Posted on Sunday, October 5th, 2008 by bsetser
We aren’t there quite yet. At least not on an annual basis. The oil exporters foreign asset growth in 2008 will likely top their 2007 foreign asset growth.
But we may not be that far away.
On a quarterly basis, the foreign asset growth of the oil exporters probably peaked in either q2 or q3 2008.
The oil exporters certainly aren’t feeling quite as flush as they once did. Somehow an import bill that can be covered — without dipping into existing assets — if oil is above $70 and a $90 a barrel market price doesn’t feel quite as secure as an import bill that can be covered if oil is above $20 a barrel and a $40 a barrel market price.
Three things have combined to put a bit of pressure on the oil exporters — and the portfolio managers of their central banks and sovereign funds:
1/ Oil prices are no longer rising faster than domestic spending and investment. Instead oil prices are falling as domestic spending and investment (and associated imports) rise. That means the oil exporters have a smaller monthly surplus, as a higher fraction of their oil export revenue is spent on the imports associated with higher levels of domestic spending and investment. Rachel Ziemba and I believe that the oil exporters will “break even” (neither adding to their foreign assets or dipping into their external savings) this year if oil is around $70 a barrel. That break even price though has been rising quickly — and it isn’t inconceivable that the break even price might be $75 or $80 a barrel next year (unless some folks with ambitious plans cut back in the big way; with rents up 65% this year in Abu Dhabi there is certainly a bit of froth in the market) and, well, the market price of oil could potentially be lower than that.
2/ Any sovereign wealth fund that invested heavily in equities has been hurt by the global sell-off. Anyone who shifted from the US to Asia (remember all the talk of a new silk road?) has been hit particularly hard. Hedge funds haven’t been a safe haven either. Global equities indexes are down 25% on the year. I don’t think the Abu Dhabi Investment Authority is quite as large as some people think, so I don’t think it started the year with a $400b equity portfolio. But even it didn’t have a big enough equity portfolio to be in position to see a $100b loss on its equity portfolio, it clearly is down substantially. Indeed, Rachel and I now suspect that SAMA will have more foreign assets than ADIA by the end of the year. Holding a conservative portfolio has paid dividends this year.
3/ The oil exporters are increasingly using their reserves (and sovereign funds) to stabilize their own markets. Russia has indicated that it will lend up to $50 billion from its reserves to domestic banks having trouble rolling over their external credit lines. The UAE has announced a similar $13.5b facility, a facility that is considered to be a “quiet” bailout of Dubai by the much richer sheiks of Abu Dhabi. Dubai itself has indicated that one of its funds — DIFC Investments — will support the local market. Kuwait’s central bank is lending domestically as well — and the KIA has been intervening to support Kuwait’s domestic stock market.
A lot of the oil exporters had very large fiscal surpluses from oil — as the foreign exchange from oil sales was held in foreign currency at the central bank or invested through a sovereign fund. But a lot of private (or quasi-private, as the dividing line between public and private often isn’t clear) banks and firms in the oil exporters were borrowing heavily from banks abroad. That flow has dried up. And the state is being called on to step in to stabilize things — much as the state in the US and Europe is trying to offset a collapse in private intermediation.
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Posted in Sovereign Wealth Funds, oil | 17 Comments »
Posted on Thursday, September 4th, 2008 by bsetser
The recent fall in oil prices seems to have caused a wee bit of trouble at a few commodity hedge funds.
But it is important to keep the fall in perspective. If oil stays around $110 for the rest of the year, the sweet light stuff should average about $112-113 dollars in 2008, about $40 a barrel more than it averaged in 2007. If it slides to around $100, oil will still average close to $110 dollars this year, or almost $40 a barrel more than in 2007.
I did some very ballpark math to calculate the annual increase in oil export revenues associated with oil price moves since 1990. To keep everything simple, I assumed the big oil exporters exported a constant 40 mbd during the entire period. I know that is wrong, but I don’t have an “net oil exports of the big oil exporters by month” (or even by year) going back to 1990 readily available. It isn’t wildly off though, and it tells the story well. A $112 average oil prices means the oil exporters should have about $500 billion more than in 2007. That is probably a bit low, as I suspect net oil exporters of the big oil exporters are now a bit over 40 mbd (oil experts, please chime in!)
And just to be clear, despite the chart’s title, the chart shows the estimated change in oil export revenues for all oil exporters, not just the Saudis.
Incidentally, the oil exporters probably now need an oil price of around $70 a barrel to cover their import bill, so $500 billion plus isn’t a bad estimate for their combined current account surplus — or for their official asset growth — in 2008. I’ll be interested to see the IMF’s estimate of this in the WEO.
The Saudis don’t have a thing to worry about it oil stays at its current level. They can spend more at home and buy more assets abroad. And Abu Dhabi can continue its current spending (oops, investment) spree — and make sure the world knows that Abu Dhabi, not Dubai, has the real cash. Like Landon Thomas, who recently wrote “Abu Dhabi has sometimes seemed jealous of Dubai’s ability to draw attention to itself,” I get a sense that the al-Nahyan family got tired of seeing all the talk of big “Dubai” wealth funds . Abu Dhabi certainly hasn’t been trying to hide its wealth recently — which is something of a change. It also calls into question why Abu Dhabi continues to avoid disclosing ADIA’s size. The argument that Abu Dhabi doesn’t want to attract too much attention doesn’t really cut it these days.
Posted in oil | 10 Comments »
Posted on Thursday, August 7th, 2008 by bsetser
Airbus is looking to source more parts (and produce more) in the dollar zone. Selling a product denominated in dollars with a euro cost structure isn’t currently a recipe for enormous profits.
China is part of the dollar zone, for better or for worse. It will soon be making A320s.
So is Abu Dhabi, though it is quite hard to see why an oil-exporter with a huge external surplus like Abu Dhabi should be in the dollar zone. Being a part of the dollar zone is a big reason why inflation is very high (and probably far higher than reported) in the Emirates.
Abu Dhabi could easily import all the airplanes and airplane parts it wants. $100 billion in export revenues split among a small population produces a lot of buying power. Abu Dhabi’s native-born residents are far too wealthy to spend their time building planes. They prefer flying them …
But Abu Dhabi aspires to do more than pump oil. And its proliferating sovereign funds have the resources to make most dreams come true. Or try too.
ADIA is Abu Dhabi’s best known fund, but it is far from alone. Over the past few years it has been joined by Mubadala, the Abu Dhabi Investment Council (a fund set up to manage ADIA’s regional investments) and perhaps Taqa (an ambitious state energy company that is investing in energy projects outside of the Gulf — and in effect doubling down on Abu Dhabi’s energy exposure rather than diversifying away from it). Wayne Arnold writes:
There are at least eight Government-owned or Government-controlled institutions now investing sovereign funds on behalf of Abu Dhabi. Far from just trying to drive up short-term gains, most share the goal of securing the long-term prosperity of the emirate, whether by providing nest eggs for retirement, securing long-term supplies of food and energy, promoting the development of new industries that create skilled jobs and reduce Abu Dhabi’s dependence on oil, or just amassing endowments.
While ADIA may have a portfolio that looks rather like a pension fund or a university endowment, Mubadala is more of a “sovereign economic development fund.” Its mandate goes beyond returns. It is also supposed to promote Abu Dhabi’s internal economic development.
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Posted in Sovereign Wealth Funds, oil | 34 Comments »
Posted on Sunday, August 3rd, 2008 by bsetser
The Gulf has — by virtue of its peg to the dollar — entered into an era of “single digit interest rates and double digit inflation.” So writes the Global Financial House in its report on the Gulf’s economic outlook:
the region would have to “live with the paradox of single-digit interest rates and high double-digit inflation”, said Ala’a al-Yousuf, Chief Economist at GFH.
Moreover, loose monetary policy is generating pressure to loosen fiscal policy, as it is hard to explain why real wages for government workers are falling when oil revenue is soaring. That too will add to inflationary pressure:
So far, the government response to spiralling inflation has been in the form of higher wages, increased subsidies and other cash incentives, the report said, in the absence of any relief from the currency effect of the dollar peg.
“In our opinion, the GCC is entering a phase of loose monetary-fiscal policy spiral, which, together with a wage-inflation spiral, have trapped the region between two impossible trinities,” said Hany Genena, Senior Economist at GFH.
Government spending is set to rise 25% this year, reaching $300 billion. That is roughly half of the Gulf’s likely oil export revenues, assuming roughly 15 mbd of exports, an average oil price of around $120 for the year and $5 a barrel production costs. And that total leaves out — I think — a lot of government sponsored investment projects.
No wonder the region is booming. Monetary and fiscal policies are both wildly expansionary. This will, over time, help to reduce the oil exporters surplus and thus facilitate global adjustment. But it also risks laying the ground for big problems if the price of oil turns down.
Letting the exchange rate adjust up — and down — with the price of oil still seems to me to be a better way of managing commodity price volatility.
One thing though is clear: at current oil prices, the small Gulf states are once again fabulously wealthy.
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Posted in Monetary policy, oil | 30 Comments »
Posted on Monday, July 28th, 2008 by bsetser
Capital flows through London are often taken as a proxy for petrodollars. Bloomberg’s Daniel Kruger, for example, argues that the buildup of Treasuries (and I would assume Agencies) in the UK reflects oil money.
The Organization of Petroleum Exporting Countries held $153.9 billion in Treasuries at the end of April, Russia had $60.2 billion and Norway owned $45.3 billion, according to the Treasury Department. Combined, that represents a 113 percent increase from 12 months earlier. Oil producers own a majority of the $251.4 billion in Treasuries held in the U.K., an 85 percent increase.
Unicredito’s Dr. Harm Bandholz also uses capital flows through London as a proxy for petrodollar flows.
This isn’t unreasonable. London probably manages more petrodollars — and more Gulf sovereign wealth fund money — than any other financial center. And there is a reasonably close correlation between the UK’s purchases of Treasuries and the price of oil (or my estimate of oil foreign asset growth).
Correlation though, doesn’t imply causation. There is also a close correlation between purchases of Treasuries and Agencies through London and China’s reserve growth.
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Posted in Sovereign Wealth Funds, central bank reserves, oil | 64 Comments »
Posted on Saturday, July 19th, 2008 by bsetser
Dubai is rather frothy. Landon Thomas of the New York Times reports that rents are up 40%. New supply has to be coming onto the market, but I guess it has yet to catch up with demand. And it isn’t hard to see why. Oil is — thankfully — off its recent highs. But at close to $130 a barrel, it is still well above its average 2007 price of around $70 a barrel.
The rise in prices between 2008 and 2007 has, obviously, come a lot faster than the rise in prices from say 2003 to 2007. The following chart* shows the estimated export revenue of the world’s major oil exporting economies as a share of world GDP if oil averages $120 a barrel this year. An average price of $120 a barrel requires $130 oil for the remainder of the year.
I also plotted the y/y increase in oil export revenues — both in billions of dollars and as a percent of world GDP. If oil averages $120, the 08 rise in oil export revenues would be comparable in size — relative to world GDP — to the rise in 74 and 79. An average oil price of $120 a barrel would increase the export revenue of the oil exporters by about $900 billion.
This calculation assumes that the oil exporters will export about 45 million barrels a day of oil.
Each $5 increase in the average price of oil increases the oil exporters’ revenues by about $80 billion, so if oil ends up averaging $125 a barrel this year rather than $120 a barrel, the increase in the oil exporters revenues would be close to a trillion dollars.
I consequently was a bit slow putting this post up. If I had put it up a few days ago, I could have talked about the “Trillion dollar oil shock.” I learned the value of a catchy headline last week.
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Posted in Uncategorized, oil | 17 Comments »
Posted on Tuesday, July 8th, 2008 by bsetser
The FT’s leader concisely summarizes the arguments against the Gulf’s peg to the dollar.
“The UAE either keeps its currency pegged to the dollar, in which case too many dirhams will chase too few goods, and prices will inevitably rise; or else revalue the dirham so each one is worth more dollars.
Both options achieve the same end result but inflation has greater drawbacks. First, it is slow, whereas revaluation is instant. Second, once started, inflation is hard to stop because workers demand higher wages to compensate. Third, there is a risk of asset price bubbles in the Gulf nations because high inflation means that real interest rates are too low. Fourth, inflation hurts the poor (who do not have direct access to oil revenues), and so harms political stability.
There is also a specific problem with pegging to the dollar. Gulf currencies have actually had to depreciate against the euro in order to follow the dollar, the exact opposite of what they need, and a shift that will cause even more inflation.”
Alan Greenspan has suggested that the Gulf should allow their currencies to float. It would be hard, though, for the UAE and Qatar and Kuwait to float if Saudi Arabia remains pegged — especially if they aspire to form a monetary union. If the Saudis floated, the rest of the Gulf could peg to the riyal, but that also seems like a remote possibility.
The FT suggests that the GCC shift to a basket peg. The risk of shifting to a basket peg now though is that it locks in the Gulf’s depreciation against the euro. If the dollar were to rebound against the euro, a basket peg would imply that the Gulf’s currency would need to depreciate against the dollar to avoid appreciating against the euro by too much — no matter what happens to the price of oil. That doesn’t make much sense. A basket peg protects against further dollar depreciation, but it doesn’t address the core problem: the Gulf, like China, needs to appreciate against the ensemble of its trading partners.
The FT suggests addressing this by combining a revaluation with a basket peg. It then goes one step further and suggests that the Gulf should consider including oil in their basket.
“The Gulf needs to peg to something. A first step (after revaluation) would be to peg to a basket of currencies that included the euro and the yen. A bolder step would be to include the price of oil in that basket, so that currencies would appreciate when oil is strong, and depreciate when it is weak. That would make for smoother adjustments than double-digit inflation.”
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Posted in Exchange Rate, oil | 40 Comments »
Posted on Sunday, June 29th, 2008 by bsetser
If oil stays at $140, the Gulf — based on projections that imply GCC spending and investment will rise so that the GCC needs $55 to $60 oil to cover its import bill — the big GCC funds and central banks should add close to $400 billion to their foreign assets in 2008.
That isn’t bad for a region whose total GDP was about $400 billion as recently as 2003 (see the IMF).
It is also a reminder that the institutions that manage the Gulf’s foreign assets will do more than determine the size of some investment bankers’ bonuses. They increasingly will shape global capital flows.
The graph showing the estimated overall increase in the GCC’s assets also shows the estimated inflows into individual funds. That is my little contribution to increasing global transparency.
Each of the big Gulf funds is worth getting to know a little bit better.
SAMA is the Saudi Arabian Monetary Agency. It now has around $365 billion in foreign assets — and manages additional funds for the Saudi pension system. Its asset allocation isn’t disclosed, but it is likely to be the most conservative of the big Gulf funds.
ADIA is the Abu Dhabi Investment Authority. It has a revamped, but still not very informative website. SAMA isn’t as slick, but it releases more data - and the Saudis aren’t known for their transparency. Business Week’s profile of ADIA has far more information than the web site). That said, we now pretty much know that ADIA doesn’t have as much money as some investment banks are claiming. The IMF’s Moshin Khan has said as much. So has Abu Dhabi’s emir– Sheik Khalifa. He is among the few who certainly knows ADIA’s true size. Unless someone has better information (or believes that Sheik Khalifa is understating ADIA’s size), I would argue that journalists should stop using $825 billion as an estimate for ADIA’s size — let alone the $1.25 trillion estimate sometimes thrown around. It is very big — especially given Abu Dhabi’s small population — but not quite that big. There is a risk that the Setser/ Ziemba estimate ($650b at the end of 2007) may be a bit on the high side. $250 billion was bandied about a little less than two years ago.
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Posted in Sovereign Wealth Funds, oil | 12 Comments »
Posted on Wednesday, June 18th, 2008 by bsetser
I did a podcast for cfr.org that presents my thinking on this topic.
The simplest reason why oil is up and the dollar is down is that the world economy has been far stronger than the US economy. Weakness in the US economy translates into a weak dollar. Still solid global growth translates into strong demand for oil at time when supplies are a bit tight.
It is also striking, at least to me, that the countries that subsidize oil consumption the most also tend to peg to the dollar or manage their currencies against the dollar. US economic weakness consequently has translated into low US interest rates — and low US rates have translated into low nominal rates - and even lower real rates — in the other, booming dollar zone economies. See Martin Wolf. Combine low real rates with subsidized (or at least below-world-market-prices) oil and there has been a big increase in demand for oil in many countries that peg to the dollar or manage their currencies against the dollar.
I also was persuaded by the analysis of Goldman’s fx team. They argue that there are fundamental reasons to think that a rise in the price of oil should be bad for the dollar. The US economy is energy and oil intensive. The US has the largest existing external deficit of any major oil-importing region. The US exports relatively little to the oil-exporting economies. And the oil-exporting economies seem a bit less inclined to hold dollar-denominated financial assets than in the past.
That said, I wish I had concluded by noting that there are two clear paths that could end the current “oil up, dollar down” pattern.
Weakness in the US economy could drag down global oil demand, pulling both the dollar and oil down. Asia’s 1997-98 crisis led both Asian currencies and the price of oil to fall.
Or a rebound in the US economy could push up the dollar while adding to oil demand. In 2000, a booming US pushed up oil prices and the dollar.
The dollar isn’t always weak when oil is strong. And the dollar isn’t always strong when oil is weak. But so long as global growth is far stronger than US growth, there is reason to think that oil prices will respond to global demand while the dollar will reflect conditions in the US.
Posted in Exchange Rate, oil | 36 Comments »
Posted on Sunday, June 8th, 2008 by bsetser
It is nice to be in good company. Ken Rogoff is as confused by US policy toward dollar pegs as I am. Rogoff:
Does it make sense for the United States Treasury Secretary, Hank Paulson, to be touring the Middle East supporting the region’s hard dollar exchange-rate pegs, while the Bush administration simultaneously blasts Asian countries for not letting their currencies appreciate faster against the dollar? Unfortunately, this blatant inconsistency stems from the US’s continuing economic and financial vulnerability rather than reflecting any compelling economic logic. Instead of promoting dollar pegs, as Mr Paulson is, the US should be supporting the International Monetary Fund’s efforts to promote the eventual de-linking of oil currencies and the dollar.
The macroeconomic logic of the US position is hard to decipher.
If the US thinks monetary flexibility would help China - and the rest of Asia — limit inflation, why wouldn’t monetary flexibility help the Gulf do the same? The Gulf certainly has an inflation problem. Saudi inflation is now over 10%. Qatar’s inflation is just under 15%. I would bet the UAE’s inflation rate, honestly calculated, is just as high, if not higher.
The Gulf’s peg the dollar — which is likely to depreciate in the face of the oil shock — certainly has complicates both the Gulf’s own adjustment to higher oil prices and the broader process of global adjustment. Menzie Chinn has calculated that a 10% rise in the price of oil implies a roughly 2% real depreciation of the currencies of most oil-importing economies, including the US.
In Chinn and Johnston (1996), a 10 percentage point rise in the real price of oil induces a 2 percentage real depreciation in a typical OECD country real exchange rate.
A real depreciation in the oil-importing OECD implies an a real appreciation of the oil exporting economies. Yet so long as the Gulf pegs its currency of the oil-importing economy with the largest pre-existing current account deficit (at least among the major economies), the only way this real adjustment can happen is through inflation. In that sense, inflation isn’t a problem — it is the way the Gulf has chosen to adjust.
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Posted in Exchange Rate, oil | 13 Comments »
