A Revolution: UAE Begins Fuel Deregulation; Other Oil Producers To Follow Suit

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Includes: BNO, DBO, DNO, DTO, DWTI, OIL, OLEM, OLO, SCO, SZO, UCO, USL, USO, UWTI
by: Ati Ranjan

Summary

In a first of its kind move by the OPEC’s third-largest oil producer, the UAE has abolished subsidies on transport fuels and align their prices with global oil markets.

Fuel prices are deregulated from August this year, which would increase gasoline prices.

The cost of diesel is expected to decline however, considering its current international prices.

According to the UAE’s Ministry of Energy, the move is 'aimed at supporting the national economy, lowering fuel consumption, protecting the environment, and preserving national resources’.

The UAE has initiated a deregulation drive; it’s now time to watch out for other GCC economies that could follow suit.

Revenue Saved To Be Utilized For Social Service Spending

From an economic point of view, the collapse in oil prices is expected to strain the government's budget in 2015 and onwards. Deregulating fuel prices in a low oil price environment would have dual benefits however. It would limit the increase in fuel prices (gasoline) without attracting significant public ire, and it would also provide additional revenues that can be utilized for budgetary expenditure.

Despite fluctuations in oil prices, the UAE government's social service expenditure has remained stable over the past 5-6 years (about AED 45bn per year) and fuel price deregulation would help the government continue its social service spending. IMF has estimated about USD 75/ bbl break-even oil price for balancing the UAE budget and deregulation would help to partially lower the break-even oil price.

Greenhouse Gas Emissions To Decline

In 2013, the UAE's transport sector accounted for over 22% of its total greenhouse gas emissions, amounting to 44.6 million tons of carbon dioxide. Fuel deregulation with a subsequent rise in the price of fuel (particularly gasoline) is expected to encourage people to utilize public transport systems and adopt fuel efficient vehicles (such as electric and hybrid cars), thus helping to reduce greenhouse gas emissions.

Overall Fuel Consumption May Decline

A rise in the cost of fuel would cause a reduction in overall fuel consumption, thus preserving the UAE's oil reserves for the future. Overall oil consumption in the UAE has been rising, with gasoline consumption rising even faster. A hike in gasoline prices and subsequent utilization of public transport systems may lead to lower gasoline demand, thus conserving UAE's natural resources.

Minor Impact On Public Pockets

The cost of gasoline accounts for about 3%-4% of the average income in the UAE, which is at a reasonable level compared to global peers. Fuel deregulation is not expected to have a major impact on public pockets.

Petrol Prices To Climb Up By c.25%, While Diesel Prices To Go Down By c.30%

As per the UAE Ministry of Energy announcement, petrol prices are set to climb up by c.25% from AED 1.72/lit. to AED 2.14/lit. While diesel prices would decline by c.30% from AED 2.90/lit. to AED 2.05/lit.

Will Other GCC Economies Follow Suit?

According to a recent study by the IMF, global post-tax energy subsidies are expected to remain high at USD 5.3tn in 2015 (6.5 percent of global GDP) from USD 4.2tn in 2011 (5.8 percent of global GDP). Petroleum subsidies are expected to be at USD 1.4tn in 2015 (1.7 percent of global GDP).

Abolishing subsidies would enhance fiscal, environmental, and welfare benefits. The complete elimination of subsidies could raise government revenue by USD 2.9tn (3.6 percent of global GDP), cut global CO2 emissions by more than 20%, and cut deaths due to pre-mature air pollution by more than half. The higher energy costs faced by consumers would raise global economic welfare by USD 1.8tn (2.2 percent of global GDP).

Energy subsidies in the UAE are projected to reach USD 29bn in 2015, however with a move towards deregulation, these subsidies are expected to decline. Over the last decade, subsidies have cost state-owned companies about USD 1bn every year.

The UAE has initiated a deregulation drive; it's now time to watch out for other GCC economies that could follow suit. Some consumer countries such as India, Indonesia and Mexico, among others, have already initiated steps to curb subsidies. However, Kuwait retracted a similar decision to abolish diesel subsidies after facing significant public outrage.

Oil producing countries have upped their budgeted expenditure over the past few years while their oil revenues are expected to fall short. They will need to take concrete steps towards curbing subsidies and redirecting that revenue if they wish to maintain current socio-economic spending.

The UAE has started a revolution; it's now time for others to fall in line.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I have co-written this article with Rohit Nagraj, Assistant Manager - Investment Research at Aranca