Fuel for thought

“Fuel subsidies will continue to soar, exceeding their present level of $500 million per annum,” warned Abdulhussain Mirza, adding that the prices of some oil products on the local market dated back to 1983 levels.

While Bahrain residents have been paying bottom dollar on the forecourt, the government has been picking up the tab for close to three decades – and it’s a story replicated across the region.

A report published in July this year by US-based research firm AIRINC collated global gas price data from around the world. Its findings made grim reading for Europeans and those running gas-guzzlers in the US, but revealed just how little Gulf consumers are paying at the pump to keep their vehicles going.

A combination of taxes, transportation challenges and conflict meant that drivers in Eritrea were paying more than anyone else for their fuel, with a gallon of regular unleaded priced at US$9.59.

Norway and Denmark weren’t far behind at $7.41 and $6.89 respectively, followed by Hong Kong at $6.87. In the UK it set you back $6.60 for a full gallon, and in the US drivers were being asked to shell out $2.85.

The July study found that residents of Gulf countries were paying significantly less on the forecourt, from $1.57 in the UAE – a figure which has since risen again – to 85 cents in Kuwait and 45 cents in Saudi Arabia.

Iran was next-to-lowest in the world, with a charge of 32 cents a gallon, while Venezuela sold easily the cheapest gas at a remarkable six cents a gallon.

“People in the Gulf feel they have a right to cheap fuel; it’s an expectation and it has been that way for generations,” says Samuel Ciszuk, Senior Energy Analyst for Middle East and North Africa at IHS Global Insight.

“From the original oil boom it was seen as a very natural way for governments to disperse oil revenues to the population, as a part of a cradle-to-grave welfare system,” he continues.

“[Gulf nationals] can’t appreciate the real value of energy from an international perspective, so the idea that they would pay something similar to what people in some other countries pay at the pump, is abhorrent.”

Fuel consumption in the region in increasing, with Saudi alone using up to 900 000 bpd of crude product in its power generation.

And because of the low price of gasoline and other fuels, not to mention electricity and water, experts argue that the population of the region has become wasteful of its most valuable resource.

“The cost [of subsidies] has not been very apparent so far, but if you start looking at it in terms of lost opportunity, you notice that they have encouraged their populations to over-consume,” says Ciszuk. “The per-capita energy usage is quite staggering bearing in mind the [Gulf states] don’t have a very high output compared to Western countries.”

On the forecourt, this consumption is aided and abetted either by direct government subsidies, such as in Iran, or a government-controlled gasoline price, as is the case in the UAE. But whether the government is paying a direct subsidy, or government-owned retailers are forced to charge a set price, the state is still taking a heavy loss.

According to the International Energy Agency’s (IEA) World Energy Outlook 2010, Iran and Saudi Arabia are bankrolling annual fuel subsidies to the tune of $66bn and $35bn respectively – and that’s not including government subsidies to fossil fuel producers.

“It’s two sides of the same coin, as at the end of the day the consumer is shielded from real market prices for refined energy products,” says Kate Dourian, Middle East editor at energy analysts Platt’s.

“Somebody’s taking a loss, and in the old days, before the price rises started this year, they used to say that [Dubai Government-owned energy group] Emirates National Oil Company (ENOC) was losing up to $2m a day because of the price cap.”

Analysts admit that the true opportunity cost of decades of subsidies and price controls is incalculable. They also agree that today it is rising at a faster rate than ever, as domestic energy consumption soars, and states in the Gulf and beyond look to maximise revenues from their energy exports.

“In this region there’s no taxation at the forecourt, so there’s no way for the retailers to make up for any of their losses, and there’s no way for the government to recoup any of its losses,” says Dourian.

“Where the problem is now arising is that you’re starting to see shortages,” she continues.

“You might have a country like Qatar, for example, that has plenty of gas but is no longer willing for the sake of neighbourly relations to give it away at an advantageous price to neighbouring governments.

“The UAE is paying more for gas from Qatar, the Kuwaitis are paying real prices, and as you see demand grow, you are also seeing a change in trading patterns in the GCC region.”

Such concerns mean that the Bahraini oil minister is far from the first powerbroker to have highlighted the unsustainability of cheap fuel in the Gulf. Even in Saudi Arabia, the world’s biggest oil exporter, ministers and energy industry leaders have warned that rising fuel use in the Kingdom will hit future exports, if demand is not rationalised.

Last year oil minister Ali al Naimi said that in order for the Kingdom to maximise benefits from its petroleum sector, it would have to confront the growth in domestic petroleum products consumption, up 5% each year from 1990, and natural gas consumption, up 7% each year.

Both figures, the minister noted, were far in excess of the country’s 3.4% average annual growth rate of GDP during the same period.

“Consumption of all types of energy grew from 3.6% during the period 1995-2000 to 5.6% during the period 2001-08,” he said.

“This progressive increase and growth in the intensity of energy consumption in the Kingdom can be attributed to industrial expansion and the fact that prices are much lower than international levels.”

Naimi urged the institution of a nationalised programme for the rationalisation of energy consumption, and his words echoed those of his senior adviser Ibrahim Al-Munnah, who in March 2009 presented a paper calling for the linking of domestic fuel prices in Gulf Arab oil producing states to international prices, except for industries which add value to the economy.

And earlier this year, the CEO of oil giant Saudi Aramco warned that the country’s crude export capability will fall by 3m bpd to less than 7m bpd by 2028 if energy demand growth in the Kingdom, which is due to grow by almost 250% from current levels by then, continues unchecked.

“We estimate that through improved efficiency, while maintaining the same economic growth, the increase in energy demand can be cut in half,” said Khalid al-Falih. “This is a highly desirable goal because increasing domestic consumption of oil reduces the export availability.”

“Today, even when the price of oil is very high or very low, it doesn’t really change the price at which oil is sold to industry, so it will be sold at $10 even when the price is at $100,” notes Dourian at Platt’s.

“If they continue with subsidised prices or controlled prices in the Gulf, then they’re going to have less crude for export. We’re talking in a decade’s time, but it will still have an impact.”

Iran, meanwhile, has nowhere near that long before the impact of unsustainable fuel subsidies is felt. The Islamic Republic now claims that it is self-sufficient in refined products, but it has already paid a heavy price for the import of gasoline which was then subsidised by the government.

In November 2009, an official admitted that Iran needed an additional $3.8bn to pay for gasoline imports just until March 2010.

“The government paid a huge cost on the international markets, and then had to effectively give it away for nothing,” says Ciszuk. According to the IEA, Iran is likely to reduce gasoline imports by 75% by 2015 as it expands refining capacity and tackles subsidies. Imports will shrink to 100 000 bpd in five years from 400 000 in 2009, the IEA said in a report in July.

Tehran has reduced the volume of gasoline offered at a discount to 15 gallons per vehicle per month in an effort to curb consumption, and it has also sunk $2.2bn into the refitting of seven gasoline production and refinery facilities, to increase the country’s gasoline production to 55 million litres per day, from the current 45 million litres. However, the cost of the refitting could pale in comparison to its long-term impact on the Iranian economy.

“Petrochemicals facilities are geared to taking rather light products as feedstocks, and Iran has switched some to take Natural Gas Liquids (NGLs) and condensate,” says Ciszuk.

“However those feedstocks are still heavier than what they would have got from the top scheme of refinery products, so it will inevitably lead to significantly higher attrition rates on the facilities.”

Ciszuk warns that facilities which were not designed to deal with the heaviness of the feedstock, or the output, will be run down prematurely – and that could deal a major blow to the country’s vital petrochemicals industry.

“When they finally at some point emerge from this international isolation, they will emerge in the worst possible state because their oil and gas industry is starting to suffer, and they will have run down their petrochemicals industry,” he says.

“It doesn’t bode well and will make a recovery even more costly, time consuming and hard. Thanks to sanctions they are very much struggling to get hold of modern technologies and solutions, and they’re losing know-how also, with the brain drain problem.”

While the situation in the Gulf is not as urgent as in Iran, the two do have something in common: low gasoline prices are a politically contentious issue and regional governments appear to be desperate to avoid scrapping subsidies or price controls entirely.

Just last month (November), Iran said it would continue to provide motorists with rationed gasoline for another month, again delaying a subsidy cut which, it was feared, would ignite street protests.

The subsidy phase-out had been due to start in the second half of the Iranian year, which began on September 23.

“You look at Iran, which has been under so much pressure to do something about it, and they have still chosen to put off meddling with their subsidies,” says Ciszuk.

“In places like Saudi Arabia and the rest of the Gulf, where the situation is not as dire yet, it will be even harder to deal with. It is tough and I think they will try to postpone it [for] as long as they can.”

“What will probably happen in places like Saudi Arabia is that they will change the price structure, but it will not hit the consumer, and nor will it apply to ‘value added’ industries, which presumably applies to the petrochemicals industry,” suggests Dourian.

“They will find ways to rationalise the use of fuel, but not make it more expensive to consumers – it’s a pride issue as they are one of the biggest producers in the world.”

In the meantime, the Gulf states at least have the money to make significant initial investments in alternative energy sources.

Saudi Arabia, the United Arab Emirates and Kuwait have all committed to significant outlays on nuclear power worth billions of dollars, which would guarantee them relatively cheap energy for the lifetime of the reactors – and which might just keep prices down at the pump.