New fiscal reforms set to reduce Oman's budget deficit

Following the drop in oil prices in 2014, the government budget has fallen into deficit. As a result, the authorities have implemented a bold series of fiscal reforms since 2015 to shift the budget on to a more sustainable trajectory. For instance, 2019 saw the introduction of a series of new excise taxes, referred to as sin taxes, on alcohol, pork and meat. In addition, fuel subsidies have been reduced, there has been a freeze on hiring and promotions in the public sector, and a variety of non-essential capital investment projects were cancelled or postponed.

Frame of Reference

While implementing reforms, the authorities are also mindful of the socio-economic impacts the changes may have. “The policy mechanism is consultative, where each new reform is discussed and evaluated by the Cabinet, the Financial Affairs and Energy Resources Council, the State Council and the Shura Council,” Hamid Hamirani, senior economist at the Ministry of Finance, told OBG. “Some of the fiscal reforms have taken time, but it was worth it. It is important to have the policy decision correct, as it was with the petroleum subsidy. This was the single largest and most difficult reform that was introduced, but there was no undue social stress.” The reforms have been well received by international bodies, including the IMF. After a visit in April 2019, representatives from the fund stated, “Oman’s reform efforts are rightly aimed at strengthening the fiscal position, enhancing private sector-led growth and job creation, and encouraging economic diversification.” Notably, the reforms have been successful in improving the fiscal accounts. The overall deficit peaked at 21.1% of GDP in 2016, but had more than halved by 2018 to 9% of GDP. This figure was expected to fall further in 2019, with the IMF forecasting it would reach 7% of GDP. Furthermore, while oil prices dropped by some 37% between 2014 and 2018, GDP contracted by only 3%. This demonstrates the positive moves by the government to counteract lower oil prices with subsidy reform and investment in non-oil areas, such as transport infrastructure, to support wider GDP.

Actions Taken

A variety of actions have been responsible for this outcome. Corporate income tax was raised from 12% to 15% in 2017, and the initial exemption of OR30,000 ($77,900) was removed. The scope of a 10% withholding tax, which applies to certain payments to foreign individuals, was also broadened in 2017. Revenue from these taxes amounted to 1.3% of GDP in 2017 and 1.5% of GDP in 2018.

While Oman began steadily reducing fuel subsidies from 2016, the authorities have simultaneously introduced schemes to support low-income segments so that they are not unduly burdened by these cuts. As a result of these changes, total government spending on subsidies and transfers fell from $5.6bn in 2013 to $2.4bn in 2016. However, this figure has crept back up in recent years, reaching $3.3bn in 2018, equal to 4% of GDP. This is largely attributed to higher oil prices and increased transfers to offset the impact of the cuts.

The public sector’s freeze on hiring and wages has been effective in capping the overall wage bill, which has remained broadly flat since 2014, totalling $8.3bn in 2018, or 11% of GDP. The cancellation of a number of non-critical capital spending projects led to a drop in investment spending by the government, which peaked at $9.1bn in 2014 and fell to $6.9bn in 2017, before creeping back up to $7.5bn in 2018, or 9% of GDP. The completion of various major capital projects in the coming years is likely to bring investment spending down further, with the IMF projecting it will fall to 8% of GDP by 2024.

Planned Reforms

Despite these reforms, the IMF noted that ongoing fiscal consolidation will be important to ensure fiscal and external sustainability, while in the near term the introduction of value-added tax (VAT) and measures to reduce government spending would also be important. Further reforms in the pipeline include VAT, personal taxation, a public expenditure review that the World Bank has been assigned to carry out, lower allowances and consolidation of ministries. The government is committed to implementing fiscal reform and has created a new authority to oversee this. “The government has established the Tawazun committee with a clear mandate to recommend reforms both to enhance revenue and rationalise expenditure. The committee, which is expected to make its first submission by the end of 2019, will look into existing and new reforms along with a socio-impact study,” Hamirani told OBG.

VAT

Oman has stated that it plans to introduce VAT in 2021. Oman’s VAT is expected to raise some $1.5bn per year, or 1.7% of 2021 GDP. It will take around four months to review and clear VAT by the appropriate government bodies, leaving about six months between formally announcing the reform and actually implementing it. The Ministry of Finance released a statement in August 2019 confirming that it is preparing to introduce VAT in the near future. According to the statement, the government is working on completing the legislative procedures to issue a VAT law, while the Tax Authority – previously the Secretariat General of Taxation until October 2019 – is completing the necessary administrative and technical procedures to apply the tax once it has been approved.

Oman’s VAT is expected to be in line with the GCC’s framework for VAT, which was agreed upon in 2016 and has been implemented in Saudi Arabia, Bahrain and the UAE. This framework includes a VAT rate of 5%, although certain exemptions are permitted for services such as health, education, local transport, property sales, oil, gas, financial services and products for export. The mandatory registration threshold – that is, the turnover at which companies have to start charging VAT – was set at $100,000 under the GCC framework. “The implementation of VAT will initially have an impact on consumers’ behaviour, but the negative effects will not last long,” Ajay Ganti, CEO of Al Seeb Technical Establishment, an Omani electronics distributor, told OBG. “While the sultanate’s software and administration infrastructure is ready, the government should still continue to provide clarity about the incoming VAT as well as educate the private sector regarding its implementation scheme.”

Sin Taxes

In June 2019 Oman introduced a 50% tax on carbonated drinks and a 100% tax on tobacco, alcohol, energy drinks and pork. However, the excise tax on alcohol was subsequently lowered to 50%. Going forwards, excise sin taxes could be expanded to cover additional products, with sugar-sweetened drinks proposed to carry the 50% tax in 2020. However, any expansion of these taxes is unlikely to be carried out until the longer-term impact of the existing taxes on the market and sales volumes has been assessed.

Subsidies

Oman reduced subsidies on fuel in 2016 and on electricity for companies in 2017. This helped rationalise the subsidy bill by around OM1bn ($2.6bn) between 2013 and 2018. While reforms are necessary, the government does have the means to finance the deficit in other ways, such as through the issuance of debt and the sale of public assets. It is highly likely that the government will turn to asset sales in the short term to delay the need for other fiscal reforms and protect the population from the impact of sharp adjustments in spending and taxes, at least until a proper social study can be completed.

For example, there are a number of suitable stateowned assets in the energy sector that could be sold, and some power and water companies are already in the pipeline for initial public offerings, which would raise significant funds for the government. The sale and leaseback of public assets such as schools and hospitals is another option. Unless the government’s hand is forced by adverse external events or lower oil prices, such steps are likely to continue to be taken at a steady pace, with processes in place to ensure that all the stakeholders are adequately consulted.