The Hurdles of Energy Transitions in Arab States

Table of Contents

The global energy transition to mitigate climate change initially entailed reducing and phasing out fossil fuel consumption and inefficient fossil fuel subsidies. That position reflected the fact that fossil fuels have been the largest contributor to greenhouse gas (GHG) emissions and, thus, have been driving climate change. Recently, the narrative has expanded to include a variety of energy transition pathways. These include not only renewable energy but also new pathways such as net-zero emissions systems of hydrocarbons, decarbonized industries, and hydrogen.¹

Arab states are directly impacted by energy transitions. They are home to some of the largest global reserves and the economies most overdependent on hydrocarbon rents (in the form of export revenue in exporting economies and foreign remittances in importing economies from nationals working in exporting states).² Thus, reduced global demand for hydrocarbons has long represented an existential threat to the region, especially for wealthy hydrocarbon-exporting Gulf Cooperation Council (GCC) states—namely Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, and the UAE.

Yet, the expansion of energy transition pathways has put energy transition projects increasingly center stage in the region, both in GCC countries and in some poorer hydrocarbon importers—namely Egypt, Jordan, Morocco, and Tunisia.

Prior to COP26 in 2021, hydrocarbon-dependent Gulf states resisted the energy transition, winning them the reputation of climate obstructionists. Yet in an unprecedented shift, these states have been joining pro-climate endeavors since then. Around the time of COP26, the UAE pledged to reach net-zero emissions by 2050. Net-zero pledges by Saudi Arabia and Bahrain by 2060 followed. In 2022, during COP27, Kuwait and Oman followed suit with pledges by 2050. These states, especially Saudi Arabia and the UAE, have positioned themselves as leaders in providing clean energy globally with both expertise in hydrocarbons and a potential advantage in renewables and energy transitions. GCC states announced ambitious renewable energy targets, plans for carbon capture and reduction technology, and widescale decarbonization targets, among other initiatives. Some observers have welcomed such GCC announcements as major advancements of the climate agenda, while others viewed them as greenwashing. So why and how could a quintessential threat to one of the region’s main sources of socioeconomic development become the epicenter of its economic transformation and sustainability plans? And can energy transitions provide a transformative shift in energy and economic systems following decades of reliance on hydrocarbon exports for socioeconomic development?

GCC states are driving regional energy transitions, and their responses to the possibilities and potential threats of accelerating global energy transitions could engender significant transformation in their energy, economic, political, and social structures.

Although global energy transitions have emerged as a climate solution, GCC states’ motivations in pursuing them are primarily economic. Specifically, these transitions safeguard hydrocarbon exports while generating new export revenue necessary to maintain the political equilibrium and the role of the state and to fund socioeconomic development. Consequently, domestic energy transitions (like renewable power and energy efficiency) are deprioritized, while pro-export projects (like hydrogen and carbon capture technology) are accelerated. These developments are transforming GCC economies from hydrocarbon to energy exporters while maintaining hydrocarbons at the center of their economies, without changing existing economic rigidities. This transformation perpetuates current economic policy regimes and their associated challenges—an unsustainable situation that threatens the viability of the energy transitions. An integrative energy, economic, industrial, and regulatory policy reform is thus required.

Energy Transitions: Trends and Ambitions

Notwithstanding differences (in resource endowment, politics, economic wealth, and other areas), GCC states share similar energy and economic structures, characterized by overdependence on hydrocarbons in energy usage and exports. Hydrocarbons represent over 95 percent of the region’s energy consumption. In 2021, hydrocarbon export revenue’s contribution to GDP ranged from 40 percent to more than half in each GCC state, while hydrocarbon exports contributed between 55 percent (in the UAE) and 92 percent (in Kuwait) of exports. Importantly, hydrocarbon exports are also the primary contributor to government revenue; in 2021, they contributed 60 percent of government revenue in Saudi Arabia, 63 percent in Bahrain, 74 percent in Oman, and between 80 and 84 percent in the UAE, Qatar, and Kuwait.³

Initial Energy Transition and Mitigation Measures

Energy transition projects emerged under the umbrella of economic diversification, detailed in each GCC country’s grandiose, ambitious, multiyear economic transformation plans known as “Visions.”⁴ They include targets for renewable energy capacity, ranging from as low as 15 percent in Kuwait by 2030 to 50 percent in the UAE by 2050 (see table 1). Yet in 2022, the share of renewable energy in power generation still hovered at less than 1 percent, except in the UAE where it reached 7 percent, also below target. The UAE also adopted nuclear energy to provide nearly 25 percent of its electricity needs.

Moreover, GCC states enacted energy pricing reforms. Notwithstanding preexisting political pressures, it was not until the collapse of the oil price in mid-2014 and the ensuing substantial declines in government revenue that GCC policymakers implemented a fundamental shift in economic policy. They reduced energy subsidies to ease fiscal pressures and meet urgent economic diversification needs. GCC states also announced energy efficiency targets, but opportunities remain underdeveloped especially as policies incentivizing efficiency remain limited.

The Dawn of Hydrogen and Carbon Reduction Technology

GCC states’ economic sustainability was further threatened by post-pandemic economic challenges, which exacerbated existing pressures from the accelerating global energy transitions. In 2020 and 2021, GCC states announced ambitious energy transition projects, including hydrogen and carbon reduction technologies. These projects were then complemented by ambitious climate targets and net-zero emissions pledges, with Saudi Arabia and the UAE declaring clean energy leadership positions.

Two primary features characterize GCC states’ energy transitions and net-zero targets.

First, the targets center around the ongoing production, consumption, and exportation of hydrocarbons, but with a twist: the hydrocarbons are low emissions thanks to the application of carbon capture mechanisms. This is explicitly stated in the Nationally Determined Contributions submissions to the UN Framework Convention on Climate Change (which are a government obligation under the Paris Agreement) from GCC states. It is also evident in Saudi Arabia’s Circular Carbon Economy (CCE) National Program,⁵ endorsed as the cornerstone of its decarbonization, carbon reduction, and recycling solutions. The CCE framework encompasses the production of hydrocarbons and new energy sources, most notably clean hydrogen and heavy industries that are difficult to electrify (known as hard-to-abate sectors) using carbon capture, utilization, and storage (CCUS) technology. Across the Gulf, nature-based solutions are highlighted over reducing hydrocarbons consumption and production: initiatives include the Abu Dhabi National Oil Company’s planting of mangroves and Saudi Arabia’s Green Initiative and Middle East Green Initiative to plant 10 billion in Saudi Arabia and 40 billion trees in the Middle East. However, CCUS technology is currently unviable, unlike carbon capture and storage (CCS) technology. Qatar, Saudi Arabia, and the UAE have accelerated investments in CCS facilities, which currently capture approximately 12 percent of global carbon dioxide captured annually. Hydrocarbon production is a priority for other hydrocarbon exporters of the Net-Zero Producers Forum (created in 2021 by Norway, Qatar, Saudi Arabia, and the United States).

Second, clean hydrogen projects intended for exports are at the heart of GCC energy transition plans (and those of some Arab hydrocarbon-importing states). Hydrogen does not emit GHG emissions when burned, and thus it has emerged globally as an important potential pathway for climate change mitigation, energy security, and industrial decarbonization. Currently, around 96 percent of the hydrogen used globally as industrial feedstock is produced from hydrocarbons in processes that emit high GHGs. However, emissions can be reduced in two ways. The first involves the application of CCS/CCUS technology in hydrogen production from hydrocarbons (known as blue hydrogen). Alternatively, emissions can be reduced when hydrogen is produced by electrolyzing water with emissions-free renewable energy (known as green hydrogen) (see figure 1).⁶

Clean (blue or green) hydrogen represents potentially large export and economic diversification opportunities for Arab states. Gulf states have a comparative advantage in blue hydrogen thanks to their well-known comparative advantage and expertise in the hydrocarbon sector and established trade routes and markets. Arab states generally have a potential comparative advantage in renewable energy, which can translate to a potential comparative advantage in green hydrogen as well. While the future role of clean hydrogen in the global energy system is uncertain,⁷ it could be large, with the potential market for clean hydrogen and its derivatives (such as ammonia, which has hydrogen molecules) estimated at $400–$700 billion. Of that, GCC states could potentially make $70–$200 billion.

GCC states had long lagged behind Europe, advanced Asian economies, Australia, and the United States in adopting hydrogen strategies. Starting in 2019, however, they began announcing hydrogen strategies and ambitious large-scale hydrogen projects. Notably, Saudi Arabia plans to be a leading green hydrogen producer with its $500 billion megaproject, NEOM intended to produce 1.2 million tonnes of green-hydrogen-based ammonia per year. Saudi Aramco also announced plans to capture the lion’s share of blue hydrogen demand by 2025, and it successfully exported the world’s first blue ammonia to Japan in 2020 and to South Korea in 2022.

The UAE announced plans in 2019 to produce blue and green hydrogen, and Dubai Electricity and Water Authority along with Siemens Energy launched the region’s first industrial-scale green hydrogen project in 2021. Driven by its limited hydrocarbon reserves relative to other GCC states, Oman also aims to transform its economy to a hydrogen economy. Its national hydrogen economy strategy was adopted in 2020. In 2020 and 2021, Oman’s oil company OQ signed concessions and agreements through joint ventures, establishing the Hyport Duqm Project to develop green hydrogen and ammonia plants in the Special Economic Zone at Duqm. The $2.5 billion facility is expected to produce 2,200 million tonnes of green ammonia per day. In its 2020 White Paper Towards a National Hydrogen Strategy, Kuwait signaled its intentions for clean hydrogen production and has been shown to have the potential to produce green hydrogen competitively. Qatar, the last GCC state to join the global hydrogen market, announced in 2022 intentions to build the world’s largest blue ammonia plant, Ammonia-7—a $1.156 billion facility with a planned production capacity of 1.2 million tonnes per year. Additional projects and agreements are likely to continue to emerge in the near future, especially given foreign interest (especially from Europe) in investing in and importing the region’s green hydrogen production.

The aforementioned two features suggest that the ultimate goals of GCC states’ net-zero targets are to safeguard and increase hydrocarbon export levels—a goal consistent with statements in Saudi Arabia’s Nationally Determined Contributions submission.

Energy Transitions: An Economic, not Environmental, Response

The main driver for the acceleration of energy transition pathways in GCC states (and Arab states in general) is economic: to safeguard hydrocarbon exports and derive new exports that are necessary to maintain the role of the state and drive socioeconomic development.

Indeed, energy transitions are part of much-needed environmental solutions. Situated in one of the warmest regions with environmentally constrained and arid geography, the Middle East and North Africa (MENA) and Mediterranean regions are among the most impacted by climate change.⁸ Yet they are most impacted by emissions from other regions; MENA contributed only 5 percent of global emissions in 2021.⁹

Over the last decade, however, emissions in Gulf countries have accelerated at an alarming pace. GCC states lead the region in emissions and energy consumption especially in energy (hydrocarbon and power) and transport sectors (as shown in figure 2). High emissions are driven by high production facilitated by very low production costs, rising water desalination and cooling requirements, and excessive energy consumption (both industrial and household).

Similar trends emerge on a per capita level. Economic policies that distribute enviable energy subsidies and welfare measures have fostered overconsumption and a very carbon-intensive lifestyle. GCC countries consistently rank in the world’s fifteen-highest energy consumers, averaging 10,066 kilograms of oil equivalent per capita (based on World Bank data), more than double the average per capita consumption of OECD countries. GCC states have some of the world’s highest emissions per capita, consistently ranking among the top ten per-capita emitters (see table 2).

Nevertheless, environment sustainability does not prominently feature in GCC vision statements (with only Oman having environment-specific targets). And GCC countries were slow in adopting net-zero targets that center hydrocarbons. Instead, economic considerations are motivating energy transitions in the Arab world. These considerations are key for hydrocarbon importers—namely Egypt,¹⁰ Jordan, Morocco, and Tunisia. Abundant renewable energy sources offer energy security and promise avenues for new exports, especially of green hydrogen and derivates to Europe.

For hydrocarbon exporters in the Gulf, net-zero targets are presented as part of economic transformation as a pragmatic response to the inevitability of expected future declines in global hydrocarbon demand. This is why investments and advancements in projects that expand exports (such as clean hydrogen and CCS/CCUS technology) accelerate at an impressive speed, while domestic energy transitions (especially renewables and energy efficiency) are slow.

Energy exports are necessary in the absence of diversified sources of government revenue, but they are also important for maintaining the prevailing political economy of a welfare-based state that depends on distributing hydrocarbon rents.¹¹ The political economy (often called the “social contract”) emerged as massive windfalls of oil and gas export rents offered Gulf states key economic advantages. This was especially true after the Arab oil embargo and subsequent oil shock of 1973–1974, coupled with very low production costs owing to geological advantages and very liberal trade policies for goods and services, capital, and labor. As a result, GCC states achieved unprecedented socioeconomic development and per capita incomes. Hydrocarbon export rents funded the distribution of enviable welfare redistributive measures to citizens and local industries, including energy and other subsidies and guaranteed public sector employment to citizens with generous salaries and benefits. These policies secured general political and regime stability (despite historical local and geopolitical tensions) and military support from abroad.¹²

Prioritizing hydrocarbon exports dominated economic policy and was essential for socioeconomic development and the political economy in the Gulf. Diversification plans were discussed on paper for decades, but the main deliberate diversification policy choice was global asset accumulation in sovereign wealth funds (SWFs) along with, ironically, expansion of the hydrocarbon sector including downstream activities. The latter capture additional value across the whole supply chain but do not change the economic structure or the reliance on hydrocarbons with their volatile prices.

The depth of economic challenges of hydrocarbon dependence became evident following the oil price collapse mid-2014 and the ensuing fiscal challenges. Gulf states implemented various energy and tax reforms—most notably, the imposition of a value-added tax in historically tax-free states and the reduction of energy subsidies. These reforms have been politically contentious to varying degrees, as they threatened the distribution of wealth and resultant political equilibrium. Despite these reforms, subsidies and welfare distribution measures prevail, especially to private oligopolistic firms, and the state holds its central role in the economy. Energy transition projects are driven mostly by state-owned entities, and private industries expect subsidies to implement decarbonization.¹³ Another serious challenge is generating employment, especially for the youth who represent more than 50 percent of the region’s population. In the GCC, this challenge has serious implications for the labor market: the bloated public sector is a fiscal liability, and expatriate workers occupy jobs that many locals do not want and make up the majority of workers (from 74 percent in Saudi Arabia in 2022 to near 94 percent in the case of Qatar in 2022).

Ultimately, energy transition projects in GCC states only transform their economies from hydrocarbon exporters to energy exporters, with hydrocarbons remaining at the center of the economy. As a result, the existing political economy and role of the state are preserved, without a corresponding transformation in economic structure or economic rigidities.

The future remains uncertain: clean energy investments dropped following the COVID-19 pandemic, and upstream activities resumed with the rise of hydrocarbon prices and general demand following the war in Ukraine. At the same time, hydrogen and CCUS projects are dialed up but lack necessary investments and technology. But the region’s sustainability necessitates energy and economic transformation.

Challenges

Notwithstanding ambitious targets, the region, including wealthy GCC states, lags in energy transition projects. Arab states generally and GCC states specifically face fundamental challenges that hinder energy transitions and endanger regional environmental and economic sustainability. Chief among these challenges are the often-ignored economic rigidities of procyclical fiscal policy, an oligopolistic private sector, limited technology and renewable energy infrastructure, and weak regulations.

Oligopolistic Private Sector

A key challenge in Gulf economies is the pervasiveness of private sector oligopolies coupled with the existence of large, publicly owned companies; this situation greatly limits the expansion of nonhydrocarbon productive sectors necessary for economic diversification. The majority of nonenergy sectors are dominated by a few companies (as evidenced in data presented in table 3) and reap substantial rewards of any expansion in oil price rents.

It is well accepted in economic theory that the pervasiveness of oligopolies limits competition. Oligopolistic firms price their products with a markup above average costs, causing a large part of the current economic efficiency to be captured by their rents. Sustained rents detract from growth-enhancing innovation and creative destruction, thereby hampering economic efficiency, competitiveness, and growth. In resource economies, the pervasiveness of oligopolies poses another challenge: it limits the expansion of non-oil productive capacity needed for export diversification.

Economics literature explains the dynamics of resource-dependent economies as an example of Dutch disease. This phenomenon refers to instances when an export boom in natural resources (following rises in their prices) leads to a significant appreciation of the nominal (and real) exchange rate (or inflation in countries with fixed exchange rates regimes). The appreciating real exchange rate renders nonresource exports relatively more expensive in international markets. Capital and labor move toward the resource sector and away from nonresource tradables, while the rise in incomes causes a secondary boom in nontraded services and imports.¹⁴ Busts (following declines in resource export prices) have the opposite effect. They render nonresource exports more competitive in international markets. Thus, theoretically, reverse Dutch disease dynamics could be advantageous to nonresource exports or even reverse the pattern of trade, if large enough.¹⁵

Yet in highly specialized Gulf states, oligopolies’ pervasiveness yields results that are contrary to Dutch disease expectations. Economic efficiency during booms and busts is largely reduced because rents are captured by the oligopolies in the public and private sectors. Oligopolies capture rents during booms and busts owing to:

• access to subsidies to expand diversification (subsidies that persist despite energy price reforms in the GCC);
• access to expatriate labor with flexible contracts and lower wages than national labor; and
• limited regulation of oligopolistic collusion or pricing.

The dynamics are as follows. When oil prices are high (as in 2022), the rise in export rents expand economic activity (including output and employment) and profits in the energy sector, investments in SWFs as well as nontraded services and rent redistribution payments to the public and industries (through a procyclical fiscal policy). Consequently, terms of trade improvements are captured as higher rents by only a small number of firms in a few oligopolistic industries,¹⁶ as explained above. But there is an almost nonexistent deindustrialization effect. These dynamics also render efficient and high-return investments in the domestic economy difficult. Busts, by contrast, result in the opposite. Oligopolistic firms’ markups decline as a result, but they do not expand their exports even though they are more competitive with the depreciating real exchange rate. Instead, they cut costs by reducing expatriate labor employment at relatively low costs and without large repercussions for unemployment. Thus, the overall result is little to no expansion of nonhydrocarbon exports.

Thus, in the existing economic policy regime with low competition regulation, excess hydrocarbon export rents do not translate to meaningful export diversification. Despite private firms’ rising participation (through foreign direct investment and joint ventures) in energy projects in GCC states, their oligopolistic nature will limit growth, competition, and economic efficiency. Changing these patterns in a way that can distribute economic efficiency gains economy-wide requires the implementation of private sector regulations, pro-competition microeconomic reform, and industrial policy reform.

Procyclical Fiscal Policies

Exacerbating effects of the pervasiveness of oligopolies in the Gulf states is their procyclical (rather than countercyclical) policy regime adopted for managing hydrocarbon price shocks. In fiscal procyclicality, government expenditures expand during economic booms and contract during busts. Such tendencies are often worsened by domestic macroeconomic and political instability. In GCC states with low oligopolistic regulation, fiscal procyclicality is problematic. It exacerbates the underlying business cycles and harms economic and energy diversification plans.

During booms, procyclical government expenditures expand hydrocarbon outputs and exports, SWF savings, and welfare redistribution payments—many of which are wrapped as business incentives, grants, or tax credits. Thus, they expand mainly nontraded oligopolies’ markup, as described above. Further, transferring the windfall to private agents to induce them to undertake additional investments is likely to fail owing to limited information about the duration of the windfall.

Busts see a procyclical reduction in noncommitted expenditures (such as energy transition and economic diversification funds) because the committed expenditures (such as public sector wages) are very rigid and very large (50 percent or more of current expenditures in the Gulf). Oligopolistic firms respond to reduced local demand and procyclical expenditures by reducing output and releasing expatriate labor, rather than expanding into the international market. This flexibility in the expatriate labor market has been a key economic adjustment mechanism that acts as a cushion to the economy, along with other adjustment mechanisms (primarily investments in or fiscal commitments to maintain contributions to SWFs, which sterilize oil revenue and offer savings used during busts and fiscal deficits). The overall effects are limited to nonexisting expansion of nonhydrocarbon exports.

In the current economic regime, GCC states cannot be countercyclical even when they implement seemingly countercyclical policies. This was evidenced following the COVID-19 pandemic when large declines in hydrocarbon export revenue in the GCC were accompanied by expanded expenditures and COVID-19 relief packages. These packages seem countercyclical, but the potential gains of a countercyclical fiscal policy could not be realized because they were consumption-based. They eased consumption shocks and mitigated inflationary and unemployment effects but without expanding production nor supply nor reducing profits to oligopolistic firms. This is a powerful, evidence-based insight that further explains the GCC states’ limited diversification to date.

Lack of Available CCS/CCUS Technology and Low R&D

Realizing GCC states’ decarbonization, net-zero, and hydrogen ambitions alongside consuming and exporting hydrocarbons hinges on the availability of CCS and CCUS technology. Yet it is currently unviable and requires significant R&D investments. In the GCC, public sector involvement in the energy sector could support R&D activities to bolster the sector’s technological readiness to achieve initial market penetration. However, in 2021, and despite large R&D investments in Saudi Arabia and the UAE, R&D spending made up low shares of GDP in GCC countries: Bahrain (0.1 percent), Kuwait (0.2 percent), Oman (0.4 percent), Qatar (0.5 percent), Saudi Arabia (0.5 percent), and the UAE (1.45 percent). These shares were lower than the 3–4 percent average in advanced economies with similar per capita income levels and lower than hydrocarbon exporters Australia (1.8 percent), Norway (2.3 percent), and the United States (3.45 percent). The GCC states’ contribution to global hydrogen and low-carbon energy R&D has been negligible to date.

Recent announcements by Saudi Arabia and the UAE to invest in carbon reduction technologies could signal a potential improvement in the underlying ecosystem to fund technological developments, especially in CCS and CCUS.¹⁷ Yet, given low R&D investments, absent acquiring the required technology, Gulf states will not be able to achieve their energy transition and net-zero targets.

Limited Renewable Energy Infrastructure Due to Lack of Economic Motivations

Another challenge is limited renewable energy infrastructure, without which domestic decarbonization and green hydrogen export plans cannot be realized. Despite variations among them, Arab countries are behind on their renewable energy targets, which are intended for domestic power generation only (see table 1). The Gulf states have the financial resources to undertake such projects. They also have a potential comparative advantage in renewable energy, owing to some of the world’s best solarand wind resources and some of the lowest costs for renewable energy production. Yet in 2021, renewable energy capacity was significantly lower than targets for domestic energy needs, generating 1 percent of electricity in GCC states except the UAE, where it reached 7 percent.¹⁸ These shares are also behind those of Egypt (20 percent), Jordan (26 percent), and Morocco (37 percent). Slow development in renewable infrastructure for domestic needs also raises the question about renewable infrastructure required for achieving pro-export projects. To meet hydrogen targets alone, GCC countries would need to increase their renewable energy capacity by an estimated sixtyfold (an additional 40–60 gigawatts).

Numerous reasons have been cited for the lack of renewable energy infrastructure. These include technical barriers (such as difficulties with grid access, confidence in new technology, and availability of a skilled workforce), institutional deficiencies that lack clear mandates and planning capacity, historic subsidies, and limited incentives, regulations, and enforcement.

Another reason largely absent from the literature is the underlying economics: renewable energy projects are a net cost for hydrocarbon-dependent states and generate an undesirable reduction in overall export revenue. Although renewable energy is environmentally advantageous and theoretically spares hydrocarbons for exports, it has, to date, been fundamentally at odds with the economic strategy of GCC states. The main culprits are the competing dynamics and mandates of the nationally owned sectors of hydrocarbons and electricity (which governs renewable energy). The former sells hydrocarbons for electricity at international markets prices, while the latter pays either subsidized or market prices.¹⁹ Expanding renewables yields additional hydrocarbons that are no longer demanded by the power sector and thus need markets. Theoretically, the result could be additional hydrocarbons for exports, but under normal energy market conditions, holding inventories or increasing supplies poses downward pressures on export prices. In addition, the hydrocarbon sector traditionally cannot generate revenue from newly installed renewable energy as the latter falls under the mandate of the electricity sector and ministry. These competing mandates explain the delay of Phase II of Kuwait’s Shagaya Renewable Energy Park in 2020, when a new law interrupted Kuwait Petroleum Company’s work on the project.²⁰

For state budgets, renewable energy for domestic power generation is nontraded, so it offers no export revenue to compensate for potentially lost hydrocarbon revenue. These opportunity costs are deepened by the large, lump-sum capital requirements for renewable energy infrastructure. Incentivizing private sector investments in renewable infrastructure might also require government subsidies.²¹ In net, renewable power for domestic consumption is more costly for the state than hydrocarbon-based power.

This explanation is consistent with actual trends, which saw export-oriented green hydrogen plans accelerate renewable energy development—but only for export-oriented projects, as in Saudi’s NEOM, not for domestic power use.

Renewable power for hydrogen exports should not be at the expense of domestic decarbonization. To meet future targets, GCC states must adopt policies and mobilize resources to meet the needs of both domestic power and export-oriented energy projects.

Weak Regulations

The absence of collective policies for environmental protection, decarbonization, and CCUS in the GCC hampers domestic decarbonization efforts and the development of clean hydrogen, particularly for domestic use. Given the high costs of the green transition (related to technology, feedstock, and energy mix), environmental and decarbonization policies can offer the primary incentive to achieve Gulf states’ energy and emissions targets. Gulf states have included CCS and CCUS technologies in national communications. CCUS (rather than CCS) technology is particularly important for GCC states because it promises to decarbonize both hydrocarbons and the hard-to-abate sectors without necessarily abating hydrocarbons altogether. Yet, to date, Gulf states have significant policy gaps regarding environmental protection, decarbonization incentives, and CCUS (such as carbon transportation and storage).

Takeaways and Policy Implications for Economic and Political Sustainability

There are five main takeaways. First, energy transitions in Arab states are driven by economic motivations, primarily to maximize hydrocarbon and energy exports to protect the state and maintain the prevailing political economy. Second, prioritizing economic considerations delays domestic energy transitions while favoring export-oriented projects. Third, despite advancements in energy transitions and subsidy reform, GCC political economies remain largely unchanged, with hydrocarbon and energy rents at their center. Fourth, the accelerated energy transition projects to date transform economies from hydrocarbon to energy exporters without a fundamental change in economic structures or economic rigidities. Finally, even if hydrocarbon rents deliver energy transitions in the GCC, the current economic policy regime and rigidities in highly specialized welfare petrostates are unsustainable.

The current policy regime exacerbates existing economic distortions while eroding long-term economic resilience, diversification, and decarbonization incentives. Thus, there is significant scope for energy, economic, industrial, and regulatory policy reform. A top-down policy approach can be a potential pathway, given its historical precedence in effectuating social, political, and economic change across the region.

On the energy front, the MENA region stands to benefit from divorcing aspects of domestic energy policy from energy export motivations and reflecting local sustainability priorities in the larger energy policy at the lowest costs. Domestic energy policy should prioritize energy access, reducing energy consumption, incentivizing energy efficiency (which can abate up to 40 percent of emissions), and decarbonization. The region should also prioritize producing the majority of its power from renewables and even consider nuclear energy as a possible option. Energy policy for both domestic and export purposes must form part of a larger framework that aligns the various aspects of economic, industrial, and regulatory policies. Gulf states must also adopt targeted policies that incentivize energy efficiency and reduce consumption, as well as advance energy transitions by securing the necessary regulatory and technology infrastructure. Subsidy reform remains an important priority for the region. It requires redesigning countercyclical measures that balance socioeconomic development and affordable energy access for low-income households along with industrial competition priorities.

An immediate, phased, wide-scale microeconomic reform and oligopoly/industrial regulation can substantially improve economic efficiency and enhance economic resiliency in light of continuous energy export volatility. Examples include price cap regulations and competition reform that induce oligopolies to price more competitively, thereby reducing their markups and increasing competition. Although politically challenging, oligopoly/industrial regulation and countercyclical measures that expand productive capacity (rather than consumption) could help GCC countries raise economic efficiency, manage oil and non-oil rents, and expand nonenergy exports.

Lastly, filling existing decarbonization and emissions regulatory gaps is indispensable to ensure a low-carbon transition of the highest-emitting domestic sectors (especially transportation and renewables). Filling these regulatory gaps can also support new energy sectors such as clean hydrogen. They can facilitate the transition of the hard-to-abate sectors in a way that rewards green technologies adoption and investments as well as industrial output.

Successful implementation of said policy reform requires political will to accommodate changes in elements that have long undergirded the political economy. It will also require balancing long- and short-term policy objectives and trade-offs through a larger system of integrative policies to achieve decarbonization and economic development in a way that maximizes socioeconomic welfare and economic and resources sustainability alike.

Notes

¹ This shift reflects geopolitical, economic, security, developmental, and technological motivations and implications for countries. It can be traced in climate negotiations and agreements during the UN Conference of the Parties (known as “COP”). In COP26, the members adopted the Glasgow Climate Pact, which called for phasing down (not phasing out) inefficient subsidies and unabated coal but not oil and gas, on the basis that they are necessary for energy access and security globally and for economic development in a large part of the world. The explicit mention of “coal” and “fossil fuel subsidies” was a break from previous UN climate agreements.

² To demonstrate, in 2021, the UAE was the world’s second-largest and MENA’s largest source of foreign remittances ($43 billion) followed by Saudi Arabia ($35 billion). Egypt was the world’s fifth-largest and MENA’s largest recipient of foreign remittances ($32 billion) in the same year.

³ Shares are determined by author’s calculations using data in each country’s national accounts and Ministry of Finance, UN data, and the International Monetary Fund.

⁴ These statements extended existing economic diversification plans of previous multiyear development plans.

⁵ The CCE framework was endorsed by the 2020 Saudi-presided G20 in Riyadh.

⁶ The production method for low-carbon hydrogen has major implications for GHG emissions, costs, and location of energy production.

⁷ The expected share of hydrogen in total global energy demand by 2050 ranges from 3 percent (Announced Pledge Scenario by the IEA), to 13–16 percent in a net-zero world, up to 12 percent in a 1.5-degrees-Celsius scenario, to 22 percent.

⁸ Impacts include an excessive number of intolerably hot days and ensuing effects on health, productivity, energy consumption, reduced efficiency of power production, migration and conflict, and economic concerns. Water stresses alone could reduce GDPs in MENA countries by as much as 14 percent by 2050.

⁹ MENA emissions grew from around 4 percent of those of Europe and the United States in 1965 to approximately half in 2021, as can be seen from examining emissions data from the International Energy Agency.

¹⁰ Egypt has been both an importer and an exporter of hydrocarbons in the past decade. It has been a net importer of crude oil and condensate since 2019, and it achieved self-sufficiency in natural gas between 2010–2014 and in 2018–2021.

¹¹ As Gulf and Arab states distribute rents to their citizens, the welfare-based state has often been described in the context of rentier state theory: rentier states distribute generous resource rents to their citizens in lieu of their political participation or power. But Gulf states’ dynamics are more complex, variant, and have not yielded results consist with the theory.

¹² Gulf countries have achieved general stability despite serious tensions, such as internal and external Arab nationalist agitation in the 1950s and 1960s, Islamist-inspired regime challenges from the 1970s onward, and the Arab Spring.

¹³ Author’s interviews with private firms in Oman, Kuwait, and Saudi Arabia, including a survey of private cement companies in Saudi Arabia as part of a project on decarbonizing cement. See Bassam Dally, Manal Shehabi, et al., “Decarbonization Options for the Saudi Cement Industry,” King Abdullah University of Science and Technology, 2023, forthcoming.

¹⁴ For more information, see Corden (2012); Corden & Neary (1982); Venables & van der Ploeg (2013); Tyers & Walker (2016).

¹⁵ This is driven by nonresource exports becoming more competitive in the international market owing to the depreciating real exchange rate and the contracting hydrocarbon and nontradable services industries.

¹⁶ Even if firms can enter/exit the market.

¹⁷ Examples include Aramco’s $1.5 million sustainability fund, Sabic’s CCU investments in one of the world’s largest plants, and ADNOC’s $15 billion decarbonization commitment.

¹⁸ The share of non-fossil-fuels-based electricity in the UAE has reached around 12 percent in 2021, following the commissioning of Barakah Nuclear Energy Plant Unit 2.

¹⁹ This is presumably the case with the implementation of energy pricing reforms that have commenced in the region. Nevertheless, there is a general lack of transparency in data on pricing of hydrocarbons consumed by the electricity sector along with the possibility of the existence of hidden subsidies.

²⁰ Phase II of Shagaya Renewable Energy Park project was initially developed by Kuwait Petroleum Company until 2020. The project was interrupted by Kuwait’s Law 19 for 2015, which amended Law 28 of 2012. The law restricted the implementation of electrical power and water desalination plants to be within the mandate of Kuwait’s Ministry of Electricity and Water and private-public partnerships under the Kuwait Authority of Partnership Projects.

²¹ As in the case in Jordan or Kuwait’s public-private partnerships.