Business Times - 30 May 2009
Keeping a tight rein on bankers
Saudi Arabia's central bank governor Muhammad Al-Jasser explains how his country has managed to avoid the worst effects of the global financial crisis. By Vikram Khanna
WHILE there is hardly a country in the world that has been unaffected by the global financial crisis of 2008/09, some have weathered the storm better than others. Saudi Arabia would probably be near the top of that list.
This might seem surprising. As the world's largest oil producer, it has been hard hit by the more than halving of oil prices from their peak level of US$147 per barrel in July 2008. Also, having enjoyed more than five years of surging oil revenues from 2003 through mid-2008, you might think Saudi Arabia would surely have embarked on a domestic and foreign investment binge and made some speculative bets - as did some of its neighbours like Dubai, Qatar and Kuwait - and then suffered the consequences when asset prices crashed.
But none of that happened - thanks, in large part, to its conservative and prudent central bank, the Saudi Arabian Monetary Agency (Sama).
Sama's governor, a US-trained economist, Muhammad Al-Jasser, was never a believer in letting financial institutions do their own thing. 'The private interests of bankers must be guided like traffic,' he told a conference in Riyadh earlier this year.
During our conversation in a conference room at the Monetary Authority of Singapore (MAS), Mr Al-Jasser, who also spent seven years at the International Monetary Fund in Washington, reiterated his long-held - and until recently, unfashionable - philosophy. 'We have never accepted the idea of self-regulation of a financial system, or even of 'soft-touch' regulation,' he said. 'It just doesn't work. You need to have very strong financial and supervisory control in a market economy because in a market economy, people will always be trying to push the envelope. Of course, there is nothing wrong with that, but you need to have a regulatory system that prevents excesses from getting out of control.'
And so it was that Saudi Arabia, despite a rise in its inflation rate, managed to avoid the typical excesses associated with a prolonged oil boom, to which many of its neighbours succumbed.
'We did not have a real estate bubble,' said Mr Al-Jasser. 'We did not have a lot of leverage in our banking system; our banking system's leverage was about eight times. For some Western banks it was 80 times. So we preserved our financial home front. No problem there.'
However, Saudi Arabia could not escape the contagion of the global financial crisis. With oil accounting for almost 90 per cent of its export revenues, the economy took a hit when oil prices collapsed from US$147 a barrel to less than US$40 in the space of six months before starting to recover. It was also buffeted by a decline in its exports of petrochemicals. But it has managed to ride out this roller-coaster dip, which is a typical feature of every oil-based economy. 'We understand the vagaries of the oil market,' said Mr Al-Jasser. 'We've lived through it many times. And we manage our economy with that very much in mind.'
Saudi Arabia's formula is simple, an object lesson in managing a commodity-dependent economy: it practises multi-year counter-cyclical policies - that is, being prudent during boom times and turning on the spending tap during lean periods.
'We've been doing this for 20 years,' said Mr Al-Jasser. 'During times of high oil prices, we build up our reserves and we pay off our debts. So when the downturn comes, we can afford to run deficits. We tap on our reserves, and if need be, also borrow because we would have little debt.
'For example when oil prices were high from the mid-1970s to the early 1980s, we built a good reserve cushion. But between 1983 and 2002, for 20 years, we had budget deficits every single year, except for the year 2000. In 1987, our budget deficit was 25 per cent of GDP. We could not have survived if we had not planned to have a countercyclical macroeconomic policy.
'Then in 2002 the downcycle ended and an upcycle started. So what did we do? We did not spend everything we got. We replenished our reserves and paid off most of our debt. Our debt now is only 14 per cent of GDP.
'So, now, if we have three or four years of low oil revenues, we can afford to keep our economy on an even keel and continue to spend on our development projects without any serious worry.'
But the Saudi central bank governor is confident that the lean years won't persist for the oil markets. 'I don't know if oil prices will go back to their previous highs, but they will definitely go back to a level that is higher than the US$60 per barrel that we have now,' he said.
'Remember that China and India have only just started their development. Oil is their fuel of choice, for transportation, for power, for other things. Where is that oil going to come from? With the technologies we have now, we probably know where almost all of the world's oil is. The only difference is that there are areas where it is much more expensive to produce and there are areas where it is less expensive to produce. That's the supply side story.
'On the demand side, we now have a dip because of the financial crisis. But that's not going to be forever. And we know that China, India, the rest of Asia, Latin America and the Middle East - they're not going to slow their development because of oil prices. Demand will push the oil price to a much higher level than we see now because there are limitations of supply. Soft demand is only a short-term concern, but the limits to supply are a much more long-term concern.'
When it comes to managing Saudi Arabia's oil wealth, Sama is cautious. Its net foreign assets were a mammoth US$418 billion as at the end of April this year. But unlike many other countries with large foreign reserves - including several oil producers, and also Singapore - it does not have a sovereign wealth fund that invests in such instruments as equities, real estate and other alternative investments.
'We have never gone and bought properties or companies in the US and Europe,' said Mr Al-Jasser. Instead, Sama holds all its assets in the form of reserves and invests mostly in 'boring' instruments like US Treasury bonds. 'We do reserve management, not wealth fund management,' he explained. 'And it takes a totally different mindset to manage reserves compared with managing a wealth fund.'
He added that given Saudi Arabia's economic circumstances - which require drawing heavily on reserves, sometimes at short notice - investing in conservative, highly liquid instruments makes sense. 'If we had our wealth in a sovereign wealth fund, maybe when we need the funds, the value would be very low, so the losses to the nation would be greater,' he said.
However, Saudi Arabia does allocate a minority share of its reserves to a public investment fund, which invests domestically in strategic assets such as petrochemicals, mining and railways, and holds shares on behalf of the Saudi government in various enterprises.
Given its vast holdings of US Treasuries and other fixed income instruments, Saudi Arabia has a substantial exposure to the US dollar (to which its currency, the riyal, is also pegged, and in which its oil exports are priced). Some other countries that also have large US dollar exposures, notably China, have expressed concerns about the dollar's dominance as a reserve currency, suggesting that a potential weakening of the dollar would effectively devalue their reserve holdings.
However, Mr Al-Jasser remains confident about the dollar's role as a reserve currency.
'Whenever the US economy has problems, everybody starts worrying, but you've got to keep things in perspective,' he pointed out. 'In the final analysis, currencies have relative values, they do not have absolute values. If you're worried about the dollar, where else do you go? When you look at other currencies, they reflect the fundamentals of their economies. And the other major economies are not doing particularly well.
'So I don't think the dollar is losing its reserve currency status in a way that would make investors run away from it yet. It still has the deepest and most liquid market, and the depth and diversity of assets that are available in US dollars are way beyond what any other reserve currency can offer.'
But while Saudi Arabia continues to park a high proportion of its assets in the United States, it is keeping a watchful eye on Asia.
'We are very interested and very focused on trade with Asia,' said Mr. Al-Jasser, noting that the countries of the Gulf Cooperation Council (comprising the six Arab states of the Persian Gulf) signed and ratified a free trade agreement with Singapore last year. 'We know that the growth in demand for oil, for petrochemicals, will be the most rapid in Asia. And most of our manufactured imports now come from Asia. The investment opportunities in Asia are also now much greater than they were.'
One area of particular interest to Middle Eastern investors is Islamic financial services; in fact, Mr Al-Jasser was in Singapore to attend a conference on Islamic finance organised by the MAS earlier this month.
Looking ahead, he sees bright prospects for this industry. 'Sharia-compliant financial services are enjoying double-digit growth,' he pointed out. 'And the interest in these products has gone beyond the Muslim community; a lot of non-Muslim enterprises and individuals also find them attractive. And they have their attractions both on the deposit side and the lending side.'
'Singapore has a good chance of attracting some of that business,' he added. 'Islamic financial services are part and parcel of global financial services. In the final analysis, they're financial products. They have to be supervised, their risks have to be assessed and their investment criteria have to be addressed in a rigorous way, just as with any other financial services.'
This means that the regulatory environment is as important for Islamic financial services as for others, he pointed out, and this is where Singapore has the edge. 'Singapore has a well disciplined and well managed economy, as well as financial system,' said Mr Al-Jasser. 'And the MAS has an excellent reputation, not only in our region, but globally.'
However, while Middle Eastern investors have a high level of comfort with Singapore as a financial centre, there are some issues that Singapore needs to address, he said. For example, he indicated that the policy on visas for citizens of Middle Eastern countries is not as liberal as it used to be. 'The restrictions imposed make it easier for some investors or citizens to go to other countries,' he pointed out. 'I understand that there have been improvements. But I also understand that there is some way to go before it becomes easy for an investor to decide, OK, I will stop over in Singapore; right now, they have to plan well ahead and apply for a visa and so on; it's not as simple as going to other countries.'
But Mr Al-Jasser is hopeful. 'At all levels in Saudi Arabia there is strong support for expanding links with Asia and I hope that we will continue to deepen those connections,' he said. 'I hope also that the openness of Asia to investments by Middle Eastern investors will improve as well.'
Governor of the Saudi Arabian Monetary Agency
Born in Buraidah, Saudi Arabia, in 1955
Education: B.A., M.A., Phd in Economics, University of California
1981-1988: Served in the Ministry of Finance and National Economy, Saudi Arabia, including as Head of Financial and Economic Analysis
1988-1995: Advisor to Executive Director, subsequently, Executive Director for Saudi Arabia, International Monetary Fund, Washington DC
1995-February 2009: Vice-Governor, Saudi Arabian Monetary Agency
February 2009 to present: Governor, Saudi Arabian Monetary Agency