Financial Times Friday: The wealth dries up
Robert Corzine and Robin Allen examine how the world's main oil-producing nations are struggling to cope with the calamitous fall in prices.
Additional reporting by Richard Lapper, Valeria Skold and Andrew Jack
The usual array of gold taps, chandeliers and limousines at this week's Gulf summit provided a reminder of the ostentatious oil wealth of the region.
But the smugness that traditionally characterises speeches at the Gulf Co-operation Council was replaced this year with dire warnings about the collapse in oil prices. "The days of abundant oil [revenues] are over and will not return," Saudi Arabia's crown prince Abdullah Bin Abdul-Aziz, told the princes and sheikhs of Bahrain, Kuwait, Oman, Qatar and the United Arab Emirates.
The royal warning came as oil prices fell below the psychological threshold of $10 a barrel to test fresh 12-year lows. Yesterday Brent oil closed at a new record low in London of $9.17½. Twenty-five years after the first oil shock, prices in real terms are now lower than in 1973.
The sudden emergence of cheap oil - at the beginning of 1997 it was almost $25 a barrel - has been a boon for a shaky world economy. It has been one of the main reasons why inflation in most of the industrialised world has stayed low, thus giving central bankers confidence to cut interest rates. In the US, where gasoline costs less than Coca-Cola, cheap oil has helped sustain the economic boom that is keeping the threat of a world recession at bay.
But for many oil producers - some volatile in the best of times - low prices are little more than a disaster. Two oil producers - Russia and Indonesia - have seen political turmoil added to financial panic. Another, Venezuela, has just elected a populist former leader of an attempted coup. All are being savagely squeezed. The collective oil revenues of members of the Organisation of Petroleum Exporting Countries are expected to fall by some $50bn (£30.1bn) this year.
Among the worst hit are the governments of Latin American oil exporters, notably Venezuela, Mexico and Ecuador. The price slump has forced each government to cut capital expenditure programmes to the bone, trim current spending and raise taxes elsewhere. "We are quite concerned," says Paulo Leme, head of emerging markets research at Goldman Sachs in New York. "Latin America oil producers, but especially Venezuela, face extraordinary challenges."
Venezuela is the biggest Latin American producer and one of the largest suppliers of oil to the US. Its government initially budgeted on an average price for its particular mix of crude oil of $15.50 a barrel for 1998. The price is now just more than half that amount at $8.05 per barrel. The economy is expected to contract by between 1 per cent and 2 per cent, compared with an expansion of more than 5 per cent in 1997.
Unemployment has risen sharply, up to 12 per cent according to official figures but to as much as 20 per cent according to the private sector. With the fiscal deficit rising to an expected level of more than 9 per cent of gross domestic product, president-elect Hugo Chávez, who takes office in February, will be under pressure to cut spending when popular expectations for an improvement in living standards are rising.
Mexico, Latin America's other big oil exporter, has also been hit hard. Although it is less dependent than Venezuela on oil for export revenues (mainly because of the growth of manufactured exports), Mexico still relies on oil taxes for nearly one-third of its revenue. For every dollar fall in the price of oil, Mexico loses an estimated $850m in fiscal income.
For Russia, of course, the oil price fall was just one of a number of problems, albeit among the most serious. It is also one of the factors that threatens to undermine any recovery.
Alexi Zabotkin, an economist with United Financial Group in Moscow, estimates that oil and gas together account for up to 45 per cent of tax revenues, 25 per cent of GDP and 10 per cent of employment. "Most of the troubles of the Russian economy this year were the result of the falling oil price. It put pressure on the exchange rate and made the government unable to defend the rouble," he says.
As an emerging market, Russia suffered grievously when the oil price fell. Even rich Norway, the world's second biggest oil exporter, is feeling the pinch. According to recent forecasts by the statistics bureau, record low oil prices, combined with high imports, mean its current account this year will show a deficit for the first time since 1989. In addition, the bureau adjusted its forecast for GDP growth next year downwards from 1.9 per cent to 0.8 per cent.
Lower oil revenues means Norway will transfer less than the expected NKr58bn (£4.63bn) to the government's petroleum fund, the investment vehicle for its oil surpluses. The poor performance of the Oslo stock exchange in November was blamed on oil pessimism undermining offshore construction and shipping shares.
But it is the Gulf, where almost half of the world's reserves are located, that may have the most trouble coping with oil's collapse.
Iran, the region's most populous producer, depends on oil revenues for 80 per cent of hard currency earnings, and some 75 per cent of total government revenues. Oil earnings are down this year by more than 40 per cent, a big factor behind Iran's recent default on loans from international banks.
According to senior Western diplomats in Tehran, the Iranian central bank paid only 10 per cent at the end of September of DM255m (£91.3m) due in principal and interest to Germany's AKA Ausfurkredit, a consortium of 42, mainly German banks, specialising in export credit. In October Sace, Italy's export guarantee agency, received only one $7m interest payment out of $61m due in principal and interest on total debt to Italy amounting to some $600m. According to the central bank, Iran has $3.3bn of 12-month debt maturing this fiscal year (to 20 March 1999), and a further $8.8bn "medium-to-long-term".
The financial position of the Gulf states has deteriorated even faster. Their dependence on oil has "been diagnosed to death", says one Gulf banker, but as oil prices have tumbled, the tone of the debate has sharpened. Editorials in Gulf newspapers have urged leaders to go beyond their usual statements and take practical decisions to shield regional economies from low oil prices.
By virtue of its wealth and size, Saudi Arabia is the lynchpin for the success or failure of structural reforms. This year, its fiscal deficit, budgeted at $4.8bn, could turn out to be $15bn, around 12 per cent of GDP. Saudi bankers say the deficit could be even higher, given that the average price of the basket of Saudi crude is $1.50-$2 below the Brent benchmark (and that Saudi Arabia is now offering discounts to retain market share in the US). Domestic debt has risen from 80 per cent in 1996 to over 100 per cent of gross domestic product.
This is leading to (by Saudi standards) extraordinary measures. Last summer the government used the high credit worthiness of Saudi Aramco, the national oil company, to borrow $4.6bn on the domestic and international markets; at the end of last month, the government is also thought have borrowed $5bn from Abu Dhabi (the loan has been confirmed by a UAE minister but denied by the Saudi finance minister). At the end of August, the government spent at least $1bn in one day to defend its currency, the riyal; this week it has again been back in the markets doing the same.
The question now is whether these financial pressures lead to economic change - or to a clash with religious conservatives and other vested interests resistant to change.
"Saudi Arabia at heart is a conservative and introvert country," said a senior Saudi banker. "If the business community and many of the young want reforms, at least half the country, the traditionalists, do not. They see oil as a divine gift to compensate for centuries of a harsh, impoverished existence. Deep down they are convinced that in 10 years time they, and Abu Dhabi, Kuwait and Iraq, will be back in the driving seat. With this mindset, structural reforms are simply another form of undesirable western import."
The royal house will play a critical role in determining how the country responds. As in every Gulf state, the difference between the government and the ruling family is fuzzy.
On average half of all the members of each Gulf cabinet belong to that country's ruling family. The others are their nominees. Institutions are subordinate to the whims of individual personalities. A mere royal decree can create or unmake an institution.
When it comes to solving Saudi Arabia's economic problems, the role of the royal family cuts two ways. On the one hand, creating a self-sustaining private sector is made more difficult because the government is dominated by the ruling Al-Saud family, and the country faces the prospect of a series of elderly monarchs, who are their own prime ministers, too old to initiate and see through institutional reform.
On the other, the Saudi royal house could, in principle, solve the government's financial problems at a stroke, if it wanted to. In December 1996, Michael Giles, chairman of international banking at Merrill Lynch, estimated that 78,000 wealthy Saudi individuals (many of them members of the royal house) owned a stunning $421bn of liquid assets. In the Gulf as a whole, about 185,000 people then owned $718bn. Now about 200,000 wealthy Gulf individuals own about $800bn of liquid assets, of which the Saudi share is $500bn. That puts the government's financial problems into perspective.
But at the moment, the royal house does not seem likely to take the government's financial burdens on its shoulders. That leaves a stark choice for Saudi Arabia and for the Gulf as a whole: either initiate political and economic reforms, running the risk of a conservative backlash, or let things drift (perhaps in the hope that oil prices will start rising again) and risk the ire both of younger Saudis and of all those accustomed to a gold-plated welfare state that the government can no longer afford. |
