How is the GCC’s energy transition faring

Unpredictable.

It’s a word that has defined the world in the last year and half since the Covid-19 pandemic altered lives and economies across the world. It’s also the word that can be used to explain the movement in energy markets during this time.

No one could have predicted – for instance – that we would witness oil hit negative territory and then bounce back up so rapidly.

Or that countries around the globe would now be racing to become the biggest producers of hydrogen.

“Energy markets have reflected the uncertainty and shown exceptional movements. At the beginning of the crisis, plunging fuel demand in many key markets was reflected by prices: by the end of March 2020, the price of gas hit a 30-year low, whereas the price of oil, also affected by supply shocks showed the largest single-day decline in the past 22 years. As economies have reopened, energy commodities have shown a partial rebound: for example, by the end of third quarter 2020, oil demand in China was back at pre-Covid-19 levels, and 50 per cent of the decline was recovered in Europe and North America,” consultancy McKinsey observed in its Global Energy Perspective 2021 report.

According to the International Energy Agency (IEA), global energy demand in 2020 fell by 4 per cent, marking the largest decline since World War II and the biggest-ever absolute drop. However, based on Q1 data, projections for 2021 indicate that as Covid restrictions are lifted and economies recover, energy demand is expected to rebound by 4.6 per cent, pushing global energy use for this year 0.5 per cent above pre-Covid-19 levels, the IEA said in its Global Energy Review 2021 report.

Almost 70 per cent of the projected increase in global energy demand is in emerging markets and developing economies, where demand is set to rise to 3.4 per cent above 2019 levels. Energy use in advanced economies is expected to be 3 per cent below pre-Covid levels.

“The outlook for 2021 is, however, subject to major uncertainty. It depends on vaccine rollouts, the extent to which the Covid-19-induced lockdowns scarred economies, and the size and effectiveness of stimulus packages. Current economic outlooks assume global GDP will surpass 2019 levels, lifting demand for goods, services and energy. However, transport activity and particularly international travel remain severely supressed. If transport demand returns to pre-Covid levels across 2021, global energy demand will rise even higher, to almost 2 per cent above 2019 levels, an increase broadly in line with the rebound in global economic activity,” the IEA report added.

Regionally, Middle East and North African (MENA) economies started to recover noticeably starting in the first quarter of this year, a trend which is continuing into the second quarter, says Ramy Al-Ashmawy, senior energy specialist at Arab Petroleum Investments Corporation (APICORP).

However, the recovery path for the MENA region will remain “relatively sensitive to fluctuations in oil prices”, according to the MENA Energy investments Outlook 2021-2025 report by APICORP. “For MENA economies, the recovery path will tread between the leading Asia-Pacific region and the trailing hydrocarbon and commodity-dependent emerging markets in Latin America.”

Hydrocarbons
Following its steep decline in 2020, oil has rallied nearly 50 per cent this year, with Brent crude touching $75 per barrel in June and the year-to-date average price much higher than the $43 per barrel last year. Even as demand picks up worldwide, and supply released by the Organization of Petroleum Exporting Countries and its allies (OPEC+) remains constrained, the outlook for prices looks promising.

“We expect prices to stabilise in the $60-$70 range. Further increase of oil prices is not supported by supply and demand fundamentals, and, if it happens, will impede wider economic recovery,” states Al-Ashmawy.

While the regional oil industry was impacted by the Covid-19 outbreak, a year on, the energy industry’s fundamentals are slowly improving as demand for oil products continues to pick up across the globe, which will also allow oil producers to restore supplies, states Saif Humaid Al Falasi, group CEO of ENOC.

“While we can anticipate that recovery in demand to pre-Covid levels will still take time, products such as gasoline and diesel are already witnessing a significant increase in demand, primarily due to the ease in restrictions and the gradual uptick in economic activity. As countries such as the UAE, Saudi Arabia and Qatar continue to implement nation-wide vaccination programmes, demand for oil will continue to increase.

“We have seen an improvement in ENOC’s business activity. On the long term, we will continue to strengthen our operations and competencies, focusing our investments locally,” he adds.

However, there are still some risks to the recovery in the oil market, explains Emma Richards, senior Oil and Gas analyst at Fitch Solutions.

“A lot of debt was taken on during the pandemic and inflationary pressures are rising, which could trigger rate hikes. Economic activity is generally normalising and unemployment is falling, but new strains of Covid-19 and a low vaccination rate globally threaten renewed outbreaks of the virus and fresh lockdowns,” she says.

“That said, we expect demand to keep rising and the market to tighten over H2 21, supporting further gains in oil prices. The outlook for 2022-2023 is less certain, as demand growth tapers, OPEC+ (and potentially Iran) return large volumes to market and the US shale sector posts healthy growth.”

Overall, according to APICORP, total energy investments in the MENA region for 2021-2025 are expected to increase slightly over last year’s five-year outlook – from $792bn to $805bn. Oil and gas investments are anticipated to witness a healthy uptick in next year’s outlook given the expected improvement in macro conditions, the report added.

“We expect MENA economies to pick up from Q4 2021 into 2022 and over the medium term, with Brent oil price averaging around $65 per barrel in 2021-2022. In natural gas, gains in global LNG prices since Q4 2020 have had a positive effect on both spot MENA LNG exports and the forward-looking pricing of longer term contracts in Qatar and Algeria. Fiscal pressures due to the combined crises of 2020 – and the resulting high debt pile – still weigh heavily on the region’s economies. In the medium term, we are seeing a rationalisation of expenditures in the regional energy expenditures, as evidenced by the year-on-year reduction in the MENA’s five-year investment outlook for oil, gas and petrochemicals,” says Al-Ashmawy.

For hydrocarbon producers, this decade might prove to be the “last window” for the low-cost producers to firmly re-establish their marketshare, particularly Saudi Arabia and Qatar, the APICORP report added.

Renewables
Globally, the pandemic has acted as a catalyst in accelerating the energy transition towards cleaner and low carbon energy sources. “Despite the Covid-19 outbreak, global investments in energy transition in 2020 increased by 9 per cent over 2019, and stood at a record level of $500bn, with renewables attracting roughly $300bn of fresh investments,” says Al Falasi.

The GCC – especially countries such as the UAE – have set ambitious agendas to increase the share of renewables in the energy mix. As per the UAE’s 2050 strategy announced in 2017, the country plans to produce 44 per cent of its energy from renewables, 38 per cent from gas, 12 per cent from clean coal and 6 per cent from nuclear by 2050. The UAE, which aims to invest Dhs600bn by 2050 to meet the growing energy  demand, also plans to reduce its carbon footprint from power generation by 70 per cent, leading to Dhs700bn in savings.

April also marked a historic milestone for the UAE, when Unit 1 of the Barakah nuclear energy plant started commercial operations following the official start of operations last year. Nawah Energy Company, the operating and maintenance subsidiary of the Emirates Nuclear Energy Corporation (ENEC), commenced operations of the 1400 MW Unit 1, which is now providing constant and sustainable electricity around the clock, with three further units to begin generating in the coming years.

Moving to Saudi Arabia, in March, Crown Prince Mohammed bin Salman announced the mega Saudi Green Initiative programme, as part of which the kingdom plans to reduce its carbon emissions by adopting an energy programme that will generate 50 per cent of the kingdom’s energy requirements from renewables by 2030 by investing in projects in the fields of clean hydrocarbon technologies. Prince Mohammed also revealed the Middle East Green Initiative, which seeks to increase the share of clean energy production across the Middle East over the current 7 per cent by sharing knowledge on advanced technologies. The kingdom has also unveiled plans to power its futuristic NEOM development completely by clean energy.

“The Covid-19 crisis highlighted the cost of tying economies to the fate of fuels prone to price shocks. The energy system, along with the rest of the economy, has been shaken to the core. Amid this, renewables have shown remarkable resilience. Renewable power was a preferred option early on for several reasons, notably its abundance and low operating costs. The crisis was also a test case for renewables-based electricity, debunking myths around the reliability of systems with high shares of solar and wind,” Francesco La Camera, director-general at the International Renewable Energy Agency (IRENA) wrote in the World Energy Transitions Outlook report published earlier this year.

“The energy transition can no longer be limited to mitigation efforts or incremental steps. It has to become a transformational effort, a system overhaul, based on the rapid upscaling of available technologies while innovating for the future. The emerging energy system must promote a more inclusive and equitable world, with resilience against economic and environmental shocks.”

In the region, power utilities have seen the impact of Covid-19 on demand growth, consumption patterns, operations disruption and customer dissatisfaction, adds Dr Shihab Elborai, partner with Strategy& Middle East. “It’s highly likely that when governments begin to step in to take action to boost economies in the post Covid era, a large share of stimulus spending on infrastructure will go to utilities. This will increase the trend towards renewable energy.”

Richards from Fitch adds: “The trend [towards renewables] is undoubtedly accelerating. Companies operating in the region are becoming more vocal around emissions and oil and gas companies are increasingly siphoning off investments into alternative energies. While fossil fuels still dominate spending, the share of low-carbon investments will grow over time.

Particular focus will likely be given to investments that leverage existing assets, infrastructure and technical know-how, such as carbon capture, blue hydrogen and blue ammonia.”

Driving the future
In the GCC, hydrocarbons have traditionally been the driving force for the economies, contributing extensively to the region’s staggering growth over the last few decades. While factors such as the paucity of resources and the extreme price volatility has pushed the Gulf states to aggressively pursue diversification strategies, their dependence on oil and gas remains significant.

“Hydrocarbons will likely continue to dominate the energy sector for at least the coming decade, and likely longer. Diversification is challenging and in most MENA countries, progress has been fairly limited to date,” says Richards.

“The abundance of fossil fuels, their low cost and wide availability makes them hard to dislodge as incumbents in the energy mix. The region has a lot of potential in the renewables space, in particular solar PV, and investments are picking up pace. Nevertheless, in many markets, obstacles remain, such as restrictive investment climates and the pervasive use of energy subsidies.”

Over the short term, hydrocarbons will continue to dominate the region’s energy sector, agrees Suhail Z Shatila, senior energy specialist at APICORP.

“Over the long-term, clean and renewable energy will continue their rise towards a more balanced, sustainable, and diversified energy mix, with hydrocarbons remaining a cornerstone of the region’s economies, albeit in a more conscious manner.”

Looking ahead, the big future trends within the space remain similar to the global ones, including decarbonisation, decentralisation, and digitalisation, according to Strategy&’s Elborai.

“There will remain a need for natural gas as power generation fuel in the foreseeable future, but the share of renewable energy is sure to grow.”

Shatila also concurs that decarbonisation of oil and gas production and a rise in the share of clean energy are among the biggest future trends, along with an increase in energy efficiency and waste recycling, as well as the rising prominence of the region as an export hub for hydrogen – both green and blue – with pilot projects already underway in Saudi Arabia, UAE and Oman.

“The energy transition has become imminent for the regional economies and their national oil companies. Countries like UAE and Saudi Arabia have been pioneers in embracing this energy transition. Masdar in Abu Dhabi and ACWA Power in Saudi Arabia, for instance, have continued to build global portfolios in renewable energy across solar, wind and waste to energy plants. The focus on hydrogen product and synthetic fuels, and the UAE’s plans to set up a ‘hydrogen alliance’ are also emerging trends that we need to be on the lookout for,” explains ENOC’s Al Falasi.

The key aspect to watch out for is the pace and form that the energy transition takes, according to Richards. “The region boasts a large reserve of cost competitive and often low carbon intensity supply and is well-positioned to compete for buyers. However, the pace at which global oil and gas supply declines relative to demand will ultimately set the price level. This will have major implications for the economic and fiscal health of the region’s producers and the funds they have available to support energy diversification drives,” she adds.

With regional governments embracing the push towards sustainable and viable energy models – by adopting novel technologies, exploring new avenues and partnering with the public and private ecosystem – the outlook for the future certainly looks bright.