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Wednesday, February 01, 2006

What to Do with All Those Petrodollars?

Oil producing nations are looking for ways to diversify their economies to insulate against the inevitable swings in oil prices and the troublesome changes in government revenues that price swings bring about. They are also learning to manage the revenue cycles and, instead of spending lavishly when revenues exceed trend, the money is finding its way into T-bills, equity markets, and other financial instruments to await less prosperous times in the future. If these nations decide the higher oil prices are permanent rather than temporary, and that seems possible, they may be willing to invest more of the money domestically rather than saving for future rainy days. If so, then some of the funds flowing into financial markets will dry up:

New Money, New Ideas, by Jad Mouawad and Eduardo Porter, NY Times: ...Once again, oil producers ... are experiencing a boom. And just as they did in the 1970's and early 1980's, their coffers are spilling over with cash. Last time around, there was an abundance of outrageous projects, and judging from the extravagance on display in Dubai, lavish projects are finding financing once again. But this time around, the region's main oil producers, like Saudi Arabia, Kuwait, Qatar and the United Arab Emirates, have gotten wiser. Since the boom started three years ago, they have paid down their debt, saved more money than ever before and created more jobs in the private sector. And they are trying to diversify their economies away from oil and its increasingly volatile cycles.

"People are asking where are all the petrodollars and why we have not seen anything like the spending of the 70's and 80's," said Bader al-Saad, who runs the Kuwait Investment Authority. "What has changed is the economic and political reforms in the region..." he said. "If we hadn't learned from our previous mistake, this would have been a big stupidity." After the 1973 oil shock, governments in the Middle East spent 80 percent of their increase in revenue. Between 2003 and 2005, by contrast, they spent less than 40 percent of their new revenue... Governments have also whittled down their debt to an average 20 percent of gross domestic product last year, from about 40 percent in 2004.

Mohsin S. Khan, the director for the Middle East and Central Asia at the International Monetary Fund, said governments were still drawing up their budgets based on oil at $30 a barrel. ... Rachel Bronson, a specialist on Saudi Arabia at the Council on Foreign Relations... [says] "Unlike in the United States, where it feels like high prices are going to last forever, in the Middle East, the feeling is that it will not last..." Saudi Arabia, for example, tried to use its oil windfall of the 1970's and early 1980's to become an agricultural powerhouse. ... But then oil prices collapsed, and the Saudi government ran out of money. The costly effort to make the desert bloom then joined a list of financial follies...

So it is not surprising that the region's finance ministries are still not convinced that oil prices will remain high for very long, even as they shape their oil policies to keep prices from falling. ... Much of the Arab world's new wealth that is invested abroad ... ends up in the United States, in Treasury bonds as well as corporate and other government debt instruments. Thus, the Arab world is helping to finance America's enormous trade deficit. ...

    Posted by on Wednesday, February 1, 2006 at 12:57 AM in Economics, Oil | Permalink  TrackBack (0)  Comments (6)

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