Watch out for the new Dutch disease epidemic (1/2)

The falling oil price over the past 18 months has had the consequence to expose both the unpreparedness and the lack of diversification of many major oil producing countries. For those, oil represents the biggest economic sector and most of the foreign currency revenues. Some countries have tried to manage the oil dependency though. Dubai, for instance, discovered oil in 1966 but as soon as the 1970’s invested in new industries such as a financial hub or aviation infrastructure to create a tourism destination. The Emirate only derived 4% of its revenues in 2015 from oil exports. The then ruler, Sheikh Rashid, was surely wary of the Dutch disease.

diversification investment

Benefits of diversification

The pandemic’s roots
The term was coined in 1977 by The Economist to describe the decline of the manufacturing sector in the Netherlands after the discovery of the large Groningen natural gas field in 1959, the 10th largest in the world. In economics, it describes the apparent causal relationship between the rise of one sector (in our story oil production) and the relative or absolute fall of other sectors. The idea behind is that massive exports of oil create an influx of dollars in the economy, pushing up the value of the local currency, making other sectors uncompetitive globally. While for the Netherlands, the Groningen gas field was finally cleared of wrongdoing a few years later, for many oil producing countries, we can notice that the energy companies and affiliated (such as the petrochemical firms) dominate the economy.
Below I have assembled the data showing how important oil is to many leading oil producers.

Oil dependency

Nobody is working two jobs

As you can remark, these countries are very dependent on oil. They also have many companies linked to the oil complex. The biggest company listed on any Middle Eastern stock market is Saudi Arabia Basic Industries Corporation. SABIC is a world leading petrochemical company, dominating production of chemicals using crude oil as input – so much for diversification! In Russia, 40% of the stock market index is represented by oil companies. As a comparison, energy companies weight around 10% of US or European stock markets.


Diversification for dummies…

Become a Forex trader
Of course, as soon as crude prices fall, the inflow of US dollars slows. This has for consequence pressures on the domestic currency. If the country wants to keep a stable currency, it needs to use its reserves to prop it up. If it chooses to let it drop against the dollar, this increases domestic inflation considerably, slowing growth and making the population poorer. Russia spent $55bn in 2014 to keep the Ruble afloat – 10% of its reserves at the time. Despite this record amount of money put at use, the Ruble continued to fall and the Central Bank admitted defeat decided and let the Ruble drop. Nigeria, who had seen its budget revenues fall 35% in 2015 while GDP growth dropped from more than 6% in 2014 to 2.3% in 2015, also initially used a few billions to defend the local currency. However, the Naira fell 25% in 2015 and the currency can now be traded for ⅓ less on the black market.

A falling currency would be great for export-driven companies: they would be more competitive abroad. Unless your country does not have an export industry, that is…

USDRUB Curncy (Russian Ruble SPO 2016-02-11 12-50-31

Cheaper holidays anyone?

In white, the Russian Ruble, in yellow the Nigerian Naira, in Green the Kazakh Tenge, in pink the Mexican Peso and in red the Brazilian Real.

Arabian dreams
Of course, local governments are aware of their lack of diversification and are trying to remedy it, using successful countries such as Dubai as an example. Below is a picture of the Jeddah Tower, a one kilometer high (!) tower under construction (currently 140m high) part of a $20bn redevelopment of Jeddah, one of the major economic lung of the Saudi kingdom. The aim was to attract new industries to diversify the economy. The project started in 2012, when oil prices were above $110bl. Will the tower will ever reach the ambitioned height?

jeddah tower feb 2016

My tower will be bigger than yours

PS: two weeks ago I wrote about the jet engine’s reliability. I am happy to quote that the latest Rolls Royce engine, the Trent XWB, powering the new Airbus A350, reached a 99.84% dispatch reliability factor in its first year of operation, bettering the 99.65% of the CFM-56, powering the Beoing 737’s and Airbus A320’s families. Wow!

2 thoughts on “Watch out for the new Dutch disease epidemic (1/2)

  1. As always, an excellent little Friday story, dear Julien!

    You brought me right back to my Student years at the Graduate Institute, when I became familiar with the term Dutch disease…

    Small question: do you have the data showing how important oil is to Scotland’s budget?




    • Hello Nicholas, it is tough to find accurate numbers because a lot of projections were made before the Referendum and the oil price fall. Using the OBR data and the Scottish government balance sheet (, we can calculate that oil revenues are now a bit below 5% of Scottish budget revenues. So while it is an important source of revenues, it is now the major one.


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