from Follow the Money

Hmmm. Iran isn’t like other oil producing countries …

June 23, 2006

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Iran has a bit more interest than average in nuclear power.    Setting Russia aside, of course. 

And Iran is actually spending its surging oil revenue rather than salting most of it away, unlike most other oil states.

The fact that Iran keeps its domestic petrol price very, very low doesn’t differentiate it from other oil producers.  Nor does the fact that it has to import refined product. Iraq also sells imported "product" at a very low price.  Even with an IMF program and lots of advice on economic management from the US.  

All big oil producers tend to sell petrol at artificially low prices – it is one way of sharing the oil wealth with the people.   The real outliers are oil-consuming countries like China that subsidize (rather than tax) petrol.   What differentiates Iran is that it has a lot of people relative to its oil – so demand for cheap oil is higher than in say Saudi Arabia.  

Yesterday’s Wall Street Journal article reminded me of one of the more surprising outcomes of the survey of  the spending – really importing – patterns of the big oil producers than Malcolm Easton and I did as part of our work on the oil surplus (alas, that paper is not something I can give away).    It turned out that Iran was at the top of the league table when it comes to oil spending – ahead of even Venezuela.     Ahmedinejad isn’t just emulating Chavez, as the Wall Street Journal argues. 

Mr. Ahmadinejad is emerging as an Iranian version of Venezuela's Hugo Chávez: a pugnacious politician, buoyed by oil money, whose anti-elite message and defiance of the West is causing his popularity to soar.

Iran is setting the pace – topping Chavez.  Iran spent 64% of the increase in its exports revenue between 2002 and 2005 on imports ($18.6b of $29.1b). Venezuela lagged a bit, spending only 56% of our estimate of the increase in its export revenues on imports ($11b of an estimated $19.6b increase). 

Iran stands in stark contrast with its neighbors to the south.  Most Gulf oil states are importing (and basing government budgets) as if oil was at roughly $30 a barrel.   See the IMF’s quite good Middle East Regional outlook.

My guess – and I haven’t worked out the details – is that Iran is spending and importing at a pace that works only if oil is above roughly $50 a barrel.   

That suggests, at least to me, that if the US and others really wanted to encourage political change in Iran, the strategy that would be most likely to succeed is rather simple.   

Consume less oil.   Tax it heavily here in the US.  Encourage China to do the same.  Drive down global demand.   Low oil prices would put an awful lot of pressure on Ahmadinejad and the others in control of Iran.  Friedman is right on this.

That isn’t to say, though, that I think it is a good idea for say Saudi Arabia to have a budget that balances with oil at $30 anymore than it is a good idea for Iran to have a budget that balances with oil at $50.    There is a happy median. 

There does need to be, in my view, more thought given to innovative ways of sharing more of the Gulf’s oil wealth – and its current oil windfall -- with its people.   I am all for saving for a rainy day, and for using the proceeds from an oil field that will be exhausted in ten years or even thirty years to build up an investment fund rather than just spending the windfall on the current generation.  

But everything can be taken to excess.  

The folks who are benefiting the most from the current oil windfall in some ways are Saudi Arabia’s bankers (and others managing the Saudis money).  More of the oil windfall right now is being sequestered in offshore bank accounts – and purchase of foreign securities – than is being spent in the key Gulf states.   Think about it.   The Saudi government (counting Saudi Aramco as part of the government) produces oil for $5 a barrel, probably less.  It sells it for say $65.    The budget balances if oil is at $30, maybe less.    For background, see this Riyad bank publication.

That means that right now $25 of Saudi Arabia’s oil rent goes to budget (and gets injected into the Saudi economy) and $35 or so goes into the international financial markets. 

That directly and indirectly helps finance the US current account deficit.

But it also means that many folks in the Gulf aren’t benefiting as much as they could from the oil windfall and that the oil states are contributing far more to global demand for financial assets than global demand for goods and services.

 One standard concern about more spending is that it leads a real appreciation and that hurts efforts to diversify oil states economies.  But in all honesty, Saudi Arabia shouldn’t be diversifying with oil at $70.   At least not beyond Petroleum refining, petrochemicals and managing all the petrodollars and petroeuros that it now has in its bank and investment accounts.    If God wanted the Saudis to manufacture textiles, he (she) wouldn’t have put so much oil under the desert …

Oil production doesn’t employ many people, and that is a problem.  But putting a bit more money into the local economy might stimulate the services sector, and that does employ people.   More boutiques and the like.

One obvious first step would be for the Gulf countries to stop pegging to the dollar.   Right now, the dollar peg implies that the Gulf countries have to drive the value of their currency down (in real terms) even as the real value of their exports soars.   There is no particular reason why a Saudi riyal should buy fewer European goods now than it did in say 2002 …

I also think that letting the real value of oil exporters currencies fluctuate with the real value of their exports – Jeff Frankel has proposed that commodity producers peg to the price of their main export-- is an easy way to help the governments of oil states manage oil related volatility in their revenues.   Currency flexibility can substitute – to a degree – for large stock of fiscal reserves (dollars and euros in the bank).    But that is a topic for another day. 

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