The history of Middle East economies over the past 50 years has been bound to that of oil.
It was the oil price spike of 1973 that first demonstrated the hold of suppliers over the global economy, and it was a fall in oil prices in the late 1980s that reminded producers what power oil had over them.
In 2007, the region is again blessed with high oil prices. So high, in fact, that 50 years ago they would hardly have seemed possible.
In 1957, the average cost of a barrel of oil was less than $2; today it is close to $60. Five decades ago, Saudi Arabia reaped some $300 million from oil revenues; in 2006 they exceeded $160,000 million.
This time, say analysts, the elevated level of oil prices will be more sustained. The market is driven less by the instability of supply than by the growing demands of the world’s largest consumers, and most experts believe prices will remain above $50 a barrel for the foreseeable future.
But the downside is growing dependence on a volatile resource. Periods of high growth have tended to coincide with high oil prices, but when prices have fallen, the region has found itself in the doldrums. The overall picture is one of instability. High oil prices have too often been used to paper over weaknesses elsewhere in the economy, removing the incentive for governments to tackle underlying structural problems.
“Oil revenues don’t fix problems themselves,” says John Sfakianakis, chief economist at SABB. “It is the way you manage them.” Until recently, economic management was poor. In the 1970s, oil wealth was squandered as quickly as it was earned and the bulk of savings were stored in US banks rather than recycled into the regional economy. Private sector growth has been stunted by over-centralised governments who have been able to blame low oil prices for times of economic hardship, and in times of prosperity kept reform at arm’s length.
As a result, when the Middle East’s performance over the past five decades is put in a global context, it does not compare well. “The region has been growing at a fairly low rate compared with other developing parts of the world,” says Mohsin Khan, the IMF’s regional chief economist. Average growth in the Middle East between 1970 and 1995 was about 3 per cent, compared with 9 per cent in East Asia.
There are mitigating factors.
“Structural issues played an important role,” says Sfakianakis. “After the second world war, Japan played an important role as an economic pole for East Asia, whereas the Middle East has had no similar model.” Politics has also played its part. “The Middle East never received substantial FDI [foreign direct investment] in part because war and political uncertainty in the region have always made it high-risk for investors,” says Sfakianakis.
Fortunately, there are signs this is changing. Efforts are being made throughout the region to create diversified economies and provide infrastructure and jobs for burgeoning populations. “In the past two or three years, everyone seems to have been talking about reform,” says Sfakianakis. “Everything has a reform angle.”
At the same time, the region’s oil producers have become more prudent in managing their wealth. “There was much more caution when this oil boom began,” says Monica Malik, a senior economist at Standard Chartered Bank. “The low oil price of the 1990s was very much on the minds of the governments.
Planning has become much more important. Spending increases in 2001-02 were cautious and it was not until mid-2005 that significant social investment began.” In contrast to the 1970s, much of the oil wealth is being invested back into the region. Not only is this helping to build more sustainable economies in the Gulf, but a growing transfer of liquidity from the energy-rich to the energy-poor is boosting growth throughout the region.
“There has been a fundamental change in the strategy of producers,” says Khan. “Proceeds from the previous oil boom were invested in the West, whereas this time money has gone into regional assets, creating a boom not just in the producing countries, but also in the consumers.”
Gulf money is helping to drive real estate booms and strong stock market growth in Morocco and Egypt, and the construction explosion in Dubai – funded in part by hydrocarbons sales from fellow-emirate Abu Dhabi – is a microcosm of the wider region.
“The twin economies of oil in Abu Dhabi and commerce in Dubai will make the UAE the business model for the future,” says Khan. The region’s investments are also spreading to entirely new parts of the world. “Middle East countries are increasingly buying into companies in the east,” says Malik. “They are realising the strong potential of markets in China and India and starting to invest there – for example the investment made by Kuwait and Qatar in the IPO [initial public offering] of Industrial & Commercial Bank of China.”
In fact, most of the estimated $100,000 million worth of assets managed by the Kuwait Investment Authority is outside the region. The Middle East still faces significant challenges. Despite the positive effects of diversification and sound fiscal management, the region’s continued dependence on hydrocarbons means it is still vulnerable to a prolonged fall in oil prices. And a combination of double-digit unemployment and population growth in excess of 3 per cent has created a pressing need for job creation: the World Bank estimates the region will have to generate almost 100 million new jobs in the next 20 years.
But the way the region has handled its finances during the latest oil boom shows it appreciates the challenges ahead. There is reason to hope that if oil prices do fall in the medium term, the Middle East will by then be sufficiently resilient to withstand the shock. Khan says: “The region is set on a path of strong economic growth and employment creation for a long time to come.”