Marketplace Middle East - Blog
Building Blocks to Growth

What could turn out to be a pivotal meeting in Berlin was overlooked in a world dominated this week by $130 plus oil, a man who does not want to let go in Zimbabwe and 3-D renderings of space-age rotating skyscrapers in Dubai.

German Chancellor Angela Merkel hosted the Berlin Conference in Support of Palestinian Civil Security and pulled in some favors it seems to bring the likes of Condoleezza Rice, Tony Blair, the European Union's Javier Solana, the Arab League's Amr Moussa, plus two key players from the region -- Palestinian Prime Minister Salam Fayyad and Israel's Foreign Minister Tzipi Livni.

This was dubbed a working session designed to produce concrete results. While the subject of setting up structures for the police and judiciary in the Palestinian Territories may not be headline grabbing; the results illustrate there is commitment, if not a Palestinian state to hang it on. The effort again attracted a handsome sum, $242 million in pledges. This follows the $7.7 billion pledged at the Paris Donors conference last December. Chancellor Merkel described the meeting as a “small mosaic piece” in the larger picture being constructed in the region.

Having travelled to Bethlehem for the Palestinian Investment Conference a month ago, it is abundantly clear that there is no shortage of goodwill and funds being offered to prod peace efforts along. Beyond the political heavyweights noted above, there are some sizable discreet players from the business community who are putting their money and know-how behind these efforts.

Sir Ronald Cohen, chairman of the Portland Trust, is one of them. Sir Ronald made his name as co-founder of Apax Partners, a leading private equity house in London. He remains a “go to” fundraiser for the Labor Party in Britain and active on the arts scene in the capital as well. But you are more likely to find him setting up a new financial structure in the West Bank than near the Bank of England these days.

In an interview for Marketplace Middle East, the Oxford and Harvard graduate puts the conflict in no uncertain terms, “Stalemate could perpetuate conflict for years and it’s dangerous for the region and the world.”

Sir Ronald draws parallels to Northern Ireland on what economic opportunity can offer. In 1978, the U.K. government began increasing investment, twenty years before the Good Friday agreement. The money lead to job opportunities and when peace did arrive, an economic boom followed.

“If you can manage to have an improving economic climate … then it will have a beneficial impact on the security situation and also the receptivity of the population to go for a peace agreement.”

Opportunity at this juncture is in short supply. Unemployment is 22 percent overall; 30 percent in Gaza. Palestinian businessmen complain of being suffocated by roadblocks and security checkpoints in the West Bank. Sir Ronald reinforces what they also point out, that Jewish settlements are a “major hurdle”, but he says the Israeli Defense Ministry is allowing for more movement because economic development needs to be a priority.

Asked to weigh what he knows best, the risk-reward ratio in the territories, Sir Ronald is optimistic. He describes it as “an opportunity not to be missed” and points to a recent real estate investment by Qatari Diar as evidence this view is shared throughout the region.

The economy at -- $4 billion -- is tiny by global standards. There has been a 40 percent drop in five years, but with a literacy rate of 97 percent, the potential is there. Like neighboring Israel, engineers and entrepreneurs are not in short supply and Sir Ronald says when it comes to business the two sides have many traits in common.

Like the very active Palestinian diaspora which has been willing to put their money and skills to work, the Egyptian Jew says his first eleven years of life in Cairo have shaped his views and pulled him into this effort.

“Having lived in Egypt which was a very liberal society where Jews, Christians and Muslims got on extremely well … showed me that co-existence is possible.”

Let’s see if the money and know-how from within the region and from other financial capitals around the world can deliver both prosperity and co-existence.

A Leading Role
Expectations ranged from very high to highly skeptical this weekend in Jeddah when producing and consuming nations meet at the invitation of King Abdullah of Saudi Arabia.

A volatile cocktail of record demand, a low dollar and high speculation is keeping oil prices stubbornly high, despite a second offer from the Kingdom to boost production by another 200,000 barrels a day. This will reportedly add more than a half million barrels of new production to Saudi Arabia’s daily output in the next month. In the overall scheme of things it is not much since there is a record demand of nearly 87 million barrels a day despite the downturn in the United States.

The Kingdom’s move did not go unchallenged, specifically from OPEC’s second largest producer Iran who thought the unilateral action was the “wrong move” and that other cartel members should have been consulted. For those who follow the oil market and specifically the world’s largest producer, it is widely known that it has a history of putting customers in the U.S., Europe and Japan ahead of rhetoric. The veteran Saudi oil minister Ali al-Naimi has certainly taken that “leading role”.

After participating this week in the World Economic Forum in Kuala Lumpur, it is evident it is not just the G-7 industrialized countries feeling the heat of $130 oil. In the face of higher prices countries like India, Indonesia, Malaysia, Pakistan and Sri Lanka cut or reduced fuel subsidies. Basically they could not afford to pick up the tab for their consumers, who are now bearing the brunt of the higher prices.

Malaysia’s Prime Minister Abdullah Ahmad Badawi told business leaders at an evening reception, "We have faced serious challenges before, but rarely in such a potent combination and which seriously threatens the world.” In an earlier briefing with journalists he asked Saudi Arabia and other major oil producers to “do whatever possible” to bring about an easing of prices. Meanwhile, Badawi has targeted some relief to the lower income earners in his country.

Vietnam like Malaysia is energy sufficient, so both are not feeling the pinch as severely as say India or South Korea who have been the subject of major protests. But the pressure is on. The Asian Development Bank is predicting that inflation in Asia will hit a ten-year high of 6 percent this year and that their Director General Rajat Nag admits is conservative. In an interview with Marketplace Middle East, Nag said inflation due to high energy and food prices is the biggest threat to growth.

Vietnam’s Finance Minister Vu Van Ninh is all too aware of that threat. Spiralling inflation hit 25 percent in the month of May. The country which has averaged more than 7 percent growth for a decade garnered $20 billion of foreign direct investment last year and its stock market surged 200 percent the last two years. In 2008, it is down 60 percent due to the rising cost of living pushing up labor costs.

But Asian economies are in much better shape to contend with the challenge. A decade ago they were in the throes of the Asian crisis. Today, according to the ADB they sit atop nearly $5 trillion of reserves -- that is enough to buffer them from the ill winds blowing from the United States.

Yoshimi Watanabe Japan’s Minister of Financial Services and Administrative Reform said that the “U.S. could no longer be the locomotive of the global economy.” The former finance minister of India Yashwant Sinha (and therefore offering a more blunt assessment) asked with a tinge of irony “What is the IMF doing about the U.S.?”

The honest answer is, not much. Years of low interest rates and high borrowing by U.S. consumers led to the downturn we are witnessing today. Unfortunately, instead of trying to boost their savings rates, they are now faced with the difficult challenge of slow growth, fewer jobs but higher prices for food and energy. In the 1970’s they called it “stagflation”, where the growth stagnated, but inflation still rose. It is not that severe today, but those in Kuala Lumpur were not prepared to call an end to the trouble just yet.

They were however prepared to ask for some relief where available. They are all hoping that over the next few months OPEC members offer more production and that “mysterious” market speculators offer a break from their active investments in the energy market.
Petroleum pow-wow

The 12 nations that make up O.P.E.C. have always been considered a cartel that tries to control oil prices and therefore not a body the Group of Seven industrialized countries wanted to dialogue with.

That official strategy worked when oil prices were about a third of what they are today, but there has been a major rethink as a result of the doubling in crude prices over the past year.

On June 22 in the Saudi Arabian port city of Jeddah, there will be a meeting of oil producing and consuming nations to look at what if anything can be done to prevent prices doubling again in the next year as predicted this week by Alexei Miller the chief executive of Gazprom, the Russian energy giant.

This initiative is being led by the world’s largest oil producer, Saudi Arabia, one of the founding members of O.P.E.C. and a long-standing ally of the United States. Ahead of the Jeddah summit (guest list still being worked on), the U.K. energy minister Malcolm Wicks has been holding bi-lateral discussions with his Saudi counterpart Ali al-Naimi.

In an interview on Marketplace Middle East, Wicks said a series of questions need to be asked: “You know what are the possibilities in the different nations for increasing production which of course would ease the situation. We just need to understand where we’re both coming from on that critical question.”

While some of that is just good politics to foster dialogue, there are a number of things on both sides that could help deflate prices in the near term:

  1. Fuel subsidies are still the norm in the fastest growing countries of the world like China, India and Brazil. That distorts demand, since consumers are buying more at a lower than market rate. Lifting those subsidies can however be political suicide and will not likely happen overnight.
  2. Rebuild confidence in the U.S. economy and therefore the U.S. dollar. This is not a simple task, but some senior analysts I have spoken to say a good $20 is priced into each barrel based on the weak currency.
  3. Dig in and find out what is really driving the futures market today. The $1 trillion now parked in hedge funds have in part been allocated to buying oil futures, which again is distorting prices. Intervening on that front however may be as they say in cricket a sticky wicket, but again another $20 of the current price can be linked to hedge fund buying.

The reality is most senior people in the industry miscalculated demand and therefore pricing in the past five years. I don’t recall a time since the late 1980s where you have a slowdown in the major economies of the world and demand continues to rise. That is the case now.

The International Energy Agency (I.E.A.) in Paris lowered their forecast for 2008 again, but it still put demand up by nearly one percent to 86.77 million barrels a day. That is unusual, but today’s reality.

I dug up a 2005 article from Daniel Yergin a well known consultant and author on oil. His calculations, when oil was at $60, were that there would be an “unprecedented build up of oil supply in the next few years.” His team pointed to Canada, Kazakhstan, Azerbaijan, Angola and Russia as the new producers who would balance supply and demand and bring prices below that level. All of them have increased production, but no one really timed the surge of the developing countries in the world. Eight to ten percent growth in countries of a billion people or more tends to push up demand!

Which takes me back again to managing expectations in Jeddah. During the oil crisis in the autumn of 1973 when O.P.E.C. turned off the oil spigot, dialogue was at a minimum and confrontation ruled the day. There was not a shortage of oil production, but a lot of political confrontation. Three and half decades later with prices still looking for a top, the dynamics are different. Oil is in short supply, but discussions and meetings are not.

Let’s hope this summit in Jeddah presents some concrete ideas for change and ministers don’t leave the Kingdom empty handed.

Dollar determination

It was a one-two punch from the two most powerful financial players in Washington.

Their messages were designed to stem what has been a tumultuous fall for the most widely traded currency in the world, the U.S. dollar.

In an usual move, U.S. Federal Reserve Board Chairman Ben Bernanke came out declaring the weakness in the dollar “contributed to the unwelcome rise in import prices and consumer price inflation. ” The central bank is “attentive to the implications,” he added.

The interpretation by global traders is "Washington won’t stand by watching the dollar fall further."

Bernanke’s comments followed a high profile visit to the Middle East this week by U.S. Treasury Secretary Henry Paulson, the former Chairman and CEO of Goldman Sachs.

In his only international interview on this trip, Paulson told CNN's Marketplace Middle East, "The economic fundamentals in our economy are longer term quite strong. And what I've said is I believe that those fundamentals are going to be reflected in the value of our currency.”

The think tank for the industrialized world, the OECD, does not share that optimism. In its annual economic forecast, the Paris based body said that U.S. growth would only be 1.2 percent this year, falling slightly to 1.1 percent next year.

While Paulson did not want to be drawn into that specific report, he did take issue with its projections.

“I expect growth to be to be greater at year end. And I certainly would expect it to be greater in 2009 than in 2008. So I wouldn't be signing on to that forecast,” he told CNN.

This is welcomed news in the Middle East, especially in the Gulf, where five countries still tie their fortunes (literally billions of dollars) to the U.S. dollar. Both Bernanke and Paulson seem to be indicating that the worst will soon be over and that they both have no intention of seeing the U.S. dollar lose its role as the anchor currency.

So far, the U.S. is on the receiving end of support in the region. Despite the onslaught of quite painful double digit inflation, leaders in the region are standing by their pegs.

The latest vote of confidence came from Sheikh Mohammed bin Rashid Al-Maktoum, the Prime Minister of the United Arab Emirates and Ruler of Dubai who said, “the linkage between the dirham and the dollar would continue so long as this was in the best interest of the U.A.E.”

The last bit of that quote is what I find the most interesting. It would not be in the best interest of the U.A.E. or Dubai if it continues to fall. So like Bernanke and Paulson, Sheikh Mohammed would like to believe the worst is over. If not, one cannot expect them to stay loyal to the peg.

Facetime in the Middle East

For an administration which did not spend a great deal of time in the region in the last seven years, they seem to be making up for lost time in 2008. U.S. President George W. Bush has visited the region twice, Vice President Richard Cheney once, followed by Secretary Paulson and Deputy Treasury Secretary Robert Kimmit.

After a rush to sign legislation around the Committee on Foreign Investment last autumn after the Dubai Ports World debate and subsequent investments into Citigroup and Merrill Lynch, the Treasury department wants to make clear that the U.S. does welcome investment.

Asked whether this rush to legislate was in hindsight a mistake, Paulson responded, “Oh, I think exactly the opposite. The process which I chair clarified the rules, made it very clear that the only thing we were focused on was national security. And I think this makes the process easier and clearer and sovereign wealth funds are very much welcomed.”

As a former key player on Wall Street, Paulson knows the advantage of having funds invested in the U.S., but he also knows the impact of the protectionist signals that were initially sent from Washington last autumn.

It will take time to rebuild trust in the U.S. dollar and time to know whether money from the Gulf is truly welcomed or raises more questions from Capitol Hill.

John Defterios’ blog accompanies the weekly business program, Marketplace Middle East (MME) that is dedicated to the latest financial news from the Middle East. As MME anchor, John Defterios talks to the people in the know, finding out their opinions on the big business moves in the region, he provides his views via this weekly blog. We hope you will join the discussion around the issues raised.
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