Oil Dependence, Economic Diversification, and Economic Growth in GCC Countries: A New Composite Index and PMG–ARDL Evidence

Abstract

This paper constructs and applies a Composite Economic Diversification Index (CEDIX) to quantify the impact of economic diversification on economic growth in oil-dependent GCC economies during the period 2000–2022. In constructing CEDIX, the export, sectoral, and fiscal dimensions are combined by using principal component analysis. Estimation of the diversification-growth nexus was done through the PMG-ARDL specification. Furthermore, second-generation panel tests, the Pesaran CIPS unit-root test, and Westerlund's ECM cointegration test were implemented, and their results supported the long-run equilibrium of variables. Baseline controls are real Brent oil prices, investment, and labor. Results from the PMG estimation showed that diversification has a positive and statistically significant long-run effect on growth. The speed of adjustment to equilibrium is fast. As would be expected from reform gestation lags, the short-run effects of diversification remain modest, while investment and oil prices are the factors shaping the cyclical movements. A fixed-effects ECM estimated with Driscoll-Kraay standard errors was considered for robustness checking and also supports the sign and significance of our main findings. Therefore, policy should give priority to promoting non-oil exports, sectoral upgrading beyond hydrocarbon markets, and fiscal rebalancing in transforming oil windfalls into durable diversified growth.