Beware of falling BRICS
The attacks on Mumbai underscored the frailty of the world today. It is complex enough with the financial crisis at hand, but unduly challenging if you throw terrorist attacks on top. Strike while the enemy is weak seems to be the rule of thumb here.
India, one of four BRIC countries -- Brazil, Russia, India and China -- has come a long way since the 9/11 terrorist attacks which shook the world. India’s main market index surged 390 percent since 2001 through September of this year and that is factoring in the sizable correction in 2008. Economic growth has averaged eight percent in that timeframe. Brazil, Russia and China posted equally impressive gains of 345 percent, 639 percent and 500 percent in the same period.
All four of these BRIC countries have been forced to take a big pause or as Florence Eid, Managing Director of Passport Capital noted during a speech with business executives this week, “The train may be stopped, but it is still steaming.”
This is not dissimilar to the story throughout the Middle East. Stock markets in the region are down between 30 and 70 percent in 2008. That is not insignificant because an estimated $1 trillion of market capitalization was wiped out in short order.
The concern through the first half was too much liquidity chasing too few products. The story almost put to bed in the second half of the year is all about a lack of liquidity to fund the $1 trillion of projects now on the books in the region.
It is in that spirit that Saudi Arabia’s central bank decided to move decisively with a cut of one percent to its main lending rate.
“This is no time for inching right? We have seen 100 basis point cuts right around the world,” said Eid, “The Saudi Central Bank is acting in the very same manner. There is no time to wait. There is no time to reflect what is going on. It is time to move and they moved fast.”
It is the same reason Abu Dhabi stepped up support for Dubai’s property sector. The federal government provided $13 billion to form the Emirates Development Bank and absorb the assets of lenders Amlak and Tamweel. This was quickly followed by the creation of a new national entity Abu Dhabi Finance. No one wanted to see this train parked in the station too long -- with or without steam. Some noted this might mark the beginning of the end to the property drops we have witnessed over the past two months. Let’s see if the risk premium of two percentage points above LIBOR will come down as a result.
While some may be writing clever headlines about “Crumbling BRICS” or “BRICS on shaky ground,” one should definitely rollout the master blueprint. The Paris-based think tank of the industrialized world, the OECD put it into context recently, projecting that the 30 member countries will contract by 0.3 percent next year. In sum, all, ALL of the growth for 2009 will come from the BRIC countries and their faster growing brethren. China, India and the Middle East may be lucky to eek out six percent economic growth next year, but that is six percent better than we are seeing elsewhere right now.
Earlier this year at the World Economic Forum annual meeting in Davos, there was a great deal of buzz around the concept of de-coupling, that the fast growing economies would break free from the shackles of their slower growing counterparts in the G7. That theory was given far too much airtime, since countries like Saudi Arabia, China and India are still very dependent on Western demand and Western investment. This co-dependency was enough to knock at least two percentage points of growth off for each country this year.
Tony Angel, Managing Director of EMEA for Standard & Poors, at the same gathering of business executives said the relationship between the G7 and the rest of the world is tighter than ever. One lesson we learned from this mammoth downturn is that emerging markets are “embedded in the world economy.” That too, said Angel, is a good thing since it is “time to move on from a uni-polar world.”
Companies of the emerging market countries have moved well down the track this decade. The names of SABIC (Saudi Arabia), Lenovo, Haier (Chinese), Tata, Ranbaxy (Indian) and Embraer (Brazil) should all sound familiar to those of us in the business. All six have emerged as major players either through their global growth or by acquisition of global counterparts.
With a bit of research, I found that the term “emerging markets” was coined in 1981 by World Bank economist Antoine van Agtmael. So, in less than three decades these economies have become not only magnets for foreign direct investment but as capital generators in their own right.
They have their own set of challenges; the risk of a harder economic landing is there and the train may be paused at the station, but demographics and growth are on their side.
Surprises Lurking in the Shadows
The noise represents the sound of expansion -- big pylon drivers bang away day and night as yet another tower looks to fill more space in the Dubai skyline.
Depending on where you are staying, big shadows are cast from these vast skyscrapers which block the bright sunlight of the Arabian Gulf. But visitors to the region in search of high growth and opportunity are finding that even the best intentions and strong will cannot overcome what is a Western-led financial crisis.
The finance minister of the region’s most populous country, Egypt, is striking a more cautious tone right now after posting the best economic growth in two decades. Youssef Boutros Ghali is an old hand in Egyptian politics and he told Marketplace Middle East he is only hoping for the best.
When asked if Egypt can hold onto at least five and a half percent growth after hitting more than seven percent last year, Boutros Ghali hedged his bets: “I am keeping my fingers cross. We have not seen the end of this problem. We have not seen the end of this crisis. My suspicion is there are surprises lurking in the shadows. ”
There are signs of concern from most camps throughout this broad region. Just two months ago, the International Monetary Fund was predicting growth in excess of six percent. That is low by regional standards, but certainly not recession. The challenge is the pillars that were projected to support that growth -- oil, property development and financial services -- are in the danger zone.
As I was waiting for a car to take me to chair the Leaders in Dubai conference this past week a banker from Bahrain shared his thoughts with me: “We don’t know where we are going,” then drawing on the metaphor of the car he was about to jump into he said, “That is my biggest fear after knowing only growth for a decade.”
It was a brief encounter, but certainly summed up the sentiment. A great deal of information is shared in the lobbies of hotels, at the coffee bars and, yes, in the taxi queues. I always find the lobby of the Emirates Towers Hotel the best hub for gathering sentiment. A year ago while taking in an espresso there, the talk was dominated by private equity players from Europe and Asia ready to fund the latest project. Today, the discussion is about which projects get completed and which ones get mothballed.
This is the modern form of the ancient agora where real time information and gossip from business peers replaces efforts by government leaders to manage expectations.
Those participating from outside the region at Leaders in Dubai were not providing the answers or inspiration that many were looking for. James Wolfensohn, the former head of the World Bank said no corner of the world will be left untouched. He pointed to outstanding derivative trades that still need to be unwound that hover over the banking sector like a dark cloud. “I can only say we are in a tough situation” said the veteran banker.
On the trip back to Dubai Marina on the Sheikh Zayed Road, one scans the skyline to see what has been completed to date and what is still under construction. This is one of those places where it is difficult to tell how much capacity is too much. There are a lot of rental signs in place which seems to square up with a report from HSBC that house prices in Dubai and Abu Dhabi fell for the first time. That seems only logical after a four-fold surge over the last decade.
Right now, global markets are not being built on logic, but on fear. That is what has taken the Dow Industrials below 8000, oil below $50 a barrel and property prices in some markets around the world down 20-30 percent.
Barrels of Concern
When we were in school doing our maths, our teachers always instructed us to use a pencil and not a pen in case we made mistakes. It was impossible to erase a miscalculation back then. Those who are making economic and energy forecasts right now might be wise to do the same.
With as much exuberance on the way up to $147 in July, we are witnessing equal pessimism on the way down to $55 a barrel. The internal tussle within OPEC back in July was supplying more oil to meet demand. Today, the 13 members cannot scale back fast enough. After trimming production by one and a half million barrels a day since September, they are looking at another emergency meeting for the end of November in Cairo. Playing catch up with the markets is always a frustrating game, and that is the one being played out today.
If we continue along this path, don’t be surprised if the six and a half percent growth earmarked by the International Monetary Fund for the Middle East gets crossed out shortly for a lower number. That will spill over to the property sector where we are starting to see 10-20 percent falls for villas and flats in Dubai. Officially we don’t know how leveraged some of these companies are, but there is a lot of discussion off-line that provides a pretty good indication.
In the meantime, OPEC members will do their level best to find the middle ground. While on a trip to Cyprus for bi-lateral meetings, the Prime Minister of Qatar, Sheikh Hamad Bin Jassim Bin Jabr Al-Thani reiterated his call for a trading band, "We think that $70 to $90 is a fair price because you need to keep new exploration to go on and as you know, the investment in the oil is expensive.”
That appears to be the Goldilocks scenario for OPEC: not too hot, not too cold, but just right. Right now, regional producers still make plenty of money at $55, but they are losing $2 billion dollars a day from the go-go times of July -- that’s three quarters of a trillion dollars a year.
Power in Reserves
In their World Energy Outlook, the IEA projected spending of $24 trillion in energy between now and 2030 to meet the demands of the fast developing countries from Asia to Latin America. I found it interesting that only a quarter of that (he says lightly) is forecasted to be spent on oil and gas. Half is forecasted to be spent on power generation and a good slice of the total on conservation.
The IEA sees demand growing from 86 million barrels a day to over 100 million in that time frame. Make no doubt about it, with 78 percent of the proven reserves today, OPEC will be in the driver’s seat once the doom and gloom clears -- whether it is in 2010 or a tad later. Non-OPEC oil fields are reportedly depleting by six percent a year now. That is expected to jump to eight percent in the next two decades.
If that is the case and this forecast holds up, the IEA believes oil will average $100 a barrel between now and 2015. By 2030, the agency is expecting today’s barrel of oil to be priced at $200.
In the meantime, a projected $450 billion is needed to develop reserves that have been identified and even more to find those which have not. At today’s prices that is a tall order. Let’s hope that the Goldilocks scenario returns fast so forecasters can rework their numbers up, rather than down yet again.
The Obama Affect
As the results began to roll in with Electoral College votes taking Barack Obama over the magic number of 270, SMS and email messages were not far behind. “We won!” was the exclamation from an American colleague. “I am so excited, I can’t sleep,” was the next from an international friend who took a special trip to Washington to witness history. That back and forth messaging started with “You have the coolest President ever.”
It is not dissimilar to the coverage and the official accolades that were aired on CNN the day after the big vote. Many in the world see the President-elect as the great unifier, someone leaders from Asia, Europe and the Middle East can relate to and see eye-to-eye with.
Expectations are sky high and there is some danger inherent in that. The dollar rallied briefly, which kept oil prices near $70 a barrel and battered stock markets in the region moved up with only measured optimism. That spirit faded quickly, with investors looking at the task ahead and reservations about his perceived position on taxes and trade.
The new team knows the honeymoon period will be limited. Cabinet posts are being filled. There is a global emergency economic summit on November 15th in Washington to prepare for. The world is looking to the President elect for leadership on a new financial architecture, bringing new countries into the G-8 and revitalising or sidelining the International Monetary Fund and/or the World Bank.
If one adds up the current budget deficit, the bank bailout package, money put forward for Fannie Mae and Freddie Mac and allocations for Iraq, Mr Obama is looking at a shortfall of $1 trillion or more. That is a huge hole to fill no matter who runs his Treasury department and the Office of Management and Budget. If he manages his White House in the same fashion as he ran his campaign, we have a lot to look forward to. For a 47 year old junior senator from Illinois, he is long on poise and foresight, which many in region would privately say over a dinner, coffee or tea has been in short supply over the past eight years.
President Obama will take office during a time when the axis of the world is tilting east. Even during this downturn, global economic growth is being powered from the Middle East to China. Growth and natural resources are key components of power. At this juncture, the U.S. is falling short in both categories. It seems only natural that governments with reserves of some $3 trillion will seek a larger seat at the table of a new G-14 or G-15. That will take some fancy footwork from the new President because other existing members in the group don’t want to dilute their power.
Since the Dubai Ports deal imploded in the winter of 2006, the sovereign wealth funds and the recipient countries have accelerated a dialogue to agree on a set of guidelines for that investment. While on the campaign trail, Senator Obama expressed concern about the influence of those funds, but it is unclear if President Obama will act in a similar fashion.
The current U.S. Deputy Treasury Secretary Robert Kimmitt told Marketplace Middle East his recent five country tour of the region was an effort to “reach out to important actors elsewhere, including the Gulf.” He does not believe the new president will try to roll back voluntary guidelines, the so-called Santiago Principles, for sovereign wealth funds. Those funds Kimmitt says will be “welcomed by the new administration as they were by the current administration.”
While U.S. officials and British Prime Minister Gordon Brown toured the region, Sheikha Lubna al Qasimi was in Washington to meet with officials and help take the temperature for the U.A.E. ahead of the transition. You may recall she was the spokesperson during the Dubai Ports deal when she was Economy Minister of the United Arab Emirates. The dispute over six port operations in the U.S. was one of those nasty flare-ups where political expedience overrode long term relations.
She calls the Doha Development Round “a critical path” forward and requires “global responsibility” to reignite the process. As the dust settles in Washington, there is talk already of the new administration wanting to take a “timeout” from signing more free trade agreements. There are four in the region with the United States, but those with Egypt and the United Arab Emirates stalled after Fast Track Authority expired last year. Sheikha Lubna added there is an important role for the new administration to work with allies on bi-lateral trade. It hit $14 billion last year, which is higher than many who already have free trade agreements in place.
While President Obama will have no time to waste when dealing with the financial challenges at hand and the role of sovereign funds in that effort, his trade stance will probably evolve during his first year in office. Expectations are high and trying to deliver too much too soon not only increases the risk of failure but also seems to run counter to his style on the campaign trail.
ABOUT THIS BLOGJohn 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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