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8/4/2019 The Middle East Crisis and Its Impact on the Indian Economy

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THE MIDDLE EAST CRISIS AND ITS IMPACT ON THE INDIANECONOMY

Background: What is Happening and Why?

Between late 2010 and early 2011 a wave of spontaneous revolts in Tunisia and Egyptled to the downfall of the local regimes. Foreign exporters and investors in thesecountries are still being affected by the ongoing events, including looting, industrialaction, supply chain disruptions and increased counterparty risk. Moreover, the successof the initial protests sparked new tensions across the Middle East and North Africa(MENA), threatening the stability of Algeria, Bahrain, Iran, Jordan, Libya and Yemen.

Uprisings in Tunisia and Egypt

The catalyst for these revolts was the suicide of young street vendor, Mohamed Bouazizi,in the Tunisian town of Sidi Bouzid in December 2010; Bouazizi set himself on fire toprotest against a decision by the local authorities to seize his wares. In a few weeks

demonstrations spread to the whole country, as many Tunisians took to the streets toprotest against political repression and deteriorating living conditions. The combinationof high youth unemployment, worsening living conditions, rising food prices, accusationsof corruption and crony capitalism against President Zine el-Abidine Ben Ali and hisfamily, and the lack of legal outlets for widespread political discontent, led to anunprecedented uprising that the government was unable to stop. The aims of the revoltwere to topple Ben Ali and replace his authoritarian regime with a multi-partydemocracy. The sudden collapse of Ben Alis regime opened a political vacuum.

Parliament speaker Fouad Mebazaa replaced Ben Ali as president and a transitiongovernment, led by Prime Minister Mohamed Ghannouchi, but including members of theopposition was formed. In February parliament granted emergency powers to thegovernment, which can now rule by decree; this measure should enable the authoritiesto tackle the challenges posed by the difficult political transition.

The Tunisian uprising markedly increased economic and commercial risks. During theprotest, most businesses remained closed; they re-opened only gradually after thedownfall of the regime. Retailers were particularly affected by looting; likewise, thetourism sector recorded major losses as visitors fled the country. Supply-chain

disruptions and damage to offices and production plants were considerable; according to

a February survey published by research centre IACE, average capacity utilisation inmanufacturing industry fell to 52.9% in the wake of the uprising. Moreover, several

banks were downgraded by ratings agencies, thus restricting access to credit on theinternational markets. In addition, there is uncertainty over the fate of 175 firms ownedby relatives of former President Ben Ali, with financial institutions Banque de Tunisie andZitouna Bank being placed under caretaker management. Inevitably, payment risks forforeign companies have soared.

The political success of the Tunisian revolution set a dangerous precedent forauthoritarian regimes in MENA, with Egypt following a similar path: large crowdsgathered in the countrys main cities to protest against deteriorating living conditions,corruption and authoritarianism; despite the relatively peaceful management of the

protest by the security forces, the death toll amounted to around 150 by early February.


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Under pressure from the military, on 11 February President Hosni Mubarak steppeddown and handed over power to the Supreme Council of the Armed Forces (SCAF), led

by former Minister of Defence Mohamed Hussein Tantawi. The SCAF dissolved theparliament, appointed a committee to amend the suspended constitution, and committedto holding elections within six months. Although demonstrators cheered this militarycoup, there are significant concerns regarding the real intentions of the SCAF, which is

made up of high-ranking officers linked to the previous regime; the outcome of thetransition is still extremely uncertain.

As in Tunisia, the economy also ground to a halt, as most businesses shut and re-openedonly after Mubaraks resignation. For several days there were shortages of staple foodsand fuel, internet access was blocked and phone communications were also subject tosevere disruptions. Access to ports was also suspended, with several shipping companiesre-routing their container ships to other regional port facilities. Positively, Egypts unrestdid not affect traffic flows through the Suez Canal, which continued as normal.

Unsurprisingly, tourists and investors pulled out of Egypt; on 6 February the poundplunged to a six-year low against the US dollar. That said, FX reserves were equivalentto 7.0 months of import cover at the end of 2010 and are sufficient to cover the

countrys short-term requirements.

Contagion Risk in the Rest of the Region

In the wake of the successful uprisings in Tunisia and Egypt, the risk of protest

contagion became increasingly real. Throughout February a series of demonstrationstook place in Algeria, Bahrain, Iran, Jordan and Yemen, while Libya was engulfed in aviolent spiral of protests and harsh military repression that left the country on the brinkof civil war. The motives behind these revolts were similar: failure to address the long-

standing problem of unemployment; rising inflation, which in early 2011 was againeroding households purchasing power; a growing sense of injustice, fuelled by highlevels of corruption and cronyism within the various regimes; and anger towards long-

standing dictatorships and political repression.

Many governments tried to pre-empt the protests by adopting limited reforms: inAlgeria, the authorities promised to lift the state of emergency that has been in place foralmost 20 years; in Yemen President Ali Abdullah Saleh announced that he would not runfor a further term at the next presidential elections in 2013; and in Saudi Arabia King

Abdullah bin Abdul-Aziz unveiled a USD37bn package of pay rises, unemploymentbenefits and other social measures. Nevertheless, at the end of February the risk ofcontagion in MENA was still high.

The situation was particularly critical in Libya, where in late February protests against

leader Muammar al-Qadhafis regime spread quickly across the country; several cities in

the east of the country fell in the hands of the protestors. The uprising was met with anextremely harsh military response (including the aerial bombing of protesters) and leftthousands dead. Moreover, as the country plunged into chaos, foreign companies andgovernments began operations to repatriate non-Libyan nationals and shut downhydrocarbon production.


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The Middle East crisis will have a considerable impact on the major economies of theworld. Some of the implications of this revolt are as follows.

1. Unstable Oil Prices

The Middle East supplies much of the World with its oil. According to energy company

BPs Statistical Review of World Energy, the region sits on top of 61.1% of the worlds

total oil reserves and 45.0% of total natural gas reserves, and produces 35.3% of total

oil production and 18.9% of natural gas output .What happens in part of the world has

its ripple effect in other part of the part. The free flow of capital goods and services

across the borders has resulted in unprecedented growth of world economy particularly

in Asian economies. As the unrest spreads among Middle Eastern countries like Egypt,

Libya, Algeria, Yemen and Bahrain, world economy which was seeing signs of improving

sentiments, has again adopted a very cautious approach. The region provides 35% of

the worlds oil. Libya produces 1.7m of the worlds 88m barrels a day. International

crude prices had reached a 30-month high $120 per barrel in February following the

earlier turmoil in Egypt and Tunisia. Egypt owns and maintains the Suez Canal, a key

port that still handles a large traffic of commercial ships, larger than the Panama Canal.

A prospect of closing down of the port means an additional roundabout journey of

approximately 6,000 miles, equivalent to 21 days, and consequently, additional fuel

consumption. It can prove to be a chokepoint for a number of raw materials and finished

goods. Of the total 35,000 ships crossing the Canal in 2009, almost 10% were oil

tankers

What does it mean for country like India which imports 75% of their oil needs. Anincrease in the price of oil can cause a steeper jump in inflation, because it has a largerweighting in the consumers baskets, 14.2%.

2. Rising Food Prices

Food prices in 2011, are the highest this century, and many food producing countries are

dependent on oil to fuel their agricultural production. Soya bean prices are rising, whilst

wheat prices are affected. Staples like Bread, Soya beans, meats and vegetables which

are imported by countries are set to continue to increase. A World Bank report recentlysaid the rising food prices have pushed 44 million into poverty. In India, however the

food inflation has come down to 11.49 per cent in second week of February from over 18

per cent in December last year.

3. Reduced GDP

Higher oil prices mean more has to be spent on the essentials and amenities we dependon, unless we live in a country that produces oil. Higher oil prices act as a tax on

countries that import the stuff, which would normally call for easier monetary policy. Butthey also raise inflation, which calls for tightening. This has a knock on effect on GDP
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(Gross Domestic Products), as higher prices mean consumers have less to spend onother goods, other than essentials. The GDP of many European countries and the United

States is already affected by higher taxes and the effects of austerity programs- maydecrease this year.

4. Corporate Losses

Many of these nations experiencing revolt have a business relationship with many of ourglobal Corporations. One reason we saw stranded expatriates in oil rich Libya, from allover the globe.

The change of leadership, and the opening of these economies, is good news for thelocal economies, but could mean many of the businesses that exported and provided

services through the deposed leadership, face new competition, and even the prospect oflosing these lucrative contracts. Indian companies with plans of setting up shop in the

Middle-East have either postponed their plans or are looking to shift to a differentlocation in the same region with a lower risk profile, say strategic business consultants.

Developments in Bahrain, in particular, need to be monitored as several Indian

companies have invested in that country, they said. The real risk, however, will getaggravated if the crisis spreads to countries such as Saudi Arabia, Syria and the UAE.

5. New Business Opportunities

Business has been about evolving with situations. Considering the dependency of

countries like India on imported oil, many see this crisis as an opportunity for renewableenergy companies to grow exponentially.