The Wealth Effect: The Gulf’s Difficulty in Spending its Vast Revenues

The geographic span to the south of the Persian Gulf and to the west of the Indian Ocean is flushed with economic activity. The region is home to several landmarks including man-made islands and record breaking sky scrapers. The rapid social and economic growth that has affected the Gulf has transformed a vast region from small tribal economies to global financial and business players. Abu Dhabi, the capitol of the United Arab Emirates, for example, lacked even a paved road before 1961. Now, it is a wealthy community, with control over major petroleum reserves and multi-national firms are present in every corner.

Despite the rapid growth, regional economies are facing a major hurdle: Absorbing the petro-dollars the accumulation of which is beginning to clog their arteries. The six nations of the Gulf Cooperation Council (GCC) earned $381 billion in 2007 from exports of oil and $26 billion from gas according to Institute of International Finance. If oil remains at $100 a barrel they will reap a windfall of $9 trillion by 2020 according to McKinsey Global Institute. This is when in 2007 the combined GDP of the GCC was $800 billion in 2007. To avoid overheating a large part of this windfall is stored in foreign assets. Some goes to central banks and sovereign wealth funds while some end up with wealthy families. It all added up to $1.8 trillion by the end of 2007, by Institute of International Finance’s estimates.

In the 1990s low oil prices left petroleum producing countries with small revenues and the level of spending was subsequently adjusted to match such low revenues. As the oil prices rose higher revenues outpaced their ability to spend. Recently, however, the GCC states’ ambitions have grown to catch up with their greater means. According to the Middle Eastern Economic Digest, members of GCC have begun projects worth $1.9 trillion in 2007, 43% more than a year ago. It is remarkable how these countries are beginning to spend on themselves.

Dubai has the tiniest oil reserves of all the UAE emirates but has been very aggressive and effective in spending its wealth widely and building an infrastructure that has transformed the small emirate into the most luxurious place in the region. Dubai has made a point of exhibiting its wealth and in the process, attracting businesses and capital from around the world. This is in part due to its long term reliance on its guests. It is now more than just a municipality with oil revenues. It’s both a destination and a business hub simultaneously.