Winds of Change in Oman: High foreign investment increases economic freedom

Opinion16.06.2020Miguel Angel Cervantes
Muscat

In today’s world, where there is a lot of pessimism and protectionism all around, some good news come from the Middle East. The winds of change blew in Oman at the beginning of 2020. On January 2nd, a new Foreign Capital Investment Law (FCIL) came into force in the Sultanate. FCIL visibly lowers barriers to foreign investment in Oman. Crucially, 100 percent foreign ownership is now possible in the Sultanate. Oman saw this encouraging increase in economic freedom only days before His Majesty Sultan Qaboos passed away on January 10th. 

What signal does this institutional change in Oman send to the Gulf Cooperation Council (GCC), which includes Bahrain, Kuwait, Oman, Qatar, Saudi Arabia, the United Arab Emirates (UAE)? Why should the MENA region and the rest of the world pay attention? Simply put, a more open economy will bounce back faster than a closed economy, and the economy of Oman will fare better after period of difficulty, such as during the coronavirus pandemic, than other closed economies. Here, the experiences of the open economies in Asia, like in Taiwan, Hong Kong, Singapore, and South Korea teach us important lessons.

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Simply put, a more open economy will bounce back faster than a closed economy, and the economy of Oman will fare better after period of difficulty, such as during the coronavirus pandemic, than other closed economies.

Miguel Angel Cervantes

More broadly, these changes will open new opportunities for investment in Oman. This is a great step to be integrated for the world value chains to diversify or even further its exports. This change in Oman will certainly catapult Oman ahead of the GCC, if other things remain equal. Let us remember that the UAE allows 100 foreign ownerships in the free trade zones, so this action in Oman is more transcendental than in the United Arab Emirates, because it will allow Foreign Direct Investments across the board, not just in free trade zones. Definitely, Oman’s changes are better than the highly praised 2030 Saudi Arabia project, which is, in fact, a government directed and funded-towards project considered with high value-added, shiny and disruptive, and mostly failures-disguised by high government spending. Things will appear shiny in Saudi Arabia with the Vision 2030 until the money runs out. Let us say it clearly, the Saudi Arabia Vision 2030 is not a step for more economic freedom. On the contrary, it is the changes in Oman that are real and not cosmetic as those in Saudi Arabia. 

The Fraser Institute’s Economic Freedom of the World Index provides a quantitative assessment of the degree of economic freedom. Nobel Laureate Douglass North calls this index the “closest thing we have to” a description “of efficient markets”, which in turn leads to economic growth. 

This report ranks 162 countries in terms of economic freedom. The ranking in the Middle East and North Africa region is as follows: Bahrain has the 50th spot, the United Arab Emirates 61st, Qatar 69th, Oman 89th, Saudi Arabia 107th , Kuwait 114th.  It is important to take a greater look at the five components of Economic Freedom to see the strengths and weaknesses of Oman, with respect to the GCC countries. 

1. Size of government: Expenditures, Taxes, and Enterprise

This component measures how government decision-making through the political process  becomes a substitute for personal  choice, thus weakening economic freedom. 

In the first component, Oman and the GCC countries have low scores. Oman has 4.44 over 10. 

The report also finds positive that the UAE, Bahrain, Kuwait, Qatar, Oman and Saudi Arabia do not have a personal income tax. On the other hand, the benefits of such a liberal fiscal policy, are attenuated by the role of the state in the economies, through state-owned enterprises and the welfare state, which is heavy in the Gulf countries. 

Government consumption as percentage of total consumption is a disaster area for Oman  and the GCC. Large government consumption crowds out other economic activity.

In the GCC this is reflected in many lavish government spending projects, and pharaonic projects in order to give appearance of  prestige, that add nothing to the productive capacity  of the GCC countries. In fact the big welfare state and government spending, inter alia, are holding back the GCC from its full potential, discouraging the private enterprise.  The big welfare state also destroys the work ethic, discouraging people from risk taking. Although, this happens in  all countries that are big welfare states, not just the GCC.

2. Legal Structure and Security of Property Rights

This component is about the protection of people and their rightfully acquired assets. This element is the heart of any economic system. It is the most important function of government. This component allows people to live in harmony, while having low transaction costs.

In the second component, Legal System & Property Rights, Oman has a score of 6.18, the highest in the GCC. It reflects a good level of judicial independence, great protection of property rights, great integrity of the legal system, and very low interference of the army in the legal system. The police are very effective which is reflected in low business crime. The score is lowered by the Gender Disparity Index, but let us be honest: Oman, though not perfect, still has the highest score for equality of men and women in the GCC.

3. Access to Sound Money

Inflation destroys the value of wages and financial assets. Sound money is thus essential to protect rightfully acquired property. When inflation is high and volatile, it makes transactions more difficult, accounting more complicated, and daily life unpredictable.

In the third component sound money, Oman has a score of 8.74. All of the GCC countries have good scores in this component. There are no inflationary issues in the GCC, the inflation is low as well as the low volatility, all of the GCC countries allow their citizens to have accounts in foreign currency.

4. Freedom to Trade Internationally

The people in one county should have the opportunity to voluntarily exchange with other people in the world. Businesses should be able to buy and sell to the whole world.

The fourth component is Freedom to Trade Internationally; there Oman has a score of 7,67Let us remember that the GCC is a common market with no tariffs among the members having an external tariff. Thus, the GCC countries observe high scores for their low barriers to international trade, which is reflected in average external tariff rates of 4.8-5.6 percent, for their low variability of tariff rates. On the other hand, in the sub-component Foreign ownership/investment restrictions, and capital controls, there are stark differences. The UAE and Bahrain, being the most open in this component, while Saudi Arabia and Kuwait are the countries with lowest scores in this sub-component. Oman is in the middle, but with these new reforms, there are great chances that Oman will overtake Bahrain and the UAE, and also other locations for investments.

5. Regulation of Credit, Labour, and Business

Governments often develop heavy regulations to limit the right to honest transactions domestically and difficult to operate a businesses.  Regulations can impact the access to credit, working for someone or hiring someone, and the development of business, and start-ups.

In the fifth component, Regulation of Credit, Labour and Business, Oman has a score of 6.77.

The strong point for Oman is that the banking system is private, and has high foreign bank competition. In Banking, Oman is ahead of the Saudi Arabia, the UAE, and Qatar, countries that have a strong dominance of state-owned banks. The weakness for Oman is the high budget deficits, which in turn absorb the credit available for the private sector.  

In the case of labour regulations, there are good points. For instance, there are no limits to renewing fixed term contracts, until companies can find the ideal candidate to offer a long term contract. Furthermore, most of the collective contracts are done at the company level. Oman does not have mandatory conscription, which is very positive, given that Qatar, the UAE, and Kuwait have reintroduced mandatory conscriptions. On the other hand, on hours regulations, Oman has restrictions such has night work, overtime work, and a work week of only 5 days. 

In regulation of businesses, the strongest points for Oman are opening businesses, getting the licensing permits, and paying taxes. Opening a business in Oman is very democratized; it is open to all the people, not just the privileged classes. It can take 5 procedures and 5 days to open a business. Paying taxes is easy, transparent and predictable. In the case of regulatory burden, Oman is below Bahrain, which is the best, but ahead of the other CCG countries.

To sum up, the strongest points for Oman are the zero personal income tax, the great legal system and protection of property rights (the top in the GCC), the good monetary stability, great banking competition, average labour regulations, and good business regulations. The bad points for Oman are the government consumption, and the dominance of government investment as a percentage of total investment, and the role of state-owned enterprises. 

In the past, the restrictions of FDI in some sectors reduced the competitiveness of Oman.  But as we mentioned, with the new law, Freedom to Trade Internationally for Oman will improve ahead of the GCC. Needless to say, with this new changes there is increased ease of doing business, higher predictability would put Oman ahead of the GCC, and, at the same time, build a powerful boost to growth, higher incomes and race to the top among the GCC countries, in the years to come. 

If Oman continues make economic reforms such as decreasing government consumption and the role of state-owned enterprises, it can bring Oman to the top 10 countries of economic freedom, and be the most performing country in the GCC. In order take opportunities Oman needs to cut the wasteful government consumption, and focus its resources where they are needed, in improving the human capital. In order to improve the income and the well-being of the Omani people, especially the youth, Oman needs to improve productivity, competitiveness and greater participation of the youth in the workforce. In order to improve its performance Oman must strengthen the stock of human capital, reduce the “skill mismatches”, the education system must have the ability to respond to the demands of the labour market. If Oman improves the stock of human capital Omani people will be able take advantage of opportunities, in the enterprises, or engage in entrepreneurship.

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If Oman continues make economic reforms such as decreasing government consumption and the role of state-owned enterprises, it can bring Oman to the top 10 countries of economic freedom, and be the most performing country in the GCC.

Miguel Angel Cervantes

Oman should strive to bring campuses of the best business schools (such as through an already existing program from the Swiss University, IMD to develop Omani managers) vocational schools, engineering schools, as well as increasing cooperation and exchange with Omani Schools. Here, Oman can get inspired by the Swiss apprenticeship program, the German vocational training programs, and the French work-study (alternance) programs. 

This institutional change in Oman sends a signal to the European Union, and the rest of world. It is important to start increasing trade with Oman though the GCC common market, to which Oman belongs. Increasing trade with the Oman will contribute to more trade partnership diversification, specialisation of labour, economies of scale and new productive vocations. This will be translated into greater standard of living, and prosperity. 

With increasing protectionism, pessimism, corrosive politics, and rejection of free market values around the world, Oman shows that another world is possible. With the changes liberalising FDIs, Oman will attract more foreign direct investment, develop lower investment risk and immerse deeper in global value chains.

Miguel Cervantes

About the Author

Miguel Angel Cervantes is a former economist in the Fraser Institute’s Global Resource Centre and co-author of the annual Survey of Mining Companies, Global Petroleum Survey, and Economic Freedom of the Arab World report. He holds a bachelor's and master’s degree in economics from the University of Texas at El Paso and is also a lecturer at HEC Montréal Business School.