GCC needs to recalibrate Asia exposures

The world’s economy is undergoing deep structural changes. Two of the factors that have been driving global investment and trade flows over the last 20 years will disappear in the next decade — first is the US energy dependence on Middle East oil and second is the current account surplus in China.

The outcome of these changes will be a stronger interdependence between Asia and the Gulf, particularly between India and China on one side, and Saudi, Kuwait, Qatar and UAE. The US, currently the world’s leading oil importer, is moving towards energy independence due to improvements in the exploitation of shale gas and oil resources. The impact on the Gulf is already being felt. The US, which used to import between 20-25 per cent of Saudi’s oil a decade ago, buys only 13.5 per cent now.

Energy-hungry Asia however is stuck with oil. Today China imports over 6 million barrels per day (bpd), and more than a third comes from Gulf Cooperation Council (GCC) suppliers. Future growth in Asia cannot be sustained without a steady supply of GCC’s oil.

The US Energy Information Administration (EIA) estimates that China’s oil imports will rise to 8.7 million bpd by 2020 from today’s 6 million. US oil imports, meanwhile, will fall to 6.8 million bpd from a peak of 13.5 million bpd in 2005. Until 2040, oil consumption is projected to rise 2 per cent per year in China, 2.6 per cent in India, and 1.8 per cent in the rest of Asia, compared to 0.8 per cent on a global level.

From the GCC’s standpoint, the expansion of Asia’s demand represents a virtual insurance policy against America’s falling needs. From the Asian perspective, the potential for a greater availability of oil due to lower US demand presents an opportunity to grow in a less price-elastic market.

The second key factor is the transformation of the growth model in China. As trade balances turn negative in Asia, external funding will be needed to fuel growth. Until recently, Asia was able to generate the savings needed to fund growth via exports.

Today India and southeast Asian countries are already running current account deficits which will probably increase as their economies focus more on their domestic markets. China has lost more than half of the surplus level reached in 2008 and will probably run into a deficit in a few years. These deficits will need to be funded externally, with portfolio investments or direct investment.

Unlike Asia, Gulf countries will continue to generate surpluses. These imbalances should result in a rebalancing in the allocation of investments. Middle East sovereign funds, overexposed to western economies, will play a key role in this adjustment.

Sixty-two per cent of the operations completed by these funds took place in Europe and North America, and 16.5 per cent in the Middle East, according to a Harvard Business School study analysing the 20 years prior to the 2008 crisis. During this same period, only 17 per cent of their operations took place in Asia.

This share is below Asia’s weight in global gross domestic product (GDP), currently at around 21.5 per cent, and expected to reach 31.6 per cent by 2020. The US, Europe and Japan’s weight in the world is expected to shrink from 53 per cent to 45.5 per cent in the same period. A preference for investments in developing Asia should emerge.

According to the SWF Institute, the top five GCC sovereign wealth funds (SWFs) manage approximately $1.9 trillion (Dh6.98 trillion). If allocations were to follow GDP weights, $85 billion would be reallocated immediately from developed economies to developing Asia. By 2020 an additional $190 billion should be invested to reach a level of investment in Asia on par with the size of its economy.

That being said, even if only half of these dollars migrate, the amount would still be significant. As a reference, Kuwait Investment Authority’s (KIA) current level of investment in China and Hong Kong is estimated to be at around $20 billion. Some funds have already expressed their plans in this sense: Abu Dhabi Investment Authority (Adia) aims to have 8‐12 per cent of its over $500 billion invested in emerging market stocks, with Asia as a key destination.

Asia’s capacity to absorb further investment remains high. As an example, according to the chairman of the Chinese Securities Regulatory Commission, the current level of inward foreign investment can be increased 10 times because it only represents 1.5 per cent of the country’s A-share market. Enormous opportunities will arise for local and foreign companies able to capitalise on these new flows of funds, particularly those catering to Asian consumers in need of infrastructure, health care, education, consumer goods, financial services and leisure activities.

Whether they want it or not, Asia and the GCC are now starting to create the strategic economic alliances that will define the first-half of this century.

— The writer is a senior economist at Asiya Investments.