Breaking the commodity cycle, Jordan edition
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Emerging Markets

Breaking the commodity cycle, Jordan edition

Jordan's ambitious energy independence plans should be met with fiscal tightening at a time when Saudi-style stimulus demands have snowballed

A large fiscal deficit and high energy-importing needs: Jordan’s structural weaknesses are well-known.


But over the past year, Jordan has been faced with two fresh challenges that have exacerbated its macro imbalances. Firstly, deficit-financed fiscal stimulus measures have been implemented to pacify protests during the Arab spring. Secondly, Jordanian power stations have been forced to load up on diesel oil after the pipeline providing cheaper Egyptian gas was sabotaged in September – at a time when commodity prices remain stubbornly elevated. The country has recently requested a $250m loan from the World Bank, while cashing in a cheque from Saudi Arabia.


To be fair, in recent years, Jordan has sought to boost its fiscal position by reducing long-standing subsidies on fuel and basic foodstuffs, a move that required political capital in the low-income economy. But given the country’s vulnerability to exogenous shocks, the threat of a balance of payments or fiscal crisis perennially looms.


Against this backdrop, the Institute of International Finance (IIF) has waded into Jordan’s fuel import costs – and the country’s ambitious long-term plans:


Since the fall of the Mubarak regime in January of 2011, a series of explosions in Egypt have targeted the Arab Gas Pipeline that delivers Egyptian natural gas to Jordan and Israel. Approximately 80% of Jordan’s electricity generating capacity runs on Egyptian gas. In 2010, the electricity sector consumed a total of 90 billion cubic feet (cf) of natural gas, 84.4 billion cf of which was imported from Egypt and the rest produced locally.

As a result of the interruptions, Jordan has had to run its power plants using much less efficient and more costly diesel oil at a time of elevated oil prices, averaging $110 per barrel in 2011. From January until November of 2011, Jordan’s energy import bill amounted to JD3.355 ($4.731) billion, a 54% increase over the same period in 2010 (Chart 3). Of this total, JD63 ($90) million was for natural gas, JD728 ($1,027) million for diesel oil and JD362 ($511) million for fuel oil. This represented a decline of 63% in the value of natural gas imports compared to the same period in 2010, and increases of 157% and 245% in the value of imports of heavy diesel oil and fuel oil, respectively. Official sources estimate that Jordan incurs an additional cost of JD5 ($7) million per day as a result of the interruptions in Egyptian gas supply. 

Add on the partial reinstatement of subsidies and the additional cost to power generation, it's clear the fiscal picture is decidedly ugly:


The net effect has been considerable strain on the 2011 fiscal position of the country, which was offset by foreign grants amounting to $1.8 billion (equivalent to 6.5% of GDP), helping to maintain the fiscal deficit at 6.2% of GDP (IIF revised estimate). However, excluding grants, the deficit rises sharply to around 12% of GDP. In 2012, the government expects to cut subsidies by over a third, which along with other measures would help lower the fiscal deficit to 4.7% of GDP. This outcome also requires Jordan to receive $1.2 billion in foreign grants. This would be a drop of about a third from 2011, with around 80% coming from Arab countries. This goal looks achievable; nonetheless, the deficit excluding grants would still be 8.7% of GDP. 

Still, don’t hold your breath that OECD economic assistance will flow in a timely fashion. In sum, the country faces a noxious cocktail of a large fiscal outturn and a structural deficit in energy, importing some 96% of its primary energy needs.


But here’s the cunning plan, in the IIF’s words:


The Jordanian authorities have developed a long-term vision for energy sustainability, which relies on shale oil-fueled power plants, nuclear power generation and renewable energy.

According to this vision, by 2015, shale oil and renewable energy sources would constitute 11% and 7% (Chart 5), respectively, of Jordan’s energy use, increasing further to 14% and 10% (Chart 6), respectively, by 2020. Nuclear energy would come on line by 2020, producing as much as 6% of the Kingdom’s energy needs. As a result, crude oil and petroleum derivatives’ share of the primary energy consumed would fall to 40% by 2020. This implies that by that the end of this decade, Jordan hopes to locally provide at least 30% of its domestic energy needs (shale oil + nuclear + renewables).

Jordan has one of the world’s largest proven and exploitable shale oil reserves, which according to the World Energy Council is in excess of 50 billion tonnes. The high oil prices of the past few years have made the extraction of this resource economically viable.

Consequently, the Jordan Natural Resource Authority (JNRA) has concluded three production-sharing agreements (PSAs) to extract shale oil reserves. The first was a concession to Royal Dutch Shell covering around 22,000 sq km in the north, east and south of the Kingdom. The second PSA included Estonia’s Eesti Energia for a 30-sq km area located in the central part of Jordan, with a target production of 38,000 bpd by 2019. Lastly, in March 2011, the JNRA signed a concessionary agreement with Karak International Oil, a subsidiary of United Kingdom’s Jordan Energy and Mining, for a 35-sq km area south of the capital Amman. Under this deal, Karak has a 40-year term to produce 15,000 bpd in the first phase, increasing to 30,000 bpd and 60,000 bpd in subsequent phases.

 

 

Plans are also under way to create two shale oil thermal-fired power plant, and a nuclear power station. Other longer-term solutions include LNG imports to replace Egyptian natural gas.


In sum, these plans, though commendable, are ambitious and the government will eventually have to bite the fiscal bullet, concludes the IIF:


Jordan’s ambition for increased self-sufficiency in the energy sector is commendable. Nonetheless, and aside from the technical, environmental and political challenges, these projects require extraordinarily large amounts of funding. This is at a time when the government already faces challenges in fiscal consolidation (see IIF Research Note “Jordan: Turmoil Aggravates Fiscal Challenges,” issued in December 2011). The present system of ‘subsidized’ petroleum product prices has been made affordable thanks to concessionary loans and foreign grants.

However, to fund the planned multi-billion dollar development projects, private sector participation would be required, which would in turn call for minimal levels of guaranteed returns from the government. This would straddle the government with large and potentially rising costs. An alternative would be full liberalization of petroleum product prices. However, the market solution implicit in this alternative is politically difficult at this time. Therefore, in the present circumstances, we expect the authorities to avoid a hike in petroleum product prices and opt for a fiscal solution by cutting capital expenditures in order to restrain the fiscal deficit. Consequently, in the long term, some of the energy projects are likely to be reduced in scope and inevitably delayed.  

The question, then, is to what extent the Jordanian authorities will seek to reduce subsidy costs. No doubt much ink will be spilt speculating to what extent reformist voices will be sidelined by those who call for a Saudi-style economic model of increased public employment and state spending to shore up popular support.


For a sense of how some analysts reckon the stakes are high, take a look at this note from Exclusive Analysis, a political risk consultancy. We, however, will take it with a handful of salt..


Incidentally, if you would like to follow the former central bank governor, Faris Sharaf, on Twitter, go here.

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