not to market failures.

Finally, accelerating change can be of great economic value; but, it can also have negative implications on companies and governments alike if this change is not complemented with strong leadership and forward-looking, social change. As Harvard Professor John Kotter famously argued, “more than 70% of all major transformation efforts fail… [b]ecause organizations do not take a consistent, holistic approach to changing themselves, nor do they engage their workforces effectively.” Simply put, Saudi Arabia must train, and re-train its workforce and fully integrate women into it.

The price of failure in this Saudi experiment would be catastrophic and questions remain. Will the Saudi Aramco IPO allow the country to cash out and build a strong economy of the future that incorporates disruptive technologies before the collapse of the oil market? Will Saudi Arabia advance economically by improving its human rights record? Will the Saudi Arabia of the future look more like Norway than Nigeria?

Or, will this grand plan, to paraphrase Hemingway, accelerate the end of Saudi Arabia slowly and then all at once?

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