A few days ago, in a televised speech from the city of Qum, often referred to as "the holy city" because it is the center of religious learning in Iran, Ahmadinejad referred to the terrorism act on 9/11 as "a suspicious event" in which a building collapsed in New York City and "it was alleged" 3,000 people were killed. However, Ahmadinejad emphasized, names were not published. The "suspicious event," Ahmadinejad told his suffering audience, "served as an excuse to invade Afghanistan and Iraq." But he did not stop there. He said Iran will carry on, [apparently a reference to the country's nuclear program] until it puts an end to the "corrupt world leadership." He did not say what will replace this leadership, but, clearly, he had himself and the Mullahs of Iran in mind. He also threatened to sever the hands of corrupt officials, whom he did not identify.

The preceding paragraphs are background. The focus of this editorial is Ahmadinejad's habit of substituting fiction for hard data and misstatements for an honest portrayal of his country's failing economy. We offered a similar observation in our editorial of February 4 [click here to read], in that case referring specifically to the fictitious figures on foreign direct investment in Iran. In a response to a report by the Central Bank of Iran that the country did not "attract a single dollar of foreign direct investment since March 2007," Ahmadinejad accused his critics of "distorting the figures," and declared triumphantly that foreign investments are "pouring on the country like rain." In our February 4 editorial, we characterized his image as a rain of illusion.

Now comes the issue of inflation. Again, Iran's Central Bank announced this week that inflation has risen to 22% in the month of March. The Iranian reformist daily Rooz reported yesterday that the price of basic commodities such as bread and dairy products had increased by up to 100 % in the previous few days, and the price of other goods, including industrial and semi-industrial goods, had seen a steep rise.

Shirzad. Source: Rooz

Taking Ahmadinejad to task for misstatements, Ahmad Shirzad, a member of the Majlis [Parliament] said in an interview with the reformist daily Rooz that the Islamic Republic officials, and especially Ahmadinejad, are using extensive propaganda about the progress of the nuclear program to conceal the "severe economic and bureaucratic crisis." Shirzad said that Ahmadinejad makes "a lot of perplexing claims," such as a statement that inflation had risen to 70 percent but he was able to bring it down to 20 percent-like a monster he had cut down to size. On another occasion he said "inflation was not a big problem." [To read the full interview with Shirzad, click here.] When asked a few months ago about the rising prices of vegetables in Tehran's markets Ahmadinejad came up with a facile solution: he said he was able to do his shopping from his old grocer at a much lower price. When confronted with the issue of sanctions he told his listeners that Iran has found ways to circumvent them; in fact, no international bank is prepared to extend credit to Iran or even to open a letter of credit for one its businesses. Not to mention that Iran's fleet of civilian aircraft is being held together by a thread.

Unemployment is one of the burning issues in Iran. While official figures put the rate of unemployment at 12 percent, most observers rate it at 20 percent or higher, and, among the age group of 16-24, it is close to 50 percent. Ahmadinejad has made numerous provocative speeches excoriating his real or imaginary enemies, but he has never directly addressed the issue of unemployment He has recently committed one of the most foolish economic decisions imaginable: he converted all revenue dollars from the sale of oil into Iranian riyals, flooding the market with liquidity and exacerbating the problem of rising inflation. Not surprisingly, he has reneged on a commitment to explain his economic program on TV.

As discontent about his economic policies mounts, so do the repressive measures he has been taking against critics. Available data suggests that the economic system in Iran is nearing the breaking point. Should the system reach it, the world-and certainly the Iranian people-will hear from Mahmoud Ahmadenijad much less.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Thu, 17 Apr 2008 06:44:44 PST The Iraqi government, with help of air cover and air strikes by coalition forces, has launched a major assault, codenamed "Galloping Horses" on Muqtada al-Sadr's militia, otherwise known as Jeish al-Mahdi [The Army of al-Mahdi (al-Mahdi is the Shiite Messiah, a hidden savior whose re-emergence will free the world from injustice)], which has taken control over large swaths of the city of Basra and other key cities in southern Iraq. Basra is the second largest city in Iraq, astride huge oil fields, some with billions of barrels of crude oil.

The Al-Mahdi Army is only one of the militias that are jockeying for power in Basra. The others are al-Fadhila, [The Virtue], which belongs to the Shi'ite al-Fadhila party, which controls the government of the Governorate of Basra; and al-Badr, which is the enforcement arm of the Supreme Islamic Iraqi Council (SIIC) and one of the key elements of the ruling coalition.

Throughout most of recent history Basra, as a port city, was a quasi-cosmopolitan city with residents representing many cultures, and many ethnic and sectarian groups. Veiled and unveiled women mixed freely in the streets of the city unmolested and with total freedom. The militias have turned Basra into a center of oppression with women being the primary victims. Failure to wear the veil was a reason for killing the "offender". Barbers who shave beards or give "western style" hair cuts have also been murdered as have Christian owners of liquor stores. Music has been banned at weddings, to the extent that secular people wanting to celebrate these happy occasions have gone underground.

But the struggle in the streets and neighborhoods of Basra between the government security forces and the al-Sadr's militia is not over the soul of the city; rather, it is a struggle over who controls the smuggling of oil.

Through tapping into oil pipelines, smugglers, supported by the various militias, have been able to pilfer hundreds of millions of barrels of oil shipped through numerous militia-controlled ports on Shattt-al-Arab. The oil is smuggled to Iran, often under the protection of the Iranian Revolutionary Guards, by a variety of marine vessels, including dhows (see attached picture), and often as far as Dubai. The oil is sold to middlemen at a heavily discounted price and then sold to international smugglers. The proceeds from smuggling, estimated in the hundreds of millions of dollars annually, are used to support the militias and the variety of social programs that benefits the families of the militia members. The fact that the political parties can support tens of thousands of militia members and their families is another indication of the volume of the smuggling.

A dhow carrying cargo. Source: www.hemingways.co.ke

The militias fighting the Iraqi forces are equipped with modern weaponry, often superior to that available to Iraqi forces. Most of these weapons come from Iran, which supports the militias because they are mostly Shi'a and because it is Iran's way of causing troubles for the United States. Besides, Iran has had a record of stirring trouble in many hot spots in the Middle East.

The outcome of fighting against the Sadr militia and others will determine how far Iraq can move toward stability, and how much control the government can establish over its most significant source of national wealth.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Fri, 28 Mar 2008 11:48:17 PST

Officials from the US Treasury and the governments of Abu Dhabi and Singapore.

The US Treasury Department took two important decisions last week that could have significant impact on the economies at both ends of the Persian Gulf.

The first decision dealt with sovereign wealth funds (SWFs). These funds represent government-owned investment vehicles, funded by foreign exchange assets and commodity export receipts (primarily oil and gas revenues) which invest internationally for financial objectives such as stabilization and intergenerational savings.

The foreign government-controlled funds-many based in the Middle East but also in Asia (e.g., Singapore, Malaysia, and Taiwan), Russia and China-have aroused U.S. Congressional concern because they control hundreds of billions of dollars and have recently poured billions into large stakes in Wall Street firms (Citigroup and Merrill Lynch come to mind) and other businesses and, in the worlds of Gulf News (UAE), fanned fears that the US was "losing control over its destiny."

This concern arises from the funds' mode of operation, their apparent lack of transparency and the absence of information on the size of their wealth, as government-owned SWFs have no shareholders to contend with and no taxes to pay.

Last week, the United States, Abu Dhabi and Singapore-two countries with large SWFs and a country, the US, receiving investment from SWFs-reached an agreement that defines the obligations of both the owners of SWFs and their investment targets.

Obligations of SWFs:

• Investment decisions should be based solely on commercial grounds, rather than on the geopolitical goals of the controlling government.
• Disclosure in areas such as purpose, investment objectives, institutional arrangements, and financial information.
• Strong governance structures, internal controls, and operations and risk management systems.
• Fair competition with the private sector.
• Respect of the host-country's regulatory system.

Against these requirements, countries receiving SWF investment should:

• Not erect protectionist barriers to foreign direct investment.
• Ensure a predictable investment framework.
• Not discriminate amongst investors.

By choosing to negotiate with Abu Dhabi (the largest of the seven emirates of the United Arab Emirates) and Singapore the Unites States has selected two small countries that maintain amicable relations with it but, more importantly, are not likely to pose any threat to its security. It was indicated that Qatar, a major natural gas exporter in the region with rapidly growing assets, might join the agreement.

It is not clear whether this agreement will be adopted by the European countries, particularly France and Germany, which have evinced public alarm with regard to the activities of SWFs. For the Europeans, but also for the United States, it is the burgeoning SWFs of Russia and China that are of prime concern. It would be difficult to argue that powers like China and Russia are countries that do not tie their investments to their geopolitical objectives. How to deal with SWFs from China and Russia will provide the ultimate test for the viability of the agreement negotiated by the Treasury.

The second decision of the Treasury is of a punitive nature. It is a warning against dealing with Iran's central bank (Bank Markazi). The warning also underscores the risks of doing business with 51 state-owned and seven privately-held Iranian banks-in effect the entire banking system of the Islamic Republic. The list includes banks located as far from Tehran as Hong Kong, Venezuela and the UK and of course those nearby in Bahrain, Qatar and Dubai.

This warning expands on the sanctions approved recently by the UN Security Council, which listed by name three Iranian banks accused of funneling money to terrorist organizations and of facilitating the purchase of equipment connected to Iran's nuclear program.

These punitive measures-should they even be respected-will crimp rather cripple Iran's ability to transact business across its borders. Iran has learned ways to circumvent sanctions, and whenever cash is abundantly available, as is the case of Iran with bulging oil revenues, there will be ready takers, collaborators and sanction busters.

For the Iranians, proficient in the ways of the bazaar, where trading is a circuitous and mysterious art, it will always be possible to find the pathway to buy whatever they need. A purchase from overseas will, perhaps, cost more but it will not be out of reach.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Mon, 24 Mar 2008 13:11:44 PST The concept of unintended consequences is one of the building blocks of economics. Adam Smith's "invisible hand," the most significant metaphor in social science, is an example of positive unintended consequence. Smith maintained that each individual, seeking only his own gain, is led by the invisible hand to promote an end which was no part of his intention, that end being the public interest. "It is not from the benevolence of the butcher, or the baker, that we expect our dinner," Smith wrote, "but from regard to their own self-interest."

The invasion of Iraq five years ago has had many unintended consequences, some positive, some negative. On the positive side, Iraq was able to lay down the foundation, albeit shaky and often uncertain, for democracy and the freedom of the media. It has also started to dismantle, quite vigorously, many of the state instruments of control over the national economy. Of course, the invasion also brought about the dismantling of the Saddam regime and the ultimate demise of the dictator, but these positive outcomes were the cardinal purposes of the invasion, not unintended consequences.

Among the negative unintended consequences, most devastating is the pervasive violence, both domestic and imported, much of it with sectarian overtones. More than two million Iraqis have chosen a life of exile over a life leading to the abyss. Indeed, for many Iraqis, the situation today is far more uncertain and stressful than it was under the Saddam regime. Iraq, which was perhaps one of the most secular countries in the Arab world, has become increasingly under the religious edicts of armed militias that have introduced new standards of religiosity akin to those applied by the theocratic regime of the Iranian Mullahs. Women's rights have been trampled on and those who dare walk outside the walls of their homes without the veil risk their lives.

Perhaps the most dangerous unintended consequence is that major parts of the country, those particularly rich in oil, have fallen under the hegemony of Iran and its well-financed and well-armed militias.

In a different realm, there is yet another unintended consequence: the fate of the two respective currencies, or legal tenders, of the invaders and the invaded.

Five years ago, when the invasion was under way, the U.S. dollar--the currency of the invader--was the preferred reserve currency of the world. It reigned supreme in the international financial markets. A Euro was not worth a single Greenback. And a dollar would fetch 2,200 Iraqi dinars--the currency of the invaded country--though such a transaction could have taken place only in the black market since trading in foreign currencies under the Saddam regime could bring years of imprisonment, if not a death sentence, to the perpetrators.

Five years later the financial markets have turned on their heads. The erstwhile strong dollar has not merely lost much of its virility; rather it is hobbling on crutches as if it were hit by a truck. Countries whose currencies are pegged to the dollar, and particularly the Gulf oil producing countries, daily wrestle with a Hamlet-like dilemma: to peg or not to peg.

Now, lo and behold, it is the Iraqi dinar, which is freely traded in a market-oriented economy, and which is appreciating twice as rapidly as the dollar is depreciating. To stem the tide, the Central Bank of Iraq has recently set a ceiling on the exchange rate of 1,220 dinars to the dollar. In our calculation, the Iraqi dinar has appreciated by about 80 percent since the invasion while the dollar has depreciated by more than 40 percent against the world's major currencies, primarily the Euro.

Today one can sigh in misery with the wisdom born of hindsight, If I had only invested my money in the Iraqi dinar!

We are left to wonder what might happen to the dollar if the U.S. were invaded by the European Union. We promise to be more alert to the possibilities.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Mon, 17 Mar 2008 06:09:25 PST The Islamic Revolutionary Guards Corp (IRGC), also known as Pasdaran, was created in 1979 by Ayatollah Khomeini to defend the Islamic revolution from both foreign and domestic enemies, and to assist the ruling clerics in the day-to-day enforcement of the government's Islamic codes and morality.

IRGC has, over the years, developed its own land, air and sea forces and was given responsibility for Iran's missile and nuclear programs. Through its al-Qods Brigade, the IRGC supports terrorist organizations, such as Hizbullah and Islamic Jihad, with weapons, money and training. It provides similar support to the Iraqi Shi'ite militias. In August, 2007, the United States decided to designate the Revolutionary Guards as a "specially designated global terrorist", which would allow Washington to target the group's business operations and finances.

The Pasdaran established itself as an economic force, launching a vast array of financial and economic enterprises. These enterprises were designed to ensure the force's financial independence and, at the same time, provide it with the wherewithal to finance its terrorist-related activities outside the country. Through both legitimate and illegitimate business the force has become a powerful economic force in the Islamic Republic.

Smuggling is a major activity of the Revolutionary Guards and an important source of lucrative income. In various articles, we have highlighted in the past the protection the Revolutionary Guards have provided to oil smugglers from Iraq to Iran. Using a variety of rickety boats the smugglers have been responsible for the thorough pollution of Shatt-al-Arab, the major waterway which separates Iraq from Iran, and which was historically a major source of water for both drinking and irrigation.

The five photos published below were made available exclusively to www.memrieconomicblog.org by a visitor to Khasab Harbor in the Sultanate of Oman over the weekend. They dramatize just one aspect of the smuggling activities of the Revolutionary Guards. The speedboats seen in the photographs are the kind that were used in the kidnapping of British sailors and marines in Shatt-al-Arab in 2007 or the reckless harassment of three US warships -- cruiser USS Port Royal, destroyer USS Hopper and frigate USS Ingraham.

Speed boat in the distance crossing the Strait of Hormuz.

Boat with its cargo of goats slows down approaching Khasab Harbor.

Goats are seen clearly in the hull of the speedboat.

Unloading of goats from the speed boat.

Goats loaded into trucks.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Tue, 13 May 2008 06:37:49 PST This morning, as if on cue, Arab press in the six member states of the Gulf Cooperation Council printed lengthy articles and analyses on the need for two interrelated strategic economic policies: ending the Gulf countries' currency peg to the dollar, and ending the pricing of oil in that currency. These two potential developments are the direct result of the sharp decline of the exchange rate of the dollar against the Euro and other major currencies, and the spiraling inflation in the oil-producing countries triggered by rising prices of basic commodities, also priced in dollar.

The central monetary authorities of the countries concerned are under mounting pressures from businesses, foreign workers, commercial banks and many segments of the population to abandon the dollar peg because the devaluation of the dollar is seen as a major factor in rising prices and inflation. The authorities in these countries have long resisted the pressures, partly in consideration of their special relations with the United States and partly because they have been reluctant to see their assets, denominated in dollars, take a sharp fall when converted into other currencies.

This reluctance is waning. The pressure is gaining momentum and the monetary authorities have but just two options: either revaluate their currencies but keep a dollar peg, or abandon the peg altogether and adopt a basket of currencies where the dollar could be dominant but not overwhelming.

The same applies to the pricing of oil. Oil producers are no longer satisfied simply to raise oil prices every time the dollar plunges further. While the oil producers are seen as the villains for high prices at the pump, in reality they are raising prices to compensate for the devaluation of the dollar caused by profligate borrowing by the United States. The dollar, once the symbol of American political power and of American economic vitality and health, is increasingly becoming the currency of second or even third choice.

In his testimony before US Congress this week, Ben Bernanke, the Chairman of the Federal Reserve, hinted of another cut in interest rates to stimulate the US economy, which is seen by many to be heading for a recession. The hint of an interest rate cut triggered quick action by many speculators who proceeded to dump their dollars. Currency speculators, as is commonly known, prefer currencies whose interest rates are rising or are expected to rise in the hopes of increasing their potential return. Their action was akin to tying a stone to the dollar's leg.

Should the pricing of oil in US dollars cease, it would not only signal an end to an era of US dominance but also mark a victory for the President of Iran, Mahmoud Ahmadinejad, who, with his soul mate, Hugo Chavez, the President of Venezuela, has been the loudest voice in OPEC for abandoning the dollar pricing in favor of the Euro.

Thus, the defeat of the dollar is a victory for the demagogues. What a shame!]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Fri, 29 Feb 2008 09:24:46 PST Economic Shocks and Their Aftermath

Economic shocks are events that impact the economy and that originate from outside it. They are often unexpected and unpredictable and are caused by external or civil wars, severe price fluctuations, natural disasters and, not uncommonly, man-made disasters generated by the failure or incompetence of political leadership. This is certainly true in the case of Iraq under the Ba'th regime, which imposed its nefarious and repressive ideology upon the country for forty years. During this sad epoch in the country's history, Iraq went from a relatively prosperous country with enormous natural resources, good infrastructure and a well-performing education and healthcare system, to a country with a shattered economy, disintegrating infrastructure, failing education and healthcare system, a heavy debt burden, political isolation, and food shortages, and turned, finally, into a society torn asunder by internal political conflicts.

We can't comprehend the damage wrought upon Iraq and its economy by the Saddam regime. Data on any aspect of the economy, including the national budget, was top secret. Revelations of state economic secrets were severely punished. When a government hides economic data from public scrutiny, we may infer that there are reasons for it doing so; governments never fail to blow their trumpets when there is a good story to tell.

By the time the country was invaded in April 2003, the national economy was being held up by a thread and the people were sustained by what later proved to be a corrupt and inefficient "Oil-Food-Program," administered by an equally corrupt and inefficient United Nations bureaucracy [the UN administrator of the program is a fugitive for taking bribes].

The Invasion-- Euphoria and Despair

The invasion of Iraq ushered in a short period of euphoria. The country witnessed unprecedented political freedoms coupled with profound macroeconomic and policy changes-- open borders for unrestricted trade (and eventually unrestricted flow of terrorists), the lifting of controls over foreign currency, the coming back to life with goods and shoppers of the famous Baghdadi bazaars and above all, an economic transition from a centrally planned economy to a diversified market economy.

Regrettably, the euphoria of liberation soon gave way to despair. Personal liberties and economic progress were quickly dashed by acts of violence, some locally engineered but most imported through the courtesy of neighboring countrie,s which viewed a free and democratic Iraq at their doorstep as not just an anathema but as a strategic threat.

Abatement of Violence

Almost five years since the invasion and the political turbulence that followed, Iraq is beginning to show tentative signs of political stability and reconciliation, improved internal security (more precisely, reduction in violence) and economic recovery from conflict- to post-conflict environment.

Despite these accomplishments, there remain many problems that will continue to impede progress, some of them in the most serious manner. These problems include a fractured political system, sectarian policies, a damaging role by various militias associated with political parties in government, a high rate of unemployment, power shortages, corruption as all levels of government, demoralized bureaucracy, enormous poverty, and a very large segment of the population either internally displaced or living across boarders, primarily in Syria and Jordan. While the list of problems is, no doubt, much longer, there are reasons, nonetheless, for a measure of optimism.

Measure of Optimism

First, the command economy was dismantled and private initiative is emerging. A stock market operates three days a week and 45 banks and companies are listed and traded by Iraqis and, since last August, by foreigners as well. The economy is growing. According to the IMF, the Iraqi economy is projected to grow at 7% in 2008 after a somewhat anemic growth in 2007.

Second, foreign currency reserves are rising and so is the Iraqi legal tender, the dinar, which now trades at about 1,200 to the dollar, after trading at 2,000 or more dinars to the dollar before the invasion. More importantly, it is a convertible currency. The central bank auctions dollars regularly to meet market demand without any restriction.

Third, oil production is increasing. Oil export has recently reached the pre-invasion level of 1.8 million barrel/day, and the ministry of oil forecasts an export level of 2.0-2.1 million b/d by the end of the year. Subsidy on oil products, other than kerosene, used for cooking and lighting, has been abolished. Private fuel imports have been liberalized and many of the long lines for gasoline are gone. Efforts are under way to expand and upgrade existing refineries in Iraq, which will ensure fuel supplies to power broad economic growth.

Fourth, inflation has been brought under control, thanks to the tightening of monetary policy and the appreciation of the dinar-- along with the maintenance of fiscal discipline and measures to reduce fuel shortages.

Conclusion

This is by no means a complete picture. But it is a picture that gives rise to a restrained optimism. If violence continues to recede and if the political leaders in Iraq resolve their sectarian disagreements in a practical, if not necessarily amicable, way, there is a good chance that the Iraqi economy will begin to reach its potential which, by all reckoning, is quite considerable.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Thu, 14 Feb 2008 06:30:18 PST Those who follow the economic news in Iran under the regime of President Mahmoud Ahmadenijad are often struck by the boasts regarding huge sums of foreign investments, often quoted in the billions of dollars. A fortnight ago, for example, the Tehran Times stated that the People's Republic of China will be investing $92 billion in Iran's oil and gas industry. These boasts seem to stand counter to reality. The Tehran Times' statement, for example, is undercut by a piece on Saturday in the Iranian daily I'timad that quoted deputy foreign minister Mahdi Mir Abu-Talibi as saying that Chinese banks, under American pressure, have cut their business relations with the Iranian banks for the last four months. Almost all Western and Japanese banks have done so already.

One further suspects that many of the "pipelines" that the Iranians, in their eagerness to instill confidence in their economy, tout as carrying gas and oil are, in fact, only pipedreams. There is no evidence that a single inch of new pipeline has been laid in recent years and, indeed, there is no evidence of foreign investments in this sector. Iran desperately needs Western technology, which is obviously not available because of the sanctions. Thus, despite its enormous oil and gas reserves, Iran must import gas from Turkmenistan to heat its northern territory. When Turkmenistan cut the supply last month over pricing issues, millions of Iranians suffered from the bitter cold and Iran was forced to suspend the supply of natural gas to Turkey, which it is committed, by bilateral agreement, to provide. Iran must also import gasoline and diesel, mainly from India, to keep its urban drivers content.

The fact of the matter is that no direct foreign investments are coming into Iran. And the source of this statement is no other than the central bank of Iran, which, in a controversial report, leaked to the reform Iranian daily Rooz, that the government has not been able to attract a single dollar of foreign investment since March of 2007. The report reveals that the government has offered foreign investors tens of projects but there have been no takers.

In the absence of foreign investors, Ahmadinejad's government turned to companies owned by the Revolutionary Guards and other government agencies for investments. As a result, it has been able to announce that it had attracted $4 billion of investments in the oil and gas sectors last year. In reality, the central bank says the government was able, during last year, to draw $400 million from savings in foreign banks; these funds, obviously, do not qualify as foreign investment. Ahmadinejhad has accused his opponents of distorting the facts and claimed that foreign investments are "pouring on the country like rain." We think this a rain of illusions.

Iran is not poor by necessity; it is poor by choice. Billions of dollars of oil windfall profits were squandered on subsidies (including for gasoline), a vast armament industry, including a clandestine nuclear program, and the financing of terrorism in many hot spots of the world. Operating under the weight of UN, but more potent, US sanctions, Iran is going through hard economic times despite the quintupling of oil prices in the last three years and economic growth of about 6% in the last Iranian year, which ended in March 21, 2007. Inflation was running at more than 19 percent in 2007 compared with 12 percent in 2006; unemployment is high in general but extremely high among the 15-24 age group (estimated at more than 30 percent), 50 percent of the population is poor and more than 20 percent live below the poverty line. Drug abuse is rampant, and hoards of intoxicated Iranians sleep on street pavements. Corruption is rampant, particularly among the Mullahs who are in charge of enforcing the rules of religious orthodoxy and religious piety. And, for all intents and purposes, the country is isolated.

The parliamentary elections in Iran scheduled for the middle of this week, although already skewed by the exclusion of 90 percent of reformist candidates, may provide an indication about the sentiments of the Iranian people regarding the economic illusions of their government.

I am reminded of a book by my late economic professor, Wolfgang Stolper at the University of Michigan, documenting his experience as economic adviser for the Ford Foundation to the Government of Nigeria in the early 1960s. Stolper titled the book Planning without Facts [Harvard University Press, 1966.] Someone who, one day, documents the foreign investment story in Iran under Mahmoud Ahmadinejad may well title the work Investment without Facts.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Mon, 04 Feb 2008 05:59:01 PST The World Economic Forum (WEF), which concluded its meetings over the weekend in Davos, Switzerland, appears to have devoted an inordinate amount of time and attention to a growing financial phenomenon few people had heard of until recently. Why the sudden interest? Money talks. From a rather low-key and modest beginning, the sovereign wealth funds (SWFs) have burst onto the economic and financial scene as economic powerhouses in control of $2.5 trillion-assets undergoing rapid growth, driven by escalating energy prices and, in the case of China, benefiting from US trade deficits.

The recent subprime debacle has exposed many international banks to severe risks of illiquidity, forcing them to look for assistance from what the Wall Street Journal terms "sovereign saviors." With deep pockets, many SWFs came quickly to the rescue, striking deals that were generous in their magnitude and potentially even more rewarding when things return to normal, as they most likely will. Some of the most significant deals, valued in billions of dollars, were made with Citigroup, Merrill Lynch and the Swiss bank UBS. Some SWFs had earlier been on a shopping spree, buying into EADS (which manufactures Airbus), Deutsche Bank, choice real estate in New York and elsewhere, Barneys Department Store, the Nordic Stock Exchange and a big chunk of NASDAQ.

But precisely because some of these deals are big, voices are being raised against what is perceived as a threat to national interests, even a threat to national security. President Nicholas Sarkozy criticized the funds, saying his government would defend "the primordial [ital. added] economic interests of the nation" against the SWFs-- a very unusual way to characterize the economic interests of a modern nation. Larry Summers, a former US Secretary of the Treasury, dubbed the activities of the SWFs "cross-border nationalization."

Why is there such concern? It is very simple. Critics argue, and rightly so, that the sovereign wealth funds lack transparency; they operate in the shadows of secrecy. Most of them are themselves owned by non-representative governments whose leaders are accountable to themselves or to a small coterie of supporters. Critics might also ask how one guarantees that at a time of a political conflagration or economic shocks the SWFs would not act in a manner that poured more fuel on the fire? Who is to guarantee that investments that seem perfectly commercially viable and economically rational would not turn suddenly into a political tool that could harm national interests?

At the WEF the head of the Kuwait Investment Fund (SWF) dismissed these worries as "assumptions." But this assertion is hardly reassuring to the doubters. The worries are real and require a realistic response. Such a response was provided by Tony Tan, deputy chairman of Singapore's Government Investment Corporation and a former Singaporean deputy prime minister. In an interview with the Financial Times of January 28, Mr. Tan stated emphatically, "We have already decided that the circumstances have changed. The right thing to do is to move to a path of more disclosures." Fully aware of the consequences of non-disclosure, Mr. Tan added, "The greatest danger if this is not addressed directly, then some form of financial protectionism will arise and barriers will be raised to hinder the flow of funds."

Well said. Now it is time to hear the same message from others as well. Transparency requires that each SWF issue a statement about governance, investment strategy, over-the-table details on individual deals and periodic reports on assets and liabilities. Anything less than that would invite loud voices that clamor for protection of "the primordial" interests of host countries.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Tue, 29 Jan 2008 11:21:47 PST In their Summit Meeting in Doha, Qatar, on December 3-4, the heads of the six member states of the Gulf Cooperation Council (GCC)--Saudi Arabia, Kuwait, the UAE, Bahrain, Oman and Qatar--launched the Gulf Common Market (GCM), effective January 1, 2008.

The Aim of the GCM

The aim in creating the GCM was to raise production efficiency and make optimal use of available resources. According to the summit's final communiqué, issued on December 4: "The GCM aims at realizing one market, through which GCC nationals will benefit from greater opportunities in the Gulf economy and the opening of broader spheres for internal and foreign investment." The CGM represents a gigantic expansion of the principles upon which the GCC itself was founded in 1981, namely to promote friendship, fraternity and brotherhood among the member states, besides functioning as an economic, trade and political coordination forum.

Strong Economic Platform

The GCM is founded on a solid financial platform with a combined gross domestic product of $715 billion [with oil revenues accounting for the major chunk] and with 40% of the world's proven oil reserves. This is an impressive economic platform given that at its inception, the European Common Market, with its six original members, had a joint GDP valued at $14 billion, or that the 5 original-members of ASEAN (Association of South East Asian Nations) had a combined GDP of about $1 trillion when the association was formed.

Henceforth, the nationals of the six member countries are to be seen as equal whichever country they choose to live in. They will be able to work, buy real estate and companies, trade shares on the stock markets, establish new businesses, go to school, and receive medical treatment in all six states. And unlike the six original members of the European Common Market, the nationals of the GCM market speak only one language, not four.

Issues to be Resolved

The expectations from the GCM are considerable. But no less considerable are the issues that ought to be addressed and resolved if the GCM is to achieve the aspirations of its founding fathers. Let's look at some of these issues:

Legal harmonization: While all six countries operate under the broad principles of a free market, they do have different laws and rules which govern their economic and trade policies. The GCM's success in the future will be shaped by the speed with which these countries succeed in harmonizing their legal codes to allow their economies to function seamlessly. The fact that all the laws and rules are written in a common language will help the process of harmonization enormously.

Monetary Union: The member states of the Gulf Cooperation Council are on record favoring a common currency by 2010. All but Kuwait (since last May) have their currencies pegged to the dollar. The depreciation of the dollar has been a source of concern for the members of the GCC. Whether they will keep the dollar peg when a joint currency is fashioned remains to be seen. Judging by the experience of the European common market, a common currency is not a sine qua non for the success of the new initiative.

Immigration: The new common market is likely to encourage the movement of people to cities in member countries where the social restrictions on personal conduct are far more relaxed than elsewhere. There will also be a movement of population, including foreign labor, driven by economic considerations.

There are voices in the Gulf expressing concerns that unrestricted population movement may also abet the movement of terrorists. One such concern is the use of airports. Will there be similar security rules in all the airports? Otherwise, what could possibly prevent a terrorist from crossing the land border from one country, where airport security is very high, to another country where airport security is relaxed?

The biggest challengeof all facing these countries is keeping Iran from spreading its influence in the region. An article in the Financial Times of January 12 by the newspaper's Middle Eastern correspondent Roula Khalaf discusses "Iran's charm offensive" in the Gulf. So far, the Gulf countries have rejected the two key offers by President Ahmadinejad who, unexpectedly and without consultation with the other members of the GCC, was invited by the maverick leader of Qatar to attend the summit meeting. Ahmadinejad's offers for economic collaboration and a GCC-Iran security arrangement have been turned down. The launching of the GCM in some haste and without much prior preparation may have been the GCC's signal to the Iranian president that his initiatives are not welcome.

The timing of the launching of the GCM is also significant in another way. The GCC itself was launched as a precaution against the spread of Khomeini's revolutionary rhetoric. The GCM may be seen as the answer to Ahmadenijad's demagoguery.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Mon, 14 Jan 2008 12:57:34 PST President George W. Bush will be embarking this week on one of his presidency's most crucial initiatives, a trip to the Middle East to advance the cause of peace between the Israelis and the Palestinians. The cause is noble, but often frustrating, and, as it is for the fisherman casting his line into the tide, the outcome is far from certain. But Israeli-Palestinian issues are outside the frame of reference of this blog.

In addition to his visit to Israel and the Palestinian territories President Bush will visit Kuwait, Bahrain, the United Arab Emirates and the Kingdom of Saudi Arabia--all America's friends and all suppliers of some of its oil imports.

Meeting with Press Representatives

At his meeting in the White House with representatives of the Arab press from the four Gulf countries he will be visiting, President Bush said he will be discussing a new regional security plan. In fact, the leaders of these countries have a legitimate concern about Iran's nuclear program and the country's designs to spread its hegemony over the entire Gulf area with its enormous reserves of hydrocarbons. The Gulf leaders will seek assurances that the United States will not leave them in the lurch should their security be threatened.

But President Bush will find that the Gulf leaders have other concerns, as well, the primary one being the rapid depreciation of the dollar against other major currencies over the past few months. The Gulf countries' oil is priced in dollars and their national currencies, with the recent exception of that of Kuwait, are pegged to the dollar, as well. The leaders of the two leading economies in the region, namely those of Saudi Arabia and the United Arab Emirates, have resisted domestic pressure to abandon the dollar peg as a reprieve from rising imported inflation. They have resisted the pressure for two principal reasons: first, they have been concerned that such a step would further weaken the dollar, which could affect the value of their assets, many of which are denominated in the US currency. But there has also been a political logic: they have not wanted to be seen as marching lockstep with the Iranian demagogue and his Venezuelan soul mate.

It is not obvious what President Bush can do to arrest the fall of the dollar, or indeed whether he wants to do that in the first place. But the President should keep in mind that he cannot offer security measures built on a shaky currency. The dollar is the symbol of American political and economic power in the Gulf countries and elsewhere, and its weakness undercuts American influence. An emaciated dollar cannot support a deterrence strategy or keep friends in tow.

President Bush is likely to ask the Gulf leaders to raise production of oil. But can they? And will they?

A most recent report issued by the Arab Fund for Economic and Social Development in association with a number of other organizations, including AOPEC [Arab Organization for Petroleum Exporting Countries] asserts that the confirmed global reserves of oil at the end of 2006 were 1,160.8 billion barrels, of which 668.2 billion barrels were in Arab countries. Ninety-three percent of Arab oil reserves are concentrated in five countries: Saudi Arabia (39.6%); Iraq (17.2%); Kuwait (15.2%); United Arab Emirates (14.6%) and Libya (6.2%). Iraq is seeking to increase its production; the other four Arab countries, however, are producing at almost full capacity, although Saudi Arabia has wiggle room. So the answer to the first question is yes, they can produce more, but not too much more.

As to the second question, whether they will produce more, the answer is a qualified no. The price of oil is high and may go even higher, and there is no reason for the oil-producing countries to be accommodating unless they conclude that current price level could trigger a recession in the US, which could spillover elsewhere. A global recession would cut the demand for oil and bring the prices below the producers' control. Furthermore, there is an inverse relationship between the exchange rate of the dollar and the price of oil- a lower exchange rate of the dollar will translate into higher oil prices and a greater flow of liquidity into the acquisition coffers of these countries.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Mon, 07 Jan 2008 06:08:31 PST The Organization of Petroleum Exporting Countries (OPEC) is an association of thirteen oil producing countries working together for mutual financial interests. OPEC officially describes itself on the organization's website "as a permanent intergovernmental organization" whose objective is "to coordinate and unify petroleum policies among Member Countries, in order to secure fair and stable prices for petroleum producers; an efficient, economic and regular supply of petroleum to consuming nations; and a fair return on capital to those investing in the industry." OPEC was created at a conference in Baghdad in 1960 by Iran, Iraq, Kuwait, Saudi Arabia, and Venezuela. The founding members were subsequently joined by Qatar, Indonesia, Libya, United Arab Republic, Algeria, Nigeria, Ecuador, and Angola, in this order.

The Creation of a Cartel

A cartel is a group of companies or countries which work collectively to affect market prices by controlling production and marketing. To understand that OPEC is a cartel, one needs only read Article 2 of its charter which states that OPEC's aim is "the determination of the best means for safeguarding their [members'] interests, individually and collectively, designing ways and means of ensuring the stabilization of prices in international oil markets with a view to eliminating harmful and unnecessary fluctuations." This cartel is significant in that it owns more than 70% of proven crude oil reserves and supplies 40% of the world's crude oil, the price of which often influences the economic fortunes of many countries-small and large, developing and developed.

Quota Allocation

To maintain price control, the oil cartel periodically establishes ceilings of production under which members of the cartel are allocated quotas of production based on (estimated) reserves. The higher the reserves, the larger the quota, and, hence, the larger the revenues. Since proven reserves are, in fact, no more than good estimates, members juggle figures to justify the largest possible quota. OPEC had in the past established both floor and ceiling for prices. When the price of a barrel of oil touched the floor, production was reduced to raise the price; when price reached the ceiling, production was increased to lower the price. Cheating-i.e., failing to adhere to the established quota-was common when the price hit the floor as members desperately needed cash to supplement their quota-generated revenues. Not long ago, the floor was $12 and the ceiling was $28 for a barrel of oil. With a price of oil spiking close to $100 per barrel, the ceiling has essentially disappeared and with it the general practice of increasing production to bring prices back to within an established range.

Speculation and Hypocrisy

OPEC members have traditionally priced the product in US dollars. US antagonists among OPEC members, mainly Iran and Venezuela, are demanding that the price of a barrel of oil be denominated in a basket of currencies. Other members of OPEC, including the largest producer, Saudi Arabia, have so far adhered to the dollar peg-in Saudi Arabia's case, partly because it has not wanted to be seen as having its course of action influenced by its Iranian nemesis. Still, one can understand the demand of the other members of OPEC for compensation for the devaluation of the dollar against other major currencies, namely, the euro and the British pound. How much compensation? No one can give a firm answer although a price increase of 25-35% would seem fair.

As a matter of fact, the price of oil has almost doubled in 2007, and there seems to be no end in sight for bursts in prices. Many members of OPEC are beginning to accumulate great wealth which, if unchecked, will lead to international monetary imbalances. However, any call for higher production to curb price hikes is answered by OPEC with a mantra: the supply is sufficient for the market needs; that prices are bursting through the ceiling is the fault of the evil speculators. It is the nature of the capitalist markets to allow risk takers to speculate in volatile commodities whether oil, gold, grains, orange juice, or pork bellies. In most cases, a sudden increase in price will indicate imbalance between supply and demand. Indeed, that is the case with oil. Rather than blame speculators, OPEC could increase production (above the 500,000 barrels/day it has sanctioned recently) to drive speculators out of business or at least reduce their alleged nefarious influence. Blaming speculators for keeping the supply restricted and keeping prices high is the ultimate hypocrisy.]]> staff@memrieconomicblog.org (By: Dr. Nimrod Raphaeli) Fri, 28 Dec 2007 06:00:43 PST