Saudi Arabia: Ready for Take-Off?

Topics: Monetary policy, Macroeconomics, Central bank Pages: 7 (2070 words) Published: February 23, 2013
i) Are there any hidden assumption of price rigidities in Saudi Arabia that might inhabit market force indicators from revealing the true economic health of the country, there by either preventing government policy actions from correcting the problems or otherwise making them ineffective and counterproductive? How difficult is it to invest and repatriate profits and how would you deal with the need for educated managers and executives that can operate effectively in Saudi Arabia?

The case talks about vision of SAGIA which says “… to attract sufficient investment to achieve sustainable rapid economic growth, while capitalizing on the Kingdome’s competitive strength as global capital of energy and as a major hub between east and west“. This vision depicts the fact that high importance is given to oil revenues. In a survey of global competitiveness, high ranking of KSA is attributed by its macroeconomic stability. However it does not show major problems identified for doing business in KSA. Thehidden assumptions of price rigidities in Saudi Arabia, inhabitingmarket force indicators from revealing the true economic health of the country, shows the extent offoreign exchange exposure.Sustained real exchange rate misalignment can cause severe macroeconomic disequilibrium which is one of the threats for KSA.

Real exchange rate stability is crucial to developing countries since it affects capital inflows, foreign direct investment, and trade according to comparative advantage. KSA preferred to maintain a predictable riyal exchange rate. To achieve this goal, the monetary authority adopted a policy of a fixed exchange rate regime. It is well known that fixed exchange rates where foreign exchange reserves play a major role in money supply fluctuations are conducive to the transmission of foreign disturbances into the domestic economy. A small open economy like that of Saudi Arabia (where there is one dominant export sector) can be subject to severe exogenous shocks. It is important to evaluate the extent these oil price shocks transmit to the real exchange rate.

Another potential source of fluctuation in the real exchange rate in Saudi Arabia is oil production. Decisions regarding oil production have important consequences for oil revenues, government spending, and foreign exchange reserves. These, in turn, affect the exchange rate through the supply of foreign exchange as well as the demand for foreign exchange.

Given the importance of oil revenues and government expenditures as driving force in Saudi Arabian it is expected that monetary expansion would at most play secondary role in inducing expenditures. In Saudi Arabia context

a.Real income is dependent upon the ability to import goods and services rather than the ability to produce goods and services (other than oil); b.Government spending, even with a budget surplus, can still imply stimulativefiscal policy because most government revenues comes from abroad; and c.Stimulative fiscal policy leads directly to an increase in the money supply because of the underlying structure of the country's financial markets i.e., their general underdevelopment.

Difficulties in investment and repatriating profits are caused by following factors:

a)Inefficient Government bureaucracy
b)Inadequately educated work force
c)Restrictive labor regulations
d)Inadequate supply of infrastructure
e)Lack of access to financing
f)Oil policy influences fiscal and monetary policy. Since oil production shocks are a major source of real exchange rate variability,it is important to develop a stable oil policy to stabilize the real exchange rate. The need is to diversify domestic production and export base to reduce the vulnerability of the economy to oil sector.

In order to deal with the need for educated managers and executives that can operate effectively in Saudi Arabia, I would prefer to implement following steps:

Education system reforms up to senior...
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