Beyond oil (Part Six of the Economist's survey of the Gulf States)

AFTER 20 years of driving taxis in Jeddah, Saudi Arabia's second city, Iqbal Kareem is going home to India. It's not worth the effort any more, he says. “They used to pay double or triple the meter. They didn't care. Now they bargain over half a riyal [about 15 US cents].”

Cabbies are great complainers the world over, yet Mr Kareem's declining fortune is not an isolated tale. Jeddah seems prosperous at first glance, but closer inspection reveals potholes, broken pavements and leaky drains. In summer, the lagoon bordering the central business district smells of sewage. A third of the city's 4m inhabitants rely on trucks to supply their drinking water.

In 1980, Saudi Arabia was one of the richest countries in the world. Today, its economy supports twice as many people on an income not much higher in real terms. It remains the world's largest petroleum exporter, but it earns no more from oil than what America spends each year on cigarettes. Salaries alone drain 60% of the state budget, and domestic debt is bigger than GDP.

The kingdom is hardly poor, yet compared with its neighbours it is looking increasingly less comfortable. Its income per person is less than half that of upstart city-states such as Qatar or Abu Dhabi, where the shops far out-chic the kingdom's dowdy offerings, and where the average motor vehicle is one-third the age. Moreover, the poor parts of Saudi Arabia look scruffier even than the villages of Oman, a country that only 30 years ago had no paved roads outside the capital, and where income per head is only now nudging Saudi levels. Even the remotest hamlets of the mountainous sultanate are served by a mobile water distribution network more efficient than Jeddah's.

The kingdom's relative decline is not all its fault. The combined oil exports of all the GCC countries have dwindled from a peak of $150 billion in 1980 to an average of $80 billion in the 1990s. Most smaller Gulf states sell more oil per head than the Saudis, however, and have no need to extend costly infrastructure across a vast, largely empty hinterland. And most of them grew rich later, so they could learn from their big brother's mistakes. Their princely palaces are not so sumptuous, nor nearly so numerous. They did not splurge so lavishly on white elephants such as Riyadh's gargantuan $20 billion airport, a third of which has been mothballed since the 1980s. And although all Gulf countries followed the Saudi model of central planning and state capitalism, most of them have been faster to abandon it, quicker to diversify away from oil, and nimbler in attracting foreign investors.

It is also unfair to cast the kingdom as a couch potato. Saudi economists, businessmen and even government officials know quite well what is wrong, and what is needed to fix it. And indeed since a key speech by Crown Prince Abdullah in 1998, in which he plainly stated that the oil boom was over, economic reform has gathered pace. Among other things, Saudi Arabia has issued laws to protect foreign investment. It has slashed tariffs to 5% across the board. It has obliged the main state firms—the national airline, the power grid and the telephone operator—to make their accounts more transparent, and it has set up regulatory bodies ahead of privatisation. A slew of other streamlining legislation is in the pipeline. The kingdom is also moving ahead with a giant scheme to allow big foreign oil firms to develop its huge gas reserves.

Yet an enormous amount remains to be done. Economists say the country needs to sustain 6% annual growth just to keep unemployment in check, rather than the 1.5% achieved on average since 1980. Saudi officials reckon they must spend $200 billion on basic services alone over the next decade. Demand for electricity is set to grow by 250% in the next 20 years, and for desalinated water by 300%. With the government's budget chronically in the red even without such extra outlays, and the post-September oil-price slump adding further urgency, the only hope is to open up the economy, fast. “The country is at a critical juncture,” says the manager of a regional investment fund. “It can coast along without radical changes for only one or two years, maximum.”

The prescription he has in mind is one that most outside analysts agree on. Privatisation needs to make rapid headway, and not only because private firms are more efficient. It is the best way of attracting back at least some of the $700 billion that wealthy Saudis have salted away abroad. Foreign investment in fields such as tourism, telecoms, utilities and financial services should be strongly encouraged. Taxes should be introduced, not just to reduce the state's debt, but to make revenues less dependent on volatile oil prices—or else the clerics who protest that anything other than a 2.5% “charity” tax is un-Islamic should be asked to pay for their free state schooling and health care.

The musty legal system needs an overhaul, too, whether the 700 religious judges who run it agree or not. This is not a question of tampering with Islamic law; it is a matter of standardising precedent, procedure and penalty so that citizens know where they stand. The cosy web of monopolies, exclusive agencies and commission-gathering gatekeepers must be dismantled, not only to squeeze profiteers but to create a transparent business climate that promotes trust.

Social policies need to be updated, too. It seems reckless to shut away half the country's talent because it happens to be female. Simply allowing women to drive could save the kingdom the 1% of its income spent on imported chauffeurs. And the taboo against birth control needs to be dismantled, as it has been elsewhere in the Muslim world. No country can afford to meet runaway demand on limited resources forever.

Given the kingdom's political constraints and the power of its vested interests, Saudi businessmen recognise that little of this will happen in the near future. But they would like the government to make a bigger effort to explain the gravity of the situation, and to debate more openly what can be done about it. On this score, at least, progress is being made. Crown Prince Abdullah has been blunt about the challenges facing the country, and at a recent business forum in Jeddah Prince al-Waleed bin Talal, the billionaire chairman of Kingdom Holdings, an investment group, spoke of the “nightmare scenario” of oil prices at $10 a barrel.

To one degree or another, all the Gulf states suffer similar problems. Oddly enough, the need for reform is most urgent in sleek, smug Kuwait. A country with overseas savings, public and private, of some $200,000 per citizen might not seem in dire need of change, but Kuwait is performing far below its potential. Despite the country's financial clout, there is virtually nowhere to invest the money at home. About 90% of the government's revenue comes from oil, and 80% of the economy is run by the state. Yet an informal poll on privatisation found a majority against it, for fear it would cause the government's generous payroll to be trimmed.

So coddled are Kuwaitis that few bother even to pay their electricity bills. They owe the state utility an estimated $1 billion. The country is beginning to lose talent as the ambitious give up and seek opportunities elsewhere. Even more worrying, the sclerosis affecting the bureaucracy has spread to the all-important oil sector. Technical incompetence, exacerbated by politicians handing out jobs for votes, was the underlying cause of a recent spate of deadly oil fires, according to most observers. And even Kuwait, say economists, cannot balance its budget when the oil price sinks below $22 a barrel.

Kuwait could learn a thing or two from its far poorer cousin, Oman. The sultanate has long recognised that it must make the most of its scant oil resources. It has spent frugally and made careful use of its natural advantages, such as its prime position astride important trade routes. The giant container port and free zone it has built at Salalah looks set to capture a growing share of the Indian Ocean transshipment business. And to make the best of its superb winter weather and miles of unspoilt coast, it has developed upmarket tourism rather than gone for the mass market. It has also moved ahead of its neighbours in privatising such assets as airports. Critics complain that Oman's government is complacent about its explosive population growth, its rigid labour laws and its turgid administration, but the bets are that it will still be a nice place to live when the oil dries up in 20 years' time.

Bahrain, too, has carved a niche for itself outside the oil business. This 700 sq km (270 square mile) archipelago manages some $85 billion in offshore banking assets. Financial institutions are attracted by a skilled workforce, good communications and a regulatory system considered the most effective in the region. The country long ago branched into industries such as aluminium refining, ship repair and petrochemicals. It also does a tidy business as a tourist destination for Saudis, who can drive across a causeway to soak up pleasures forbidden at home.

But the Gulf's most dynamic and diverse economy, and the model that its neighbours increasingly turn to, is the tiny city-state of Dubai. It is so far ahead that it threatens to vacuum up much of the Gulf's free-floating business. A visit to the emirate's modest Economic Department helps to explain why. This is where businesses register, and it is clear that the place runs like a Swiss watch. So does Dubai's spanking new airport, from which it took this correspondent just seven minutes to exit, including passport control, luggage pick-up and customs. That was an improvement on the two hours once spent at Riyadh immigration, punctuated by police kicking casually at some Indian labourers who had fallen asleep in the queue.

“Dubai doesn't need to go through reform. It's already there,” beams the head of a government think-tank. The emirate is big on hype, but the view from his 45th-floor office bears out the boast: all swooshing highways, gleaming buildings and bustling ports in the distance. Dubai's population is growing at 5.5% a year, but the economy is growing faster still. Current construction projects include a vast new conference centre, a “Festival City” stretching along 4km of waterfront, a luxury housing estate for 150,000 residents, yet another giant air terminal, half a dozen skyscrapers and the same number of new 5-star hotels. Even this partial listing amounts to an investment of at least $15 billion, a sum equal to the emirate's entire GDP—and equal, too, to current orders for new aircraft by Dubai's booming flagship carrier, Emirates.

Naysayers claim that the place has overextended itself, that many of its vaunted projects are real-estate scams, and that the emirate can afford to spend so wildly only because the giant stores of oil in neighbouring Abu Dhabi, the anchor-state of the United Arab Emirates, offer a guarantee against default. So far, however, Dubai has lived up to the hype. Tourist numbers keep climbing. Competition from new ports, such as Oman's Salalah, has not stopped growth at Jebel Ali, the Dubai container terminal and free zone that all the others have copied. Even such unlikely-sounding events as the emirate's annual Shopping Festival seem to work. Last year it packed hotels to 90% capacity and generated $1.5 billion in extra sales.

Dubai's entrepreneurs like to attribute their prosperity to the no-nonsense business instincts of the ruling al-Maktoum family, whose current head, Sheikh Mohammad, takes advice from McKinsey and likes to be referred to as the emirate's CEO. “What's different here is that bright ideas get acted on immediately,” says an investment banker. With its nearby beaches, polyglot population and varied nightlife, the city is also a congenial place to live. But the key to Dubai's success is being what its neighbours are not: open-minded, open-hearted and wide open for business

This is Part Six (the final part). Part Five, with links to previous parts, is here: The Pen and The Sword

My apologies in advance for not making it easier to link to all six parts at once.

Maybe not tomorrow, but probably in the next few decades, technology will find a replacement for most uses of oil. The Arab states have a bleak future. The upside is that they won't have the money to finance terror or agression.

Thanks for the interesting post. I have bookmarked to read the other parts. There was only one part that left me frowning.

Jeddah seems prosperous at first glance, but closer inspection reveals potholes, broken pavements and leaky drains. In summer, the lagoon bordering the central business district smells of sewage. A third of the city's 4m inhabitants rely on trucks to supply their drinking water.

The infrastructure has always been questionable in Kingdom. Many developed areas were rushed and not maintained. This part of the world is so harsh on materials that unique applications had to be developed to apply to the local conditions. Consider that ground water and soils have electrical resistivities of 35ohm/cm and you can begin to understand why the infrastructure is rapidly deteriorating. I would agree that the Emirates did benefit from the experiences in Kingdom, but I would not measure the financial health of different cities based on the unique infrastructure problems.

I have no disagreements with the Author on the other points.

A truly fascinating article.

Maybe the Saudi 'peace plan' isn't just a PR ploy. Maybe it is based on long term self interest, on a fundamental geopolitical vulnerability towards the more populous Muslim countries.

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