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Saudi Arabia’s quota policy for hiring local people negatively affected firms, study shows

Researchers from Boston University, Y Analytics and Power for All studied the strict nationalisation policy, Nitaqat, which aims to increase employment of Saudis in private sector.

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Nationalisation policies, and specifically Nitaqat, intend to increase Saudi employment in the private sector, which Saudi citizens have consistently avoided to either pursue or queue for higher paid jobs with better working conditions in the public sector. Our analysis shows that the policy increased the number of Saudis working in the exporting sector, but that this achievement came at a significant cost for the firms, as well as for the competitiveness of the economy as a whole.

In Saudi Arabia, home to the world’s third-largest migrant population, by the end of 2019 more than three-quarters of the 13.4 million employed were foreign-born. The share of non-nationals employed is even higher in the rest of the Gulf. It exceeds 80 percent in Kuwait and Oman and reaches almost 95 percent in Qatar.

The prevailing social contract has been one through which governments redistribute oil rents by securing jobs for their nationals in the public sector, while foreign workers are employed in the lower-paying private sector, mostly in retail and construction. However, as the reliance on oil to provide subsidies for the local families in the form of government employment became unsustainable due to declining revenues, youth unemployment substantially increased, threatening the political stability of these countries.

As a result, since the early 2010s, governments started to impose a series of nationalisation programmes on the labour force, with the objective of increasing native employment in the private sector. These policies generally came in the form of quotas for native hiring or taxes on foreign hiring by private firms. (All GCC countries – Bahrain, Kuwait, Oman, Qatar, UAE and Saudi Arabia – have implemented a variation of a quota policy.)

Also read: Why Saudi Arabia is reaching out to Iran

Nitaqat and exporting firms

We studied how a strict nationalisation policy, the Nitaqat initiative in Saudi Arabia, which was enacted in 2011, affected non-oil private exporting firms’ competitiveness. Our rich data allowed us to look at a wide set of outcomes: firm exports, employment decisions (composition and size), labour costs, and exit rates.

To explore the unintended consequences of the policy, we analysed firm outcomes in the most productive sector of the Saudi economy – export.

We focussed on exporting firms for a few reasons. First, exporter firms represent the “best” firms in an economy, and as such, are particularly important for the country’s competitiveness and growth. Exporters tend to be significantly larger, more productive, more technology- and capital-intensive, to pay higher wages, and to use more skilled workers than their non-exporting counterparts. Second, for the particular case of Saudi Arabia, non-oil exporting firms’ performance is of significant policy relevance. The Saudi government has declared in its long-term growth plan (Vision 2030) as one of its strategic goals to “raise the share of non-oil exports in non-oil GDP from 16% to 50%.”. Finally, we have access to a novel dataset that includes all export transactions in the Kingdom between May 2006 and June 2016.

To estimate the effects of Nitaqat on exporting firms, we took advantage of the policy design that sets a threshold for the minimum share of Saudi workers in a firm. There is one threshold per combination of industry and firm size, and it is set such that slightly more than half of the firms in the bin are below it. Those below the quota face strong restrictions in their ability to hire foreign workers and are therefore compelled to change their labour force composition to keep operating.

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Adverse impact on various levels

Our results suggest that the policy had a short-term negative effect on competitiveness.

Firms below the quota threshold were 7 percentage points less likely to export. For firms that continued to export, export value decreased by around 14 percent and export volumes by 20 percent. Estimates of the effects on productivity per worker are large and negative but not statistically significant. These pervasive effects on exporting firms suggest that the long-term goal of the Saudi government of increasing the GDP share of non-oil exports is compromised by policies encouraging firms to hire more Saudi nationals through quotas and levies.

These results, combined with an increase in the wage bill due to a change in the composition of employment, suggest that the policy was very costly for firms and eroded their competitiveness.

The mechanisms behind this outcome are the following. Whereas the policy succeeded in encouraging firms to increase the share of Saudis in the private sector, this was achieved by both increasing Saudi hiring and reducing expat employment. Firms decreased the number of foreign workers disproportionately, resulting in a smaller total number of employees per firm.

Using data on wages, we find that the wage bill for firms below the threshold increased as Saudi wages are much higher than foreign wages. We also find that the average wage for Saudis decreased, suggesting that Saudis hired as a result of the policy were lower paid.

Firms below the threshold increased the share of Saudi females in their workforce, suggesting that the policy had a positive effect on increasing the labour force participation of women. The effect on female hiring is particularly large: we find that the policy led to firms below the threshold to more than double the share of women in their labour force.

Overall, these short-term effects suggest that firms adapted rapidly to the implementation of the policy. One year after the policy, more than 60 percent of firms below the threshold had crossed it.

Also read: Saudi Arabia aims to become ‘another Germany’ of renewable energy

Consequences aren’t short-term

To study if this rapid adjustment had medium-term consequences on exporting firms, we extended our analysis to include a few more years into the future. Our estimates suggest that these short-term effects persisted – three years after the policy announcement, firms below the threshold at baseline were relatively less likely to export, had fewer employees, lower exports, higher wage bills, and a larger share of women in their labour force.

These results confirm that Nitaqat imposed significant constraints on exporting firms, particularly for those with very low Saudi shares on the baseline.

Finally, we compare the effects on exporting firms with the effects on non-exporting firms. In support of the hypothesis that exporter firms are more resilient, we find that they were able to adapt more successfully to the policy – in particular, they hired Saudis at a higher rate, their total labour force declined by less, and their wage bill did not increase as much. These results, combined with the negative effect of Nitaqat on the value of exports, strongly suggest that the output for non-exporters is likely to have decreased as well.

Also read: Saudi Arabia’s oil production cuts will protect its riches

Long-term analysis will uncover more

Our results also provide evidence on the relative quality of Saudi and foreign workers. In particular, our findings suggest that Saudi workers’ higher salary was not close to being compensated by higher worker productivity – if anything, our estimates point to a decrease in productivity per worker. To comply with the quotas, firms seemed to have increased the hiring of low-paid, low-skilled Saudi workers. This result suggests that, unlike what Conrad Miller (2017) found in his study on affirmative action regulation for employment in the US, the low representation of Saudis in the private sector is not due to high fixed costs in identifying high-quality workers.

Our analysis focuses on the short to medium term – we look at changes one to four years after the implementation of the policy. A longer-term analysis will uncover other adjustment mechanisms implemented by firms. For example, one such mechanism could be changes in technology to lower the need for the now more expensive labour input in favour of more capital. Additionally, better information about the skills the private sector needs might lead to more productive human capital investments by the Saudi youth. Skills mismatch has been identified as one of the main drivers of the low productivity of the Saudi labour force in the private sector economy.

Patricia Cortés is Associate Professor (markets, public policy, and law), Questrom School of Business, Boston University. She tweets @cortespatico.

Semiray Kasoolu is Manager (Impact Solutions) at Y Analytics. She was formerly a Research Manager at the Growth Lab at the Center for International Development at Harvard University

Carolina Pan is the Director of Research at Power for All. She was formerly a researcher at Harvard University and a consultant for the IDB, World Bank, and United Nations. She tweets @carolina_ines_p. 

This article is an edited excerpt from the author’s working paper ‘Labor Market Nationalization Policies And Exporting Firm Outcomes: Evidence From Saudi Arabia’, first published by the National Bureau of Economic Research. Read the full paper here.

(Edited by Prashant)

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