The Energy Transition & Adaptation Strategies for Oil Exporters
Oil exporting countries are exposed to long-term challenges related to the energy transition and increased uncertainty about the prospects of oil demand. A key challenge for oil-exporting countries is the potential loss of a key source of revenues, which is essential for the smooth functioning of their economies. Another challenge is the ability to monetize their large reserve base. In the face of these uncertainties, oil exporters should pursue strategies to reduce these long-term risks and increase their resilience and fitness. This presentation at the 3rd OPEC Technical Workshop on ‘the impacts of the implementation of climate response measures’ sets out to examine a few of the risk reduction strategies.
Historically, oil exporters’ focus has been on economic diversification as the main adaptation strategy. However, they face real challenges to realise a meaningful economic and fiscal diversification strategy. This is because diversification is only successful if it offers risk reduction by pooling uncorrelated income streams. Furthermore, achieving diversification requires building human capital and improving education systems as well as extensive reforms to improve the business environment, transparency and economic governance, while fiscal diversification requires introducing taxes, both direct and indirect. It also needs streamlining procedures, reduction of excess monopoly rents in non-tradable sectors and removing barriers to private sector participation. There is uncertainty about how fast or even whether such extensive economic and institutional reforms can be implemented in many of these countries.
To expect oil exporters to diversify away from the oil sector, which constitutes their core competitive advantage, and for this strategic sector to play a lesser role in the transition process is not only unrealistic, but also is sub-optimal, as oil exporters will be limiting their risk reduction strategies by not leveraging on their core strengths and their portfolio of assets. After all, the oil sector remains very profitable and enjoys higher margins than any new industries/sector that governments aim to establish. Thus, in addition to diversifying bet hedging strategy, oil exporters should pursue a conservative bet hedging strategy, the essence of which is reflected in the old saying that ‘a bird in the hand is worth two in the bush’. The core of a conservative bet hedging strategy is to retain and enhance the competitiveness of the energy sector and increase its resilience against potential risks of disruption. The return on a conservative bet hedging strategy is lower than the current default strategy of exporting oil and gas given the costs involved in decarbonization and the lower margins in the new low carbon businesses. But such a strategy lowers the risk profile and improves the resilience of a key sector in oil exporters’ economies.