Author: Jaivime Evaristo

Publication: ITP Oil and Gas Middle East

At the core of the Infant Industry Argument lies the proposition that young industries need to be protected from their older, more advanced rivals and that they should be allowed to build efficiency either through economies of scale or through a consequential learning process. Perhaps, even both.

When the United States and Germany in the late 18^th and early 19^th centuries, respectively, championed the intellectual foundations of the infant industry argument, it was believed that the intent was meant to strategically insulate the two countries’ nascent industries from the more developed industries of Britain. Seemingly rightfully so, the US and Germany ricocheted in light-speed trajectory well into and beyond the Industrial Revolution. This, however, came with mixed attributions as to whether or not the fundamentally protectionist premise of the infant industry argument, solely, was worthy of taking all the credit.

Sceptics to this argument suggest that development of an industry would have occurred anyway as a result of a gradual and sustained build-up of technological, physical and human capital. They press to espouse that even in the absence of an active, restrictive regulatory policy, industry growth would have happened via the course of natural progression. Yet, some empirical evidence would point to the direction that government intervention, by protecting its vulnerable industries from usually more dominant foreign competitors, plays a crucial role in sector and industrial, even social, development.

A case in point was the notable success story in the creation of a petroleum industry cluster in Norway in the 1970s in which Norwegian oil companies, Statoil and Hydro, and key suppliers, Aker and Kvearner, were able to gradually build up their competence under the umbrella of an aggressive protectionist policy. In India, the development of its low-cost pharmaceutical industry against the colonial patent law of 1911 which secured the Indian market to the British is another landmark example.

In contemporary setting and in the Gulf Cooperation Council (GCC) energy sector in particular, a historical microcosm of the economic perspectives presented above seeks to develop the sector’s indigenous service industries in the context of a larger, more pressing, issue that is unemployment.

Saudi Arabia Case Study: Unemployment as Key Driver

Nationalization programs, i.e. Emiratization, Qatarization, Saudization, etc, in the GCC labour market have been in effect for years. The success of these national initiatives, albeit present, is widely debatable and remains a contentious socio-politico-economic issue.

The issue looms biggest in Saudi Arabia where the official estimate of unemployed male Saudis was at around 10 percent in 2009. Other estimates from the private sector fall in the wide range of between 10 and 25 percent. The jobless rate – proportion of people without jobs whether or not they are looking for one – however, was estimated to be as high as 45%.

While the availability of jobs per GCC national in 2009 was not much of an issue in some countries like Qatar (c.12 jobs:1 Qatari), the UAE (c.11 jobs:1 Emirati) and Kuwait (c.6 jobs:1 Kuwaiti), the proportion of available jobs in Saudi was much lower at less than 2 jobs per Saudi national. To combat this issue, US$93m was spent during the first half of 2009 to provide training and jobs for Saudi nationals in the private sector.  However, one can say that the quest in providing jobs for Saudis is yet far from over.

Given the sheer scale of the unemployment challenge, the Saudi government has and is expected to further tighten its grip on local industries and foreign players in the Kingdom, thus urging more stringent application of employment quotas for Saudi nationals. Strategic capital spending plans in the hydrocarbon sector are directed to projects that will add more value and provide more jobs. This means smaller proportion of crude oil as export and more of it being refined into high value products or petrochemicals within the Kingdom. Or, moreover, to projects where oil and gas resources are used as feedstock for industries like aluminium.

The private sector response to increasing pressure from the Saudi government has been varied. While the overriding principle in the Saudi government’s regulatory interventions seems one of employment more than development, it is comforting to see some offshoots from the same policy which offer clear signs of innovative and developmental premise.

In January, Saudi Aramco is believed to have received nine bids from joint ventures of foreign and local engineering firms in an initiative called General Engineering Services Plus (GES+). The initiative aims to improve the engineering skills of local players by forming integrated, locally-registered entities with equity ownership between GES contractors and international partners thereby forming a GES+ entity that could undertake pre-FEED, FEED, PMC and EPCM contracts for Saudi Aramco. A similar initiative is targeted at the development of In-Kingdom EPC (IK-EPC) partnerships in which Japan’s JGC has recently been awarded a contract worth between US$90-100m in relation to the Jubail Refinery Project for Sasref.

These developments among others are driven by the need to address the unemployment issue in the Kingdom and create an indigenous knowledge base. The resultant value add of these initiatives could very well exceed the foreseeable benefits of reduced unemployment provided sustained government oversight and proactive private sector support.

Norway Case Study: Drawing Parallel

Drawing from the “birthing pains” of the Norwegian petroleum system between 1977-80, one may expect to see a hefty labour and training price being paid in the ongoing and planned Saudi initiatives. Conversely, the same could eventually result in one highly innovative petroleum system in Saudi Arabia as was the case in Norway some 30 years ago.

When all companies in Norway were required to choose Norwegian nationals during this period, a bureaucratic, labour-intensive management model emerged. It proved costly to develop and train Norwegians. Nevertheless, socio-political considerations and strategic foresight appeared to have overwhelmed the huge, yet transient, economic implications of Norway’s infant industry policy. Needless to say, unemployment, like in the case of today’s Saudi, was also one of the key drivers of Norway’s then protectionist policy. The debate, however, did not end at meeting employment quotas but instead moved on to include the strategic importance of building internal competence in the assimilation of knowledge from extrinsic sources – another key driver in the Saudi initiative.

The emergence of Aker and Kvearner as main suppliers to the industry implies an increasing emphasis on the development of internal sources of innovation.   The scheme resulted in increasing absorptive capacity by Norwegian players allowing them to identify, assimilate and utilize technology and knowledge being brought in by international players. With sustained government intervention that called for an expanded Norwegian participation in technology production, development and supply over the following years, it became apparent that a growingly independent and innovative petroleum system of Norway was on its way. Today, Aker Solutions operates successfully internationally and is highly regarded in the Saudi Arabia market and expected to participate in the GES+ initiative – a real case of infant growing up.

Saudi Arabia: The Future Scenario and Implications to International Players

It appears highly likely that the Saudi economy will continue to rely on expatriate skills over the coming years, albeit in an increasingly regulated fashion. International firms that wish to retain and grow presence in the Kingdom should have a strategic foresight in dealing and complying with the regulatory changes that may arise. It is with no doubt that the economic prospects reserved for international players in the Kingdom’s energy sector will remain attractive as this will form part of the incentive system incumbent in the evolution of regulatory frameworks.

Having a 360-degree view of the market landscape and full understanding of the capabilities of key players across functions and disciplines in capital project development are paramount requisites to a firm’s successful business development in Saudi. As the prospects for further industry consolidation increase, players that can carry out exhaustive due diligence on potential opportunities and partnership options could emerge in the advantageous position.

Elsewhere in the GCC, a likely growing popularity of the infant industry argument amongst policymakers is inevitable. As such, firms that are equipped and highly adaptable to change are likely to make the list of the next generation of players in the GCC energy sector.

For the original article, please visit www.arabianbusiness.com/590699-infant-industry-analysis