More is better: The government is working to boost industrial productivity

In common with many of its regional peers, Oman’s current economic strategy is focused on achieving high-value-added growth, characterised by capital-intensive production methods, advanced technology, and scientific research and development. Yet rather than increasing capital intensity, recent IMF statistics appear to show that the economies of the GCC are becoming less, not more, productive. Can government policy help Oman’s industry check this trend, and recover its lost productivity?

Bonuses & Penalties

According to IMF estimates, over the past decade the contribution of total factor productivity (TFP) – a measure of how efficiently capital and labour inputs are used in the production process – to economic growth has slumped across the GCC. Oman has proven no exception. Compared with the preceding decade (1990-99), the average contribution to non-oil growth of TFP in Oman fell from 1.8 points to -2.3 points in the period 2000-12.

In effect, this means that during the 1990s productivity gains ensured that Omani investments in capital and labour (at 2.5 and 1.6 GDP percentage points, respectively) produced an added “bonus” of 1.7 points of GDP growth, making a total of 5.8% average annual GDP growth for the period. In the 2000s, however, that bonus turned into a penalty: investment in capital and labour of an estimated 4.8 points each should have led to average annual GDP growth of at least 9.6%; instead, the attained rate was only 7.3%. The gap – 2.3 points – is in effect negative TFP: an inefficiency in the allocation of labour and/or capital which prevented the full gains of investment from being realised.

There are a number of possible explanations for this decline in productivity. For instance, economists have hypothesised that different developing economies may have varying “absorptive capacities” for technology transfer. At the point at which investment in additional labour or capital formation exceeds this absorptive capacity of an economy, such investment would not produce additional growth. The resulting “gap” would, by definition, represent a decline in TFP. With their substantial foreign currency earnings from oil and gas over the past decade, the economies of the GCC may simply have had too much cash for their non-oil industries to efficiently absorb.

Labour Productivity

The IMF, while acknowledging constraints on the absorption capacity of GCC states, nonetheless identifies the particular growth model pursued by those economies over the past decade as a probable explanation for falling productivity. In the IMF’s view, “Strong growth has been underpinned by the availability of relatively low-cost foreign labour.” Indeed, in the 15 years between 1999 and 2014 the private sector added more than 1m new jobs for expatriate workers, with the figures rising from just under 475,000 in 1999 to 1.57m in 2014. The total number of Omanis working in the private sector, by contrast, stands at just under 200,000.

The IMF’s own calculations for labour productivity over the period 2000-13 place Oman in a relatively positive light in comparison with other GCC economies. By contrast to the UAE, where labour productivity has fallen by more than 4% year-on-year during that period, the decline in Oman has been only fractionally negative: an average fall of perhaps 0.1% per year, which is a positive sign for the sultanate.

However, not only does this figure compare poorly with non-GCC oil economies (which have seen rises in labour productivity over the same period), it also suggests that almost all the decline in productivity in Oman has come from the inefficient allocation of capital. Rather than becoming more capital-intensive, the Omani economy has instead become less capital-intensive, which ultimately relates back to the issue of management skills.

An Issue Of Management

In a recent study on productivity within Oman’s manufacturing sector, “poor management practices” were identified as the chief obstacle to productivity gains. The paper, jointly produced by academics at the University of Sharjah in the UAE and Sultan Qaboos University in Muscat, surveyed operations managers at 51 manufacturing enterprises in Oman, and asked them to rate the importance of 15 different obstacles to productivity growth. When the researchers analysed the results, they discovered that the most common obstacles all related to management failings.

Moreover, the other two failings identified by the study were also related to poor personnel management: “employee job dissatisfaction” and “poor human resource management practices.” Although these were less prominent than the management failings, they nonetheless consistently cropped up in industry responses. A similar recent study conducted in the construction sector involving a sample size of 138 resulted in similar conclusions: “lack of professionalism” and “incompetent supervisors” were ranked first and third, respectively, as factors holding back productivity – both higher than factors relating to capital, such as “shortage of materials” (fourth) and “contractor’s financial difficulties” (10th). When more detailed analysis was applied to the data, the researchers reached the same conclusions as the report on manufacturing: poor management was the chief factor in common among the main obstacles.

Policy Response

The question, then, is what can be done to reverse the process? In common with most GCC countries, the private sector wage differential in Oman between nationals and expatriates has become substantial, leading to segmentation in the labour market. This segmentation is not just between the private and public sectors, but also within the private sector, as Omani nationals must compete with expatriates who will in most cases take a lower salary. At the very bottom of the market this effectively excludes Omanis from a number of jobs, while an abundance of cheap labour may also result in the creation of fewer well-paying jobs in the middle, as employers have less incentive to automate and invest in skilled labour. Any effective response must therefore address not only the wage differential, but also the productivity-sapping effects of cheap labour, and the transitional impact of weaning industry off it. Three government policies in Oman are intended to help industry move in that direction.

First, the sultanate’s Omanisation policy (which has been in place in some form since the 1980s) has been amended in recent years to encourage higher-value recruitment in middle management positions. Manufacturing industries are currently expected to reach a target of 35% Omanisation in their workforce, but a restructuring of the influential sectoral committees in 2010 (which introduced private sector involvement in the process) has allowed for greater flexibility in the implementation of the policy.

Second, Omanisation has been combined since 2013 with an increased minimum wage for nationals of OR325 ($841). Together, the two policies are disincentivising cheap expatriate labour and encouraging businesses to invest in automation and improved skills. Finally, to offset any temporary loss of competitiveness while companies absorb these changes, the government has a number of policies in place which allow for a price preference of up to 10% for local content in tendering. “Having only expatriate labour is not a sustainable model; this is why industry must work closely with government to implement programs which enable the sector in the short term and train Omanis for the long run,” Bjorn Skjelby, general manager of Jotun Paints, told OBG.

The combination of these three policies is already helping both to improve productivity as well as integrate Omanis in the workforce. For example, Muscat Steel, which began operations in 2009, is currently close to the 35% target and employs locals extensively in mid- and high-level roles.

Need For Innovation

Ultimately, however, there is a limit to what government policy alone can achieve. According to Gert Hoefman, CEO of Oman Cables Industry, there is also a need for Omani industry to innovate and take an active approach towards product diversification. “There is no choice for Omani companies but to innovate to stay competitive in the future, especially outside of Oman,” he told OBG. According to Hoefman, Omani companies can distinguish themselves from the competition by investing in quality and diversifying their product portfolio.

There are signs that manufacturing is on the right track. Labour market segmentation, for instance, is slowly beginning to decline, and there are calls to extend the minimum wage to expatriate workers – a move which would help further encourage management to improve the quality of manpower and invest in automation. Ultimately, however, it may be the declining oil price which proves the biggest spur to productivity: with less money to go around, industry will have to learn to make their cash go further.