According To Goldman's Jim O'Neill, The MENA Revolutions Are "Essentially Rather Bullish"

It appears we may have misspoken earlier when we suggested that today's peak-lunaticism will be that spouting from the mouth of one ex-Goldmanite Bill Dudley. Here is another current Goldmanite (whose recent GSAM P&L track record is in dire need of public dissemination), vying for today's prize. "If I look at the whole region together, then just at Africa in general, MENA has the combined potential to be a BRIC-like economic group. In this spirit, and despite all the horrible things happening in some of these places, this revolution strikes me as being essentially rather bullish." If it weren't for my horse...


I returned from a very nice vacation in Florida this morning, having watched the markets interplay with the remarkable events unfolding in the Middle East. I also read and watched many discussions about the issues. It seems to me that there are essentially two main forces at work. The first is the eruption of protests against the “status quo” and the desire by the citizens of many countries across the Middle East and North Africa (MENA) for a better life. In my view, this is essentially a positive development, and has the potential to be a very bullish story. The second force is the perennial oil price issue, and concerns about where prices are now headed and how much damage these rising prices (and possible reduced supply) will cause. This issue is unpredictable but has the potential to be quite damaging.

On the first issue, a useful independent source of ongoing analysis can be read from Maplecroft, an independent risk mapping company, I should disclose that I am an investor in this company. Their set of analytics had highlighted the risks of trouble in some places, placing Egypt and Libya as high risk, and Yemen as extreme. This weekend, their CEO, Alyson Warhurst cites three issues when I quiz her to think about it. One, the scope for further contagion to countries in the region that have avoided the protests to date. (And, by implication, further disruption to oil prices amongst other things.) Two, the considerable business interests of a number of Western countries, which is understandably why these countries want the troubles to be brought to an end as soon as possible. And finally three, the terrorist issue and the need for any leadership vacuum not to be seized as an opportunity for these unruly characters to re-assert their troubled ways.

I wrote about Egypt around three weeks ago and, goodness me, a lot has happened since. On Egypt per se, I stick with the same broad judgments outlined in that piece. As an N11 economy, Egypt has the potential to grow dramatically in coming decades if their 80 million – and rising – population is allowed and encouraged to enjoy the same opportunities many of the rest of us face. Looking at the MENA issue more broadly, and including the whole of the Middle East, Iran is another N11 country, which likewise has significant potential. A different leadership there would be especially interesting as, below the surface, Iran has some attributes that would allow the country to advance much more easily than others. Its Growth Environment Score (GES) is notably higher than a number of N11 countries.

Of other individual countries, Saudi Arabia is particularly important, not least as its key role as a major oil producer. It is also important as regional power within the GCC. Although Saudi Arabia doesn’t have enough people to warrant inclusion in the N11 economies (as population is the sole criteria), it is currently the largest economy in the region and, has some potential to be regarded as a “Growth Market”, i.e., being 1 pct of global GDP at some stage in the future. The policy response of the Saudi leadership last week to spread the benefits of the country’s vast wealth is an important development in my view.

Looking more broadly into the background of the protests, they seem to have been broadly focused against their current regimes and based around a desire for “a better lot”. They are neither religion-based nor anti-Western. These characteristics are especially encouraging as it is a marked shift from the past in terms of disturbances in the region. For Western leaders, many of whom have needed to make complex arrangements with regimes they perhaps didn’t particularly admire, it is presumably important that they shift gears to support these middle class aspirations. It is also important in terms of the battle against terrorism as, at least so far, the terrorist groups have been dealt a major blow. If I look at the whole region together, then just at Africa in general, MENA has the combined potential to be a BRIC-like economic group. In this spirit, and despite all the horrible things happening in some of these places, this revolution strikes me as being essentially rather bullish.

This brings me to the second issue: oil. Of course, this aspect of the MENA issues has the potential to be rather negative. There are some credible analysts that argue all major global recessions can be generally associated with periods of rapidly rising oil prices. Professor James Hamilton of the University of California is amongst the most well known, and also one of those that argue the 2008-2009 recession may have been, at least in part, due to sharp oil price increases.

In my old life in the GS Economics Department, many years ago we used to have a very rough rule of thumb that a 10 pct increase in oil prices would, if sustained over a year, lead to a 0.5 pct slower rate of global GDP growth. We stopped believing this, however, many years ago, for the simple reason that the evidence started to change. Oil prices continued to rise a lot and GDP didn’t slow. In fact, it had actually accelerated.

I was often very suspicious about these models anyhow, having had the dubious pleasure of spending 1979-1982 researching OPEC and oil prices, for which I was surprisingly awarded a PhD. I learnt two things. First, I learnt that OPEC wasn’t an effective cartel. In reality, Saudi Arabia was the only producer of the group that mattered. Second, it was my first encounter with “never be with a lazy consensus”. I had a stack of articles from the late 1970’s confidently predicting crude would race above $100 per barrel then. It took 38 years for that to happen. Instead, oil prices spent most of the period from 1983 to 2000 declining. Confident oil price forecasting makes FX forecasting seem straight forward…

In my view, the reasons why oil prices rise, and an understanding of the corresponding impact on the broader financial market is key to forecasting the potential damage.

For much of the last decade’s rise in oil prices, the reason why it didn’t cause the trouble that simple econometric models might have suggested is probably because there was a shift in the global demand curve, as China especially but also India, and other new “Growth Markets” started to see their economies become much bigger. In many cases, their own demand was also less sensitive to rising global oil prices as they were subsidized.

As far as the circumstances are concerned, it is probably the case that rising oil prices “appeared” to cause the damage they did in the 1970’s – and possibly also in 2008 – is because they occurred at the same time as tightening financial conditions. This is why the GS Economics Department started analyzing the potential consequences in terms of oil price-adjusted financial conditions. It seems to me that this is still valid. If oil prices contribute to/coincide with rising inflation expectations and central banks are forced to tighten monetary policy, then indeed it may appear that they have contributed to a big economic slowdown. On the other hand, if central banks are more concerned about the depressing consequences to real incomes and postpone monetary tightening, then it is quite possible that any increase in oil prices will not have the negative consequences that many fear. This is also obviously dependent on the time period of any increases.

This brings me to last week. Two things seemed to happen. Events in Libya have gotten people worried about the loss of oil supplies certainly in that country, but also elsewhere. That’s why prices spiked so much. As a result of this, and presumably as part of its desire to show its leadership role, Saudi Arabia announced a boost in oil production. So in effect, as there has been no disruption apparently yet in Libya, global oil supply was increased. I shall leave it to others to predict what may or may not happen next to oil prices, but as with many other periods of Middle Eastern turmoil I have studied and lived through, they may go up, but they may go down. Clearly, the stability of Saudi Arabia and its willingness to act as a swing supplier is likely to remain key.

One other issue I have been asked a lot about the past two weeks. Doesn’t the MENA protest suggest that similar uprisings are likely in any country that is not a true democracy? Of course, China is the country that many are asking about in particular. The past 4 weeks have demonstrated that anything is possible (yet again), but I am not convinced by these simple arguments. The protests don’t seem to be necessarily about the system of governance, although that is clearly a big element in some countries. It is about wanting a better life. As it relates to China, it is interesting to see that local markets seem to have taken all of these events in stride, which I suspect is partly because they and their leadership know, spreading China’s immensely rising wealth to all is a policy priority anyhow.

Jim O’Neill

Chairman, Goldman Sachs Asset Management

And here are some excerpts from Niall Ferguson on why the outcome may be just a little more bearish than expected, via the Daily Beast:

For many years U.S. administrations tried to have it both ways in the Middle East, preaching the merits of democratization while doing next to nothing to pressure the region’s despots to reform, provided their misbehavior remained within tolerable limits (no invading Israel or Kuwait, no acquiring weapons of mass destruction). The Bush administration put an end to that double-talk by practicing as well as preaching a policy of democratization—using force to establish elected governments in both Afghanistan and Iraq.

The Obama administration was elected by a great many Americans who regretted the costs of that policy. Yet in place of the Bush doctrine came… nothing. Obama’s obsequious 2009 speech in Cairo offered a feeble hand of friendship to the Muslim world. But to whom was it extended? To the tyrants? Or to their subject peoples? Obama apparently hoped he, too, could have it both ways, even shaking hands with the odious Muammar Gaddafi.

The correct strategy—which, incidentally, John McCain would have actively pursued had he been elected in 2008—was twofold. First, we should have tried to repeat the successes of the pre-1989 period, when we practiced what we preached in Central and Eastern Europe by actively supporting those individuals and movements who aspired to replace the communist puppet regimes with democracies.

Western support for the likes of Charter 77 in Czechoslovakia and Solidarity in Poland was real. And it was one of the reasons that, when the crisis of the Soviet empire came in 1989, there were genuine democrats ready and waiting to step into the vacuums created by Mikhail Gorbachev’s “Sinatra Doctrine” (whereby each Warsaw Pact country was allowed to do things “its way”).

No such effort has been made in the Arab world. On the contrary, efforts in that direction have been scaled down. The result is that we have absolutely no idea who is going to fill today’s vacuums of power. Only the hopelessly naive imagine that thirtysomething Google executives will emerge as the new leaders of the Arab world, aided by their social network of Facebook friends. The far more likely outcome—as in past revolutions—is that power will pass to the best organized, most radical, and most ruthless elements in the revolution, which in this case means Islamists like the Muslim Brotherhood.

The second part of our strategy should have been to exploit the divisions within the Islamist movement. These are very deep, most obviously because Shiite Iran has an altogether different vision of an Islamicized Middle East than, say, Wahhabi al Qaeda. As I write, the Iranians have made their most brazen move yet by sending two warships through the Suez Canal into the eastern Mediterranean. This should not worry only Israel. It should also worry Turkish Prime Minister Recep Tayyip Erdogan, who dreams of a revived Ottoman Empire as the dominant power in the region.

In the absence of an American strategy, the probability of a worst-case scenario creeps up every day—a scenario of the sort that ultimately arose in revolutionary France, Russia, and China. First the revolutions in North Africa and the Middle East could turn much more violent, with a death toll running into tens or hundreds of thousands. Then they could spark a full-blown war, claiming millions of lives. Worst of all, out of that war could emerge an enemy as formidable as Napoleon’s France, Stalin’s Soviet Union, or Mao’s China.

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