HIGH OIL PRICE IS AFTER ALL GOOD!

There is a saying, “when it rains it pours”. That is exactly what is happening

for the Middle East economies. Almost tripling of oil prices from 2002 to 2007
has created an abundance of wealth in the Middle Eastern oil-exporting
countries. Large sums of money from oil consuming countries to Middle
Eastern oil exporting countries are being redistributed, which has created a
wind fall of dollar income of these countries which puts to shy the receipts
they saw during the oil crisis of 1970s and 1990s. This time around, learning
from the past mistakes, the oil exporting countries are investing in productive
assets, especially in physical and social infrastructure. Despite the
investment that is taking place within the oil-exporting countries, a lot of this
petrodollar is going overseas. The region’s investment agencies are
managing over US$1.5 trillion of foreign assets, this time around, a chunk of
that in the emerging world of Asia.

The question now is where is all these money going? Given the amount of
liquidity in the region, due to high oil prices and an ever-increasing demand,
the answer is hardly surprising-just about everywhere. Just earlier in the year
the central bank of UAE declared that they would like to increase the
weightage of Euro holdings to 10% or more from the measly 2% at present
and all the other central banks in the region expressed their plans to follow
suit. In reality this may not affect the US dollar but if the public investment
vehicles of these nations with assets estimated at US$1.5 trillion, were to
shift their currency, then it will ring the death knoll for most of the central
banks of the developed nations which hold their reserves in US dollar. One
thing is clear with this movement the Middle East is planning to diversify their
investments, especially, away from the US, which used to be the largest
recipient of the petrodollar for over half a century.

After the test of fire from the last oil boom in 1970s, the countries now are
not willing to go the opportunity this time. They have started investing in the
non-hydrocarbon sector to claim their economies out of the over reliance on
the hydrocarbon sector, which is highly speculative. This can be viewed in
Dubai International Capital’s purchase of 2% stake in DaimlerChrysler and an
investment of US$1.5 billion in Madame Tussauds, the British wax museum.
Other examples include Dubai port buying P&O and Mubadala Development
Company, and an investment company in Abu Dhabi purchasing 5% in Italian
car maker Ferrari. Apart from these big-ticket investments these surplus
petrodollar is also flowing to the emerging markets of Asia. This is not without
reason.

For the Middle East, Asia is a safe place to park their funds. With the
uncomfortable relations with US and the popular negative perception of the
west as a whole, the Middle East countries need better investment
opportunities outside the western nations and particularly US. Where else is
the better place then to look at their Asian peers, whose economies can
absorb any amount of money that is poured in, with a good, if not, better
return than the western world.
This evident from the fall of US T-bill holdings in the portfolio of the Middle
East central banks. Let’s now ask the same question again where else the
money is going then? The answer is they are coming to Asia and especially
the emerging markets of Asia.

In India we are witnessing one of the economic miracles, perhaps first time in
our history all the asset classes –share market, bullion, real estate, debt
instruments and even interest rates—are moving north in tandem. The classic
economic theory dictates otherwise, and insists some of them have an
inverse relationship with each other. The answer to this economic unreality is
the petrodollars finding their way into Indian bourses, real estate, companies’
et al. Let’s not forget this is a hot money going into very liquid asset classes.

Apart from the investment in these asset classes in the emerging markets the
Middle East banks are investing a lot in hedge funds and investment banks.
The petrodollar is ferocious in assimilating the assets through out the globe
with accumulation of gold papers sending them north. Where this will all lead
to? They are good in one sense and bad really -really bad in another.

Let’s now see how bad it is. This is creating a notional increase in the assets
at an outrageous pace. This is exactly what happened in the early 90s with
the Asian tigers who became the tamed cats in 1997 with the collapse of
their economies like a heap of cards.

It is good in a sense that it circulates the money to other economies, which

are in need of them, one being India. The oil price increase of the 1970s
created an economic slump of the world economies but today this has
created an economic boom for the world economies. The difference is back in
70s the oil sheikhs spend their money wastefully but today they are spending
it wisely. The oil price increase has created more petrodollars for the Middle
East, which they are investing in building infrastructure of their own country
apart from participating in building the infrastructure in countries like India
through way of much needed foreign direct investment (FDI).

This can be seen in almost all the infrastructure sectors of the Indian
economy. The one recent example is the Oman Oil Company taking stake in
the Bina refinery of BPCL. The EMAAR Group of Dubai is coming into India
through a joint venture with MGF and is investing over US$4 billion, tipped as
the largest FDI in India in real estate, in various projects in Delhi, Andhra
Pradesh, Tamil Nadu, Karnataka and Maharashtra. The Middle East money is
also coming into India through various FIIs, hedge funds and VCs. This has
helped in heating the already boiling asset classes in India.

The trade and investment of Middle East economies with US and their
western counter parts is been declining since 2005, thanks to US policy
towards the region. The Dubai Port World’s (DPW) decision to sell its US ports
on the back of the US Congress’ concerns about a UAE government linked
company owning ports in US may be sited as an example. The vacuum that is
being created in the trade side is being filled in by the emerging economies
of Asia, like China and India, swiftly and efficiently. The Indian export to the
Middle East has grown 31% last year and is likely to increase further this year.

This is a bare opportunity presented to India to capitalise. If India can

capitalise this opportunity, apart from reducing the trade deficit created by
the increase in oil price, India can also attract a pie of the US$1.5 trillion
floating in the global market to its much needed infrastructure sector, to build
a nation in which we all will be proud of.

After all high oil price is good for the Indian economy, if not always,
now.