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This is to certify that the

thesis entitled

AN EXAMINATION OF
ABSORPTIVE CAPACITY IN

SAUDI ARABIA

presented by

Abdulhamid A. Bassam

has been accepted towards fulfillment
of the requirements for

Ph.D.

Date July 29, 1981

 

0-7639

degree in Resource Development

WMAM

Major professor

 

 

 

MSU

 

 

 

RETURNING MATERIALS:
Place in book drop to
remove this checkout from

 

 

 

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w your Y‘ECOY‘d. FINES will
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AN EXAMINATION OF ABSORPTIVE CAPACITY
IN SAUDI ARABIA

BY
Abdulhamid A. Bassam

A DISSERTATION

Submitted to
Michigan State University
in partial fulfillment of the requirements
for the degree of

DOCTOR OF PHILOSOPHY

Department of Resource Development

1981

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ABSTRACT

AN EXAMINATION OF ABSORPTIVE CAPACITY
IN SAUDI ARABIA

BY
Abdulhamid A. Bassam

This study is an examination of the concept of absorp-
tive capacity in a selected member of the Organization of
Petroleum Exporting Countries (OPEC). The Kingdom of Saudi
Arabia, the largest oil producer with the largest reserves,
has been chosen as a case to study.

Because of the oil price and production increases, in
the last decade, a huge transfer of wealth and income began
moving from the consuming to the oil—producing countries.
Moreover, the industrialized developed countries entered a
new era of slower economic growth as compared to the
pre-OPEC era. The oil producing countries' rates of econo-
mic growth, on the other hand, have skyrocketed, and all
their economic indicators are steeply upward and positive.

During the past decade, therefore, Saudi Arabia has
undergone rapid economic growth and development. This newly
acquired and still increasing revenue has permitted the
government to embark upon a series of ambitious and expen—

sive five-year develoPment plans to industrialize the

Kingdom of Saudi Arabia by the year 2000.

Because of the limited duration of this development
effort and the absence of studies of the process itself as
it unfolded in Saudi Arabia, it is not at all clear why this
success had been achieved. Therefore, the question to be
asked is: How was it possible for Saudi Arabia to have made
such rapid progress in the achievement of its development
goals?

It is proposed that a number of questions about this
achievement can be answered by using concepts formulated by
development economists, most notably Adler, and using the
data that are now available. Essentially, these concepts

are embodied in the idea of absorptive capacity. This idea

 

can be rather easily conceptualized, but measuring it and
determining factors that affect it are likely to be much
more difficult.

It was determined through this study that the rapid
increase in domestic absorptive capacity was due, first of
all, to the large increases in oil revenues, which permitted
importation and augmentation of cooPerant factors. Second,
this absorptive capacity also expanded as a result of skill-
ful and insightful planning that was undertaken to eliminate
bottlenecks, establish priorities and maintain a degree of
balance.

Without the presence of both these elements in the
economy, the absorptive capacity could not have expanded so

dramatically.

 

Copyright by
ABDULHAMID A . BASSAM

1981

In memory of my beloved grandfather Mr. Abdulaziz Ali

Al-Bassam, and to my beloved grandmother.

ii

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ACKNOWLEDGEMENTS

I would like to express my deep gratitude to my doc-
toral committee--Professor Anthony Koo, Professor Milton
Steinmuller, Professor Raleigh Barlowe, and Professor Frank
Fear--for their help and encouragement.

I would like also to thank Mr. Paul C. Souder, chairman
of the board, Michigan National Bank, and Mrs. Souder for
their parental guidance throughout my stay at Michigan State

University.

A. A. Bassam

iii

ABSTRACT

AN EXAMINATION OF ABSORPTIVE CAPACITY
IN SAUDI ARABIA

BY
Abdulhamid A. Bassam

This study is an examination of the concept of absorp-
tive capacity in a selected member of the Organization of
Petroleum Exporting Countries (OPEC). The Kingdom of Saudi
Arabia, the largest oil producer with the largest reserves,
has been chosen as a case to study.

Because of the oil price and production increases, in
the last decade, a huge transfer of wealth and income began
moving from the consuming to the oil-producing countries.
Moreover, the industrialized developed countries entered a
new era of slower economic growth as compared to the
pre-OPEC era. The oil producing countries' rates of econo-
mic growth, on the other hand, have skyrocketed, and all
their economic indicators are steeply upward and positive.

During the past decade, therefore, Saudi Arabia has
undergone rapid economic growth and development. This newly
acquired and still increasing revenue has permitted the
government to embark upon a series of ambitious and expen-

sive five-year development plans to industrialize the

 

 

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Kingdom of Saudi Arabia by the year 2000.

Because of the limited duration of this development
effort and the absence of studies of the process itself as
it unfolded in Saudi Arabia, it is not at all clear why this
success had been achieved. Therefore, the question to be
asked is: How was it possible for Saudi Arabia to have made
such rapid progress in the achievement of its development
goals?

It is proposed that a number of questions about this
achievement can be answered by using concepts formulated by
development economists, most notably Adler, and using the
data that are now available. Essentially, these concepts

are embodied in the idea of absorptive capacity. This idea

 

can be rather easily conceptualized, but measuring it and
determining factors that affect it are likely to be much
more difficult.

It was determined through this study that the rapid
increase in domestic absorptive capacity was due, first of
all, to the large increases in oil revenues, which permitted
importation and augmentation of cooperant factors. Second,
this absorptive capacity also expanded as a result of skill-
ful and insightful planning that was undertaken to eliminate
bottlenecks, establish priorities and maintain a degree of
balance.

Without the presence of both these elements in the
economy, the absorptive capacity could not have expanded so

dramatically.

 

 

 

II.

III

IN".

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II.

III.

TABLE OF CONTENTS

INTRODUCTION. I I I I I I I I I I I I I

1.
2.
3.

4.
5.
6.

The Problem . . . . . . . . . . . .
Need for the Study. . . . . . .
Sc0pe of the Study and Methods of

Approach. . . . . . . . . . .
Hypothesis. . . . . .
Limitation of the Study . .
Format of the Study . . .

SAUDI ARABIA: THE PHYSICAL, ECONOMIC AND
CULTURAL SETTING. I I I I I I I I I I I

1.
2.
3.

7.
THE
1.
2.

Physical Features . . . . . . . . .
Climate . . . . . . . .
Natural Resources of Saudi Arabia .

A. Oil . . . . . . . . . . . .
B. Mineral Resources . . . . .
C. Land and Water Resources. .
D. Human Resources . . . . . .

Economic Development: The Utilization

of Resources. . . . . . . . . . . .
Foreign Trade . . . . . . . . . . .

AI Exports I I I I I I I I I I I I
B I Impor ts I I I I I I I I I I I I

Saudi Arabian Nomadism as a Culture

A. Nomadic Community Development .

B. Nomadic Social Costs and Benefits

Conclusion. . . . . . . . . . . . .
CONCEPT OF ABSORPTIVE CAPACITY. . .
Definition of the Concept of

Absorptive Capacity . . . . . . . .
Sectoral Absorptive Capacity. . . .

iv

13
15
16

16
20

23
26
28

28
31

39

42
45

48

50

51
S7

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a n; o
I. M l

 

 

IV.

SI

6I
7.
8.

ABSORPTIVE CAPACITY AND THE DOMESTIC INVEST-

TABLE OF CONTENTS (continued)

Measurement of Absorptive Capacity. .
Limitations of Absorptive Capacity. .

A.
B.
C.
D.
E.

Limited Knowledge . . . . . .
Scarcity of Entrepreneurs . .
Scarcity of Skills. . . . . .
Institutional Limitations . . .
Cultural, Social, and Political
Limitations . . . . . . . . . .

The Case of Saudi Arabia: Gross
Domestic Capital Formation. . . . . .
The Second Development Plan Rates . .
Analysis of Absorptive Capacity . . .
Measuring Absorptive Capacity

of the Economy. . . . . . . . . . . .

MENT IN PLANNING. I I I I I I I I I I I I

1.

An Overview of Cooperant Factors

1975-1979 I I I I I I I
Structure and Trend of Budget Revenues

The First Five-Year Development Plan
(1970-1975) . . . . . . . . . . . . .
The Second Five-Year Development Plan
(1975-1980) . . . . . . . . . . . . .
Absorptive Capacity and Economic

Progress Through the Development Plans.
Revisions and Conclusions . . . . . .

Economic Development Policies Reviewed

As Means to Expand Absorptive Capacity.

A.

B.

Resources and Industry as Means
to Expand Absorptive Capacity . .
Agricultural Policies as Means
to Expand Absorptive Capacity . .

water I I I I I I I I I I I I I I
Agricultural Cr dit . . . . . . .

Water Supply Policies as Means to
Expand Absorptive Capacity. . . .
Electricity Policies as Means to
Expand Absorptive Capacity. . . .
Transportation Policies as Means
to Expand Absorptive Capacity . .

PAGE

58
64

65
65
66
67
68
69
71
73

77

82

93

108

110

114

122
125

126

131
134
135
136
137
138
140

‘7

G.

H.

TABLE OF CONTENTS (continued)

1. Roads . . .
2. Ports . . .
3. Airports. .
4. Railroads .

Telecommunications Policies As Means
to Expand Absorptive Capacity . . . .
Educational Policies As Means to
Expand Absorptive Capacity. . . . . .
Manpower Development Policies As
Means to Expand Absorptive Capacity .
Social Development and Housing
Policies As Means to Expand
Absorptive Capacity . . . . . . . . .

8. Financial Allocations for Expanding
Policies of Absorptive Capacity . . . . .

SUMMARY,

CONCLUSIONS AND RECOMMENDATIONS. . .

1. COhClUSionS I I I I I I I I I I I I I I I
2. Recommendations for Further Research. . .

BIBLIOGRAPHY. I I I I I I I I I I I I I I I I

vi

PAGE
140
141
142
143
143
145

148

150

152
157

161
162

164

 

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LIST OF TABLES

PAGE

II. SAUDI ARABIA: THE PHYSICAL, ECONOMIC,
AND CULTURAL SETTING

TABLE II.l: Oil Effective Producers. . . . . . 18

TABLE II.2: Direction of Oil Exports

1976-1977. . . . . . . . . . . 30
TABLE II.3: Imports CIF by Sector

1973-1977. . . . . . . . . . . 32
TABLE II.4: Private Sector Imports Paid

for Through Commercial Banks

1973-1977. . . . . . . . . . . 33
TABLE II.5: Percentages: Growth Rates and

Shares 1973-1977 . . . . . . . 34
TABLE 11.6: Imports FOB From Industrial

Countries 1973-1977. . . . . . 36

Human

III. THE CONCEPT OF ABSORPTIVE CAPACITY

TABLE III.l: Second Plan Growth Rates. . . . . 72
TABLE III.2: Estimates of Saudi Arabia's

IV.

Balance of Payments . . . . . .

ABSORPTIVE CAPACITY AND THE DOMESTIC
INVESTMENT IN PLANNING

TABLE

TABLE

TABLE

TABLE

TABLE

TABLE

IV.1:
IV.2:
IV.3:

IV.4:

IV.5:

IV.6:

Expenditures on Gross Fixed
Capital Formation (GFCF) . . . .
Some Important Economic
Indicators . . . . . . . . . . .
Saudi Arabian Summary of
Accounts 1969-1976 . . . . . . .
Summary of Planned Allocations
by Sector for Saudi Arabia's
First Five-Year Plan (1970-1975)
Saudi Arabian Planned and
Budgeted Allocations - First
Five-Year Plan (1970-1975) . . .
Gross Domestic Product: 1974-
1975 and 1979-1980 in Constant
1974-1975 Prices . . . . . . . .

vii

78

88
98
109

112

113

117

 

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TABLE

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TABLE

TABLE

TABLE

TABLE

TABLE

LIST OF TABLES (continued)

IV.7:

IV.8:
IV.9:

IV.10:

IV.11:

IV.12:

IV.13:

Gross Domestic Product by
Selected Sectors in Constant

1974-1975 Prices .

Financial Allocations for the

Second Five-Year Plan (1975-1980).

Private Sector Breakdown of

Second Five-Year Plan (1975-1980).

Summary of Planned Financial
Allocations by Functions, Second
Five-Year Development Plan
(1975-1980) at Constant

1974-1975 Prices .

Finance for Agricultural

Production . . . .

Total Appropriations Required for
the Second Plan Estimated

in 1974- 1975 Prices.

Comparison of Estimated Financial
Requirements of First and Second

Development Plans.

viii

PAGE

118
118
120

121

137

154

155

LIST OF FIGURES

PAGE
III. THE CONCEPT OF ABSORPTIVE CAPACITY

FIGURE III.l: Measurement of Absorptive
Capacity . . . . . . . . . . . . 59

ix

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CHAPTER I

INTRODUCTION

The Problem

During the past decade the Kingdom of Saudi Arabia has
undergone rapid economic growth and development. This
expansion stems from increases in the Kingdom's production
of petroleum and its subsequent exportation. Steady
increases in the demand for oil and higher oil prices have
amassed new, relatively large, revenues for the Saudi
Arabian government which have permitted the government to
embark upon a series of ambitious and expensive five-year
development plans.

Fulfilling the plans' objectives would help
industrialize the Kingdom by 1985, thereby reducing future
revenue dependence on crude oil, the production of which may
be substantially diminished by the year 2000. Concomitant
with the expansion of Saudi Arabia's economy has been the
dramatic growth in the Kingdom's holdings and international
reserves as well as in the country's inflation rate, which
has averaged nearly twenty percent annually since the
beginning of the first comprehensive deve10pment plan in

1970.

 

 

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Because of the limited duration of the development
effort and the absence of studies of the process itself as
it unfolded in Saudi Arabia, it is not at all clear why this
significant success has been achieved. Therefore, the
problem to be addressed in this study, or, more precisely,
the question to be asked, is: How was it possible for Saudi
Arabia to have made such rapid progress in the achievement
of its development goals?

It is proposed that a number of questions about this
achievement can be answered by using concepts formulated by
development economists, most notably Adler, and by using the
data that are now available. Essentially, these concepts

are embodied in the idea of absorptive capacity. This idea

 

can be rather easily conceptualized, but measuring it and
determining factors that affect it are likely to be much

more difficult.

Need for the Study

 

The need for this study can be stated rather briefly.
First, there is need to examine the experience of countries
which are trying to develop rapidly to provide information
for those countries which are contemplating similar
attempts. Secondly, there is need to systematize these
experiences for use by others. The author feels this study

Will partially fulfill these needs.

Oil

 

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Scope of the Study and Methods ongpproach

Oil exporting countries differ with respect to the size
of their pOpulation, their other natural resource
endowments, and their degree of commitment to the cause of
economic development. That is to say, what is true for any
one of them is not necessarily true for the rest of them.
It is for this reason that members of OPEC have been
classified economically into low and high absorbers.l

Therefore, it is both logical and practical to con-
centrate on a single oil exporting country. It is the pur—
pose here to investigate the impact of the rise in oil reve-
nues on the absorptive capacity of the Saudi Arabian economy
in general. In particular, the purpose is to examine the
utilization of crude oil reserves within the context of the
country's comprehensive development policy since the
beginning of the first five-year development plan in 1970
and impacts on selected sectors of the economy, and to
assess the future prospects for accelerated economic growth
in Saudi Arabia.

The sectors receiving major emphasis are the
following:2

1. Government sector: which includes the public
sector.

 

lIBRD, Prospects fgr the Developing Countries, Chapter
III, p. 477, July 8, 1974. The low absorbers are: Abu
Dhabi, Kuwait, Libya, Qatar, and Saudi Arabia; the high
absorbers are: Algeria, Indonesia, Iran, Iraq, Nigeria,
and Venezuela.

 

2Saudi Arabian Monetary Agency (Saudi Arabia).

 

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Non-oil private sector: it is a residual sector
which includes commercial and private economic
initiatives.

Oil sector: includes oil related activities only.

Construction sector: it includes public and pri-
vate construction activities in the Kingdom.

Transport and equipment sector: this sector in-
cludes both public and private ventures in air,
roads, and sea transportation activities, such as
government-owned airlines and the joint government
and privately owned fleet of oil tankers of the
Kingdom.

Machinery and equipment sector: includes all heavy
machinery imported for the newly constructed
industrial complexes in the cities of Jubail and
Yanbu. In addition, it includes the machinery
imported for the newly constructed government agri-
cultural projects throughout the Kingdom.

Because of its very small p0pulation (approximately 5

million) and limited economic base, Saudi Arabia is

classified as a low absorber and a middle income country,

which is one of the reasons that it has been chosen for this

case study. The other reasons are that Saudi Arabia is

endowed with some fertile land in the southwestern part of

the Kingdom and an ample supply of natural resources. The

Saudi Arabian government has had little experience in econo-

mic development planning and implementation.

Hypothesis

 

The hypothesis being examined in this study is whether

or not the steep rise in the revenues received from the

export of crude oil, which has been in effect since the

beginning of 1974, has had a positive impact on the absorp-

tive capacity of the Saudi Arabian economy.

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Absorptive capacity has been defined by Adler as:
...that amount of investment or that rate
of gross domestic investment expressed as
a proportion of GNP that can be made at an
acceptable rate of return, with the supply
of cooperant factors con51dered as given.

Visibly absorptive capacity is controlled by two pri-
mary factors: acceptable rate of return and supply of
c00perant factors. The basis for rate of return owes its
origin to Keynes' "marginal efficiency of capital" which is
a theory that reduces the concept of absorptive capacity to
a schedule relating investment to the rate of return. In
other words, the lower the rate of return acceptable to the
investor--the body reSponsible for making investment
decisions--the higher the level of investment and sub-
sequently the larger the absorptive capacity of the economy.

It may be noted that the definition contains no
reference to any specific rate of return. This is a deli-
berate preterition. For instance, when limiting its meaning
to financial rate of returns, the result would be an impli-
cation that the cutoff rate is the long-run rate of interest
prevailing outside of the economy. In essence, the absorp-
tive capacity of the economy is that amount of invested
capital which sets the rate of return exactly at the rate

available outside the economy. Considering this a limited

interpretation, it is preferable to consider a social rate

 

3John H. Adler, Absorptive Capacity (Washington, D.C.:
The Brookings Institution, June 1965) p.5.

 

 

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of return in order to account for the complementarity and
indivisibility of investment projects and the external eco-
nomies and diseconomies associated with their undertaking.4
The constancy of the supply of c00perant factors
(skilled labor, managerial and entrepreneurial talents,
etc.) assumes investment activity would come to a complete

halt upon the exhaustion of any c00perant factor. This

'_"T_"'

assumption denies the possibilities of factor mobility or I
substitution and is only valid within the context of a L:
closed economy. Without explaining why, Adler points out
that augmenting the supply of cooperant factors in the short
run, "is either a physical impossibility or is so costly
that it... reduces the return on capital below the accep-
table rate.'5
As before, this is a strict assumption. Absorptive
capacity can be expanded in the short run at a high cost.
It is possible to incur such a cost by permitting investment
to proceed at higher costs through deliberately accepting
higher capital-output ratios in cases where capital can be
substituted for skilled labor. This can occur when the
latter is in short supply, or by importing foreign labor.
Thus, perceiving the principle of substitution and the pre-
sent international setting where the mobility of factors of

production is more or less free, it would be difficult to

 

41bid., pp. 9-15.
51bid., p. 5.

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justify the proposition that the cost of ameliorating the

economy's absorptive capacity would be prohibitive.

In summarizing the discussion to this point, it can be
noted that a situation prevails where:

1. Potential domestic savings are likely to surpass
domestic investment requirements;

2. The investment planner, however rational, is not a pro-
fit maximizer and is therefore likely to choose a low
financial rate of return; and

3. Cooperant factors can be augmented through importation,
or the substitution of other factors in comparative
abundance.

These implications prompt us to hypothesize that the
quadrupling of oil prices and the concomitant increase

in crude oil revenues should have a positive impact on the

absorptive capacity of the Saudi Arabian economy. This

study aims at testing this hypothesis, i.e., at ascertaining
whether there has been an expansion in the absorptive capa-
city of the Saudi Arabian economy subsequent to the sharp
increase in oil revenues and, if so, by how much. The study
also aims at analyzing the factors responsible for sus-
taining the new level of investment along with its impli-
cations for the future growth of the economy.

The test of this hypothesis encompasses two steps.

First, it is essential to ad0pt a measure of absorptive

capacity. Chenery and MacEwan's observations led them to

postulate that the level of investment in any particular

 

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period of time could not surpass the level of investment in
the preceding period, times an exogeneously determined
growth rate in the range of 15 to 20 percent.6

Relative to this, in a study involving Colombia,
Adelman and Sparrow capriciously assessed the upper limit
upon total investment in any one sector to be more than 150
percent of investment during the base year.7 According to
their reasoning, an absorptive capacity limit takes the form
of a maximum ceiling on the level of investment in any given
period.

It is proposed that the absorptive capacity of the
Saudi Arabian economy be measured in a similar manner. We
postulate that the observed rate of growth of domestic
investment in Saudi Arabia, throughout the period preceding
the rise in crude oil prices, is a maximum rate determined by
the limit of absorptive capacity of the economy.

This postulate is based on the empirical observation
that domestic savings consistently exceeded domestic invest-
ment throughout the period 1970-1980. Since Saudi Arabia

did not experience shortages in investable funds, its

 

6H.B. Chenery and A. MacEwan “Optimal Patterns of Trade
and Aid: The Case of Pakistan," in Irma Adelman and Erik
Thorbecke, eds., The Theory and Design of Economic
Development (Baltimore: The John Hepkins University Press,
1966), pp. 151-152.

 

71. Adelman and F. T. Sparrow, "Experiments with Linear
and Piece-Wise Linear Dynamic Programming Models,” in Irma
Adelman and Erik Thorbecke, eds., The Theory and Design of
Economic Development (Baltimore: The John Hopkins
University Press, 1966), p. 296.

 

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failure to achieve higher levels of domestic investment must
logically be attributed to the limits of its absorptive
capacity. This hypothesis is corroborated by the fact that
a reasonable effort to expand the country's absorptive capa-
city had been exerted, as was demonstrated by a consistent
surplus of revenues designated for public investment over
actual public investment expenditures. Further evidence
involves the lack of any serious attempt on the part of the
investment planners to mobilize private domestic savings as
well as foreign savings (public or private) for domestic
investment purposes. This lack of enthusiasm is understand-
able in the face of an inability of the authorities to
exhaust public savings at their disposal.

Second, in order to demonstrate that the increase in
crude oil revenues has had a positive impact on the absorp-
tive capacity of Saudi Arabia, it must be shown that an
upward shift in investment has in fact occurred. This
study, therefore, compares the actual level of investment
during the years following the rise in oil prices with the
expected, i.e., extrapolated, level of investment for those
years. In order to evaluate the implications of the change
in the level of investment, if any, it is proposed that a
repeat of the test be made for public and private investment
as well as investment in the various economic sectors, i.e.,
government sector, non-oil private sector, oil sector,
construction sector, transport equipment sector, and

machinery sector.

In]

 

 

 

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The analysis is based on data gathered from Saudi
Arabian resources, particularly the Ministry of National
Economy and Finance, the Saudi Arabian Monetary Agency, and
the Central Department of Statistics. Various tools of eco-
nomic analysis, including both descriptive and inferential

statistics, are used as necessary.8

Limitations of the Study

 

It is difficult to collect data about the economy, as
the government has little data available for use. In
addition, the existing data the Saudi government has are
relatively unreliable. In recent years, however, data
availability has improved. In some parts of this study,
"outside” data will be incorporated, as will published data
from the first and second five-year comprehensive develop-
ment plans. Data in these two plans are relatively more

reliable.

Format of the Study
There are five chapters in this study: Chapter One,
the present chapter, is a general introduction to the
problem. Chapter Two is a background to the physical, eco-

nomic and cultural setting in Saudi Arabia.

 

8The above section is derived from: K. A. Al-Eyd, "Oil
Revenues, Absorptive Capacity, and Prospects For Accelerated
Growth: A Case Study of Iraq” (Ph.D. dissertation,
Washington, D.C.: The George Washington University, 1978).

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11

Chapter Three tends to be more theoretical in nature.
It begins-with definitions of the absorptive capacity con-
cept and the limitations of absorptive capacity in develop—
ment and in economic growth are examined. There are five
major limitations. Also in this chapter the growth of
domestic fixed capital formation in Saudi Arabia for various
years in both the public and private sectors is discussed.
Finally, a model for measuring the sectoral absorptive capa-
city of the economy is provided.

Chapter Four provides an analytical background to the
concept of absorptive capacity and domestic investment
planning. It is a well-known fact that, without huge
inflows of petro-dollars-—the Kingdom's major source of
income--Saudi Arabia would have experienced major barriers
in development. It would not have been possible to resolve
the problems of limited absorptive capacity through compre-
hensive planning techniques, which require huge financial
allocations to be successful. This chapter provides a
background for this issue.

As a result of the huge inflow of petro—dollars, it
becomes possible to utilize wide-scale planning in all
bottleneck sectors. Chapter Four, therefore, explains the
significance of the first and second five-year deve10pment
plans in easing bottleneck sectors and thus expanding the
absorptive capacity of the economy.

Chapter Five is a summary and a general conclusion.

Today, in Saudi Arabia, the absorptive capacity is a

12

short-run phenomenon. Through proper wide-scale comprehen-
sive planning and capital resource availability, the bottle-
neck sectors are in the process of being eliminated as time
goes by. Finally, it is anticipated that by the end of the
third five-year comprehensive plan, absorptive capacity will
be virtually eliminated as a limiting factor in economic
growth, and most bottleneck sectors will be expanded for an

accelerating rate of growth in the aggregate economy.

 

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CHAPTER II

SAUDI ARABIA:
THE PHYSICAL, ECONOMIC AND CULTURAL SETTING

Physical Features

 

Simulating the shape of a great plateau sloping east-
ward from the Red Sea to the Arabian Gulf, Saudi Arabia lies
upon a foundation of precambrian age, composed of granite
and crystalline rocks known as schists. Preceding the
crustal faulting that created the Red Sea basin, the Arabian
peninsula was a portion of the African continental block,
separating from Africa during the tertiary period. The
Arabian shield, also called the basement complex, is exposed
in the western highlands and mountains, and ranges in eleva-
tion from 3,760 meters in the Yemen mountain region to
slightly less than 1,900 meters as it approaches the north-
west Jordanian border.1

The bulk of the Saudi Arabian surface east of the
Arabian shield is made up of sedimentary formations, i.e.,
sandstone, limestone, shale, and alluvium, which contain

groundwater reservoirs and aquifers. Moving from west to

 

1James E. Pasteur, Soil and Land Classification in
Saudi Arabia, A report for the Ministry of Agriculture and
Water (Riyadh: The Ministry of Agriculture, 1971), p. 2.

13

 

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east, these sedimentary formations increase in thickness and
contain large oil deposits existing as remnants of organic
matter deposited in the Tethys Sea. The western portion of
the Arabian shield comprises volcanic formations and lava
beds. Dry-water courses, containing some alluvium and
numerous drysalt flats, slice through most of the Arabian
surface.

Saudi Arabia occupies four-fifths of the Arabian penin-
sula and is bordered by the Red Sea and the Gulf of Aqaba on
the west, and by the Arabian Gulf, Qatar, Oman and the
United Arab Emirates on the east. To the north it borders
Jordan, Iraq, and Kuwait, and to the south, Yemen and the
Republic of South Yemen.

The tOpography of the Kingdom can be best described in
terms of a cross-section from west to east. Bordering from
north to south, a narrow coastal plain along the Red Sea
makes up the first zone. The southern portion of this plain
is fertile due to clay and silt deposits from several large
streams. Known as As-Sarat, this western range of mountains
is found parallel to the first zone. Toward the south,
these highlands increase in elevation and width, sloping
slightly to the east and then sharply to the west. As a
result, the scene is one of great valleys penetrating the
mountains to the coastal plain toward the Red Sea.

The formidable Nejd plateau radiates east of the moun-
tains and is interrupted midway by Jabal Tuwayk, a lepe or

scarp extending from northeast to southwest. The desert of

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Naffid, bounds the Nejd plateau to the north. The
'Al-Rub'al-Khali,” or famous empty quarter, borders the Nejd
on the south, while the sands of Ad-Dhana create a border to
the east. The Nejd plateau slopes from west to east and
northeast. The narrow north-south belt of the Ad-Dhana
desert precedes the land, which slowly declines eastward,
forming the eastern coastal plain of the Arabian Gulf.

Here, the oil fields are found.2

Climate

A high pressure system controls the sub-tropical cli-
mate of Saudi Arabia. The average annual rainfall is
approximately three inches, excluding the southwest region
where the average reaches twelve inches due to the effect of
the Indian Ocean and Arabian Sea summer monsoon. The rain-
fall usually occurs in winter and spring, and usually is
insufficient for agriculture.

With a maximum temperature of 120°F, and an average
112°F, the summers are hot and dry in the interior region.
The southwestern region of the Kingdom averages lower tem-
peratures of approximately 77°F. A 20° to 30°F range
characterizes the diurnal temperature.

Winters are cool and dry with frequent freezing tem-

peratures in central Saudi Arabia and snowfall in the

 

2The above section is derived from M. H. Al-Fair, ”The
Faisal Settlement Project at Haradh, Saudi Arabia: A Study
in Nomad Attitudes Toward Sedentarization.” (Ph.D.
Dissertation, Michigan: Michigan State University, 1977).

 

 

 

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16

southwestern mountains.

Due to the influence of bordering seas, relative humi-
dity and summer temperatures for the coastal strips are
almost invariably higher than in the interior region,

causing uncomfortable living conditions. Throughout the

entire spring and early summer, the dry, northwesterly winds

prevail over the eastern province. Storms of sand and dust
also occur in the east, and are caused by cold fronts from
the north and northeast meeting eastward-moving low

pressure systems.3

Natural Resources of Saudi Arabia
A number of natural resources create favorable poten-
tial for economic development and growth in Saudi Arabia.
Although it does not have a wide variety of discovered

natural resources, it has an abundance of oil.

911

At its foundation, oil is the key to the Saudi Arabian
economy and development. The eastern province accommodates
most of the oil wells, while the remainder are located in
the neutral zone where both Saudi Arabia and Kuwait share
equitably in the production.

ARAMCO, the Getty Oil Company, and the Arabian Oil

Company, Ltd. direct drilling and production. These three

 

3The above section is derived from M. H. Al-Fiar,
op. cit.

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companies also share in continued exploration throughout the
Kingdom, under the Arabian Gulf and under the Red Sea.

In 1974, Saudi Arabia's crude oil production repre-
sented 15.3 percent of world output, 27.8 percent of
OPEC-member production, and 46.4 percent of Arabian
production.4 As of that year the Kingdom still retained its
position as the third largest world producer after the United
States and the Soviet Union, whose shares in world produc-
tion were 17.3 percent and 15.9 percent, respectively.5 In
1978, Saudi Arabia was responsible for 16.7 percent of world
production and 34 percent of OPEC production.

Table II.l demonstrates more comprehensive information
regarding Saudi Arabia's rank in crude oil production among
the large international oil producers. The average daily
production of crude oil in the Kingdom was 10.4 million
barrels in 1978 against 9.2 million barrels in 1977. Thus,
1978 annual production rose by 13.1 percent to 3798.6
million barrels compared to 3360.3 million barrels in 1977.

Based on an ARAMCO decision to increase its crude oil
production capacity to 11.6 million barrels per day by the
end of 1975, and assuming that supply and demand trends will

respond to market conditions, it is estimated that Saudi

 

4Kingdom of Saudi Arabia, Ministry of Planning, Second
ngelopment Plan 1395-1400 A.H., 1975-1980 A.D. (Jeddah:
Dar Okaz), p. 140. Derived from M. H. Al-Fiar, Op. Cit.

5Saudi Arabian Monetary Agency. Annual Report, 1975
(Jeddah: Banawi Printers, 1975), p. 18. Derived from M. H.

 

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Arabian production potential in 1980 might range from 14 to
18 million barrels per day.6

Oil revenues for the Kingdom increased to $22,573
million in 1974 as a result of increasing price, production
levels and a gradual increase in royalty and income tax
rates. Ninety-nine percent of that revenue was paid to the
government by ARAMCO, the largest Operating oil company in
the Kingdom.

It has been estimated that by the end of 1980 Saudi
Arabia's crude oil revenue will total $36 to $50 billion, 25
percent of OPEC's total estimated revenues. Crude oil reve-
nue accounts for about 95 percent of total national
revenues.7 The estimates were close to actual figures
published in 1979 . 3

According to Wells,

There is a strong possibility that revenues
will be stabilized because of the existing
flexibility in setting petroleum production
levels in Saudi Arabia and because of the
predominant role of Saudi Arabia in deter-
mining the world price of petroleum,

t. 6Donald A. Wells, Saudi Arabian Revenues and Expendi-

ures (Baltimore, Maryland: Resources for the Future, Inc.,
IS"'74), pp. 4-5. Derived from M. H. Al-Fiar, op. cit.

7Emile A. Nakhleh, The United States and Saudi Arabia,
:QL‘jpolicy Analysis (Washington, D.C.: American Enterprise
l'Yustitute for Public Policy Research, 1975), p. 9. Derived
rcm M. H. Al-Fiar, op. cit.

<3. 8The above section is derived from M. H. Al-Fiar, op.
1ft

 

 

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20
particularly during the next five years."9

Mineral Resources

Through extensive exploration and research, mineral
resources such as copper, gold, iron, silver, sulfur
phosphates, lead, and zinc have been found in large commer-
cial quantities. For example, an iron deposit was estimated
to contain 1.5 billion tons of low grade (30-40 percent)
iron ore. More mineral resources are likely to be found
since recent explorations have located other deposits, par-

ticularly in the western portion of the Kingdom.10

Qand and Water Resources
Land should be considered a production factor. Raleigh
Barlowe speaks of land ”as the nature-given source of food,
fiJoers, building materials, minerals, energy resources, and
otiher raw materials used in modern society."11 The total
‘Sailldi Arabian land mass is one-third the size of the United
States. Another land factor is the relatively small Saudi

lp‘>];ulation which does not exceed 5 million, and creates no

9Donald A. Wells, Saudi Arabian Development Strategy
(“Viashington, D.C.: American Enterprise Institute for
\llolic Policy Research, 1976), p. 4. Derived from M. H.
-Fiar, op. cit.

loRamon anuerhase, The Saudi Arabian Economy (New York:
Praeger Publishers, Inc., 1975), pp. 11-12. Derived from
- H. Al-Fiar, op. cit.

11Raleigh Barlowe, Land Resource Economics, The
Momics of Real Property (Englewood Cliffs, N.J.:
Pl'entfce-Hall, Inc. 1972), p. 9. Derived from M. H.
A1~Fiar, op. cit.

 

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21

density problem for the approximately 830,000 square miles.
The overall population density is estimated at seven persons
per square mile. Most densely populated is the southwestern
region, excluding major urban centers.

The population density is misleading, however, as in
1970-71 cultivated land was approximately 525,000 hectares,
less than 1 percent of the total land mass. When con-
sidering the ratio of pOpulation to cultivated land, we find
about 10 people per hectare.

An estimated 121,000 hectares of the total 525,000
cultivated hectares are irrigated with the remainder being
rainfed. Since most of Saudi Arabia is arid or semi-arid,
most of the cultivated land is required for pastoralization
if land is to be used as a major production factor in econo-

mic develoPment.

Water supply is the most precious resource in the
Kingdom. Its scarcity can be considered the most serious
rnatural resource constraint on the country's economic
development. Given the fact that the average annual rain-
fféill is only three inches, groundwater must meet the major
E><>mtion of the Kingdom's combined agricultural, industrial
a11d urban demand. Surface (run-off) water satisfies a
ESinhaller share and more limited amounts have been supplied by
(ifiasalinization.

According to government studies, deep groundwater and

‘3eesalinated water have shown the greatest potential for

eVentually contributing to the country's development. The

 

22

second five-year plan (1975-1980) proposes to continue
developing groundwater resources to meet urban, industrial
and agricultural demands in locations distant from the sea
coast. Moreover, the plan suggests accelerated development
of desalinated sea water supplies to meet urban and
industrial demand in locations on or near the sea coast, as
well as in selected interior locations.12 By the end of the
second plan period in 1980, the Red Sea coast desalinization

plants should be completed with sufficient capacity to

 

supply more than 213 million cubic meters per year, whereas
the eastern coast plants will supply more than 263 million
cubic meters annually. Taking into account the country's
urban center's 1974 estimated demand for water of 170
million cubic metersl3, the expected 1980 supply of 476
Imillion cubic meters of desalinated water on both coasts
Sknbuld exceed any increase in urban demand by that time,
leaving a surplus for other uses. In addition, the comple-
tion of several dams by 1980 will provide some storage areas
f<>l: surface run-off, which occurs during intense rainfalls.
‘rlita dams will minimize the loss of surface water and
es tablish a more efficient system for recharging the ground-
wa ter aquifiers in the interior regions.l4
-___l

12Second Development Plan, op. cit., p. 102. Derived
from M. H. Al-Ffir, op. cit.

 

13Towns of over 5,000 residents.

c‘ 14The above section is derived from M. H. Al-Fiar, op.
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23

Human Resources

 

Human resource development is at least equal in impor-
tance to that of other natural resources for Saudi Arabian
economic development. Ranging between five and six million,
the accepted population of the country is placed at five
million, with an estimated 10 percent considered to be
nomadic.

An annual population growth rate of 2.75 percent was
estimated prior to the 1970-75 initial economic development
plan. The rate was expected to rise to 3.0 percent by the
end of 1975. This increase was expected to result from a
decreasing mortality rate due to improved health care and
nutritional standards.15

There is unfortunately no accurate census to provide
(exact information on the numbers and proportions of the

Ekapulation in the three important population categories of
nOmads, villagers, and urban dwellers. At present, it is
c=Sl.ear that the urban sector comprises the majority of the
SEiudi Arabian population. In fact, there are three pOpula-
tlion clusters: the Western Province, which includes the
E><>rt city of Jeddah and the holy cities of Mecca and Medina;
‘lfle Central Province, which includes the capital city of

F{:ii.yadh and the Qasim area: and the Eastern Province, with

15The Kingdom of Saudi Arabia, Central Planning
c31!“:ganization, First Development Plan 1390 A.H. (Dammam:
Al-Mutawa Press Co. 1970), PP- 65-67. Derived from M. H.
1-Fiar, op. cit.

 

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24

the commercial cities of Dammam, Al-Khobar and Dhahran.

The Saudi trend of rural-to—urban migration by villag-
ers and nomads seeking jobs and personal opportunity is
characteristic of developing countries. Although no accu-
rate measure exists, this migration is evidenced by the
growing urban sprawl as well as the decrease in the agri-
cultural labor force, which is composed of villagers and
nomads and drOpped from 46.2 percent to 28.0 percent between

1967 and 1975. This movement is generated by traditionally

 

low income conditions in agricultural and pastoral sectors.
The desire for higher wages, better education, and, in
general, a better standard of living has drawn people to the
cities.

In the late 1960's, before the first development plan,
atxout 46 percent of the Saudi population was below 15 years
of? age and was consequently excluded from the labor force
aSJee bracket. The distribution of the 1967 labor force, just

be fore implementation of the first development plan, was as
f<>Zl_lows: 46.2 percent in agriculture, including nomads;
:1(5..9 percent in industry; and 36.9 percent in other services.
This first planning period brought an increase in the
l-Elloor force of approximately 3.8 percent annually, from
1. 323,000 in 1970 to 1,600,000 in 1975. Although the
increase in the rate was lower for Saudis than non-Saudis,
:3-»7 percent and 4.2 percent, respectively; the Saudis
a<=counted for 80 percent of the 1975 labor force. More

sIbecifically, the proportion of the Saudi population in the

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25

labor force increased from 22.2 percent to 23.3 percent over
the five years of the first plan.16 This increase is
attributed to systematic training programs developed sub-
sequent to Saudi government policy. As Wells notes:

Initial efforts concentrated on the education
of government employees, primarily through
scholarships to enable them to attend

foreign universities, and the establishment
of the Institute of Public Administration

in Riyadh, which has provided training in
English and in various job skills for more
than 10,000 government employees.

However, Wells also states that,
While some vocational training has been
provided through six training centers,
fewer than 4,000 persons have been grad-
uated from these centers, so the effect
thus far on the skills available in the
labor force has been minimal. The struc-
ture and pace of Saudi economic develop-
ment is conditioned by the lack of skills
in the labor force more than by any other
factor.18
To meet the objectives of the five—year plans, labor
f<>zrce employment had to increase from 1.5 million at the end
015 the first planning period to 2.3 million by the end of
triea second planning period. The first plan, from 1970-75,
wi~1:nessed a labor force employment increase of 418,3000,
WIizile the second plan, from 1975-80, saw a growth of
808,5000. Essentially this indicates that the annual labor

\_

16Second Development Plan, op. cit., p. 12. Derived
from M. H. Al-Fiar, op. cit.

17Donald A. Wells, Saudi Arabian Development Strategy,
01>. cit., p. 10. Derived from M. H. Al-Fiar, op. cit.

18Ibid., p. 10. Derived from M. H. Al-Fiar, op. cit.

V

ICICE E

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26

force employment growth increased from 6.6 percent to 8.9
percent during the second plan. In the private sector,
labor force employment was projected to increase by 624,600
at an annual growth rate of 7.9 percent. In comparison, the
public sector labor force employment increased by 183,900
during the second plan, consistent with the plan's manpower
requirements. The second plan aimed at increasing the Saudi
labor force by 232,000 from 1975-1980, at an annual growth

rate of 3.4 percent. Consequently, improvement in the Saudi

labor force covered only 65 percent of the manpower required
to complete the second plan, while the remainder was filled

by non-Saudi workers.19r20

Economic Development: the Utilization of Resources
Quality and quantity, coupled with organization and an
infrastructure to enforce them, are the vital factors for
resource economic development in Saudi Arabia, as in any
Country. These factors must take shape within a structure
of values and principles.
As the Islamic traditions are an inherent part of Saudi
A: abian culture, the utilization of resources and the
historical-cultural foundation merge as guidelines for

aEéwvelopment. With this important fact in mind, the

19Second Development Plan, op. cit. Derived from M. H.
Al-Fiar , op. cit.

20The above section is derived from M. H. Al-Fiar, op.
(33.t.

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27

country's economic development goals can be stated as
follows:
- Maintain the religious and moral values of Islam.

- Assure the defense and internal security of the
country.

- Maintain a high rate of economic growth by developing
economic resources, maximizing earnings from crude oil
over the long term, and conserving depletable natural
resources.

- Reduce economic dependence on crude oil exports as a
main source of income.

- Develop human resources by education, training and
raising standards of health and living.

- Increase the well-being of all groups within the
society and foster social stability under circumstan-
ces of rapid social change.

- Deve10p the physical infrastructure to support
achievement of the above goals.21

Considering this comprehensive policy, economic deve-
10pment directions and achievements can be examined. The
first five-year development plan, ending in 1975, and the
second development plan, extending from 1975-80, provide the
most fundamental record of Saudi Arabian economic develop-
ment and growth. The first plan was initiated under finan-
cial constraints which were greatly relaxed during its span
due to increases in oil revenue beginning in 1974.22 For
this reason, and because of labor shortages, the first plan

achieved mixed results. In some aSpects it fell short of

 

21Second Development Plan, p. 4, 0p. cit. Derived from
M. H. Al-Fiar, op. cit.

 

22Ibid., p. 10. Derived from M. H. Al-Fiar, op. cit.

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28

its targets; in others, it exceeded them. In general, it
has been considered successful. For a comprehensive
understanding of development impact on various economic
sectors in Saudi Arabia, the Gross Domestic Product (GDP)
will be used as a measure to indicate trends and changes in

the economy.23

Foreign Trade

 

Foreign trade plays a vital role in the economy of
Saudi Arabia. On the export side, crude oil exports account
for the major portion of government revenues and foreign
exchange earnings. On the import side, since the Saudi econ-
omy is still in the process of development, it depends
substantially upon imports as well as capital investment
goods for its economic development, even though the number
of commodities being produced within the country has been
steadily rising. Due to a combination of factors, including
development expenditure, rising income, and high marginal
propensity to import, there has been a rapid increase in
imports, which has had the effect of substantially dimin-

ishing the Kingdom's current account surplus.

Exports

Crude and refined oil make up most of Saudi Arabia's

exports. The share of crude oil in total oil exports rose

 

23The above section is derived from M. H. Al-Fiar, op.
cit.

 

2:32. 92.
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29

from 92.6 percent in 1973 to 95.1 percent in 1977, while the
share of refined oil correspondingly declined from 7.4 per-
cent in 1973 to 4.9 percent in 1977. Table 11.2 shows that
gross receipts from oil exports at posted prices increased
by 13.1 percent in 1977 to $43,537 (Rls 153,473) million
from $38,501 (Rls 135,910) million in 1976, compared with an
increase of 30.2 percent in 1976 over the 1975 level of
$29,579 (Rls 104,119) million.

While the regional distribution of oil exports indi-
cates little change in 1977 as compared with 1976, during
the five years, 1973-1977, there were some significant
variations in the regional shares. The most important
change was in exports to Western Europe, which, as a region,
is Saudi Arabia's largest customer. Its percentage share
declined from 52.7 percent in 1973 to 39.6 percent in 1977.
The share of the Eur0pean Economic Community (EEC) declined
from 43.2 percent in 1973 to 33.2 percent in 1977, and of
other Western European countries from 9.5 percent in 1973 to
6.4 percent in 1977. Exports to the six largest of the nine
EEC member countries showed two consistent patterns - the
UK's share declined from 9.3 percent in 1973 to 4.3 percent
in 1977, due, naturally, to the UK's growing North Sea oil
production. The Netherlands' share doubled from 2.6 percent
in 1973 to 5.3 percent in 1977.

The second most important change in regional shares
during the five years under review was that of Other Asia,

which is the Kingdom's second largest customer. Its share

 

30

TABLE II.2

DIRELTION OF OIL EDGORTS

 

(in millions)

 

 

 

1976 1977 Percent

0.5. $ Rls 0.8. $ Rls of total

Grand Total 38,501.4 135,910 43,537.4 153, 473 100.0
Crude 36,183.3 127,727 l4,4l7.1 145,999 95.1
Refined 2,318.1 8,132 2,120.3 7,474 4.9

DISTRIBUTION (F CRUDE AND REFINED OIL

 

Western Hemi. 8,355.7 29,496 9,716.1 34,250 22.3
of which:
U.S.A. 1,816.5 6,412 4,158.7 14,660 9.6
Western Europe 15,829.2* 55,877 17,261.2 60,847 39.6
of which:
EEC 13,012.3 45,933 l4,451.5 50,934 33.2
Other 2,788.5 9,843 2,809.7 9,904 6.4
Middle East 1,108.8 3,914 1,582.5 5,578 3.6
Other Asia 11,684.5 41,246 13,408.8 47,267 30.8
of which:

Japan 7,703.2 27,192 8,250.2 29,083 18.9
Oceania 483.9 1,708 614.7 2,167 1.4
Africa 356 . 4 l, 258 253. 8 895 0. 6
Bunker fuel 682.8 2,410 700.3 2,469 1.6

 

*Includes exports of $28.4 million (Rls 101 million) to Eastern Europe.

SOUICE: Saudi Arabian Monetary Agency, 1978, Saudi Arabia.

 

increased
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31

increased from 24.6 percent in 1973 to 30.8 percent in 1977
-- a gain of 6.2 percent, of which Japan accounted for 4.1
percent and Singapore 1.9 percent, doubling its share from
1.9 to 3.8 percent. It may be noted that Japan's percentage
share declined in 1977 to 18.9 percent following consecutive
increases in the previous three years from 14.8 percent in
1973 to 20 percent in 1976.

The third most important regional change was in the
percentage share of the Western HemiSphere, whose imports of
Saudi oil rank it as the third largest customer. Its share
gained 9 percentage points during the five-year period, from
13.3 percent in 1973 to 22.3 percent in 1977. The rest of
the regional picture shows Oceania's share gaining 0.6
percent, from 0.8 percent in 1973 to 1.4 percent in 1977,
and Africa's share declining by 1.1 percent, from 1.7 per-

cent in 1973 to 0.6 percent in 1977.

Imports
The total adjusted CIF value of Saudi Arabia's imports,

together with their distribution by the three major sectors
of the economy during the past five years, is given in Table
II.3. The growth rate column of Table II.3 suggests that
the Kingdom has apparently returned to normal growth rates
in imports. The rate of 38.0 percent attained in 1977 is
identical with the rate registered in 1973 while, during the
intervening three years, imports grew at an almost constant

high average rate of 80 percent per year. In terms of

32

percentage shares in total imports, the data show that,
during the five-year period, the private sector accounted
for an average share of 72 percent, the public sector 24
percent, and the oil sector the remaining 4 percent. The
high share of private sector imports underlines the
longstanding government policy of encouraging the private
sector to play as active a role as possible in the economic

life of the Kingdom.

TABLE II.3

IMPORTS CIF BY SECTOR

(Million Riyals)

Oil Public Private Percent
£335 Sector Sector Sector Total Growth
1973 502 972 6,102 7,576 38.0
1974 668 3,680 9,142 13,490 78.1
1975 913 7,054 16,315 24,282 80.0
1976 1,093 11,823 31,071 43,987 81.2
1977 1,380 13,161 46,168 60,709 38.0

 

SOURCE: Total imports data are derived from IMF Direction of
Trade adjusted for the time lag between shipment and—
arrival of goods. Oil and private sector imports are
estimates from resident companies and commercial bank
records, respectively, while the public sector's are
residuals.

 

The commodity composition of private sector imports
given in the next two tables, 11.4 and II.5, show that

total private sector imports paid for through commercial

 

 

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33

banks rose by 24 percent in 1397 A. H. (which ended on 10
December 1977) to Rls 25.1 billion from Rls 20.2 billion in
1976. In spite of significant annual increases in foodstuff
imports, there was a decline in the percentage share of
foodstuffs, from 24.6 percent in 1973 to 12.1 percent in
1977, with a corresponding increase in the share of non-food
items from 75.4 percent in 1973 to 87.9 percent in 1977.

This trend, however, is consistent with the expectation

 

that, as personal income rises, individuals tend to spend a

EABLE II.4

PRDWWEISECEXIIMHXHB EKHDFORTHE€DGH
OGTERCDH.HMWS

 

anillion Riyals)

 

1973 1974 1975 1976 1977
Grand total 4,121.9 7,616.2 13,280.0 20,216.9 25,266.1
Total fOOdstuffs 1,012.5 1,648.9 2,366.0 2,611.6 3,034.9
'Total non-foods 3,109.4 5,967.3 10,914.0 17,605.3 22,031.2

[HSEHIMTHIJOFIDPOKES

TeXtiles &

clothing 400.8 557.0 1,042.6 1,478.8 1,943.6
Building

materials 431.6 824.4 918.1 1,906.5 2,624.1
Motor vehicles 554.4 1,263.7 2,494.9 4,058.8 3,899.6
Machinery &

appliances 744.5 1,446.0 2,980.5 4,514.9 5,991.7
All‘other goods 978.1 l.876.2 3,477.9 5,646.3 7,572.2

 

SQJRCE: Saudi Arabian Monetary Agency, Annual Report (1978) . Saudi Arabia.

34

 

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35

lesser proportion of their income on food.

Regarding other commodity groupings, there was no
significant change in their percentage share in total
imports during the five years under review, except for the
"all other goods" category, the share of which increased by
almost 7.0 percent from 23.7 percent in 1973 to 30.2 percent
in 1977. Machinery and appliances led individual commodity
groups with an average of 21.0 percent during the five-year
period, followed by motor vehicles with an average of 17.0
percent, building materials with 10.0 percent and textiles
and clothing with 8.0 percent.

There is no uniformity over the entire five-year period
in growth rates of non-food commodity groupings. Beginning
in 1974, a marked annual decline was experienced in the
growth rate of motor vehicle imports from 127.9 percent
(which was the highest rate of all groupings in 1974) to a
negative 3.9 percent in 1977. Similarly, the ”all other
goods" category recorded declining annual growth rates from
91.8 percent in 1974 to 34.1 percent in 1977. Building
material imports registered the highest growth for all
groups in three of five years. A manifestation of this is
the visible change in the skyline of practically every city
in the Kingdom. Similarly, machinery and appliance imports
recorded the highest growth rate of all groups in 1975, but
second and third highest in 1976 and 1977, respectively.
Lastly, textiles and clothing imports gained consistently,

with an average growth rate of 48 percent per year.

I?

 

36

 

 

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37

Table II.6, showing imports FOB from industrial
countries, gives another picture of Saudi Arabia's total
imports. The emphasis of the table is on the F08 value of
imports from the six major industrial countries, which
account, on the average, for two-thirds of Saudi imports.
Also important is the total from the 14 industrialized
nations, which together account, on the average, for over
three-fourths of Saudi Arabia's yearly imports. The table
further shows the two adjustments needed in the partner-
country data to arrive at the CIF value of total imports
referred to earlier. These adjustments take into account
the time-lag between shipment and arrival of goods and an
estimate of additional cost for freight and insurance to
Saudi ports.

The FOB value of imports from the six major suppliers,
namely, the U.S., Japan, Germany, Italy, the UK and France,
rose from $1.2 billion in 1973 to $10.4 billion in 1977, at
the average compounded growth rate of 72 percent per annum.
inne six-country share of total Saudi FOB imports increased
bfi' 7.0 percent from 63.5 percent in 1973 to 70.5 percent in

11377. The FOB value of imports from the remaining eight
irhdustrial countries rose from $193 million in 1973 to $1.5
bi-llion in 1977, representing an annual growth of 67
percent. The percentage share of these eight industrial
l"ations rose by only 0.3 percent over the five years, from
9~9 percent in 1973 to 10.2 percent in 1977. The FOB value

‘JE Saudi imports from the rest of the world rose at a

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38

compounded annual rate of 53 percent, from $516 million in
1973 to $2.8 billion in 1977. However, since the rate of
growth of imports from these countries was slower than that
of the total from all countries, their share declined

from 26.6 percent in 1973 to 19.3 percent in 1977.

Saudi imports from each of the six major suppliers

generally registered sizable growth rates from 1973 to 1976,
inclusive, but substantially lower growth rates in 1977.
Notable exceptions were France, whose rate of growth in
exports to the Kingdom rose in 1977 by 82 percent while
growth rates of the other five declined and Japan, whose
growth rate in exports declined in 1976 while those of the
other five were rising. The US and Japan were able to
sustain their lead as the first and second suppliers of the
Kingdom's imports. US exports to Saudi Arabia rose from
$442 million in 1973 to $3.6 billion in 1977, representing
an annual compounded growth rate of 69 percent and an
average percentage share of 23.5 percent, with a low of 21.6
Percent in 1974 and a high of 25.7 percent in 1976. Japan's
exPorts increased from $389 million in 1973 to $2.4 billion
i" 31977, representing, in general, the lowest growth rate
(58 percent) among the six countries and a five-year average
share of 18.4 percent, with a low of 16.1 percent in 1977
and a high of 20.9 percent in 1975.

Germany stands third among the Kingdom's suppliers with

a 7Eive-year average share of 9.1 percent, a low of 6.5 per-

Cent in 1973 and a high of 11.7 percent in 1977, and shared

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39

with Italy the highest average annual growth rate of 95
percent among the six countries. The UK ranked fourth from
1973 to 1976 but lost the position to Italy in 1977. Over
the five-year period, however, UK's cumulative export total
was higher than Italy's, $2.6 billion against $2.3 billion,
and it led in annual average share, 7.0 percent against 5.2
percent. Italy was in fourth place by virtue of sharing the
highest growth rate with Germany, as mentioned above, and by
more than doubling its percentage share from a low of 3.5
percent in 1974 to a high of 7.3 percent in 1977. France
attained the sixth position among the largest exporters to
Saudi Arabia and was the only country of the six which
maintained a continually rising growth rate in each year
from 1975-1977, including 1977 when the growth rates of the
others declined. France is also the only country, apart
from Germany, which increased its percentage share in each
of the years under review, from 2.9 percent in 1973 to 4.2
percent in 1977, representing an annual average share of 3.3

percent.

Saudi Arabian Nomadism as a Culture

 

Although the majority of the Saudi population was noma-
‘31C3 during an earlier time, recent estimates place the pre-
sent number at only 600,000. With economic development, the
nomadic way of life is becoming increasingly rare. In fact,
the nomads began settling in Saudi Arabia around the turn of

the twentieth century, even before the discovery of oil.

"’1

Alan

R
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a.
A‘Ju

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40

Alan George states:
While the social and economic forces triggered
by the development of the oil industry have been
the major factors encouraging Bedouin settlement,
the movement towards a more sedentary life pre-
ceded the oil boom, and can be traced to the
earliest days of the Saudi State.24

The "Hijra," conceived by King Abdulaziz for the Ikhwan
or Brethren, is considered the most extraordinary work in
this regard. With the Brethren, he initiated the unifica-

tion of the Kingdom into one state and managed to revive

 

the Islamic religion. In order to show appreciation for
their dedication and support of these two objectives, and to
establish an environment of dignity and identity, the King
gave orders to many of the nomads to create permanent homes
or focal centers in their own land.

These foci were established near water sources and
included a mosque and courthouse for the tribe's Shaikh or
chief, who was appointed by the King. Teachers and judges
were also appointed to serve these centers in order to pro-
‘vide Islamic education. As these centers grew and became
eStablished communities, additional services were provided.

With the discovery of oil and the advent of industrial

PrOduction within the country, nomads by the thousands,
anticipating good jobs, abandoned nomadic life for
employment as unskilled laborers in oil fields. After

\

, 24Alan George, ”Bedouin Settlement in Saudi Arabia,“
£1l£§§le East International (London: Christopher Mayhew and
°thers (Publishers) Ltd., No. 51 (September 1955): 27.

erived from M. H. Al—Fiar, op. cit.

 

I"
. v'
I ,

(I,

41

experiencing regular jobs with predictable wages and the

benefits of a settled life, the nomads were reluctant to

move back to pastoralism.25

Other more spontaneous settlements have established
homelands in northern Arabia where a water source is

available or where service and jobs are available.

For example, in the course of constructing
the trans-Arabian Pipeline (Tapline) a road
was constructed alongside the pipe, and water
wells were drilled at the intermittent oil
pumping stations. Nomads settled permanently
around the new wells and the towns of Ar'ar,
al-Qaysumah, and An Nuayriyah have developed
from these Bedouin encampments, where only
the desert existed before 1950.

 

As a result of the broad economic development and
growth of Saudi Arabia, and its subsequent urban expansion,
many nomads have migrated from their rural areas and sought
urban wage labor. After they experience the modern, urban
way of life, they do not go back to the desert except for
short visits.

In the mid-sixties, the government carried out a major
settlement project at Wadi as-Sirhan to help the nomads
after the severe drought and heavy losses among their herds.

The government's second attempt at settlement is the large
Project at Haradh. It was constructed in order to settle

more nomads and to introduce them to agricultural

\
25Ibid., p. 28. Derived from M. H. Al-Fiar, op. cit.

26Ibid., p. 29. Derived from M. H. Al-Fiar, op. cit.

 

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42
occupations.27

Nomadic Community Development

The Spontaneous settlements are almost entirely
successful, primarily due to the nomadic decision-making
process. According to the rationale of the nomadic peOple,
when a result falls short of fulfilling survival objectives,
that particular effort is rejected and a new one substitu-

ted, or an alternate way of succeeding--e.g., a new system

 

of production--is adopted. This revised plan of action is
undertaken with the same rationale and maturity as the
earlier attempt. For this reason, Spontaneous nomadic
settlements have had a heightened opportunity to succeed and
have succeeded.

In contrast, planned nomadic settlements have experi-
enced a mixture of success and failure. Most, however,
have been at least partially successful. Examining the
planned settlement in the Sahara, Capot-Rey confirms that:

there is no reason why official settlement

policies should fail where settlement has oc-
curred spontaneously and successfully, as can
be seen in certain quarters of the Warqla and

El Golea palm groves of the Chaamba settlement
of Metlili.23

 

 

27The above section is derived from M. H. Al-Fiar,
op. Cit.

5; 28Robert Capot-Rey, "Problems of Nomadism in the
ahara,” International Labour Review, November 1964 Vol. 90,
<3. 5, P. 482. Derived from M. H. Al-Fiar, op. cit.

43

Settlement failures have almost invariably resulted
from a discrepancy between the socio—economic calculations

on the part of the planners and views of the settlers

involved. The main question is: what effect do settlements

have on the settlers, whether planned or spontaneous?

In the spontaneous way of settling, or in the carefully
planned methods, change itself is not the issue. Change is
accepted by those involved, especially in the agricultural
sector. This can be demonstrated by Chatwin's argument
that, "nomads and farmers are linked to a common past and
share common aspirations.”29

As the literature points out, nomads have not only
migrated from natural impulses, these movements tend to be
very directed and economically oriented. Due to the
Beersheba experience, as nomads settle partially, or begin
to cultivate, or when they confront some official orders,

their wanderings are far more regular than
formerly, not only because they are cultiva-

ting crops, but because they lease certain
areas from the government, for both grazing

and cultivation.

liattimore also concurs with this economic interpretation.

When explaining the formidable changes through which nomads

 

 

. 29Bruce Chatwin, "The Mechanics of Nomad Invasions,"
HlStory Today (London: Bracken House, Vol 22, May 1972,

\ C O
p. 336. Dervied from M. H. Al-Fiar, op. c1t.

30Mildred Berman, ”Social Change Among the Beersheba
Bedouin," Human Organization; (Lexington, Kentucky: The
so(liety for Applied Anthropology, Vol. 26, No. 112, Spring/
Sultaner, 1967) p. 73. Derived from M. H. Al-Fiar, op. cit.

44

have evolved since settlement in Mongolia, he says,
I might add that in my opinion pastoral no-
mads, though most people think they are more
”primitive" than farmers, master the machine
more quickly than peasants do, because they
know that maintenance is all-important.31
Their maintenance knowledge could be attributed to or
inherited from their proficiency of handling live properties

in unhospitable environments.

From a social point of view, Berman says,

 

the rate of social change within the tribal
structure during the past two or three
decades has been rapid enough to warrant re-
evaluation of the traditional image.32

He also says,
Perhaps the most significant change among the
Negev Bedouin has been the slow but continu-
ing decline of the Sheikh's all-powerful
status.
Because when they settle they become involved in national
rather than tribal institutions, Berman also notes that,
many of the men have already adopted Western
dress while working or attending school in
town.

{The point is not changing habits, but rather it is the abil-

ity to adapt.35

. 31Owen Lattimore, Nomads and Commissars, Mongolia Re-
‘flsited (New York: Oxford University Press, 1962) p. 192.
Dez1ved from M. H. Al-Fiar, op. cit.

 

 

32Mildred Berman, Op. cit., p. 70. Derived from M. H.
A1~Fiar , op. cit.

33Ibid., p. 72. Derived from M. H. Al-Fiar, 0p. cit.
34Ibid., p. 74. Derived from M. H. Al-Fiar, op. cit.

35The above is derived from M. H. Al-Fiar, 0p. cit.

 

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45

Nomadic Social Costs and Benefits
The directive for settlement is primarily an oppor-
tunity for nomads to live better, allowing a higher standard
of living. This is the basis for settlement, whether it is
by their own choosing or through governmental planning.
Nomads benefit from public services that would not be
available to them in their wandering existence, and although
this alternative to nomadic life does necessitate a degree
of change in their economic and cultural patterns, it does
not seem to pose a large problem for the settlers involved.
Documentation in the literature shows conclusive evi-

dence that settlements change the nomadic economic situation
positively. This improvement is augmented by the fact that
the nomads are known for their adaptability. They are
especially motivated to achieve higher profits from their
new economic activities, as compared to the low or negative
returns of pastoralization. In addition, severe droughts,
overgrazing, degradation of pasture, and soil erosion sub-
jjected the nomads to an inability to provide for their own
SSubsistence. In such a position, they were unable to
cOntribute to gross national income and welfare. Thus,
sCucial-economic costs due to nomadic settlement are low
arua are exceeded by consequent social benefits. Further-
“Kbre, the pastures can be restored for future use in a more
Productive, profitable direction. Concerning the aggregate

‘national economic requirements, Berman states that:

 

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a a 75 0 .H .1— .C Fe. - .-

au a I 4 vi" 1- U r anh u av. .
C 2.. Lu I9. ... fly a - \ ‘40 .\u as. V.. 5“.

 

46

A dynamic economy for any nation requires an

enlightened population capable of performing

a variety of skills. The Bedouin lack of

interest in this direction acts as a serious

obstacle to their material progress.36

Presumably, if the nomads engage in the agricultural
sector, which is already suffering from the adverse effects
of the rural migration to the cities, their contribution to
the gross domestic product will become relatively signifi-
cant, or at least higher than its former level, and
agricultural development will accelerate.
In terms of cultural change, it is neither serious nor

damaging. Alan George acknowledges that,

Many writers have bewailed the demise of

nomadism for the cultural loss which it

represents, but it seems that ultimately the

requirements of modern states and economies

cannot be reconciled with the structures of

nomadism.37
Awad observes that many nomadic tribes have settled and
abandoned their wandering life but retain their tribal

organization.38 Moreover, in regard to Saudi Arabia, Lipsky

has noted that the tribal structure is still intact among

35Mildred Berman, ”Social Change Among the Beersheba
Bedouin,” Human Organization (Lexington, Kentucky: The
SOCiety for Applied Anthropologyo Vol. 26, No. 112, (Spring/
Sumner, 1967) p. 75. Derived from M. H. Al-Fiar, op. cit.

37Alan George, ”Bedouin Settlement in Saudi Arabia,”
l“liddle East International, op. cit., p. 30. Derived from
M. H. Al-Fiar' Op. Cit.

 

38Mohamed Awad, "Nomadism in the Arab Lands the Middle
East” Arid zone Research, The Problems of Arid Zone,
jgggceedings 6f the Paris Symposium, UNESCO (Printed in
France, vol. 18, 1962), p. 334. Derived from M. H. Al-Fiar,
op. cit.

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47

the settled communities.39 For the region of the Middle
East, Patai states that,

The close interaction and interdependence of

the nomadic and settled population groups in

every corner of the Middle East is a very

strong indication of the advisability of

treating their cultures as mutually comple-

mentary elements of one single culture area.40
This means that the nomad will not be confronted by drastic
cultural change when he settles. For the most part, nomads

in Arabic and Islamic nations share the same culture

 

with their settled counterparts. The basis of this culture
is a rigid adherence to Islamic religious teachings, espe-
cially in a conservative country like Saudi Arabia.41 The
following are two of the Prophet's many traditions
underlying Islamic social and cultural structure. The
PrOphet says:

The faithful are to one another like

parts of a building - each part
strengthening the other.

39George A. Lipsky, Saudi Arabia, Its People, Its
Society, Its Culture (New Haven, Conn: HRAF Press, 1959),
El- 2. Derived from M. H. Al-Fiar, op. cit.

 

4oRaphael Patai, ”Nomadism: Middle Eastern and Central
Asian," Southwestern Journal of Anthromlogy (Albuquerque:
the University of New Mexico Press Vol. 7 1951), p. 414.
Derived from M. H. Al-Fiar, op. cit.

41The above section is derived from M. H. Al-Fiar,
op. cit.

. 42Al-Bukhari and Muslim, on the authority of Abu Musa.
(:lted from: Muhammad Asad; The Principles of State and
Sflzggrnment In Islam (Los Angeles: The Near Eastern Center,
tIniversity of‘CaIifornia, 1961), p. 31. Derived from

- H. Al-Fiar, op. cit.

 

 

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48

and:

Every Muslim is brother to a Muslim,
neither wronging him nor allowing him to
be wronged. And if anyone helps his
brother in need, God will help him in his
own need; and if anyone removes a calamity
from (another) Muslim, God will remove him
from some of the calamities of the Day of
Resurrection; and if anyone shields
(another) Muslim from disgrace, God will
shield him from disgrace on the Day of
Resurrection.43

Conclusion

 

The contribution of economics is to integrate
and weigh all the factors, physical and
cultural, and to present a total budget of
assets and liabilities.
Without exception, this study is trying to adhere to this
principle.

It is clear that most scholars are following the same
pattern in studying nomads or nomadism. The main subjects
they discuss are the nomads' culture, economy, mobility, and
suggestions for their development. However, none of these
scholars has noted the failure of today's technology to
improve the nomads' economic conditions and welfare. While
technological innovation is desirable, it is at the expense

of losing nomadism and erasing its existence from the world

map. On the other side, if nomadism is to be retained,

 

43Al-Bukhari and Muslim, on the authority of Abd Allah
ibn' Umar., Ibid. Derived from M. H. Al-Fiar, op. cit.

44George B. Cressey, "Water in the Desert," Annals of
the Association of American Geographers, Vol. 47, No. 2,
(June, 1957), p. 124. Derived from M. H. Al-Fiar, op. cit.

 

 

 

49

esPecially for those who admire its romantic aspects, tech-
nology has to leave it alone and never advance in its
direction. In this case, however, it is at the expense of
nomads themselves, who will be left in their misery and

backwardness.45

 

45The above Section is derived from M. H. Al-Fiar,
op. cit.

CHAPTER III

THE CONCEPT OF ABSORPTIVE CAPACITY

The notion of absorptive capacity refers to the limits
that restrict the ability of an economy to absorb capital
investment funds in an efficient manner. This being the
case, it is often postulated that the observed low rates of
investment in many developing countries are caused not by
dearth of capital investment funds but by the inability of
the developing economies to efficiently utilize these capi-
tal funds. Sayre P. Schatz asserts that:

...the belief that a capital shortage is the
effective or operating impediment to endo-
genous private investment is mistaken, that
it is an illusion created by a large false
demand for capital, and that what really
exists is not an immediate shortage of

capital at all, but a shortage of viable
projects.

 

1Sayre P. Schatz, "The Capital Shortage Illusion:
Government Lending in Nigeria," Oxford Economic Papers, Vol.
17, No. 2, (July 1965).

 

50

literal

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51

Definition of the Concept of Absorptive Capacity

Although references to absorptive capacity in economic
literature date back at least to 1949,2 the concept does not
have a firm technical meaning like "supply," "demand," or
"the propensity to import."3 Even so, economists have
attempted to reach an understanding of how to define absorp-
tive capacity. Horvat defined it as follows:

The potential effect of the optimum adjust-
ment of the growth rates of factors is
defined as the absorptive capacity of the
economy. The easiest way to use this
concept is to conceive the economy as a
giant productive capacity capable of being
expanded at a certain maximum rate. Any
additional inputs (investment) would not
produce additions to but reductions of
output. Or, applying (with caution) the
conventional terminology, marginal
efficienc of investment will be zero or
negative.

 

 

 

It should be mentioned here that the reference to

marginal efficiency is intended to apply to total capital

 

2It was stated in the Fourth Annual Report of the World
Bank that "Perhaps the most striking single lesson which the
Bank has learned in the course of its Operations is how
limited is the capacity of the underdeveloped countries to
absorb capital quickly for really productive purposes." See
IBRD, Fourth Annual Repgrt to the Board of Governors
1948-1949, p. 8.

 

3J. Adler, Absorptive Capacity, op. cit., p. l.

 

4Branko Horvat, "The Optimum Rate of Investment,” 322
Economic Journal, Vol. LXVIII No. 272, (December 1958): p.
748. Derived from K. A. Al-Eyd, "Oil Revenues, Absorptive
Capacity, and Prospects for Accelerated Growth: A Case
Study of Iraq" (Ph.D. Dissertation, Washington, D.C.: The
George Washington University, 1978).

 

52

exclusively. In essence, it is entirely feasible to build,
for example, a modern and profitable project (profit here
means a positive financial rate of return on the particular
investment) and still realize a negative social rate of
return. This is true because "...external diseconomies with
respect to the economy as a whole will outweigh the positive
contribution of the additional factory."5

The United Nations Economic Commission for Asia and
the Far East defined absorptive capacity as "...a limit to
the amount of efficient investment physically possible, and
although it can itself be increased through further
investment, it does effectively limit the rate of develop—
ment possible, particularly in the short run."6 This defi-
nition does not specify the nature of the limit which ren-
ders investment beyond a certain level physically
impossible. It can be assumed that the limit will be
reached when input constraints become serious or when the
rate of return suddenly drops to zero or becomes negative.

The most specific definition of absorptive capacity has
been formulated by Adler. He defines absorptive capacity as
"...that amount of investment or that rate of gross domestic

investment expressed as a proportion of GNP, that can be

 

51bid., p. 756. Derived from K. A. Al-Eyd, op. cit.

6United Nations, ECAFE, Programming Techniques of
Economic Development, 1960. Reprintediin Meier, Leading
Issues, op. cit., p. 170. Derived from K. A. Al-Eyd,
op. cit.

 

53

made at an acceptable rate of return, with the supply of
cooperant factors considered as given."7

Several points need to be made here. It is evident
from the definitions cited above, particularly Adler's
definition, that central to the concept of absorptive capa-
city is the idea of efficient utilization of capital. The
basis for "acceptable rate of return" suggests that the rate
of return which will be realized from installing an incre-
mental unit of captial must at least equal the rate of
return that could be realized by installing the same incre-
mental unit of capital outside the country. In essence, the
absorptive capacity of the economy is that amount of
invested capital which sets the rate of return on capital
precisely at the rate available outside the country.

Since the rate of return on marginal invested capital
diminishes as increased incremental units of capital are
installed, it is evident that the concept of absorptive
capacity depends upon the concept of diminishing marginal
productivity of capital. In other words, the concept of
absorptive capacity evolves from the Law of Diminishing
Returns. The standard example in economic literature is
that of agricultural production. It is assumed that produc-
tion of an agricultural output requires two factors: land
and labor. Since land is fixed and labor is variable, it is

assumed that, as increased labor is made available, there

 

7J. Adler, Absorptive Capacity, op. cit., p. 5.

 

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0

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54

will be a point reached after which the increments of output
produced by the incremental units of labor begin to de-
crease. The Law of Diminishing Returns is valid for any

two factors of production as long as it is assumed that one
is fixed and the other is variable.

The analysis can be expanded to include any number of
factors of production--hence the reference in the definition a;
of absorptive capacity to ”cooperant factors," i.e., to all
factors of production other than capital. The definition of E-
absorptive capacity considers the supply of c00perant fac-
tors as given. Accordingly, successive increments of
investment capital are assumed to produce diminishing incre-
ments of output after the bottleneck point is reached. More
clearly, the rate of return on invested capital is assumed
to decrease until it reaches the "acceptable rate", which
varies from one sector to another and from one country to
another. It is an undetermined number but an acceptable
one. It is imperative that additional investment be
regar-ded as inefficient as the rate of return will be less
theft the “acceptable rate."

This interpretation appears quite restrictive in view
of the rigidity attached to the supply of c00perant factors.
SuCh an assumption is only valid within the context of a
clOsed economy. Otherwise, it is perfectly reasonable to
asSume that factors of production can be augmented through
1mPortation. Furthermore, the constancy assumption suggests

an.immobility of factors within the same economy. In other

«
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II.
In.

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55

words, a specific cooperant factor in constant supply is one
which is relatively or completely immobile. Finally, the
constancy assumption firmly rejects the possiblity of
substituting one factor of production for another.8

The ambiguity of the definitions of absorptive capacity
is worthy of attention. An example is the concept of
"acceptable rate of return,” as stated by Adler, in which
the rate of return is not specified. However, this can be
interpreted to mean ”social" rate of return as opposed to
”financial” rate of return. We accept this interpretation
because to consider otherwise would disregard the exter-
nalities associated with capital investment activities.
More importantly, financial rates of return disregard
investment in human capital, which is intrinsic to the pro-
cess of economic development.9

W. Arthur Lewis wrote an article, entitled l"Economic
Development with Unlimited Supply of Labor," in which he
argues that, in poor developing countries with high p0pu1a-
tion and limited natural resources, labor is available in
ufilimited supply. For economic growth and development, in a
ClOSed economy, planners should utilize the unlimited labor
force up to the point where its marginal productivity is

approaching zero or even negative.

c' 8The above section is derived from K. A. Al-Eyd, op.
1t

9J. Adler, Absorptive Capacity, op. cit., p. 5.

 

56

Under an open economy assumption, he argues that the
country in question should borrow capital and obtain tech-
nical aid from developed countries. Thus, poor countries
with large populations and relatively unlimited supplies of
labor force should Operate with their marginal productivity
of capital and technical aid at its maximum, while keeping
the marginal productivity of their unlimited labor force
supply approaching zero or even negative.

In Saudi Arabia, the case is completely reversed. The
country has a limited population and, hence, a limited labor
force and an abundance of capital. Under the closed economy
assumption, the Saudis should make the marginal produc-
tivity of capital approach zero or even negative and should
maximize the marginal productivity of their labor force.

In the case of an open economy, the Saudis should
import more labor force from other countries and operate
with their marginal productivity at its maximum, while
keeping the marginal productivity of capital, which is
available in a relatively unlimited supply, at its minimum.

Another alternative, in an open economy situation, is
to invest the capital surplus that Saudi Arabia has in de-
veloped foreign countries up to the point where its marginal
productivity yields the highest rate of return, equal to the
rate of return on capital invested in Saudi Arabia.

Thus in terms of straightforward applications of
classical economic theory, the two situations are essen-

tially identical except for reversal of the roles of labor

57

force and capital. At this level of analysis, the policy
prescriptions that follow are relatively uncomplicated. It
is recognized, of course, that the real world is seldom this
simple, and thus additional variables inherent in the eco-
nomy and social structures of individual countries must be

taken into consideration.10

Sectoral Absorptive Capacity

It is possible to examine the concept of absorptive
capacity from a sectoral perspective. The same principles
that hold for the economy as a whole apply to individual
sectors. Generally, the various sectors of the economy have
different absorptive capacities, as a result of the less
than perfect mobility of the same cooperant factor among
sectors or because different cooperant factors are required
by different sectors.

Examination of the absorptive capacities of various
sectors makes it possible to establish the limitations
imposed by each sector on the other sectors. For example,
among the bottlenecks that have limited absorptive capacity
among most members of OPEC since the quadrupling of oil
prices in 1974 has been the inadequacy of ports and transpor-
tation facilities. In terms of the present analysis, the

transport sector constitutes a constraint on the absorptive

 

10W. Arthur Lewis, "Economic Development with Unlimited
Supply of Labor," Manchester School of Economic and Social
Studies, Vol. XXII (May 1954).

 

58

capacity of other sectors. In other words, if the inade-
quacy of the transport sector limits the ability of another
sector to distribute its product, then the value of the
marginal product of the affected sector is decreased,
regardless of the production conditions of the sector.
Similarly, a sector may find it necessary to pay premium
freight charges to insure the delivery of essential inputs;
even though these high cost inputs would cause the absorp-
tive capacity of the affected sector to have a lower growth
rate than it would under normal circumstances.

The impact of each sector on the absorptive capacities
of the other sectors is further illustrated by the fact that
the high prices paid by other sectors for transport services
would result in an increase in the absorptive capacity of
the tranSport sector. Consequently, additional capital
investment would be undertaken to expand the tranSport
facilities. This has been the case in most OPEC countries

since the increase in oil prices.11

Measurement of Absorptive Capacity
One method of measurement that readily suggests itself
is productivity of capital. That is, absorptive capacity
measured in terms of rate of return on capital investment.

If we accept this approach, absorptive capacity becomes:

 

11The above section is derived from, K. A. Al-Eyd, op.
cit.

59

...a schedule relating an amount of capital

to be invested to the expected rate of

return. The lower the rate of the return on

capital which the ”investor" - the economic

unit making an investment decision — is

willing to accept as satisfactory, the

higher the absorptive capacity.1

Figure III.1 illustrates this method of measurement.

In this figure, investment (I) is measured along the hori-
zontal axis, whereas the expected rate of return (r) is
measured along the vertical axis. Curve (DD) relates
investment to the rate of return in developed countries and
curve (UU) relates investment to the rate of return in deve-
loping countries. The shapes of these two curves differ

because of the different economic conditions prevailing in

developed and developing countries.

Rate of Return U Developing

A? countries

Developed
ountries

 

 

4‘; Investment

 

FIGURE III.l: Measurement of Absorptive Capacity.

 

12J. Adler, Absorptive Capacity, 0p. cit., p. 2.

60

The two curves intersect at point (B). To the left of
(B), the UU curve lies above the (DD) curve implying that
investment up to I* would yield a higher rate of return in
developing countries than in developed countries. This is
so because:
There is circumstantial and some direct
empirical evidence that in less developed
countries the return on existing stock of
capital is high and that it is reasonable,
therefore, to conclude that the expected
rate of return on some additional invest-
ment also is high. The evidence is the
larger share of profits, rents and interest
receipts in the national product of many
less developed countries and the high rates
of interest charged by non-institutional
lenders.l
Beyond point (B), however, the situation is reversed
because curve (DD) declines more gently than curve (UU). As
indicated earlier, the behavior of these curves is governed
by the prevailing economic conditions in developed and
developing countries. The steep slope of (UU) reflects a
faster decline in the rate of return owing to absorptive
capacity constraints. In contrast, in developed countries
where absorptive capacity is not considered to be a limiting
factor, the schedule of the rate of return on capital is
presumed to decline rather gently.
The preceding analysis relates to an earlier

observation, namely, that the absorptive capacity of the

economy is that amount of invested capital that sets the

 

13Ibid., pp. 2-4.

 

61

rate of return exactly at the rate available outside the
country. In Figure III.1, the absorptive capacity is equal
to (I*) yielding r*. Any investment beyond this point is
inefficient, because it will yield a lower rate of return.

It is entirely possible to ignore the rate of return in
developing countries. A country that possesses ample finan-
cial resources may deem it necessary, for social and poli—
tical reasons, to expand domestic capital investment to the
point where the rate of return on the last unit of installed
capital is equal to zero. In this case, the ultimate
absorptive capacity of the economy becomes equal to I**.
Finally, one may conceive of the schedule relating capital
investment to the rate of return in developing countries to
possess a pronounced kink, i.e., to assume the shape
depicted by (UBI*). The kink could occur, for example, upon
the exhaustion of a factor of production. If the country is
unable to import this factor, further capital investment
becomes physically impossible. Furthermore, the cost of
importing a factor in short supply could be so prohibitively
high that the rate of return on capital investment would
suddenly drOp to zero or become negative. Under these
circumstances the absorptive capacity of the economy would
be equal to I*.

In practice, absorptive capacity has been measured
indirectly. For example, Chenery and MacEwan suggest that,
"The most convenient measure of this absorptive capacity

limit is the rate of increase in investment which a country

62

can achieve on a sustained basis.'14 The most common rate
of growth in capital investment observed by Chenery and
MacEwan was between 15 and 20 percent per year.15 Similar-
ly, Adelman and Sparrow assumed an arbitrary rate of
growth of 50 percent of actual investment in the base
period.16
In addition to being comprehensible and unambiguous,
this indirect method of measurement has the added advantage
of focusing on the time dimension of absorptive capacity.
It is useful to recognize that:
The absorptive capacity of an economy
depends on the time that is allowed for
adjustments in the factors determining the
limits. The more time is allowed to over-
come the lack, or inadequate supply, of the
c00perant factors, the greater the absorp-
tive capacity becomes.1
It is likely that the passage of time will allow the

process of economic development to increase the supply of

cooperant factors in short supply and ameliorate

 

l4Chenery and MacEwan, “Optimal Patterns of Growth and
Aid: The Case of Pakistan," P. 151. In Adelman, Irma and
Thorebecke, Erik, eds. (Baltimore: The Johns Hopkins
University Press, 1966). Derived from K. A. Al-Eyd, op.
cit.

15Ibid. Derived from K. A. Al—Eyd, op. cit.

16Adelman and Sparrow, "Experiment With Linear and
Piece-Wise Linear Dynamic Programming Model," p. 296. In
Adelman, Irma and Thorebecke, Erick eds. (Baltimore: The
Johns Hopkins University Press, 1966). Derived from K. A.
Al-EYd' Op. Cito

17J. Adler, Absorptive Capacity, 0p. cit., p. 28.

 

63

intersectoral bottlenecks.18
This indirect method of measuring absorptive capacity

hinges on the availability of investable funds. It is
feasible to measure the absorptive capacity of the economy
in this manner if it can be proven that the economy is not
hampered by a savings-investment gap and an export-import
gap. In the absence of this proof, it is not correct to
measure the absorptive capacity of an economy on the basis
of the observed rate of growth in capital investment.19 In
recognition of this essential condition, Chenery and MacEwan
observed that:

The availability of external capital

permits an economy to grow at the limit

corresponding to its ability to increase

its capital stock rather than at the lower

rate implied by its ability to increase
domestic savings.

 

18Hollis B. Chenery and Alan M. Strout, ”Foreign
Assistance and Economic DevelOpment,' The American Economic
Review, LVI, (Sept. 1966): P. 680. There is no guarantee
that time alone will necessarily lead to an expansion of the
absorptive capacity of the economy. It all depends on the
strategy of economic development. A strategy aimed at the
development of human resources and easing sectoral bottle-
necks will certainly contribute to the expansion of absorp-
tive capacity. On the other hand, absorptive capacity may
decline owing to deterioration in administrative efficiency.
Derived from K. A. Al-Eyd, op. cit.

 

 

19The above section is derived from K. A. Al-Eyd, op.
cit.

20Chenery and MacEwan, “Optimal Patterns of Growth and
Aid: The Case of Pakistan," op. cit., p. 152. Derived from
K0 A0 Al-EYd' 0P0 Cite

64

Limitations of Absorptive Capacity

In explaining the gradual nature of the economic devel-
Opment process, the World Bank listed many factors that
limit the absorptive capacity of developing countries.
These factors include a low level of education, frequent
changes in government and strong vested interests opposed to
any change.21 It then concluded that:

...the principal limitation upon bank
financing in the development field has not
been lack of money but lack of well-
prepared and well-planned projects ready
for immediate execution.

It is not possible to have a complete catalogue of
limits that is applicable to each and every possible case.
This is so because developing countries differ with respect
to their natural resource endowment. Their limitations on
absorptive capacity will always vary from one country to
another and, therefore, manifest themselves in many ways.
As Adler points out:

The only way to come to grips with the
practical limitation of absorptive
capacity is to devise specific measures
to appraise specific limitations.
Be that as it may, it is possible to categorize the

various limits on absorptive capacity according to the broad

classes of cooperant factors that could conceivably be in

 

21IBRD. Fourth Annual Report, op. cit., pp. 8-9.
Derived from K. A. Al-Eyd, 0p. cit.

22Ibid., p. 9. Derived from K. A. Al-Eyd, op. cit.

23Adler, Absorptive Capacity, op. cit., p. 31.

 

65

short supply.24 Bearing this in mind, what follows is a

brief commentary on the most commonly observed limitations.25

Limited Knowledge

 

A decisive factor which hampers the ability of devel-
oping countries to present well conceived and easily exe-
cuted projects is their limited knowledge about the natural
resources they possess. Adequate information about minerals,
water resources, soil, and other natural resource endowments
and climatic conditions is essential for the preparation of
economically feasible projects. In short, vital data and
the technical know-how to utilize the resource base in all

its forms is lacking or questionable.

Scarcity of Entrepreneurs

 

Scarcity of entrepreneurial talent derives from
Professor Hirchman's notion of ”ability to invest."26 Thus,
according to Albert Waterson:

Such lack of "absorptive capacity,” which
essentially reflects an inability to invest
in soundly conceived development programs
and projects that can be carried out well
and operated economically upon completion

 

24Ibid., pp. 31-34. The remaining discussion in this
part is based on Adler's list of limitations but derived
from K. A. Al-EYd’ Op. Cito

25The above section is derived from K. A. Al-Eyd, op.
cit.

26Hirschman, The Strategy of Economic DevelOpment (New
Haven: Yale University Press, 1958). Derived from K. A.
Al-EYd' Op. Cit.

 

66
is a common characteristic of less
developed countries.

Evidently the availability of capital investment
opportunities, such as the development of natural resources,
is not by itself sufficient. There must exist a class of
entrepreneurs ready and able to take advantage of these
opportunities. According to proponents of the unbalanced
growth doctrine, developing countries normally suffer from a
scarcity of indigenous entrepreneurs, a fact that constitutes

a limit on their absorptive capacity.

Scarcity of Skills
Professional engineers, financial experts, executives

and skilled workers are all needed for the design,
execution, operation and maintenance of projects. Yet,
underdevelopment implies, among other things, scarcity of
skills. This structural problem is recognized as one of the
most restrictive limitations. Drawing on the Nigerian
experience, Stolper states:

Absorptive capacity is therefore limited

by the structures of the economy and the

fact that investment decisions must be

made over time. There are, of course,

other limiting factors. Executive person-

nel are scarce and lose their effective-

ness when overworked. Lack of executive
capacity is a further limitation on

 

27Albert Waterson, Development Planning, Lessons of
Experience (Baltimore: The Johns Hopkins University Press,
1965), p. 300. Derived from K. A. Al-Eyd, op. cit.

“wry

67

absorptive capacity."28
Lack of skilled management is thought to be the most
serious bottleneck for publicly owned enterprises. The
lack of efficient management is of particular importance in
state enterprises, which, for political reasons, find it

difficult to accept foreign management.29

Institutional Limitations

 

These are limitations which cannot be ameliorated at
the project level and are weaknesses in the institutional
structures of society. Examples include an inability to
maintain order, uphold the laws and protect property,
excessive bureaucratic controls, and cumbersome procedures
in export and import licensing, permits to establish
enterprises, foreign exchange allocation and repatriation
of profits.

In general, institutional imitations of this type lower
the real rate of return on domestic capital investment and
thus restrict the absorptive capacity of the economy, hin-

dering the growth of sectors of the economy.

 

28Wolfgang F. Stopler, Planning Without Facts, Lessons
igfiResource Allocation from Nigeria's DevelOpment,
(Cambridge, Mass.: Harvard University Press, 1966). P. 58.
Derived from K. A. Al-Eyd, op. cit.

 

 

29J. Adler, Absorptive Capacity, op. cit., p. 32.

 

 

68

Cultural, Social and Political Limitations

Developing societies do not generally abide by the same
set of cultural and social values followed in developed
countries. Lack of interest in material wealth and the
desire to cling to the simple life, rejection of the rigid
discipline of factory life and reluctance to follow a speci-
fic schedule of work are examples of differences in outlook
and attitude. Furthermore, religious beliefs, social
customs and superstitions usually have a negative effect
upon the economic developmental efforts of developing
countries.30

Most damaging, of course, is the existence of vested
interests opposed to any change. Political instability is
also one of the factors responsible for the flight of indig-
enous capital and, most importantly, for the migration of
professionals. The so-called "brain-drain” cannot help but
constitute a limit on the absorptive capacity of most devel-
oping countries.31

The limitations on absorptive capacity, then, generally
fall into two categories: those which are amenable to
foreign technical assistance and those which are time
dependent. For example, it is feasible with the help of

foreign experts to survey the country's natural resources.

 

30J. Adler, Absorptive Capacity, op. cit., p. 34.

 

‘ 31There are exceptional cases, such as India, where the
migration of highly trained persons could be attributable to
lack of employment opportunities in the home country.

Fore)

COGS)

"‘

ID

69

Foreign engineers, skilled workers and managers can design,
construct and manage industries.

On the other hand, foreign assistance cannot be counted
upon to change customs and attitudes or bring political
stability. In the final analysis, expansion of absorptive
capacity is an economic evolutionary process in which the
strategy of economic development can play a decisive role.
Comprehensive planning aimed at educating the general public
and providing training targeted to the specific needs of the
economy, and designed to solve acute bottlenecks, should
eventually lead to an expansion of absorptive capacity. In
contrast, haphazard planning or no planning at all will
undoubtedly help to perpetuate the existing state of

affairs.32

The Case of Saudi Arabia: Gross Domestic Capital Formation
Gross capital formation has risen rapidly over the
first two years of the Second Development Plan, reflecting
an acceleration of investment activity in the Kingdom. In
value terms, it has more than tripled from SR 17.3 billion
in 1975 to 59.9 billion in 1977. In percentage terms it has
recorded a rate of growth of 56.0 percent in 1977 compared

with growth rates of 114.8 percent in 1976 and 98.0 percent

 

32The above section is derived from K. A. Al—Eyd, op.
cit.

70

in 1975.33

Private sector investment registered the highest rate
of growth, 97.6 percent in 1977, against a growth rate of
128 percent in 1976, while government sector investment grew
by 78.2 percent in 1977 compared with 197.8 percent in the
preceding year. The oil sector recorded a growth rate of
2.1 percent in 1977 compared with 20.2 percent in 1976.
Inventories registered a substantial decline of 249 percent
in 1977 compared with a small decline of 16.4 percent in
1976 and positive growth of 187.7 percent in 1975. The
substantial decline in inventories is mainly attributed to
normalization of inventory levels after reduction of port
congestion.34

Further analysis of gross fixed capital formation
(GFCF) by type of capital goods indicates that construction
accounted for the highest rate of increase of 76.2 percent
in 1977 (though this was well below the growth rate of 158.9
percent achieved in the preceding year), followed by machin-
ery and equipment, which grew by 61.6 percent against a
growth rate of 38.4 percent in the preceding year.
Transport equipment increased by 54.5 percent in 1977 com-

pared with 86.2 percent in 1976. Construction thus

 

33Saudi Arabian Monetary Agency, 1978 Annual Report.
(Riyadh, Saudi Arabia: Department of Research and
Statistics).

 

34Ibid.

71

continued to dominate gross fixed capital formation,
accounting for 86.2 percent of the total, while tranSport
equipment and machinery accounted for 6.3 percent and 7.5

percent, respectively.35

The Second Development Plan Rates

With the end of fiscal year 1977/78, the Second
Development Plan completed its third year. Table III.1
shows that, apart from the oil sector whose variable trends
reflect external causes, the performance of all other sec-
tors has been close to, or better than, the plan
projections. The non-oil private sector sustained high
rates of growth in the first three years of the Plan, mainly
as a result of substantial expansion in the construction and
transport, communication and storage sub-sectors. The agri-
cultural sector has maintained a steady growth of 4.0 per-
cent as a result of continued infrastructure expansion and
agricultural extension services provided by the government.
The growth rate of the manufacturing sector has markedly
accelerated and may be expected to continue doing so, bene-
fitting as it does from the facilities and incentives pro-
vided by the government. The government sector continues to
play its role successfully as the prime mover of development
efforts and has registered impressive growth rates, con-

siderably higher than the plan targets. The fact that the

 

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rate of inflation has fallen substantially in spite of these
high rates of growth is due to the realistic, non-infla-
tionary, but intensely supply-and development—oriented

budgetary policy of the government.

Analysis of Absorptive Capacity

 

For the purpose of this study, Saudi Arabia's absorp-
tive capacity in a given period is defined as that level of
gross, domestic, fixed capital formation which the country
achieved during that period. Specifically, it is postulated
that Saudi Arabia's observed levels of gross domestic
investment were the highest the country could undertake,
given its absorptive capacity. The reasons underlying this
assumption will be dealt with further in this section.

If this is the case, it is possible to measure Saudi
Arabia's absorptive capacity by ascertaining the rate of
increase in gross domestic investment that the country
achieved on a sustained basis. This method of measurement
implies that the maximum level of gross domestic investment
in any one period cannot exceed the level of gross domestic
investment in the preceding period times an exogenously
determined rate of increase. Symbolically, this rela-
tionship is expressed as:

It s. I(t-1) o BI(t-1 where:
It is investment in period t; and BI is the exogenously
determined rate of increase. The level of B is governed by

the limits of absorptive capacity.

74

As indicated earlier, this method of measurement can be
valid if it can be proven that the economy was not hampered
by a savings-investment gap or an export-import gap.
Therefore, it is necessary to show that the Saudi economy
was not constrained by either of these. A clear
understanding of the two gaps might be gained with the aid

of the following Keynesian-type macro-economic model.

Let:
Y = gross domestic product
C = private consumption
I = gross investment
G = public consumption
X = total exports of goods and services
M = total imports of goods and services
S = gross total savings
Sd = gross domestic savings
Sp = gross private savings

total taxes

I-i
ll

Gross domestic product may be expressed as an expen-
diture flow or as an allocation of income. Equation (3.1)
and equation (3.2), respectively, depict these two
expressions:

Y = C + I + G + X - M . . . . . . . . . . . . . . (3.1)

Y = C + Sp + T. . . . . . . . . . . . . . . . . . (3.2)

Since the right-hand sides of equations (3.1) and (3.2) are

75

equal to Y, they must be equal to each other so that:
C+I+G+X-M=C+SP+T0000000000(303)
It is necessary to point out that, according to the
Keynesian definition of consumption, the C in equation (3.1)
is the same as the C in equation (3.2). In both cases it
represents the goods and services which are bought for con-
sumption in the private sector during the period under “
consideration.36
If more consumption goods are in fact
produced or imported than are bought for
consumption, there is an increase in stocks,
which is treated as ”investment in stocks"
and so is considered as forming part of
I. Similarly, if more consumption goods
are bought for consumption than are pro-
duced or imported, stocks of consumption
goods are run down and this is treated as
"disinvestment in stocks" and is again con-
sidered as part of 1.
Based on the above interpretation, it is possible to
cancel out the C's from equation (3.3), so that:
G+I+X-M=SP+T00000000000000(304)
Isolating I and rearranging we obtain
I=Sp+ (T-G) + (M’X). 0 0 o 0 0 0 0 0 0 o 0 (305)
Since aggregate total savings are, by definition, equal to

gross investment, equation (3.5) may be rewritten as:

S = I = Sp + (T - G) + ( M — X) . . . . . . . . . (3.6)

 

36The above section is derived from K. A. Al-Eyd, op.
cit.

37Organization for Economic Cooperation and Development
(OECD), Quantitative Models as an Aig_to Develgpment
Assistance Policy (Paris: OECD, 1967), pp. 67-68. Derived
from K. A. Al-Eyd, op. cit.

76

Equation (3.6) states that the level of aggregate gross
total savings is equal to the sum of aggregate private
savings (Sp), aggregate public savings (T - G), and aggre-
gate foreign savings (M - X). Subtracting foreign savings
from both sides of equation (3.6) gives two measures of
aggregate gross domestic savings (Sd):

Sd = I - (M-X) = Sp + (T - G). . . . . . . . . . .(3.7)

To avoid the common difficulties involved in estimating
aggregate private savings and aggregate public savings, it
is possible to calculate aggregate domestic savings
indirectly by subtracting aggregate foreign savings from
estimates of gross investment. Thus aggregate domestic
savings can be estimated as follows:

Sd = I — (M - X). . . . . . . . . . . . . . . . . (3.8)

Equation (3.8) describes the familiar case of most
developing countries, where domestic savings fall short of
investment and the balance is provided by foreign sources
and expressed as import surplus (M >X). The reverse case
occurs when the import surplus changes into an import
shortage, i.e., where X>tM. In other words, the usual
savings-investment and export-import gaps are reversed.38
To be precise, there will be an export-import gap in

reverse. In this connection, we must point out that these

 

38For a concise statement of the theory of the two gaps
see Jaroslav Vanek, Estimating Foreign Resource Needs for
Economic Development (New York: McGraw Hill Book Co.,
1967). especially Chapter 6.

77

two gaps are one and the same.

In any actual situation, the savings-investment and
export-import gap will necessarily be the same. For the
gap, in each of these two views, is the excess of the amount
of resources used over the amount of resources produced by
the economy.

The accounting equality of the two gaps can be readily
seen from a rearrangement of equation (3.8) so that:

I - Sd = M - X. . . . . . . . . . . . . . . . . . (3.9)

In the familiar case of most developing countries I>'Sd
and M) X, i.e., both sides of equation (3.9) are positive.
In this situation it is not correct to measure the absorp-
tive capacity of the economy on the basis of the observed
rate of increase in gross domestic investment unless it can
be shown that capital inflows exceeded the magnitude of the

gap on a consistent basis.39

Measuring Absorptive Capacity of the Economy
After this digression, the case of Saudi Arabia can be
examined with confidence. The fact was brought out that, in
the span of 13 years, Saudi Arabia experienced a current
account deficit in only three years (Table III.2). These
deficits were caused, not by an increase of imports, but

rather by a decrease in exports due to external factors such

 

39The above section is derived from K. A. Al—Eyd, op.
cit.

78

TABLE III.2

ESTIMATE OF SAUDI ARABIA'S BALANCE OF PAYMENTS
(Millions of Riyals)

 

 

YEAR CURRENT ACCOUNT SURPLUS (+) DEFICIT (-)
1965 + 441
1966 ‘ + 594
1967 + 405
1968 - 549
1969 - 535
1970 - 283
1971 + 4389
1972 + 8616
1973 + 9380
1974 + 82443
1975 + 50268
1976 + 50315
1977 + 43498
TOTAL + 249,548

 

SOURCE: Saudi Arabian Monetary Agency, 1398 (1978) Annual
Report; Saudi Arabia, p. 156; 1397 (1977) Annual
Report, Saudi Arabia, p. 140.

 

79

as wars in the Middle East or decisions by foreign companies
operating in Saudi Arabia to reduce crude oil production and
exports. Between 1965 and 1977 Saudi Arabia realized a
cumulative current account surplus amounting to SR 249,548
million. The bulk of this surplus occurred in later years
due to higher oil revenues, but this only demonstrates that,
after more than a decade, the Saudi economy was still unable
to surmount some of the limitations on its absorptive
capacity.
The cumulative current account surplus is nothing but a
savings-investment and export—import gap in reverse. In
the absence of absorptive capacity limitations, Saudi Arabia
would have been able to achieve higher gross domestic fixed
capital formation than actually achieved during the period.
It is possible to look at the absorptive capacity
limits of the Saudi economy from a different perspective.
The following manifestations of absorptive capacity
constraints were discussed earlier. To summarize:
1. Planned public sector investment expenditures
consistently exceed actual expenditures.
2. Shortfalls in actual expenditures were due to
delays in project execution because of shortages
in skills and cumbersome government routine.
3. Planners neither tapped domestic private savings
for economic development purposes nor encouraged

private investment in a useful manner.

80

4. Planners neither tapped foreign savings nor
encouraged foreign private capital inflows.

5. The inability to invest was not caused by a dearth
of ready-to—go projects. Projects that were
included in programs during the 1960's were not
acted upon until the 1970's.

Having established that the Saudi economy has not been
constrained by a lack of savings or foreign exchange, it is
now possible to measure its absorptive capacity according to
the pr0posed method, i.e., by estimating the rate of
increase in investment. Data on Saudi Arabia's real gross
domestic fixed capital formation were used to measure the
absorptive capacity of the Saudi economy, i.e., the rate of
increase in capital formation in both the public and private
sectors. Two aspects require careful consideration before
any calculations can be made. These are the method of esti-
mation and the time span. As to method, it is possible to
calculate a rate of growth in several ways. An annual

average rate can be calculated by comparing the gross

 

domestic fixed capital formation in 1977, for example, with
the gross domestic fixed capital formation in 1971.
Alternatively, it would be possible to calculate the rate of
growth in every year and take the average (mean) as the
representative rate of growth during the period in question.
There are other ways. For example, a growth rate can be
calculated by comparing the average gross domestic fixed

capital formation during the period 1971-74 with the

81

average gross domestic fixed capital formation during the
period 1974-1977.

However, all of the above methods cannot be considered
efficient because they involve a comparison of two points in
time and ignore economic developments during intervening
years. It is entirely possible that Saudi Arabia had
several recessions or booms during the period under
investigation, but the above methods would have completely
missed the impact of any such possible developments.

Another source of bias is the state of the economy during
the base year and the end year. If the economy were booming
during the base year and depressed during the end year, then
the rate of growth would be underestimated; and vice

versa.40

 

40The above section is derived from K. A. Al-Eyd, op.
cit.

 

CHAPTER IV

ABSORPTIVE CAPACITY AND THE DOMESTIC
INVESTMENT IN PLANNING

Alam A1 Naft estimated Saudi Arabian foreign capital

 

assets, mostly in the form of U. S. Treasury Bonds, private
bonds, and time deposits in foreign banks, at roughly 75
billion.1 (The exact distribution of the Saudi portfolio is
a well-guarded secret.) Obviously, this form of capital
investment, which involves risk, would not have been under-
taken if domestic investment would have yielded the same
rate of return as investment abroad.

The reasons for the low rate of return on domestic
capital investment in Saudi Arabia are not difficult to
comprehend once one recognizes the low degree of absorptive
capacity that characterizes the non-oil sector of the
economy. During the 1940's and 1950's, the economic wheel
was not in active use for most areas of the country. Ramon
Knauerhase wrote:

Saudi Arabia had a pastoral economy based
on the raising of goats, sheep and camels.

The majority of the urban population lived
in small villages built of mudbrick and

 

1Alam A1 Naft, May 10, 1979 (Beirut-Lebanon) (In
Arabic).

 

82

83
earned a living from subsistence
agriculture.2
The Saudi economy at present is not as backward as it was,
and the number of "wheels" in the streets makes driving an
automobile in Saudi cities as comfortable as driving in the
streets of New York or Chicago.

Aside from "conspicuous" consumption, the economy, in
spite of government efforts, is still relatively backward.
Until now, there have been no basic statistical data on the
population of the country or on birth and death rates. The
majority of labor force professionals, such as teachers,
doctors, nurses and engineers, have been recruited from
other countries.

In spite of the shortage or lack of a professional and
skilled labor force in Saudi Arabia, the greatest obstacles
confronting anyone who considers undertaking capital invest-
ment projects are a lack of data and insufficient public
infrastructure. Of course, information is often not readily
attained, but in Saudi Arabia sometimes it is non-existent.
For example, there are no detailed data about rainfall or
flooding (there are areas of the country where flooding is

serious), temperatures, composition of soil, and levels of

 

2Ramon Knauerhase, The Saudi Arabian Economy (New York:
Praeger, 1975), p. 57. Derived from Ali D. Johany, "OPEC Is
Not a Cartel: A Property Rights Explanation of the Rise in
Crude Oil Prices" (Ph.D. Dissertation, California:
University of California, Santa Barbara, June 1978).

 

84

humidity.3

An entrepreneur considering an investment project in
most of the Western countries worries primarily about the
costs of factors of production rather than their avail-
ability. Furthermore, he knows that with some effort
he can obtain data on things like birth rates or the average
quantity of rainfall.

In some developing countries, such as Saudi Arabia,
some factors of production are either not available or are
available only at high costs that would make the rate of
return on capital investment less than that available by
depositing capital assets in a foreign bank. Development
economists have established a term to describe such a
condition. As stated before, the term is "absorptive
capacity.”4 Adler defines absorptive capacity as "that
amount of investment... that can be made at an acceptable
rate of return, with the supply of cooperant factors con-
sidered as given."5 This definition does not specify the
”acceptable rate of return”, but one may conclude that an
acceptable rate of return is the rate that exceeds or is
equal to the domestic rate that Saudi Arabia can receive on

its financial capital by investing it in the form of foreign

 

3The above section is derived form Ali D. Johany, op.
cit.

4J. H. Adler, Absorptive Capacity (Washington, D.C.:
The Brookings Institution, 1965).

 

51bid., p. 8.

85

bonds or time deposits in foreign banks, with adjustment for
risk.

To be certain, the government does invest for the pur-
pose of augmenting the supply of "cooperant factors."
Nevertheless, in the short run this augmentation is either
physically impossible or it increases the costs of capital
investment in a manner that greatly diminishes the rate of
return on the entire investment project.

One may conclude, after researching and reflecting on
the "absorptive capacity" concept, that it basically makes
reference to the same phenomenon that describes the law of
diminishing returns. In the words of George Stigler, "The
discovery of this law, due to T. R. Malthus and Edward West
in 1815, was one of the heroic advances in the history of
economics."6

In terms of absorptive capacity, we may conclude that
Saudi Arabia could not invest all of its financial capital
assets within its economy because the supply of other
”cooperant" factors could not be augmented as rapidly as the
supply of financial capital. In essence, the marginal pro-
duct of financial capital decreases faster than the marginal
product of other factors due to abundant financial flows in
comparison to other coOperant factors. However, that is

precisely what the law of diminishing returns implies. This

 

56. S. Stigler, The Theory of Price (New York:
Macmillan, 1966), p. 122. Derived from Ali D. Johany, op.
cit.

 

86

economic law can be stated briefly:

Consider a general production function, for the entire
economy, which specifies that the country's output is a
function of the combination of inputs X1 through Xn. As a
result of scarcity, all inputs could not be augmented at the
same rate forever. The marginal product of the factor that
cannot be augmented will eventually rise. This fixed factor
is called “cooperant" factor in the absorptive capacity
literature.7

The reason for the above discussion of the law of
diminishing returns is not to cloud a well-defined
principle, but to emphasize what it is that limits Saudi
Arabian domestic capital investment opportunities. The
discussion also emphasizes what development economists refer
to as absorptive capacity, which is in fact the law of di-
minishing returns. This is to say that Saudi Arabian capi-
tal expenditures on domestic investment cannot be utilized
at the rate at which the country's financial resources are
accelerating. This is due to the limited supply of other
cooperant factors and their inability to accelerate as fast.

What makes the economic development experience of Saudi
Arabia unique is the relative abundance of financial
resources. With the exception of a few other OPEC members,

one of the major characteristics of developing countries is

 

7The above section is derived from Ali D. Johany, op.
cit.

87

the low rate of capital formation. Consequently, many eco-
nomists assumed that if capital formation could be greatly
increased through domestic savings and foreign aid, economic
backwardness would be defeated.8 The Saudi economy,
however, not only empirically confirms the law of dimin-
ishing returns, but also demonstrates that the availability
of financial capital resources cannot transform a developing
country into a developed country within a few years.

Having analyzed the theoretical principles responsible
for the limited capital investment opportunities in Saudi
Arabia, we turn to the published data. Table IV.l gives the
data on gross fixed capital formation for the years 1969
through 1976 in millions of Saudi Riyals (one U.S. $ = 3.50
SR). The data may not be entirely reliable, but it is all
that is available.

Two general conclusions emerge from the table:

(1) On the average, about 75 percent of the expenditure on
gross fixed capital formation is undertaken by the
government.

(2) Construction accounts for approximately 80 percent of
total expenditures on gross fixed capital formation.

It must be kept in mind that there are several other
forms of investment that are not classified under the cate-

gory of ”gross fixed capital formation", such as investment

 

8H. B. Chenery and A. Strout. ”Foreign Assistance
and Economic Development", American Economic Review 56
(September 1966): 676-733. Derived from Ali D. Johany,
op. cit.

88

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89

in human capital through expenditures on education and
health services.

It is still a fact that the bulk of the capital
investment expenditure, however it is defined, is undertaken
by the government. Private domestic capital investment is a
small fraction of total domestic capital investment expen-
diture and is being subsidized by the government on such a
large scale that it cannot be used as a guide to investment
opportunities. The average rate of return on private
domestic capital investment is not known, and if it were,
its economic significance has been diminished by the govern-
mental subsidies.

In addition, no one knows what the rate of return is
on government capital investment and there is no information
about the prevailing interest rate. The term ”interest
rate” is taboo in Saudi Arabia. Paying or receiving
interest for the use of money is considered "usury" and
contrary to Islamic teaching.9 The government does not
literally enforce any particular law that relates to
”interest", and private commercial banks pay an estimated 3
percent on time deposits. The government, however, does not
mention the term in its official reports or explicitly use

it as a criterion for its investment projects.

 

9The above section is derived from Ali D. Johany,
op. cit.

90

In reality, however, what guides private capital
investment is the expected rate of return, just as anywhere
else. This rate of return is generally called ”the rate of
profit," since making profits is not against Islamic laws.
The important issue is what determines government capital
investment expenditures.

The majority of domestic capital investment by the
government is classified as "development” expenditure. The
purpose of the development spending is to increase the
supply of "cooperant" factors which are more scarce than
capital liquid assets. This does not mean that government
development investment projects should be initiated at any
cost. While the absence of a formal concept of "interest
rates" is certainly confusing, it does not change the econo-
mic reality that liquid capital is a scarce resource,
however abundant, compared to other factors of production,
and that its use has an implicit real price.

The economic policy-makers in Saudi Arabia are well
aware of the inadequacy of cooperant factors, like roads,
airports and harbor facilities, which not only hinder
domestic capital investment opportunities but are also the
main cause of the high rate of inflation. Consequently,
investments in the construction and improvement of such
facilities are accomplished as quickly as physically
possible. Human investments in education and health ser-

vices are also given top priority.

91

Because of the high rates of inflation that the country
has been experiencing, development projects are not only
planned on the basis of their rates of return but also
according to their relative contribution to the country's
general inflation rate. This is true because in Saudi
Arabia "... government domestic spending is the main factor
leading to monetary expansion while the sale of foreign
exchange by the Saudi Arabian Monetary Agency (SAMA - the
Saudi equivalent of a central bank) to the private sector is
the main contractionary factor."10 In essence, since
government capital expenditures, including development
expenditures, determine the growth of the money supply and
given that the changes in the money supply directly affect
the inflation rate, the contribution of any capital invest-
ment project to the inflation rate reduces the real rate of
return on that project.

It became clear to the government that it could not
increase its capital expenditures at the rate it did between
1974 and 1976 without causing the inflation rate--that was
estimated to be around 6 percent in l973--to reach an annual
average (over the 1974-76 period) of 50 percent. In order
to prevent this, total government expenditure between 1976
and 1977 in real terms virtually did not change. However,

the growth rate in crude oil revenues over the same period

 

10Saudi Arabian Monetary Agency, Annual Report 1977,
p. 23. Derived from Ali D. Johany, op. Eit.

92

was approximately 18 percent and the excess of financial
assets over and above payments for imported goods and ser-
vices and capital investment projects was invested mainly in
foreign bonds and time deposits in foreign banks.

The previous discussion was necessary in order to
demonstrate that investment expenditure in Saudi Arabia,
which is primarily a government activity, is determined by
the inflation rate as well as by some notion of rate of
return. Furthermore, the contribution of a $1 million
investment project to the general rate of inflation is
greater than the contribution of an equal amount of expen-
diture on any other component of expenditure on Gross
Domestic Product. The reason for this is that the bulk of
the investment projects are implemented by foreign contrac-
tors who must bring with them all necessary labor. As a
result, foreign company personnel compete with Saudi citizens
for the inadequate supply of housing, health facilities,
drinking water and other essential needs whose supply price
elasticity is very limited in the short run.

Although the general inflation rate has been high, the
price of goods and services that foreign residents could not
bring with them increased by as much as four times the
general inflation rate. For example, the monthly rent for a
two-bedroom unfurnished apartment in 1974 was, on the
average, between $150 and $200. The same apartment in 1977

could have been rented for somewhere between $500 and $800

93

per month.11 The cost of other items such as health
services, hotel rooms and restaurant meals have increased by
an even greater rate. In 1977, the price of bottled
drinking water was about thirteen times the price of an

equal amount of gasoline!12

An Overview of Cooperant Factors 1975-1979

 

The government expenditure budget, which was held
constant at around Rls 111 billion for three consecutive
years (1975/76, 1976/77, 1977/78), was raised to Rls 130
billion in 1978/79 when the fight against inflation had been
largely won and the major bottlenecks had been cleared.
Nevertheless, the moderate increase in 1978/79 indicates the
government's continued concern over inflation and its desire
to contain the expansion in aggregate demand within the
limits of non-inflationary growth. This policy was necessi-
tated by the fact that some bottlenecks still continue, par-
ticularly the manpower shortage which cannot be eliminated
over a short period by influx from abroad without the risk
of hurting the country's social harmony and upsetting its
system of values.

1. The gap between actual and budgeted expenditures,
which was appreciable a few years ago, has declined steadily

with the increase in absorptive capacity of the government

 

11Derived from Ali D. Johany, op. cit.

12The above section derived from Ali D. Johany,
op. cit.

94

machinery and was estimated to have been nearly eliminated
in the fiscal year 1977/78. Actual expenditure in 1977/78
was estimated to have matched the budgetary appropriations
of Rls 111.4 billion; in the previous two years, actual
expenditures amounted to Rls 106.9 billion (1976/77) and Rls
81.8 billion (1975/76) as compared with appropriations of
Rls 110.9 billion in both years. The expansion in govern-
ment expenditures of more than seventeen times the Rls 6.4

billion spent in 1970/71,13 at the inception of the First

 

Development Plan, implies a compounded growth rate of 50
percent per annum--a remarkable expansion in the capacity of
the government machinery to implement its planned projects.
Accordingly, the gap between budgeted and actual expen-
ditures declined from 21 percent during the whole First Plan
period to 10 percent during the first three completed years
of the Second Plan. Total actual expenditure during the
First Plan period amounted to Rls 78.2 billion against
budgeted expenditures of Rls 99.1 billion, while the
corresponding figures were Rls 300.1 billion and Rls 333.2
billion for the first three years of the Second Plan.

It may be worth noting also that the gap between
appropriations and actual expenditures declined, even though
the budgeted expenditures in each of the three years of the

Second Plan exceeded the total budgeted outlay during the

 

13Saudi Arabian Monetary Agency, Annual Report 1978
(Research and Statistics Department, Riyadh, Saudi
Arabia, p. 11.

95

entire five-year period of the First Plan.14

2. The counter—inflationary approach of government
budgetary policy in recent years has exerted a healthy
impact on private sector liquidity of the money supply, the
rate of growth of which has substantially decelerated. The
rate of growth in money supply declined from a high of 73.9
percent in fiscal year 1975/76 to 52.7 percent in 1976/77
and an estimated 38 percent in 1977/78. The primary reason

for the fall in the growth rate was slower growth in all

 

sources of increase in gross liquidity: government domestic
spending, credit extended by specialized credit institu-
tions, commercial bank credit to the private sector,

and oil company outlays in Saudi Arabia through direct
purchase of riyals from the Saudi Arabian Monetary Agency
(SAMA). Even this slower growth in gross liquidity was
increasingly offset by a rising private sector balance of
payments deficit and commercial bank cash and deposits with
SAMA. The residual represented increases in the money
supply of Rls 5.0 billion, Rls 2.5 billion and Rls 3.7
billion, respectively, in the three years (1975/76, 1976/77,
1977/78). The decline in the rate of growth was primarily
attributed to the government's realistic fiscal policy of
tailoring its demand in accordance with the economy's
absorptive capacity. In 1978/79 the rate of growth in

gross liquidity was smaller because of the continued

 

14Ibid. p. 12.

96

non-inflationary stance of fiscal policy and an expected
higher private sector net balance of payments deficit.

3. Total new credit extended by all financial institu-
tions amounted to Rls 20.6 billion in 1977/78 as against Rls
13.5 billion in the previous year. Of this total growth in
new credit in 1977/78, that extended by commercial banks was
Rls 2.8 billion and that disbursed by specialized credit
institutions was Rls 17.8 billion. Thus commercial bank
credit outstanding, which had declined temporarily by a
relatively insignificant amount of Rls 94 million in 1976/77
picked up again, as was anticipated, and increased by 33
percent which was approximately commensurate with the growth
in private sector supplies. It is expected that commercial
bank credit will continue to rise as a result of the con—
tinued rapid expansion in private sector economic activity
and a prospective decline in excess liquidity in the econo-
my. Credit disbursed by the specialized institutions like
the Real Estate Credit Bank, the Agricultural Financial
Bank, and the General Industrial Development Bank, may also
continue to be substantial in view of the considerable com-
mitments already made by these institutions. These conform
with the government's firm policy of providing incentives to
the private sector for development in all sectors, par-
ticularly in the areas of industry, electricity, agriculture

and housing.

97

4. Private sector real supplies, which consist of real
non-oil GDP plus real private sector imports, are estimated
to have risen by 31 percent in 1977/78, following growth of
31 percent in 1976/77 and 39 percent in 1975/76. However,
although real supplies registered the same rate of growth in
1977/78 as in 1976/77 and a somewhat slower rate than in
1975/76, the rate of growth in private sector liquidity was
substantially smaller, 44.5 percent in 1977/78 compared with
74 percent in 1975/1976 and 53 percent in 1976/1977. The
result was a substantial decline in the inflationary gap
(the imbalance between the rise in private sector aggregate
demand and aggregate supplies) which was at its highest in
1974/75. This decline in the inflationary gap has had a
salutary effect on prices, and the cost of living index has
continued to register a lower rate of growth-~4 percent in
1977/78 compared with the high of 35 percent in 1974/75
(Table IV.2.). It is worth noting also that the extent of
the inflationary gap has never been fully reflected in the
cost of living index, since the government's concern for
public welfare has taken the form of subsidies on essential
consumers' goods, rent controls and other regulatory
measures. It is expected that the government's realistic
non-inflationary fiscal program, combined with the expected
further improvement in supplies and decline in the rate of
growth of private sector liquidity, will reduce the infla-
tionary gap still further. This, together with the

government's efforts to promote competition and curb

98

monopolistic and oligopolistic practices, should have a salu-
tary effect on prices and result in further decreasing the

rise in the cost of living index.15

TABLE IV.2
SOME IMPORTANT ECONOMIC INDICATORS

1974/75 1975/76 1976/77 1977/78

 

 

1. Private sector liqui-

dity of money supply 61 74 53 45
2. Private sector real

supplies 20 39 31 31
3. Non-oil real GDP l7 19 22 17
4. Private sector real

imports 26 83 45 47
5. Non-oil GDP deflator 25 52 30 18
6. Cost of living index 35 32 11 4

 

SOURCE: Saudi Arabian Monetary Agency. Annual Report
(1978). Ministry of National Economy and Finance,
Kingdom of Saudi Arabia, p. 13.

 

5. In addition to the regulation of aggregate demand
through counter-inflationary fiscal and monetary policies,
the government has also taken a number of other relevant
measures to reduce prices and to increase supplies. The
subsidies introduced in 1973 on a number of essential food

items have been continued. The subsidy program is, however,

 

151bid., p. 14.

99

reviewed periodically by a Ministerial Committee in the
light of international prices and the supply position in the
country. Moreover, to ensure the availability of adequate
foodstuffs at all times, the government has awarded
contracts for building warehouses in the main population
centers of Riyad, Jeddah and Dammam and the rapidly develo
ping industrial town of Yanbu'. These are expected to be
completed in the near future. To meet the heavy construc-
tion demand for cement in the country, the government
arranged the bulk import of 2.7 million tons of cement over
the two years 1976/77 and 1977/78, part of which was
transported by means of heliCOpters. This bulk import
operation not only made cement available at a uniform fixed
price but also helped to sustain the momentum of the
construction industry, thereby substantially easing the
housing shortage.

6. The Kingdom's cement industry has made considerable
headway. Total annual production of the three Operating
plants at Jeddah, Riyad and Dammam has already reached 1.3
million tons. Production is expected to rise substantially
in the near future, after the ongoing expansion of existing
plants and the projected establishment of new ones have been
completed.

7. Substantial expansion in the Kingdom's transpor-
tation and communications network has contributed to the

removal or reduction of major bottlenecks and a smoother

flcnv Of goods and services. Total length of main and feeder

100

roads was estimated to have increased in 1977/78 by about
2,000 and 3,500 kilometers, respectively, to 18,000 and
16,500 kilometers. In addition to linking up the various
regions to attain faster internal mobility, greater social
cohesion and lower costs of distribution, the Kingdom has
also developed a network of highways to link it with neigh-
boring countries. Road links have already been established
with Jordan, Kuwait, Qatar and the United Arab Emirates;
those with Yemen and Iraq are under construction and a
connector to Bahrain is being designed.16

8. The elimination of congestion at the main seaports
of the Kingdom has led to an increased and smoother flow of
imports, decline in the time lag between arrival and clear-
ance of goods, and a relatively lower need for inventories.
Total cargo unloaded at the ports of Jeddah, Damman, Yanbu'
and Jizan rose by 67 percent in 1977 to 27.6 million tons.
The average daily unloading capacity at the main ports of
Jeddah and Dammam rose by 77 percent and 59 percent, respec-
tively; their capacity will increase further still as on-
going expansion projects are completed. Work is also in
progress on the expansion and improvement of al-Jubayl,
Yanbu', Jizan and al-Khubar ports, and designs are being
prepared for the development Of ports at al-Wajh and

al-Qunfudhah.

 

16Ibid., p. 14.

101

9. Development and improvement of the Kingdom's air-
ports is progressing smoothly. New terminal buildings were
constructed for passengers at Jeddah and Dammam airports. A
similar project at Riyad airport is scheduled for completion
within the next 18 months from 1979. Implementation of the
new Jeddah International Airport project was expected to be
ready for inauguration in 1980. Contracts for studies and
designs for new international airports at Riyad and Dhahran
have already been awarded. Smaller airports have been built
at Hayil, Badanah and Abba and the one at al-Qasim is expec-
ted to be completed in 1981. Improvements have been made at
Tabuk, Tayif, Najran and al-Wajh airports, and new airports
are being designed for Tayif, Turayf, al-Khafji and
al-Qurayat.

10. A total of 171,000 automatic telephone lines are
presently in operation in ten Saudi cities and a further
27,800 lines are being installed. In addition, a contract
has been awarded for the installation, within the next three
years, of 470,000 automatic telephone lines operating on
electronic exchanges in 72 cities and towns in the Kingdom.
With the completion of this project, the number of automatic
telephone lines Operating in the Kingdom will rise to
668,800.17

11. The telex system in the Kingdom has expanded to

5,916 lines and will expand further by 30 percent in 1981.

 

17Ibid., p. 15.

102

The three main switching centers are located in Riyad,
Jeddah and Dammam with access to 15 other towns and cities
(Mecca, Madinah, Tayif, al-Khubar, Abha, Najran, Jizan,
Buraydah, Unaizah, Hayil, Tabuk, al-Kharj, Jubayl, Rahimah
and al-Khafji) via satellite exchanges.

12. The postal system in the Kingdom has improved
substantially and plans are in progress to streamline and
improve it still further to cope with an extremely rapid
growth in the volume of mail. New machines for mail distri-
bution are expected to arrive in 1981 to foster mail distri-
bution in the country.

13. Of the three integrated grain silo projects
involving grain silos, flour mills and millfeed plants, the
Riyad project was inaugurated in November 1977. The total
storage capacity of the steel silos is 20,000 tons, which
will increase by 60,000 tons when two sets of concrete
silos, now in an advanced stage of construction, are put
into service. The capacity of the flour mills is 540 tons
daily and that of the millfeed plant 300 tons daily. Support
facilities have already been commissioned at Dammam port (to
serve also the Dammam project) for discharging grain from
ships and transporting it by rail to the project site. Work
is now progressing on the Dammam and Jeddah projects; the
Dammam project is identical to that of Riyad, while the
Jeddah project is one-third larger. The completion of all
three projects will ensure an adequate stockpile of grain

sufficient to meet the national demand for six months,

103

thereby helping to stabilize retail grain prices in domestic
markets.

14. To promote the establishment of industries, the
government is providing a number of incentives and facili-
ties to the private sector. These include: exemption from
import duties on raw materials, equipment and spare parts;
land for factory sites and for industrial housing at nominal
rent; quota or tariff protection against competing imports;
interest-free loans; preferential treatment of local pro-
ductsin government purchases; and assistance in manpower
training. In addition, a number of government-sponsored
institutions provide direct assistance in the establishment
of industries. These include the Saudi Industrial Develop—
ment Fund and the Public Investment Fund for provision of a
part of the financial needs, the Industrial Studies and
Development Centre for provision of guidance and for help
in preparing feasibility studies, and the Industrial Estate
Department of the Ministry of Industry and Electricity for
provision of sites with auxiliary facilities. The private
sector is responding favorably and industrial inertia is
steadily declining. By the end of 1977, 1170 licenses had
been issued by the government for the establishment of in-
dustries involving a total investment of Rls 17.1 billion.18

15. Master plans for the development of the

infrastructures for hydrocarbon and mineral-based industrial

 

181bid., p. 16.

104

complexes at Jubayl and Yanbu' have now been completed.
SABIC, which was created in 1976 for the purpose of
establishing petro-chemical and mineral-based industries,
has been concluding arrangements with a number of inter-
national companies to set up large-scale petro-chemical,
fertilizer, aluminum, steel and other industries.

16. Agriculture, which has been receiving significant
attention in the country's development programs, has wit—
nessed steady progress. The government intends to exploit
the country's agricultural potential by developing virtually
the entire quantity of arable land under cultivation. This
requires the removal of major economic Obstacles to agri-
cultural development by building the necessary physical and
social infrastructures and by providing adequate incentives
and facilities. One of the major Obstacles has been the
scarcity of water; the government is approaching this basic
problem by means of surveys to locate underground water
resources and by building dams and reservoirs to conserve
rain water. A contract was awarded in July 1977 for the
construction of a dam in Wadi Najran, which when completed
in about three years will have a storage capacity of 68
million cubic meters. This is in addition to the dam which
was constructed in the Southern Region in 1971 and has
already attained its full capacity Of 71 million cubic
meters. Work was completed in 1979 on the construction of
an irrigation network, covering an area Of 6,000 hectares in

Jizan. The two dams, together with the irrigation network

105

and the agricultural extension services provided by the
government, will enable the area to develop its full agri-
cultural potential.19

17. The number of poultry farms in the Kingdom nearly
doubled through government subsidies from 104 in 1971 to 206
in 1977, and annual production reached 23 million chickens
and 379 million eggs. This growth in production brought
about stability in retail prices of both chickens and eggs.

18. A total of more than 1.2 million male and female
students were enrolled at all levels of education during the
academic year 1977/78. It is worth noting that enrollment
in post-primary, technical and higher education has been
rising at a much faster rate than total enrollment.
Moreover, all educational institutions in the Kingdom have
witnessed major improvements and expansion in keeping with
the government's stress on development of human resources.

19. Health services also constitute a major concern of
the government as indicated by persistent efforts to improve
and expand existing facilities. Five new hospitals were
completed by the middle of 1979 in Jeddah, Madinah, Jizan,
al-Hafuf and al-Khubar, and three more are under construc-
tion in Hayil, Najran and Tabuk.

20. The pressure on housing experienced during the last
few years, has now eased because of rapid increase in

suppplies, as a result of the encouragement and generous

 

19Ibid., p. 17.

l'fl-‘Flfl'fif' 9"

106

financial support provided by the government. Considerable
progress has been made in housing projects undertaken by
both the government and the private sector. More than
100,000 housing units had been constructed by the private
sector by the end of 1976/77 compared with the Plan target
of 42,000 units. Two government housing complexes involving
32 eighteen-story buildings in Jeddah and Dammam are under
execution, while a similar project for Riyad is expected to
be put out for tender in the near future. Contracts have
also been awarded for the construction of 4,636 housing
units in Riyad and Jeddah. Studies and designs have been
completed for housing projects in Buraydah, Madinah, Mecca
and the Southern Province; these are expected to be comple-
ted within three years.

Municipal services and public utilities such as water
supply, sewage disposal, electricity and telephone
services, street lighting, construction of roads, pavements
and building of markets and slaughter houses have also wit-
nessed considerable expansion and improvement.
Nevertheless, in spite of the unusually rapid expansion in
such services and utilities, shortages continue to be
experienced because of the continued steep rise in demand.
However, since urban and rural develOpment enjoy high
priority in government resource allocations, it is hoped
that in the very near future these shortages will have been

substantially eliminated.

107

21. Electricity generated in major cities of the
Kingdom rose by 37.5 percent in 1977 to 3,819 million kwh.
In 1970, total electricity generated was 700 million kwh;
this indicates that total electricity generated doubled
every three years and rose more than five-fold over the seven
years 1970-1977. This high growth rate was made possible by
the incentives and facilities, including interest-free
loans, provided by the government. The rapid growth in
electricity generation, notwithstanding, demand has
outstripped supply and the electricity companies have been
encouraged by the government to take all possible measures
to expand generating capacity and transmission networks to
cope with rapidly rising consumption.

22. Urban water supply, which remains a focus of
government concern, has been increasing rapidly, following
the drilling of wells and implementation of desalination
projects. Although there has been a considerable increase
in urban water supply, there are still shortages in some
urban areas as a result of steep increase in demand. The
question has, however, received, and continues to receive,
maximum government attention combined with substantial
budgetary appropriations, and it is hoped that in the near
future shortages will be virtually eliminated.20

Given Saudi Arabia's limited domestic capital invest-

ment Opportunities due to limited supply of cooperant

 

20Ibid., p. 9.

108

factors in the economy, we can therefore postulate that what
determines the Saudi ”discount rate” or its market ”rate of
interest,“ and, in turn, determines the number of barrels of
oil it will produce, is primarily the rate of return that
the Saudis' can get on their foreign capital investment.21

A Saudi Arabian Official stated: "We can live on five or
less million barrels in daily oil production to carry on our
development programs in the entire Kingdom without any loss
of continuity in development effort at the current price

level Of oil in the open market."22

Structure and Trends of Budget Revenues

 

The government of Saudi Arabia institutes the greater
part of the Kingdom's economic activity. Oil revenues con-
tinuously finance most of this economic activity but con-
tinue to accrue at a faster rate than expenditures. Thus
the trend, "has been toward budget surpluses and the
building of reserve funds caused by the unusually rapid
increase in Oil reserves and shortfall in development
expenditures.” 23 Table IV.3 demonstrates that Oil revenues

are responsible for more than 90 percent of the total

 

21Derived from Ali D. Johany, op.cit.
221bid.

23Richard F. Nyrop, Area Handbook for Saudi Arabia
(Washington, D.C.: Foreign Area Studies of American
University, 1977), p. 232. Derived from Donald M. Moliver,
'Oil and Money in Saudi Arabia” (Ph.D. dissertation,
Virginia: Virginia Polytechnic Institute and State
University, December 1978).

 

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110

revenue for the 1969-76 period.

Revenue from other sources includes customs duties and
a direct property tax-~known as Zakat--of 2.5 percent of the
assessed value of all properties owned by Saudi nationals
and Saudi companies. Income tax was another source of reve-
nue until it was revoked in 1975.

Total estimated revenue increased nearly fifteen times
over the 1969-76 period, increasing in Saudi riyals (SR)
from 5.53 billion to 110.93 billion. The largest increases
took place between 1974 and 1975, as revenues rose from SR
22.81 billion to SR 98.25 billion. This growth was attri-
buted to the relatively steep growth in oil income,

amounting to 331 percent during the same period.24

The First Five-Year Development Plan (1970-75L

The Central Planning Organization was established in
order to utilize crude oil revenues and stimulate the econo-
mic development and growth of Saudi Arabia. By August of
1970, the organization had implemented the First Five-Year
Development Plan. In order to reduce Saudi Arabia's future
dependence on crude oil production and exportation as its
primary income source, the first plan set out to achieve the
accelerated development of human resources through planned

manpower and capital investments within the designated

 

24Derived from D. M. Moliver, op. cit.

 

lll

infrastructure. Subsequent to this, a diversified economic
structure would evolve. Established as a budget was SR
32.30 billion, with 45 percent allocated to capital invest-
ment projects.25

Data in Table IV.4 reveal that the allocations for the
government or public sector were, "the largest, reflecting
the fact that this was in essence the budget for the five
years in an economy that relied primarily on private invest—
ors for development; defense had 23 percent of total alloca—
tions and public administration, 19 percent."26

The plan called for comprehensive economic growth,
(in real gross domestic product) to occur at 9.8 percent
annually, slightly higher than the 9.1 percent expected for
the oil sector.27'28 It was the government's desire that
the non-oil sector grow at a higher rate than the oil
sector. "Projections for the agricultural sector indicate a
3.6 percent growth rate, much lower than manufacturing's

anticipated 14.6 percent growth rate."29

 

25Nyrop, Area Handbook for Saudi Arabia, op. cit.,
p. 240. Derived from D. M. Moliver, op. cit.

 

26Ibid. Derived from D. M. Moliver, op. cit.
27Ibid. Derived from D.M. Moliver, op. cit.

28Said H. Hitti and George T. Abed ”The Economy and
Finances of Saudi Arabia." International Monetary Fund Staff
Paper XXI (July 1974). P. 283

29Nyrop, Area Handbook for Saudi Arabia, p. 240 and
Hitti. "The Economy and Finances of Saudi Arabia.” op. cit.
Derived from D. M. Moliver, op. cit.

112

TABLE IV.4

SUMMARY OF PLANNED ALLOCATIONS
BY SECTOR FOR SAUDI ARABIA'S

 

FIRST FIVE-YEAR PLAN 41970-1975)

(IN SR MILLIONS)

 

 

 

 

SECTOR RECURRENT PROJECTS TOTAL PERCENT (%)
Administration 6794.6 922.8 7717.4 18.6
Defense 3980.0 5575.0 9555.0 23.1
Education & cul-

tural affairs 6150.2 1227.5 7377.7 17.8
Health & social

affairs 1612.9 308.2 1921.1 4.7
Utilities & urban

development 1246.9 3325.4 4572.3 11.1
Transportation &

communications 1767.3 5709.2 7476.5 18.1
Industry 321.8 776.7 1098.5 2.7
Agriculture 973.8 493.9 1467.7 3.6
Trade and Services 83.8 43.8 127.3 0.3
TOTAL 17523 14658 32135 100.0
SOURCE: Said J. Hitti, and George T. Abed. "The Economy

and Finances of Saudi Arabia."

Monetary Fund Staff Paper XXI (July 1974),

 

Derived from D. M. Moliver,

Arabia," op. cit.

International

 

286.

"Oil and Money in Saudi

113

TABLE IV.5

SAUDI ARABIAN PLANNED AND BUDGETED ALLOCATIONS
FIRST FIVE-YEAR PLAN (1970-1975) (SR BILLIONS)

 

 

 

CURRENT CAPITAL TOTAL
Planned (5 years) 29.931 18.382 41.313
Budgeted (3 years) 15.492 14.350 29.842
Actual (3 years) 14.057 10.689 24.746

 

SOURCE: Saudi Arabian Monetary Agency, Annual Report,
1973-74 (Riyadh: Research and Statistics
Department). Derived from D. M. Moliver, ”Oil and
Money in Saudi Arabia," op. cit.

 

Mining, transportation, and education were expected to
achieve relatively high growth rates.

The data in Table IV.5 compare final allocations of
the First Five-Year Plan with (l) subsequent budgetary allo-
cations which were revised in response to increasing crude
oil revenues; and (2) actual budget expenditures for the
years in which specific data are available. By 1973, 72
percent of the financial requirements were budgeted, with
current and capital development expenditures accounting for
68 percent and 78 percent of their reSpective shares.30 The
actual expenditures, however, at the end of the third year

of the plan were 60 percent.31

3oHitti, "The Economy and Finances of Saudi Arabia,“
Op. cit. pp. 286-287. Derived from D. M. Moliver, op. cit.

31Data regarding allocations for expenditures beyond
1973 are no longer published.

114

In terms of overall achievement, the plan was considered
relatively successful since most of its objectives (with the
exception of road building) were fulfilled. More
importantly, Saudi Arabia gained invaluable experience con-
cerning the planning, estimating, budgeting, financing, and
implementation of development projects which proved useful

in the Kingdom's Second Five-Year Plan (1975-1980).32

The Second Five-Year Development Plan (1975-1980)

In 1975 the Council of Ministers approved Saudi
Arabia's Second Five-Year Development Plan, to be imple-
mented during the period 1975-1980. This Plan's estimated
total cost was SR 498 billion (U.S. $143 billion), or about
nine times that of the First Deve10pment Plan, and consisted
of three key elements.33r 34

1. Rapid development of human resources. Through pre-
paratory training programs, the Kingdom hopes to increase its
labor force from 1.6 million in 1975 to 2.38 million by
1980, partly by importing labor force from friendly

countries.

 

32The above section is derived from D. M. Moliver, op.
cit.

33Development Plan (1395-1400),4(l975-1980), reproduced
by National Information Service, U. S. Department of
Commerce PB 246, 572, Springfield, Virginia: NTIS 1976; and
”Saudi Arabia: A MEED Special Report," Middle East Economic
Digest, (December 1976), p. 2. Derived from D. M. Moliver,
op. c1t.

34Citibank, Investment Guide to Saudi Arabia (Riyadh,
1976), p. 17. Derived from D. M. Moliver, op. cit.

 

115

2. Diversification of the economic base through empha-
sis on increasing agricultural and industrial production. A
broadening of this economic base will lay the foundations
for future economic self—sufficiency. Substantial capital
investments are to be made in industrial ventures based on
natural gas and mineral resources. Individual and joint
investments in other industries will be encouraged with spe-
cial incentives, credit, and the provision of infrastructure
and support services. Agricultural production will be stim-
ulated through government research and extension services,
credit and input subsidies and expansion of productive land.

3. Regional economic growth and development by the
wide distribution of productive investments based on the
distinctive physical and human resources of each region.
These regional strategies are aimed at distributing the

Kingdom's newly acquired wealth.35

 

35Citibank, Investment Guide to Saudi Arabia, op. cit.,
p. 13. Derived from D. M. Moliver, op. cit.

 

116

Table IV.6 provides a breakdown of the Second Five-Year
Plan, which envisions Saudi Arabia's gross domestic product
in constant prices more than doubling, from nearly SR 148
billion in 1975 to SR 240 billion in 1980. This represents
an annual real growth rate of 10.2 percent. The revenues
from production and exportation of crude oil were estimated
to grow at 9.7 percent annually, which implicitly reflects
Saudi Arabia's projection of the world demand for Saudi
Arabian oil in forthcoming years. The non-oil sector was
estimated to increase at an annual rate of 13.3 percent (see
Table IV.7), thereby increasing its relative share of gross
domestic product from 11 percent in 1975 to nearly 15 per-
cent by 1980. In contrast, the oil sector's contribution
toward gross domestic product was expected to decline
from 86.6 percent to 82.1 percent during the same period,
reflecting a relatively small structural shift away from oil
and into other productive sectors.

In terms of financial allocations for the Second Plan,
infrastructure and productive investment are the largest,
accounting for nearly SR 113 million and SR 92 million,
respectively. (See Table IV.8 for financial allocations
for the Second Five-Year Plan). These figures are followed
by education (SR 80,123.9), defense (SR 78,156.5), aid, food

subsidies and general reserve.36

 

36Derived from D. M. Moliver, op. cit.

117

TABLE IV.6
GROSS IIMESTIC PRODUCT: 1974-1975 and 1979-1980 IN
CONSTANT 1974-1975 PRICES (S MILLION)

 

 

AVERAGE
ESTIMATED ANNUAL m
1974—1975 GRCNIH RATE (%) 1979-1980
PRIVATE
Agriculture 1,400.7 4.0 1,704.5
Crude petroleum and
natural gas 120,543.2 10.03 194,090.4
Other mining & quarrying 174.3 15.0 350.4
Petroleum refining 7,451.9 5.0a 9,510.9
Other manufacturing 896.4 14.0 1,762.2
Electicity, gas, water &
sanitary services 331.1 15.0 666.4
Construction 4,337.2 15.0 8,723.8
Wholesale and retail trade,
restaurants, & hotels 2,565.2 15.0 5,159.7
Transportation, ccmnunica-
tions, storage 3,616.9 15.0 7,307.0
Ownership of dwelling 1,627.2 60.0 2,177.7
Finance, insurance real
estate, & other busi-
ness services 890.1 15.0 1,790.3
Cannunity, social & per-
sonal services 519.4 14.0 1,000.0
Less imputed bank
svc. charge (62.3) - (62.3)
Total Private Services 144,292.4 10.2 234,113.3
Public Administration 1,283.8 10.0 2,067.8
Education 1,021.0 13.8 1,948.8
Subtotal 2,599.6 12.1 4,529.4
Defense 1,019.6 15.0 2,050.7
Total Government 3,579.2 12.9 6,580.0
GROSS DCMESI'IC PRODUCT
(Excluding import duties) 147,872.2 10.2 240,095.0
Import duties 81.9 15.2 165.2
GDP (at market
prices) 147,954.1 10.2 240,860.2
SUVMARY
Private sector
Oil 127,995.0 9.7 203,601.3
Non-Oil l6,297.l 13.4 30,513.0
Goverrment Sector 3,579.5 12.9 6,580.4
Total Non-oil 19,876.9 13.3 37,093.4

 

ese rates are notational mly (to fill in the GDP picture), since oil
production policies are not part of the Department Plan but are deter-
mined by the Supreme Advisory Council for Production & Minerals.

SOURCE: Developnent Plan 1395-1400 (1975-1980), pp. 11-12. m:
Column totals may not add due to rounding. Derived fran D. M.
Moliver, "Oil and Money in Saudi Arabia," op. cit.

.1.’

$.51 .‘

118

TABLE IV.7

GROSS DOMESTIC PRODUCT BY SELECTED SECTORS,
IN CONSTANT 1974 - 1975 PRICES

 

 

 

RELATIVE RELATIVE
GDP SHARE GDP SHARE
($mi11ion) (%) ($mi11ion) (%)
1975 1975 1980 1980
Oil 127,632.8 86.6 259,120.4 82.1
Private non-oil 16,251.2 11.0 47,049.8 14.9
Government 3,569.7 2.4 9,509.9 3.0
TOTAL $42,129.5 $90,194.3 100.0

 

SOURCE: Quarterly Economic Review of Saudi Arabia, Annual
Report for 1977 (London: The Economist
Intelligence Unit, 1977), p. 18. Derived from
D. M. Moliver, "Oil and Money in Saudi Arabia,”
op. cit.

TABLE IV.8

FINANCIAL ALLOCATIONS FOR THE SECOND FIVE-YEAR PLAN
(1975-1980) (SR THOUSANDS)

 

 

 

SECTOR ALLOCATIONS %
Produtive investment 92,135.0 18.49
Education 80,123.9 16.08
Welfare 33,212.8 6.67
Infrastructure 112,994.6 22.68
Administration 38,179.2 7.66
Defense 78,156.5 15.69
Aid, food and

general reserve 63,478.2 12.74
TOTAL 498,230.2 100.0

 

SOURCE: anrterly Economic Review of Saudi Arabia, Annual
Report for 1977 (London: The Economist
Intelligence Unit, 1977), p. 18. Derived from
D. M. Moliver, ”Oil and Money in Saudi Arabia," op.
cit.

giflfiflflfl

119

The private sector, which is predicted to become
increasingly more productive in the economic development of
Saudi Arabia, is expected to make significant contributions
in the areas of construction, mining, cement production,
agriculture, and electric power generation. Data in Table
IV.9 show the private sector breakdown of the Second Five-
Year Plan which indicates how the composition and relative
contributions of different areas within the private sector
are expected to change between 1975 and 1980. The largest
structural changes are expected to occur in agriculture (8.6
percent to 4.6 percent) and construction (26.6 percent to
33.3 percent).

Table IV.10 provides a summary of planned financial
allocations by functions, revealing that the largest share
of planned financial allocations were from the government
and amounted to 23 percent of the total. These allocations
were for the development of the economy's infrastructure.
Resource development accounted for 19 percent. The total of
these two categories represents the planned investment for

economic development.37

 

37The above section is derived from D. M. Moliver, op.
cit.

Jr‘fi-Ir

120

TABLE IV. 9

PRIVATE SECTOR BREAKDOWN
OF SECOND FIVE-XEAR PLAN
GROWTH RATE IN 1975 and 1976

 

 

 

 

 

Private Sector Breakdown 1975 1976

(%) (%)
Agriculture 8.6 4.6
Other mining and quarrying 1.1 1.2
Other manufacturing 5.5 5.3
Electricity, gas and water 2.0 1.4
Construction 26.6 33.3
Wholesale and retail trade 15.7 15.7
Transportation 8 communication 22.2 22.1
Ownership of dwellings 10.0 7.4
Banking, insurance & real estate 5.5 6.1
Other services (private) 2.8 2.9
TOTAL 100.0 100.0

 

SOURCE: Quarterly Economic of Saudi Arabia, Annual Report
for 1977 (London: The Economist Intelligence Unit,
1977), p. 18. Derived from D. M. Moliver, "Oil and
Money in Saudi Arabia," op. cit.

121

TABLE IV.10

SUMMARY OF PLANNED FINANCIAL ALLOCATIONS BY FUNCTIONS
SECOND FIVE-YEAR DEVELOPMENT PLAN (1975-1980)

(IN BILLIONS OF SAUDI ARABIA RIYALS AT
1974 - 1975 CONSTANT PRICES)

 

 

 

 

 

 

PERCENT

FUNCTION AMOUNT OF TOTAL
Economic Resource Development 91.7 19
Human Resource Development 79.8 16
Social Development 32.9 7
Development of Physical

Infrastructure 112.4 23
TOTAL Private Sector 316.8 64a
Administration 37.8 8
Defense 77.7 16
Miscellaneous 63.0 _13_
TOTAL ($142 billion) 495.3 100%3
SOURCE: Development Plan 1395-1400 (1975-1980), p. 81.

 

Derived from D. M. Moliver, ”Oil and Money in Saudi

Arabia,” op. cit.

aFigures do not total to true percentage because of

rounding.

122
Absorptive Capacity and Economic Progress Through the
Development Plans

Comparing the two Saudi Arabian Five-Year Development
Plans, the second was particularly ambitious as it reflected
the Kingdom's increasing economic influence and prestige.

At the time of its creation, fulfillment was considered vir-
tually an article of faith. The Second Plan tends to have
less financial constraints than the First Plan due to the
enormous oil revenues the Saudis had amassed. However,
Saudi Arabia has been faced with numerous constraints, many
of which were unanticipated in the Second Plan, since they
did not occur during the First Plan. Accordingly, the pace
of economic growth and development is being hampered and the
sinews of the economy strained.

At its core, the strain is manifested by the under-
developed Saudi infrastructure. Port bottlenecks and rela-
tively inelastic supplies of essential goods, particularly
agricultural products, render it difficult for the economy to
absorb goods and services at rates commensurate with deli-
veries and demand. Although this situation was mitigated
substantially, in 1974-1975 port bottlenecks in the city of
Jeddah averaged 90-100 days.38 As these constraints were
relaxed, the bottlenecks moved inward to the roads and

transportation system. In Jeddah, at that time, there was

 

38"The Relief at Jeddah," Middle East Economic Digest
(February 25, 1977), and "Saudi Arabia: A MEED Special
Report,” Middle East Economic Digest (December 1976), p. 8
Derived from D. M. Moliver, op. cit.

 

123

only one outlet from the port. Cargo trucks fought their
way into the mainstream of city traffic taking a back seat
to passenger traffic. The number of private cars, buses,
and trucks in use has more than quadrupled during the past
few years, outstripping the growth of roads and highways and
further complicating the inland bottlenecks.39

Inflation was also a constraint in the Saudi's constant
drive for economic industrialization and diversification.
The relatively large growth in the money supply at rates in
excess of Saudi Arabia's absorptive capacity, coupled with
the fact that "by early 1976 the clogged port, an acute
housing shortage, zooming construction costs, and a growing
manpower shortage were forcing prices up at an accelerating
rate that some observers estimated as high as 50 percent in
1975."40 As a consequence, more recent estimates project
that nearly $300 billion will be needed to complete the
Second Plan's objectives.41

The recruitment and relocation of the 500,000 man
foreign labor force--which was expected to reach 812,000 or

more by l980--requires a massive infrastructural investment

 

39Ibid. Derived from D. M. Moliver, op. cit.

40Nyrop, Area Handbook for Saudi Arabia, op. cit.,
p. 243. Derived from D. M. Moliver, op. cit.

41'The Saudi Arabian Riyal," Middle East Currency
Reports (May 1977), and Quarterly Economic Review of Saudi
Arabia, Annual Report for 1977 (London: The Economist
Intelligence Unit, 1977). Derived from D. M. Moliver, op.
cit.

 

 

124

designed to cater to the Western-style habits of such
personnel. These expatrates are well paid, and most will
return to their homelands after a year or two. However,
”the difference in lifestyle and morality between the
expatriates, even those from Moslem countries, and the
Saudis, is likely to lead to tension as such contrasts have
done throughout history”.42 Some highly esteemed Saudi
religious leaders are apprehensive about the rapid influx of
foreign workers who represent a potential danger to tradi-
tional Islamic values resulting in graft, fraud,
exploitation, pollution, speculation, excessive consumption,
and waste.43 An example of Saudi Arabia's economic trans-
formation has been the evolution of a middle class which has
participated, to a relatively large extent, in graft and
corruption.44 As a consequence, the religious and social
fabric of the Kingdom is under a potentially explosive
strain, illustrating that the Development Plan entails

substantial risk. In view of the narrow power base of the

 

42'Saudi Arabia: A MEED, Special Report," Middle East
Economic Digest (December 1976), p. 2. Derived from D. M.
Moliver, op. cit.

 

43Robert Johns, et. a1., ”Saudi Arabian," Financial
Times (Financial Times Survey), 12 January 1976, pp. I-IV.
Derived from D. M. Moliver, op. cit.

 

44William A. Rugh, "Emergence of a New Middle Class in
'Saudi Arabia," Middle East Journal 27 (Winter 1973): 9-20.
Derived from D. M. Moliver, op. cit.

 

 

 

12S

ruling class and its vulnerability to political intrigue and
assassination, the risks could prove too great.45

Revisions and Conclusions

 

The previously mentioned constraints and others have
had a significant impact upon the Saudi Second Five-Year

Development Plan. The Middle East Currency Reports had

 

stated since April 1976 that the Plan (was) in the process
of being surreptitiously abandoned.46 Such suspicions were
made more credible in 1977 by the Saudis' appointment of one
of Britain's leading economic consulting firms, exclusively
contracted to develop a comprehensive planning model for the
economy.47 The fact that no official report of the
"abandonment" of the Second Plan has been made can be attri-
buted to the power conflict between two opposing sides of
the Royal Family--one of which favors "the continued pur-
suit of a policy of maximum growth, while the other preaches
an early return to much lower levels of economic activity
and the stricter enforcement of Islamic values.”43 Another

view may be the embarrassment faced by the Saudis with

 

45The above section is derived from D. M. Moliver,
op. cit.

46'The Saudi Arabian Riyal," Middle East Currency
Reports, (April 1976). Derived from D. M. Moliver, op. cit.

47Urwich, Ltd., A London-based consulting firm has pur-
portedly been hired by the Saudis to rework the Second Five-
‘Year Development Plan. “The Saudi Arabian Riyal,” Middle
ggast Currency Reports (April 1976). Derived from D. M.
MoliVer , op. cit.

 

48Ibid., p. 2. Derived from D. M. Moliver, op. cit.

126

respect to their increased anticipations concerning
fulfillment of the Plan. It has been projected that ”Saudi
Arabia will have to reduce the Plan targets by more than
half, stretching the original vision of national transfor-
mation from 5 to 20 years or more.”49

Whatever the reason, a revealed preference approach
indicates that a change in the Kingdom's plans are
apparently underway. Recently, the rate of real economic
growth has slowed to less than 5 percent annually, and the
government has enacted a policy to restrict the inflow of
foreign laborers. Projects such as the SR 24 billion tele-
communications network have been cancelled, and other pro-
jects scaled down. All of these occurrences reflect a
conscious change in the Kingdom's comprehensive economic
development policy.50r51052

Economic Development Policies Reviewed as Means to Expand
Absogptive Capacity

 

 

The availability of oil revenues enabled Saudi Arabia

to accelerate the implementation of its development projects

 

49Ibid., pp. 2—3. Derived from D. M. Moliver, op. cit.

50International Monetary Fund, International Financial
Statistics (April 1978), pp. 304-305. Derived from D. M.
Moliver, op. cit.

 

51"The Saudi Arabian Riyal," Middle East Currency
Reports (May 1977). Derived from D. M. Moliver, op. cit.

 

52The above section is derived from D. M. Moliver,
op. cit.

 

and to in
policy of
It i
rapid de‘
dropping
tation r
1978. E
extra e‘

in the
sectors
qualit}
l

the Pi
Centre
Of cor
emPha:
Prefa

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ment

inc:
mlll
\

'U
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127

and to initiate new ones. This is in accord with the stated
policy of the government.

It is widely believed that Saudi Arabia will achieve
rapid development in the course of the coming years. After
dropping in 1974 due to initial bottlenecks, the implemen-
tation rate rose again, reaching a level of 85 percent in
1978. Further improvement is expected as a result of the
extra efforts aimed at eliminating bottlenecks, particularly
in the construction, transportation, and communication
sectors, and at increasing the supply and improving the
quality of semi—skilled and skilled labor.

1. Construction sector: The investment programs in
the First and Second Development Plans deliberately con-
centrated on projects requiring modest to moderate amounts
of construction materials. At the same time, particular
emphasis was placed on accelerating the completion of brick,
prefabricated construction material, concrete block and
cement factories.

Projects included in the Second Comprehensive Develop-
ment Plan, 1975-1980, were designed to completely eliminate
these bottlenecks and secure adequate supplies of construc-
tion materials. For example, the plans called for
increasing the amount of cement produced locally from 2.8

million tons in 1976 to 10 million tons in 1980.53

 

53Ministry of Information, Saudi Second Development
Plan (Saudi Arabian Government).

128

2. Transportation and communication sectors: Equally
emphasized were projects designed to expand port, transport
and storage facilities. Most of these projects have been
completed and the rest will be completed very shortly. A
tangible result of this effort is the resolution of the
problem of port congestion in Jeddah and Dammam.

The Plan aimed at removing the transportation bottle-
necks by expansion and improvement of the country's
network. Specifically, it was intended that the capacity of
the transportation sector be expanded by 10 percent
annually. Port capacity and storage capacity would also be
expanded to alleviate the bottleneck problems.

3. Manpower planning: Shortages of skilled labor and
middle managers are recognized to be the most serious limita-
tion on the absorptive capacity of the Saudi economy.
Specific measures were taken to relieve the situation in the
short run. In the medium and long run, the authorities
intend to implement a plan designed to meet the country's
manpower needs. The plan rests on the gradual reduction of
the proportion of the labor force engaged in agriculture,
increasing the participation of women in the labor force,
and pursuing educational programs especially designed to
increase the supply of skilled workers and professionals.

It should be pointed out that the government should
have no difficulty reaching these goals. All schools and
(universities in Saudi Arabia are public and admission is

controlled to insure the desired balance between the various

 

.k-

 

129

fields of learning.

4. Investment in human capital: Increasing the supply
of skilled labor is an important objective. However, even
more important is the objective of improving the quality of
labor in general. This can be achieved only through im-
provement in the quality of life and higher standards of
living. This is, of course, what development planning is
all about.

Other related programs include rural electrification
including the planned extension of electric power to at
least 65 percent of rural residents by 1980; provision of
potable water to at least 65 percent of rural residents by
1980 as against 13 percent in 1975; acceleration in the
construction of sewage systems in major cities and the adop-
tion of measures necessary for controlling and preventing
pollution and protecting the environment. In general, the
government is intent upon increasing social services, par-
ticularly for low income residents.

Investment in human capital, assuming other things
unchanged, raises the earnings of workers because, in the
long run, it leads to a reduction in the capital-output
ratio. Reduction in the capital-output ratio means an
increase in the marginal productivity of labor. If the eco-
nomic principle that wages should be equal to the marginal
product of labor is to be operative, then real earnings per
worker should increase as a result of investment in human

capital.

130

Social welfare programs take time for their impact to
be realized. However, there are other ways of improving the
quality of life that can have an immediate impact. One way
is to raise the purchasing power of the people. In this con-
nection the Saudi government acted promptly following the
rise of oil prices. The increase in oil prices went into
effect on January 1, 1974 and, after a few weeks, the
government issued a series of decrees designed to imme-
diately infuse oil revenues into the hands of the people.
The government also established a Price Support and
Stabilization Fund to accelerate the process of economic and
social development, raise the standard of living and stabi-
lize commodity prices in the market. The program was suc—
cessful in controlling inflation during the difficult infla-
tionary years of 1975-1978.

The Saudi Arabian government is determined to acce-
lerate implementation of development projects. Furthermore,
it should be pointed out that expenditures under the
National Comprehensive Development Plan did not include
other investment expenditures, such as those classified as
current and included in the ordinary budget or those under-
taken by autonomous government agencies, or investment
expenditures undertaken by the private sector.

In terms of the absorptive capacity, the 1975-1980 Com-
Prehensive Development Plan helped ease the following

bot tleneck sectors :

IESOUI

indust

locate
extenc
resuli
cial :
water
regul
natio
EXplo

lead,

targe
V1901
inst:
In 1*.
15.3
Outp:

earl.

h19h:

131

Resources and Industry as Means to Expand Absorptive
Capacity
1. Resources

Large investments were made in natural gas and mineral
resources. Individual and joint investments in other
industries were encouraged with special incentives, credit
and the provision of infrastructure and support services.

While the emphasis remained in the Precambrian Shield,
located in western Saudi Arabia, mineral exploration was
extended to other areas gaining increasing importance as a
result of basic ongoing geological studies. Two of the spe-
cial studies related to uranium and the availability of
water for the minerals industry. The Mining Code and other
regulations and incentives were reviewed according to inter-
national practices to encourage private participation in
exploration work, especially in such minerals as copper,
lead, zinc and phosphates.

Oil production increased at a rate far exceeding
targets set forth in the First DevelOpment Plan due to a
vigorous program of expansion, including drilling new wells,
installing new pipelines, and expanding related facilities.
In 1974, Saudi Arabian crude oil production represented
15.3 percent of world output and 46.4 percent of Arab
output. The country's petroleum resources are still in the
early stages of very long-term development.

In addition to those previously mentioned as

highlights, basic studies undertaken included: seismic

exp
tio
inv

tio

is

gre

OPEN

indu
faci

faci

132

exploration in all areas; field studies of reserves, produc-
tion potentials, and production improvements; and special
investigations of pipeline, treatment, and storage installa-
tions prior to improvement and expansion of these facilities.
Sophisticated computer technology was used in many of the
studies.

2. Industry

The basic long-term goal of manufacturing development
is to diversify the economic base in order to achieve
greater economic self-sufficiency, cost advantages from
domestic manufacturing, and protection from external
disruptions. Efforts in the Second Plan focused on
hydrocarbon-based and other industries in which Saudi Arabia
has a comparative economic advantage and appropriate
regional manufacturing activities to increase employment
opportunities and real incomes of a greater prOportion of
the Saudi population.

Petromin, the General Petroleum and Mineral
Organization, retained primary responsibility for the devel-
opment of hydrocarbon industries, while the Ministry of
Commerce, the Ministry of Industry and Electricity, and the
Industrial Studies and Development Center encouraged and
supported other manufacturing.

Major 1975-1980 developments in the hydrocarbon
industry included new refineries and expansion of existing
‘facilities; construction of gas gathering and treatment

facilities in the Eastern Region and design of petroleum and

133

gas pipelines to the central and western regions; and design
and construction of major new plants to manufacture
petrochemicals, fertilizers, and steel and aluminum inter-
mediate and finished products. Major planned developments
in non-hydrocarbon-based industries include a ten-fold
expansion of cement production; plants to supply agri-
cultural inputs and process agricultural output; and new and
expanded plants to produce construction materials, household
and commercial equipment, inputs to hydrocarbon industries,
and other products.

In line with planned industrial development, construc-
tion capacity will have to expand. Saudi Arabia's construc-
tion plants and other resources are approaching the limits
of their capacities. New construction will largely depend
on effective utilization of foreign contractors and
laborers, materials, and machinery and equipment.

4. Role of private enterprise

As stated in the Saudi Arabian Industrial Policy
formulated in 1974:

- The government recognizes that the goals of industrial
development can be realized most effectively if private
enterprise bears the primary responsibility for industrial
projects.

- The government will provide encouragement and financial
incentives to industrial investors to enable well managed
Scompanies to realize reasonable returns from operations.

Such incentives may include the following measures: equity

134

capital and loans, venture organization assistance, feasi-
bility studies, operational assistance, tariff protection
from imported products, industrial estate sites, training
subsidies for Saudi manpower, and export assistance.

- The government welcomes foreign capital and skills and
invites foreigners to contribute to industrial development,

in collaboration with Saudi investors.

Agricultural Policies as Means to Expand Absorptive Capacity

Owing to increasing national income and population, the
growth rate in food consumption is rather high, an estimated
5.2 percent annually between 1971 and 1980 for a selected
number of agricultural commodities. Imports have grown much
more rapidly than domestic production. Consequently, the
Kingdom's self-sufficiency in food production has fallen
significantly for most commodities. An exception may be
seafood, for which a growing demand offers a unique oppor-
tunity to increase food production with a minimum input of
labor because of the Red Sea and the Arabian Gulf as seafood
sources.

The labor force in agriculture is assumed to have
declined by about 0.9 percent annually, from 445,800 or 40.4
percent of the national labor force in 1970 to 426,100 or
28.0 percent of the labor force in 1975.54 This decline is

already reflected in abandoned farmland and partly

 

54Ministry of Information, Outline of Second Five Year
Development Plan, Saudi Arabia, p. 12.

135

depopulated villages, particularly in the southwestern
region. Its main causes are low real income in agriculture
and increasing opportunities for well-paid employment in
other sectors.

A rapid increase in productivity in the agricultural
sector will release part of the large agricultural labor
force and thereby alleviate manpower shortages in other

sectors:

Water

Water is the most binding constraint on Saudi
agriculture. More than 75 percent of the Kingdom's usable
land is rainfed, but nowhere does the rainfall exceed 400 to
500 mm, which may occur over short periods of time. Flood
damage and loss of rain water are serious problems for irri-
gated farming. Water in some areas has high salt content,
which rapidly creates salinity when draining and leaching
are inadequate. Irrigation systems are generally
inefficient, causing waste.

The extent to which agricultural production can be
increased will be determined by: a) the success achieved in
inceasing efficiency in the use of underground water, b)
resource management and conservation, and c) the limits on
total annual abstraction or depletion in view of the amount
of water available and the social, economic and technical
factors relating to its use.

Rapid development of agriculture in the Kingdom is

 

 

 

136

greatly impeded by physical and climatic adversities.
Small, inefficient farms are dispersed over a large land
area and subject to wide fluctuations in rainfall, limited
supplies of low-quality irrigation water, a harsh summer
climate and drying winds, and encroachment by sand dunes.55
Agricultural Credit

The Saudi Arabian Agricultural Bank is the principal
institution providing credit to the agricultural sector.

Three types of loans available are:
’ Short—term seasonal loans for production inputs.

‘ Medium-term loans for farm machinery and similar assets.

Long-term loans for land purchase and development.

Loans are made available for cold storage plants, establish-
ment of milk collection centers, fisheries modernization and
expansion, construction and operation of leather tanning
plants, and agricultural COOperatives. The annual require-
ments for financing the Agricultural Bank, excluding provi-
sions for subsidies already included in finance for agri-

cultural production, are estimated in Table IV.1l.

55Ibid., pp. 12-13.

137

TABLE IV.11

FINANCE FOR AGRICULTURAL PRODUCTION

 

 

1974 1975 1976 1977 1978 1979 Plan
Budgeted -75 -76 -77 -78 -79 -80 Total
Recurrent 54.8 55.0 63.5 68.0 73.5 78.5 338.5
Loans
finance* 41.0 86.6 90.4 83.0 76.9 90.8 427.7
Project -- 13.0 15.0 12.0 10.0 10.0 60.0
TOTAL 95.8 154.6 168.9 163.0 160.4 179.3 826.2

*Planned loan finance less forecast loan repayments.

SOURCE: Outline of Second Five—Year Development Plan,

p. 13. Ministry of Information, The Kingdom of
Saudi Arabia.
Water Supply Policies as Means to Expand Absorptive Capacity
Significant progress has been made in meeting immediate
needs for improved water supplies. However, these needs will
expand rapidly with rising p0pulation, increased urbaniza-
tion and industrialization, and growth of irrigated
agriculture. Groundwater meets the major portion of the
Kingdom's combined agricultural, industrial and urban
demand, while surface water satisfies a smaller share and
limited amounts of water are supplied by desalination.
Hydrological studies have established the existence of
further usable quantitites of groundwater, but more infor-

mation is required before usage rates can be defined.

Surface water is intermittent and primarily available in the

138

southwestern highlands and coastal areas. Brackish water is
abundant in several areas of the country, and sea water is
available for desalination in unlimited quantities. Pending
a more complete analysis of the total water resource poten-
tial of the country, Saudi Arabia plans to continue devel-
oping groundwater resources to meet immediate urban,
industrial and agricultural demands in locations distant
from the seacoast. In locations on or near the coasts, con-
centration will be on accelerated development of the supply
of desalinated sea water, which will also be provided to
meet demand in selected inland areas.

Plans for the development of desalination systems
included, in the Second Five-Year Plan, use of dual—purpose
(electric power/desalination) plants, where studies showed
the need for power as well as water, to reduce production
costs of both electricity and water.

The total water resources program was budgeted at
approximately SR 34,000 million of which SR 25,000 million
is designated for the Saline Water Conversion Corporation.S6

Electricity Policies as Means to Expand Absotptive
Capacity

 

 

Under the late King Faisal, plans were begun empha-
sizing not only electricity expansion for industrial needs,
but also electricity distribution to all villages and

cities. The present electric system is heterogeneous,

 

551bid., p. 14-15.

139

serving residential and commercial consumers with various
voltages and both 50 and 60 Hz frequencies. Demands on
electrical capacity and efficiency were expected to rapidly
increase during the period of the Second DevelOpment Plan.
The basic objective for electricity development, therefore,
was to effectively meet the electric power demands of
industry, agriculture, communities and households in rural
and urban areas.

The planned integrated electricity system was to add
3,300 megawatts of generating capacity and 3,500 kilometers
of transmission line to the present non-integrated system to
serve 1.6 million more people. Much of the new generating
capacity is in dual-purpose desalination plants. In addi-
tion to the evident economic and manpower advantages, and
the greater number of people served by distribution from the
extended transmission system, the integrated system provides
higher levels of system performance and reliability.
Flexibility in meeting industrial, residential and rural
electricity load needs is attained by standardizing and
interconnecting the electricity system.

Implementation of an integrated system requires the
development of operating standards, interconnections that
will reduce the present number of power stations, the
orderly integration of demand centers, and full scale tech-
nical planning and program management. Various studies were
undertaken for the establishment of a national body to

develop, regulate and administer the integrated electricity

140

system.

Total investment in the electric power generating
system, for the plan period was estimated at SR 7,928
million. After adjustments for Electric Service Department
projects and the generating capacity of the Saline Water
Conversion Corporation, the total net investment required
was estimated to be SR 3,490 million.57

Transportation Policies as Means to Expand Absorptive
Capacity

 

Physical infrastructure had to be developed if the eco-
nomic and social objectives of the Plan were to be attained.
Increasing emphasis also had to be placed on improving the
efficiency and quality of service.

1. Roads

While traffic in recent years has increased by about 12
percent annually, growth rates of 15 percent and more were
anticipated during the Plan period. The number of motor
vehicles was expected to increase from 200,000 in 1976 to
more than 500,000 by 1980.58

The primary goal for the Second Five-Year Development
Plan was to complete the main road network. In addition,
the Plan aimed at facilitating international communications
and commerce by building all-weather roads to link the

Kingdom's network with neighboring countries and to expand

 

57Ibid., p. 16.
581bid., p. 13.

141

the rural roads and secondary roads programs.

The target was to link all major population centers and
provide alternatives for the most-travelled routes. More
than 13,000 kilometers of paved roads and 10,000 kilometers
of rural roads were to be constructed and the maintenance
program expanded.

2. Ports

The major ports of Jeddah and Dammam are the Kingdom's
main entry points for the capital, intermediate, and con-
sumer goods that must be imported in increasing quantities
to support economic development. In recent years, the
handling capabilities of both of these ports were often
exceeded to such an extent that ship waiting time and
penalty freight rates became excessive, development projects
were delayed, and supplies of consumer goods were late in
reaching markets.

The large increase in economic activity expected during
the Second Plan necessitated an equally large increase in
imports. By 1980, over 13 million tons of general cargo
(exclusive of ores) were expected to be imported annually,
in comparison with almost 3 million tons of general cargo
handled in 1973-1974. The implementation of much of the
Second Plan depended on the ability of the ports to cope
with this large inflow of goods, if they could not implemen-

tation of the Plan as a whole would be severely

142

disrupted.59 To c0pe with the expected increase, 20 new
berths were to be constructed at Jeddah and 16 at Dammam.
Further mechanization and use of pallets and containers were
to increase the handling capacity of existing berths.

In addition, specialized industrial ports to serve the
industrial complexes at Jubail and Yanbu' and additional
berths at Jaizan were to be constructed. A further objec-
tive of port expansion was to support regional development
by providing port facilities for small boats and fishing at
the lesser ports.

3. Airports

Geographical factors make aviation a very important
element in the Kingdom's tranSport network. At present,
about 20 airports are served on a regular basis. Jeddah,
Riyadh and Dhahran account for more than 90 percent of all
activities. During the First Plan period, the Civil
Aviation Department began a comprehensive program to improve
airport facilities throughout the Kingdom. This program was
expanded in the Second Plan to provide for a rapidly growing
volume of air traffic.

The whole airways system was to be provided with the
highest quality navigation and control equipment to ensure
safe navigation. Other projects to be carried out included
improved air traffic information services, installation in

all airports of the necessary ground aids and the most

 

59Ibid., p. 19.

143

efficient communication facilities, and expanded personnel
training programs.

Part of the program also focused on expansion, reorgan-
ization and continued improvement of SAUDIA, the Kingdom‘s
official airline. Wide-bodied L-1011 jets were introduced
in 1975 and the route network was extended to include North
America, the Far East and additional destinations in Europe
and Africa.60
4. Railroads

The long-term function of the railroads in the transport
system is under study and major decisions will be made when
its role has been defined. Operations will be improved and

rail and road transport will be integrated where feasible.

Telecommunications Policies as Means to Expand Absorptive

Capacity

The high targets established for telecommunications had

 

to be met if the industry was to meet the demand for service
implied by the overall social and economic goals of the
Second Plan, and also establish a foundation for the pro-
jected continuing growth in demand over the longer term.
Though program targets were set during the First Plan,
achievements were not uniform. Although revised programs
met the First Plan target for the quantity of automatic
telephones, installations did not include the replacement of

all manual exchanges. In addition, two portable earth

 

5°Ibid., p. 20.

 

144

stations were installed, one at Riyadh and the second at
Jeddah, but completion of the permanent stations was
delayed.61 Schedules for telegraph services, building
construction, and training were also stretched out.

Long-range telecommunications facilities are very
limited at present, and long distance communications are
carried out almost exclusively over high frequency radio.
Contracts for the installation of a major telecommunications
network were to provide the capacities shown below with
completion of Phase One, the backbone system linking Jeddah
through Riyadh to Dammam. With the installation and opera-
tion of the two phases of the program, the cumulative total
capacity of the overall network was to provide long distance
telecommunications to over 90 percent of the Kingdom's
population.

The basic objective of the telecommunications plan in
the Second Five-Year Plan was to provide a system of local,
intra-kingdom, and international telecommunication.
Achievement of these goals required an upgrading of local
telephone networks to provide at least 20 telephones per 100
residents in the larger cities and approximately 5 telepho-
nes per 100 in the smaller communities, and installation of
670,000 telephone lines, of which 490,000 were to be in

service.62

 

6libid., p. 21.
521bid., p. 21.

145

The intra-kingdom and international telecommunications net-
work had to be completed and traffic and special services
expanded.

Television and radio rely heavily on local high-powered
transmitters in Riyadh, Jeddah and Dammam. The planned
intra-kingdom system was to provide two-way TV and radio
services through the Phase One network, with one-way TV and
radio planned for Phase Two.

Early planning was required concerning the technical
capabilities for transmitting full color TV service, with
particular reference to the capability of coaxial systems to
carry color TV under the environmental conditions that pre-

vail in Saudi Arabia.63

Educational Policies as Means to Expand Absorptive Capacity
Education is a vital element for the success of Saudi
Arabia's economic development. The Kingdom aims to provide
basic education for all its citizens as well as higher
education for all those who wish it.
1. Elementary Education
The number of elementary and intermediate schools
constructed during the First Plan exceeded the targets set,
and total enrollment was close to its goal. However, the
number of instructors in every level and type of education

was almost 14 percent below that planned for 1975.

 

63Ibid., p. 21.

 

146

The Second Plan aimed at universal elementary education
for boys, and for as many girls as could be reached through
the girls' school system. The enrollment of boys in general
elementary schools was forecast at 677,500 in 1980, for an
increase of more than 275,000 over the First Development
Plan, and the enrollment of girls was projected to grow by
over 140,000 to 353,400 by the end of the Plan.

The Ministry of Education, therefore, planned extensive
teacher training programs, during the Second Plan, and the
establishment of 845 elementary schools and 224 intermediate
schools, mainly in the rural areas. It was estimated that
over 30,000 elementary teachers would graduate from training
programs during the Plan period.64

A program of continued expansion at the post-elementary
level was to assure opportunities for all students to con-
tinue their education through the secondary level. Planned
developments for general higher education covered all
qualified secondary-school graduates. Girls' education was
a major target of the Second Five-Year Development Plan.
With an enrollment goal set at more than 50 percent of
elementary-school-age girls, the Ministry of Education
planned to open an additional 707 elementary schools with a
total enrollment in 1980 of about 350,000. It was expected
that the number of intermediate schools would increase to

223 by the end of the Plan, permitting a large percentage of

64ibid., p. 22.

147

elementary school graduates to enroll in further education
and subsequently in higher education.
2. Adult and Higher Education

To meet the needs of adults for continuing education,
evening classes were to be expanded from an enrollment of
8,200 in 1975 to 19,300 in 1980. Enrollment in adult
literacy classes would more than double for men and
increase ten times for women during the plan period.

Summer camps and mobile schools would also be provided.
Existing universities continue to expand. The University
of Riyadh was to initiate and complete construction work on
a new campus in expectation of doubled enrollment in 1980.
Twenty-five percent of the incoming students would be
enrolled in the College of Education. The King Abdulaziz
University planned to increase the size of its College of
Education as well as the College of Engineering and
Sciences.

In an effort to provide professional manpower for the
Kingdom's petroleum and minerals industries, the University
of Petroleum and Minerals at Dhaharan planned to increase
the student body as well as expand the curricula with the
introduction of majors in such fields as petroleum
engineering.

Preparations are also underway for the modification of
the educational structure so that it can effectively serve
the future needs of the Kingdom. Further, modern evaluation

SYstems were incorporated into the plans of all the

148
education agencies.65

Manpower Development Policies as Means to Expand Absorptive
Capacity

 

Limited manpower, both in numbers and skills, is a
potential major constraint on the country's development in
both the public and private sector. Labor force growth
greatly affected the implementation rate of development pro-
jects during the First Plan. As requirements for skilled
workers increase, the need for continued expansion of the
non-Saudi segment of the labor force also becomes more and
more apparent.

Total employment is estimated to have increased at an
annual rate of 6.6 percent during the First Plan and was
expected to accelerate to 8.9 percent annually to reach 2.33
million by 1980 if the labor demands of the private and
public sectors were to be met. Manpower needs in the pri-
vate sector were to increase at about 7.9 percent annually
during the Second Plan, while the increase must average
about 15.9 percent annually in the public sector to achieve
the development requirement.

There were four basic objectives for the manpower deve-
lOpment program. First, labor productivity must be raised
through education and training programs and the existing
labor force upgraded through intensive in-service training

IPrograms. Priority must be given to moving Saudis into

551bid., p. 22.

149

managerial and technical positions. The second objective
was to increase Saudi participation in the labor force by
creating better education and training Opportunities while
increasing rewards and providing better working conditions.
Third, the labor force must be supplemented with non-Saudis
of high quality with the appropriate skills required for
diversified industrial development. Finally, a special man-
power training organization was to be set up to assure effi-
cient implementation of specific recruitment and training
programs.

The government's vocational training system was to be
expanded with an annual output target at all levels of skill
of about 27,000 in 1980, including industrial inducements
and on-the-job training programs, compared with about 4,000
at the beginning of the Plan. Other government agencies,
such as the Institute of Public Administration were to pro-
vide a wide variety of specialized training programs.

The primary source of training for government
administration, including industrial management and
financing, is the Institute of Public Administration in
Riyadh. Its programs were to reach over 3,300 in—service
trainees and 1,100 pre-service trainees in 1980, about

double the 1975-1976 number of participants.66

66Ibid., p. 25.

150

Social Development and Housing Polices as Means to Expand
Absorptive Capacity

 

The government has developed policies intended to
raise the health and living standards of the people and to
insure that all share in the growing prosperity of the
Kingdom. No family is to be prevented--by large numbers,
misfortune, or lack of opportunities for employment--from
obtaining the basic necessities of life, and rural and noma-
dic communities are to receive health and welfare services
comparable to those available to residents of urban
communities.

The government aimed in the Second Plan to provide
comprehensive preventive and curative health services in all
regions of the Kingdom. The number of hospital beds was to
increase to provide 2.5 beds per 1,000 population by 1980.
The number of dispensaries was to nearly double from the 215
available in 1975—1976 and many other types of facilities
were to be established or expanded, including a network of
Mother and Child Care clinics.

About 5,300 technical assistants were to be graduated
and the number of health institutes and nursing schools
doubled. The Saudi Red Crescent Society, which offers
emergency health services, expected to double the number of
its ambulances and first-aid centers. The Kingdom would
also pay particular attention to the Hajj Centers, opening
new clinics and procuring a mobile hOSpital for religious

pilgrims' use.

151

A new program of social security benefits and social
affairs programs, including social welfare, rehabilitation,
cooperatives and community development, was to be
instituted. Greatly expanded youth welfare programs under
the Second Plan reflected the government's belief in the
importance of developing tomorrow's citizens and leaders.
Cultural, athletic and social activities were planned. In
addition, a number of public service and work camp projects
were to be held. Major emphasis was to be given to the
development of youth leaders and the provision of equipment
and facilities for community development.67

As the direct by-product of rapid urban growth, and the
shortage and rising costs of labor, land and materials for
residential buildings, the housing situation in the
Kingdom's cities generally grew worse during the period
1970-1975. Since demand in recent years for new and re-
placement housing has been approximately double the supply,
overcrowding and shanty towns have resulted. The residen-
tial building industry has met with rapidly rising costs
and/or actual shortages of land, labor, technology, capital
and materials; and institutions to improve the flow of these
resources to housing construction are lacking.

The government's primary aim for housing was to ensure
that every household in the country has a decent, safe and

sanitary dwelling. Because of technical constraints, it

 

67lbid., p. 26.

152

will be some years after the end of the Second Plan before
this goal is achieved. Nevertheless, targets set for
housing construction during the Second Plan period will go a
long way toward improving the housing situation. The Second
Five-Year Development Plan called for the private sector to
construct 122,100 units with the assistance of the Real
Estate Development Fund and for the public sector to
construct 52,500 units for low-income families.
Approximately 44,300 fully serviced building lots were to be
developed for allocation to low-income households for syste-
matic self-help housing construction. An additional 51,000
temporary housing units were to be constructed for the labor
force required to implement major development projects.

A fundamental objective, without which none of the
others could be achieved, was to develop the institutional
capability and financial and legal structures needed to
implement and support a continued housing development
effort. A new housing organization, incorporating the
present General Housing Department and linked to the Real
Estate Development Fund, was to be created to implement the
housing program.68

Financial Allocation for Expanding Policies of
Absorptive Capacity
The increase in oil revenues permitted a development

plan far larger than could possibly have been contemplated a

 

63Ibid., p. 26.

 

153

few years ago. Public expenditures under the Second
Development Plan were projected at about SR 498,000 million,
almost nine times that of the First Plan. (See Tables

IV.12 and IV.13).

An approximate quadruple increase in administrative
allocations was planned to meet the requirements of the
agencies concerned with planning and management information
and to provide for an annual increase of 10 percent in other
administrative costs.

External assistance, emergency funds, food subsidies,
and general reserves accounted for 13 percent of total
requirements, based on an annual increase of 10 percent.
Substantial unallocated funds were included for anti-
inflationary measures, regional agricultural development,
and recently established corporations, companies and funds
for which the financial needs were not yet determined.

Projects accounted for 75 percent of financial require-
ments for development. The allocations of public finance
reflected only part of the total allocations of national
resources to development. They did not include the
following:

- Private sector investment in agricultural development

apart from that financed by agricultural credit.

- Investment by the oil companies to expand oil produc-

tion capacity.

- Investment by the private sector and joint-venture

partners in industry, apart from that financed by

154

TABLE IV.12

TOTAL APPROPRIATIONS REQUIRED FOR THE SECOND
PLAN ESTIMATED IN 1974-75 PRICES

 

(SR MILLIONS)

 

Economic Resource Development 92,135.0
Human Resources Development 80,123.9
Social Development 33,212.8
Physical Infrastructure Development 112,944.6

SUBTOTAL 318,416.3
Adminstration 38,179.2
Defense 78,156.5

External Assistance, Emergency
Funds, Food Subsidies and

 

 

 

General Reserves 63,478.2
SUBTOTAL 179,813.9
TOTAL 498,230.2

 

SOURCE: Ministry of Information, Outline of Second Five-
Year Development Plan, p. 6. Saudi Arabia.

155

TABLE IV.13

COMPARISON OF ESTIMATED FINANCIAL
REQUIREMENTS OF FIRST AND SECOND PLANS

 

(SR MILLIONS)

 

 

 

 

 

 

 

 

 

 

 

 

FIRST PLAN SECOND PLAN

AMOUNT % AMOUNT %
Economic
Resource
Development 6,033.3 10.7 92,135.0 18.5
Human Resource
Development 10,198.? 18.1 80,123.9 16.1
Social
Development 2,443.0 4.4 33,212.8 6.7
Physical
Infrastructure
Development 14,086.8 25.1 112,944.6 22.7
SUBTOTAL
DEVELOPMENT 32,761.8 58.3 318L416.3 63.9
Administration 10L466.5 18.6 38,179.2 7.7
Defense 12,994.7 23.1 78,156.5 15.7
External Assistance
Emergency Funds, Food
Subsidies, & General
Reserves -- -- 63,478.2 12.7
SUBTOTAL, OTHER 23,461.2 41.7 l79,813.9 36.1
TOTAL PLAN 56,223.0 100.0 498,230.2 100.0

 

NOTE: First Plan values have been adjusted to 1974-75

prices (used uniformly for the Second Plan except

for certain long-term projections that included

inflation factors.)

SOURCE: Ministry of Information, Saudi Arabia.
Second Five-Year Development Plan, p. 6.

Outline of

156

industrial credit.
-Investment in private-sector housing not financed by
the Real Estate Development Fund.69
To sum up in a few words, the Second Development Plan

eased many bottleneck sectors of the economy. The Plan
expanded the absorptive capacity of the country, for the
concept of absorptive capacity is a short-to medium-run
phenomenon. It can be expanded through planning to ease

constraints on particular sectors of the economy and hence

J’i_h_——"""T
is
I

‘ I

accelerate growth. In the final analysis, the concept will
be of minor significance given appropriate planning, such as
the Comprehensive Development Plans, to achieve higher rates

of economic growth.

 

59Ibid., p. 6.

 

CHAPTER V

SUMMARY, CONCLUSIONS AND RECOMMENDATIONS

Professor W. W. Rostow theorized that "take-off" into
sustained economic growth could be initiated by a shock,
e.g., a revolution, a war, or a sudden and sharp increase in
export earnings. This theory tends to be relevant to the
contemporary experience of the oil exporting countries,
whose export earnings have increased drastically and who,
therefore, ought to achieve self-sustaining growth.

Such an outcome as Rostow has theorized, however, is
not assured. Experiences of other export economies suggest
that it is entirely feasible for export earnings to be spent
on luxury imports and other unproductive outlays.
Consequently, a basic requirement of ”take-off” is that
export earnings be invested domestically. Although it is
understood this must be done, the oil exporting countries,
like other developing countries, apparently confront a par-
ticular constraint known as absorptive capacity.

Absorptive capacity is an ambiguous term in the sense
that it does not have an established technical meaning. The
concept generally has to do with the limited ability of
rdeveloping countries to undertake profitable capital

investment.

157

158

Investment in developing countries is assumed not to
expand beyond certain levels which are determined by their
absorptive capacities. This is so because developing
countries traditionally lack cooperant factors necessary for
expansion, such as entrepreneurial talent, skilled labor,
and efficient management. They are also faced with the
problems of antiquated customs, lack of political stability,
and other social and institutional constraints which are
known as the limits of absorptive capacity.

According to the concept of absorptive capacity, the
oil exporting countries appear to be subject to traditional
levels of growth in their domestic investment that fall
short of their domestic savings. This study was designed to
explore and test the impact of the quadruple increase in oil
prices and revenues on absorptive capacity. Clearly, it
would not be possible to undertake a collective study that
includes every member of OPEC since these countries differ
in many respects. The logical alternative was to con-
centrate on a single country.1 Saudi Arabia, as the major
exporter, was chosen.

The principal hypothesis investigated in this study was
an expansion of the absorptive capacity of the Saudi Arabian

economy. Implicitly, the prospects for accelerated

 

1Derived from K. A. Al-Eyd, ”Oil Revenues, Absorptive
Capacity, and Prospects for Accelerated Growth: A Case
Study of Iraq." (Ph.D. Dissertation, Washington D.C.: The
George Washington University, 1978).

159

economic growth in Saudi Arabia were also under
investigation. According to theories of absorptive
capacity, such economic development did not appear

likely. Intuitively, however, it seems possible. This
rests on the empirical observation that the Saudi Arabian
economy is heavily dependent upon oil. Therefore, any real
increase in oil revenues is bound to have a positive impact
on the whole economy, including the level of investment.

To establish this fact, it was necessary to relate the
contribution of the oil sector in Saudi Arabia to gross
domestic product, export earnings, public finance, and eco-
nomic development. It was also necessary to examine the
history of development planning in Saudi Arabia and the per-
formance of the Saudi Arabian economy during the period pre-
ceding the increase in oil revenues. Accordingly, the early
chapters of this study were devoted to these aspects, to
diagnosing the limits restricting the absorptive capacity of
the economy and to the bottleneck sectors, such as labor
force shortages, inefficient management, lack of education,
lack of transportation, and congested seaports and airports.
In addition, lack of direct utilities such as water and
electricity, and lack of indirect utilities such as
telephones, telex, roads and highway systems contributed to
the problem.

The fact that higher oil revenues caused an expansion
in the absorptive capacity of the Saudi Arabian economy is

encouraging. However, investment is not an end in itself.

160

Investment is undertaken becuse it is expected to lead to
an expansion in production and therefore a higher per capita
income and higher standards of living for all segments
involved.

The most important question is, will Saudi Arabia be
able to sustain these high rates of economic growth? The
answer depends upon the ability of the economy to continue
the expansion of its absorptive capacity and fully utilize
present and future installed productive capacity. This out-
come also depends upon the economy's ability in easing and
finally eliminating physical and human bottlenecks.
Elimination of physical bottlenecks is within reach in the
short and medium runs, through planning. Development of
human resources is a long-term project.

In recent years, Saudi Arabia exhibited ingenuity in
mobilizing its domestic human resources and in benefitting
from the skills and expertise of foreign labor. It will
continue to do so until its long-term plan for human devel-
Opment is implemented. This plan is likely to succeed.
First, it is being implemented under the direct supervision
of the Central Planning Organization, whose powers reach
into all aspects of national life. Second, it is comple-
mented by intensive investment in human capital.

All of the above leads to the conclusion that the

country has more than an even chance of continuing its march

161

 

along the path of accelerated growth. Only time will tell.2

Conclusions
The main conclusions of this study can be summarized as
follows:
1. The increase in oil revenues had a positive impact
on the absorptive capacity of the Saudi economy.
Absorptive capacity was much expanded through

proper development planning.

 

2. The impact of export earnings is mainly due to the
positive income effect of the change in Saudi
Arabia's terms of trade. It is also due to the
fact that the availability of oil revenues made it
possible for Saudi Arabia to augment its domestic
factors of production through importation.

3. The expansion in absorptive capacity propelled
Saudi Arabia into a higher orbit of economic
growth. The country is expected to sustain its
accelerated rate of growth provided that the new
stream of oil revenues keeps flowing uninterrupted.
These revenues are the principal source of expan-
sion in investment, including investment in human

capital.3

 

2The above section is derived from K. A. Al-Eyd, op.
cit.

3The above section is derived from K. A. Al-Eyd, op.
cit.

162

Recommendations for Further Research

Saudi Arabia's only hope to improve its domestic

absorptive capacity is through the comprehensive

planning approach and by utilizing the concept of
five-year general development plans. Without such

a scheme it will be difficult to expand the absorp-

tive capacity of Saudi Arabia, for past experience

has shown that the comprehensive planning approach
is the best way to develop the country and get the
needed results for improvement and economic growth.

Through the huge inflow of petro-dollars, it is

possible to carry out expensive development plans

to develop the country. In other words, it is
within the capacity of Saudi Arabia to improve its
domestic absorptive capacity by channelling the
petro-dollars to development purposes within the
country in order to expand its absorptive capacity
through development programs.

Absorptive capacity still needs further research in

terms of the concept itself and on the unanswered

questions that arose as a result of this study:

(A) On the concept itself: The concept of absorp-
tive capacity turns on the scarcity of factors
of production other than capital, i.e., it is
factor-supply oriented. However, this study

has shown that, in the case of Saudi Arabia, a

163

sufficient increase in aggregate demand was
the decisive factor. This suggests the need
for further consideration of the functional
relationship between aggregate demand and
absorptive capacity.

(B) Unanswered questions that arose as a result of
this study: Change in Saudi Arabia's terms of
trade was the underlying cause of the drastic
increase in its real income and, therefore,
the expansion in its absorptive capacity.

This raises a question concerning the
apprOpriate policy to be followed by developed
countries vis-a-vis developing countries.
Should they offer aid, or should they adopt
policy measures specifically designed to main-
tain and preferably improve the terms of trade
of the developing countries? The issue has
been a subject of discussion in various inter-
national forums. Further research in this
area would help to ascertain the advantages

and disadvantages of either approach.4

 

4The above is derived from K. A. Al-Eyd, Op. cit.

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