The Gulf and Asia: The Re-emergence of a Road Once Traveled

The Gulf countries enjoy a strategic location, and across the centuries have leveraged it to develop long-term trade and diplomatic relationships. In the past, the Gulf looked “East”: Arab dhows sailed the waters of the Indian Ocean, and Asian caravans transported textiles and spices across the desert’s trade corridors. More recently, having acquired oil wealth and an increasingly important role in the global economy, the Gulf Cooperation Countries (GCC) have developed deeper and stronger ties with the “West”. These ties cover a broad spectrum – from mutual geopolitical interests to pegged currencies – and with time have built a sense of mutual trust.

As oil rose to constitute one-third of its GDP and three-fourths of annual government revenues, the GCC has looked to the US as a partner and guarantor of security. It has also invested heavily (almost 75 percent of its foreign assets) in the US and Europe, comfortable with their developed and transparent judicial systems, especially in matters of litigation. The region’s exchange rates are pegged – either directly or via a currency board – to the US dollar and fiscal policies are fueled by oil proceeds.

So far, these arrangements have served the GCC well. The dollar peg ensured predictability in the monetary value of oil exports revenues. Fiscal spending, backed by saved petroleum earnings, promoted employment and equity. In recent years, growth has been spectacular, driven by a double boom – in oil and natural gas revenues and in the real estate and investment sectors. The GCC economy has tripled in size between 2002, when it was as big as Poland is today – and 2009, when, with a nominal GDP of $1.2 billion, it almost reached the size of Canada.

But, going forward, can this “recipe” work as well? The world is changing fast. The recent crisis has hit the “West” very hard. The Gulf needs investments and man-power. Its fast-growing population (from 28 to 39 million between 1998 and 2008) is one of the youngest and highest spending in the world. All GCC countries are now members of the WTO, with a string of free trade agreements expected over the coming years. At the same time, China has become the world’s leading exporter, and a voracious importer of oil and other natural resources. India is on the rise.

The GCC’s relations with Asian countries – until recently confined to political and diplomatic domains – are expanding. In just ten years, trade and investment between the Middle East and Asia quadrupled, and over the next decade are expected to rise further. Energy dominates trade. About 50 percent of China and India’s energy imports come from the GCC, as does more than one third of China’s crude oil needs. But non-energy trade is also growing fast: GCC’s non-oil exports to Asia are now 40 percent of total exports, and Saudi Arabia recently became the leading petrochemical supplier to China’s textile industry. Asian companies seek out Gulf markets for their goods. Chinese corporations are building railways in Saudi Arabia. A South Korean group recently won a $40 billion deal to build and operate four nuclear reactors for the UAE. Chinese warships escort commercial vessels in the Gulf of Aden and visit the Gulf’s ports. Within 10 years, the GCC is expected to provide nearly one-quarter of the world’s oil supplies as well as increasing quantities of petrochemicals, metals and plastics. Where are the buyers? As much as 60 percent of the world’s population lives in Asia, where urbanization will grow by 900 million over the next two decades. The “new Silk Road” is re-emerging as an important East-East corridor and a major trading bloc.

Additionally, the Gulf’s monetary and fiscal policies are struggling to achieve price stability and sustainable growth. Rising inflation and differing economic cycles from the US have raised questions about the dollar peg. In 2007, a pegged exchange rate forced the GCC central banks to follow US interest rates, de facto decreasing financing costs during a boom.  Also, fiscal policy has been expansionary when oil prices are high, rather than when the business cycle is in a contraction.

In sum, the GCC is finding its place in a fast changing world, where Asia is the new engine of global growth. The oil-rich Gulf and an “energy-hungry” Asia are intensifying their political relations and boosting their financial ties. Heads of state are paying each other visits and building mutual trust. The linkages between the Gulf and China and India are bound to deepen every day. This rapprochement makes strategic, political, economic, and financial sense. In other words, notwithstanding the strength of its growth model, and despite the exclusivity of its relationship with the “West”, the Gulf is slowly re-establishing its partnership with the “East”.  Over the 21st century, the Gulf’s substantial financial liquidity will be available to finance Asia’s high growth, and the region will achieve a stronger global position.