Gulf economies

The rise of the Gulf

Apr 24th 2008
From The Economist print edition

The Gulf is managing its wealth better during this boom than it did during the last one

MOST countries earn their keep through effort and ingenuity. Those of the Gulf owe their living to geological serendipity. The harder China works, the faster India grows, the higher oil prices climb.

The Gulf swells with confidence or despair depending on the price of “Arabian light” or “Oman blend”. Five years ago, though up from its $9 low in the 1990s, the oil price stood at a mere $26 a barrel. Many of the Gulf's governments were indebted and insecure. Saudi Arabia was facing an al-Qaeda insurgency. Expatriates, used to a secure if sequestered life, tried not to think about the tanks parked outside their compounds. Now the same oil fetches over $100 a barrel and confidence has returned. The insurgency in Saudi Arabia has been quashed. The Gulf is once again a source of envy more than concern.

Surely only good can come from so much cash? Hardly. In the 1970s the Gulf's money was a disaster for Latin America, for, recycled through Western banks, it caused a decade-long debt crisis. The Gulf itself suffered by inflicting stagflation on the West, thus causing a 20-year-long slump in oil prices. They built white elephants such as the King Khalid airport in Riyadh, one of whose terminals has been mothballed since the airport opened in 1983. They allowed a greedy few, many of them arms dealers, to pocket huge fortunes. They distorted their economies in the name of diversification, for example by growing wheat in the desert.

A better Xanadu

Are the Gulf countries handling their windfall any better this time? The sheer quantity of cash is hard to manage. It is too plentiful for small economies to spend, and has therefore added to the glut of global saving that is in part responsible for the financial excesses of recent years. Indeed, some economists see an analogy with the 1970s. Gulf petrodollars have been recycled not to improvident governments in Latin America but instead to improvident homebuyers in the uncreditworthy fringes of America.

The Gulf is doing its best to spend its windfall. Stately pleasure domes are springing up all along the coast. Saudi Arabia announces six, no seven!, new economic cities, which it hopes will create millions of jobs for its restive, youthful population. There are worrying echoes of the wasteful 1970s. But this time round, more of the spending is being done by private companies, with an eye to consumer demand, rather than by states.

Awash with capital, the Gulf countries need labour. Thanks to a liberal attitude to guest workers, in the UAE, for instance, over 90% of the private labour force is made up of foreigners. Some of the follies these Indians, Bangladeshis, Chinese and Filipinos build will not earn much return, but at least they help spread the wealth around. And now that American spending is faltering, a splurge is welcome. As Adam Smith said, outlays on “trinkets of frivolous utility” are what “keeps in continual motion the industry of mankind.”

Still, the Gulf's splurge might be better spent if governments were doing even less of the splurging. Despite tentative reforms, too much money remains in state hands. The Saudis have become friendlier to business, taking steps to liberalise the financial system, airlines and telecommunications. But the government is still too fond of its grandiose projects and too slow to get unglamorous things right. It takes an age, for example, to enforce a contract in the country's courts.

By the same token, it would help if local currencies were allowed to strengthen. Currency reform is not just a way to constrain inflation, but also a means of redistributing spending. At present, the petrodollars are converted into local money at a fixed rate and doled out as governments see fit. With stronger local currencies the state would get fewer dirhams, dinars or riyals for every petrodollar. But Gulf residents would be able to buy more with their money, and guest workers could send more rupees home to families in Kerala.

There is another way to transfer economic initiative from governments to people. At present the Gulf states buy social peace by doling out generous benefits and subsidies, such as cheap housing and medical care, expanding the public payroll and forcing private companies to hire locals in the name of Omanisation or Saudi-isation. Too many Gulf nationals receive a government pay cheque for a meaningless job, or owe their jobs in private firms to a hiring quota. They pretend to work and have neither the time nor the incentive to start businesses or acquire skills.

Could there be a better way? Last winter, 604,000 Alaskans each pocketed a $1,654 cheque from the state's Permanent Fund, which invests Alaska's oil revenues on their behalf. Each year, the fund distributes a fraction of its profits, averaged over five years, to every resident. They do not have to work for it, and are free to spend it as they wish. This notion is as foreign to the Gulf as a glacier to the desert. But in a region that likes to impress people with outlandish projects, paying a simple dividend cheque to every Gulf national would be a more audacious venture than the tallest new tower.

Buy some insurance, while you're at it

Given the impressive levels of spending on education in the Gulf, it is hard to imagine that its middle classes will put up with so little control over their countries' wealth—or, indeed, their governments—for long. There are some signs of change, but they are small. By Saudi standards, King Abdullah is a reformer; by any other standards, he moves exceedingly slowly. There is external danger, too. When Saddam Hussein sent his tanks streaming into Kuwait, he was cheered on by many Arabs whose own countries never won a geological lottery and who continue to resent the undeserving fat cats with oil.

Today's dangers are different. Saddam is gone. But the Gulf states are threatened by the chaotic politics in Iraq and by the rivalry between America and Iran for influence in the region. In their volatile part of the planet, the sheikhs cannot buy perfect security. But they might consider investing a bit more of their windfall in stabilising Iraq and the broader Middle East, not just in their fabulous pleasure domes.