The current recession has hit many Western countries with a severity not seen since the global depression in the 1930s. The oil monarchies of the Gulf, by contrast, had their own depression in the 1980s and they have drawn their lessons from it. While the global downturn and the concomitant fall of oil prices has affected the Gulf states significantly, they have been better prepared to ride out the current crisis than most other countries around the world.
The recent fall in oil prices has by many measures been more spectacular than that of the early 1980s. Prices collapsed from U.S. $140 per barrel in summer 2008 to below $40 in early 2009, with only a partial recovery since then. The rapidity of the fall caught most market watchers unawares. The 1980s collapse was gentle by comparison, as prices declined gradually from about $40 per barrel in 1981 to $25 in 1985, reaching a temporary low of $10 only in 1986. It gave governments much more time to adjust?or so one would think.
In fact, the 1980s slump led to government panic and private sector collapse in the Gulf, while the reaction to the recent decline has been much more measured. In the 1980s, governments slashed budgets, armies of local contractors went bankrupt, and large family groups found themselves insolvent, setting the stage for slow and painful consolidation and restructuring during the low-growth decade of the 1990s.
This time around, most Gulf Cooperation Council (GCC) governments are actually stepping up spending instead of curtailing it, and private business is growing more slowly rather than collapsing. Private banks and family groups that face trouble do so due to contagion from the international financial system rather than oil price gyrations or fiscal reversals.
GCC economies have matured in two respects. First, fiscal policy in the 2000s has been much more careful in the than it had been in the freewheeling 1970s, allowing governments to react more flexibly to the current slowdown. Second, the private sector in the respective GCC countries has become much less dependent on state spending, insulating it against a potential fiscal crisis to a much higher degree than they were in the 1980s. While the first change is of immediate import, the second carries potentially stronger long-term significance.
In the 1970s, spending tended to follow on the heels of increasing oil income. In Saudi Arabia, the compound annual growth rate of state income between 1969 and 1976 was 57 percent, while the same rate for state expenditure was 55 percent. In other words, almost all the additional income in this period of oil price increases was spent immediately. From 2002 to 2008, by contrast, the growth rate of state income was 31.5 percent, while expenditure growth was 14 percent annually. While expenditure has expanded substantially?spending has more than doubled since 2002?more than half of the annual additional income has been saved.
Fiscal expansion has been similarly cautious in other GCC states. This means that levels of overseas reserves in most cases are higher relative to national budgets than they ever were before, despite significant investment losses incurred during 2008. In early 2009, the richer GCC states all had enough overseas assets to finance several annual budgets even in a hypothetical case in which they lost any source of current income?an enviable situation for any state to be in. Based on unofficial estimates of overseas assets, Qatar’s savings would be enough to continue 2008 spending levels for more than two years, while Saudi Arabia could go on for more than three, Kuwait for more than four, and the UAE for more than five years. By comparison, at the end of the last oil boom in 1981, Saudi Arabia’s overseas savings would have sufficed for financing little more than one annual budget, a much smaller piggy bank that was indeed depleted within a few years.
Accumulated overseas assets mean that even if some of the GCC states incur moderate budget deficits in 2009, this hardly endangers their mid-term fiscal position. The relative fiscal caution of the recent boom almost certainly reflects lessons learned from the 1980s crash. It now allows the Gulf monarchies to pursue measured fiscal expansion in 2009 as a countercyclical measure, increasing their spending on both salaries and projects to get their economies through a difficult patch. Apart from politically-hamstrung Kuwait, all GCC countries have budgets for 2009 that are as large as or larger than the ones for 2008.
A change that is less directly measurable but just as important is that private business plays a much more mature role in national development than it once did. Econometric tests demonstrate that Gulf private sectors today are much less dependent on government spending than in the 1970s or 1980s, and they cater to a larger private demand. Their share in gross fixed capital formation has greatly increased?in the Saudi case from one-third to almost two-thirds of the national total, despite the recent public sector construction boom. Gulf merchants have evolved from local rentiers to regional champions, are much less dependent on direct government handouts, and have become increasingly active as cross-border investors on the Arab stage. Thus even if governments had to curtail their spending, it would have a less dramatic effect on business than it did a quarter of a century ago.
Gulf economies still face potential long-term problems; demographic trends will make recent increases in spending difficult to reverse and state expenditures will likely remain on a long-term growth path. No GCC state has ever managed to curtail its public payroll, and even in the austere 1980s and 1990s urgent subsidy cuts were politically difficult and often reversed after business or public protests. Handouts, once institutionalized, are difficult to revoke. If recent spending increases are ratcheted in this way, they could result in structural problems in public finance in a decade or two for even the richer Gulf States.
These problems will not be insoluble, but they could require a painful renegotiation of the social contracts that currently hold the GCC states together and have kept most of their populations calm during the current crash.It is at this point that the greater fiscal resilience and accumulated assets of private business could become politically relevant. What the eventual dispensation would look like is not clear, but state and business would likely face each other on a more even political field than in the past.
Steffen Hertog is Kuwait Professor at the Chaire Moyen Orient Mediterrannee at Sciences Po Paris and author of Princes, Brokers, Bureaucrats: Oil and State in Saudi Arabia (Cornell University Press, forthcoming).