Economic pressure on crude oil exporting countries is likely to increase if prices remain depressed, two economists told the US Senate Foreign Relations Committee. The US and other major consuming nations will need to consider possible policy adjustments before significant problems developed, they said on Mar. 2.
“The past 2 years have forced oil exporting countries to start adjusting their economies,” observed Institute of International Finance Pres. Timothy D. Adams. “However, low oil prices are likely to be sustained, implying that pressures on fiscal balances and public debt will escalate, calling for even more aggressive fiscal consolidation and other policy actions going forward.”
Robert A. Kahn, Steven A. Tananbaum Senior Fellow for International Economics at the Council on Foreign Relations, noted, “While the experience of oil exporters vary significantly in terms of the scale of the imbalances, the assets that can be drawn on to deal with the shock, and the ability of policy to adjust, there are common elements.
“Policy adjustments need to be made, ideally ahead of a crisis,” he continued. “Failure to address these imbalances could translate into crises of much larger scale, and spill over into the United States in unexpected fashions.”
Exporting nations have come under immense pressure amid deteriorating fiscal and current account balance, particularly those with pegged exchange rates and less diversified economies, Adams said in his written testimony. “Companies with substantial assets such as Saudi Arabia and Qatar have been able to cushion growth in the near term by running down reserves and limiting fiscal adjustments,” he said.
Adams continued, “Others with more limited cushions have implemented sharp fiscal, monetary, and exchange tightening measures, such as Russia and Nigeria, to reduce vulnerabilities from low oil prices, even at a cost of slower growth in the near term," he said. "Meanwhile, countries like Venezuela have delayed the necessary policy adjustment, increasing risks of a sharper downturn ahead.”
Budget gaps has grown
When global crude prices hovered around $50/bbl for much of 2015, many exporting countries barely were able to keep their government budgets balanced, Kahn said. “With the further fall in oil prices to current levels, it is likely that the gap in 2016 between current prices and the ones that balance the books in most oil exporting countries has grown larger,” he said in his written testimony.
Kahn said that many exporting countries’ policymakers believed through much of last year that crude prices would rebound, and economic adjustments could be delayed. “Fiscal deficits were allowed to increase, exchange rates in some cases were depreciated, and assets, including importantly sovereign wealth fund holdings, were drawn on,” he testified. “It was only later in 2015, following a further oil price decline and as budgets were being prepared for 2016, when many of these countries began to take seriously the need for policy adjustments.”
This makes the potential for disruptive adjustments higher in 2016, Kahn continued. “For now, we are continuing to see sizeable asset drawdowns, with recent reports that countries such as Russia, the United Arab Emirates, and Qatar are liquidating their investments, which according to some analysts could result in withdrawal of $400 billion of equities this year,” he said. “Indeed, some reports suggest that withdrawals from these “rainy day funds” were a major factor behind the stock market turbulence in January of this year.”
Among 20 oil exporting countries it studied, IIF found Venezuela, Iraq, Libya, Angola, and Bahrain to be most economically vulnerable, Adams said. All have significant weaknesses in terms of fiscal vulnerability from the loss of oil-related revenue, external vulnerability from the loss of oil export receipts, and macroeconomic vulnerability from the loss of oil-related activity, he indicated.
“Most of these countries also have elevated government debt, high production costs (especially Angola and Venezuela), and limited cushions in the form of international reserves or sovereign wealth fund resources,” Adams said. “More importantly, these countries operate under currency pegs, reducing their economic capacity to adjust to an external shock and making it more likely that the eventual adjustment will be highly disorderly and negative for economic growth.”
Venezuela is precarious
Venezuela looks especially precarious, both witnesses warned. “We are particularly concerned that continued delays in exchange rate and spending adjustments will prolong and deepen [its] recession, increase the risk of debt default, and threaten social order,” Adams said.
“The economy is descending into a deep and profound crisis — reflected in severe shortages, hyperinflation, and a collapse in economic activity,” Kahn said. “It faces a widening financing gap, and has imposed highly distortive foreign exchange controls. Debt service far outstrips dwindling international reserves. Recent policy measures by the government, including a rise in gasoline prices, fail to meaningfully address the imbalances.”
Venezuela’s government made a $2.3-billion debt payment on Feb. 26, but the debt which the national oil company, Petroleos de Venezuela SA, is scheduled to make this year is more worrisome, he maintained. “A default increasingly appears to be a question not of ‘if’, but ‘when,’” Kahn said.
Pres. Nicolas Maduro’s government is unlikely to seek help from international financial institutions, and probably would refuse cooperation with Western governments, he told the committee. “Indeed, the [International Monetary Fund] is operating largely in the dark. The last IMF review of the economy was in 2004, and Venezuela ceased all cooperation with the fund in 2007,” Kahn said. “But it is not too early to begin planning for a time when a future Venezuelan government is willing to take the hard measures that warrant strong and broad international support.”
It and other oil exporting countries which have depleted financial reserves to cushion economic impacts from depressed crude prices will need to make more meaningful adjustments in 2016, Adams said. “This is likely to weigh on economic growth for a prolonged period and increase risks of social tensions amid high inflation and unemployment, and cutbacks in social spending, transfers and government spending,” he indicated.
“Managing growth and social stability under such circumstances would therefore call for accelerating reforms beyond fiscal policy in order to rebalance their economies toward non-oil sectors,” Adams said. These would include improving the business, continuing with financial sector development, reforming the [state-operated enterprises], strengthening institutions, investing in human capital, and attracting private investment, especially in non-oil sectors, he told the committee.
Contact Nick Snow at firstname.lastname@example.org.