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• Document Type: CREST
• Collection: General CIA Records
• Document Number (FOIA) /ESDN (CREST): CIA-RDP86T00586R000300300007-8
• Release Decision: RIPPUB
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• Document Page Count: 16
• Document Creation Date: January 12, 2017
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• Sequence Number: 7
• Publication Date: April 1, 1985
• Content Type: MISC

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Directorate of -Secit r
Intelligence
Austere Times
Saudi Arabia, Kuwait, UAE:
Asset Management in
An Intelligence Assessment
GI 85-10099
April 1985
COPY 3 8 3
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Directorate of Secret
Intelligence
Austere Times
Saudi Arabia, Kuwait, UAE:
Asset Management in
Office of Global Issues, with contributions byL
Office of Near Eastern and South Asian
OGI,
Analysis. Comments and queries are welcome and
may be directed to the Chief, Economics Division,
Secret
GI 85-10099
April 1985
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This paper was prepared by
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Saudi Arabia, Kuwait, UAE:
Asset Management in
Austere Times
Key Judgments Since 1982 declining oil demand has reduced the revenues of the Gulf
Information available producers and forced Saudi Arabia to draw down its huge asset holdings.
as of 31 March 1985 We calculate that Riyadh has drawn down foreign assets at the rate of $1
was used in this report.
billion a month since yearend 1982, and the Saudi Arabian Monetary
Agency (SAMA) is continually shortening the maturity structure of its
$126 billion portfolio in the quest for further liquidity. Kuwait and the 25X1
United Arab Emirates (UAE) have been able to preserve their financial
asset positions but at the expense of sharp budget and import cuts.
At the current rate of asset liquidation, Riyadh reserves would fall below
the psychological barrier of $100 billion, to about $94 billion by the end of
the year. A further fall in oil prices could push Riyadh's liquid reserve lev-
els below $90 billion by December. We believe Riyadh may be forced to
accelerate its current rate of asset liquidation-from $1 billion to $1.5
billion per month-but not in a manner that will disrupt US financial
markets. Some US banks could experience a cash squeeze, however, if
Saudi Arabia makes sudden large cash withdrawals. Because they sell less,
Kuwait and the UAE would fare better than Riyadh if oil prices drop 25X1
further. Continued high capital flight in both countries, however, could
pressure asset levels as domestic investment opportunities shrink.
To slow depletion of their assets, we believe that Riyadh, and to a lesser ex-
tent the UAE and Kuwait, will further reduce budget expenditures and
imports. Only priority expenditures, largely defense, will remain un-
touched. Such retrenchment could have repercussions on two very different
fronts:
? The UAE and Kuwait have already drastically reduced aid to other
LDCs, and Saudi commitments will be made with more discretion. Both
the Saudis and Kuwaitis will continue to provide substantial aid to Iraq,
but reductions to countries like Sudan can be expected.
? Further slowdowns in domestic spending and economic activity could
create severe problems for banks in the Gulf area. Information on their
operations is spotty, but indications are that bad loans are mounting.
Although we do not believe a crisis is imminent, the banking system
remains vulnerable to intensified regional instability or another shock
such as the Kuwaiti stock market crash of 1982.
iii Secret
GI 85-10099
April 1985
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To augment revenues and provide alternative outlets for crude production,
all these countries have pursued oil refining and petrochemical production
plans. However, even these operations will be vulnerable to sluggish prices
for oil products and protectionism in developing country petrochemical
markets.
Should divergent self-interest among OPEC members divide the organiza-
tion, Riyadh's financial strains may force it to rethink its role as swing pro-
ducer and to try to reverse the slide in oil revenues by selling more oil. We
do not consider an all-out price war a serious threat, but the pressure on the
Saudis to take action could build this spring with the seasonal drop in oil
demand, and possible temptation by other OPEC members to raise
production. We believe that a prolonged price war would damage Riyadh's
financial position-unless it were able to substantially raise exports-but
could devastate other OPEC economies.
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Saudi Arabia, Kuwait, UAE:
Asset Management in
Austere Times
From 1974 to 1982, the Governments of Saudi Ara-
bia, Kuwait, and the United Arab Emirates (UAE)
earned more than $700 billion in oil revenue and
together accumulated an estimated $220 billion in
foreign assets, some four-fifths of the OPEC total (see
figure). The foreign assets of the Saudi Arabian
Monetary Agency (SAMA) grew by an average of 30
percent a year, and by 1982 SAMA was managing a
portfolio of foreign assets estimated at $153 billion
(table 1). Diversified into 11 currencies-with more
than 60 percent US dollars-SAMA's portfolio was
made up mainly of short- and medium-term securi-
ties. Bank deposits, gold, International Monetary
Fund placements, and government securities account-
ed for more than 60 percent of total assets. Although
the United States was the main repository for Saudi
funds, $53 billion was also placed in Western Europe,
Japan, and Canada.
Similar asset accumulation was experienced by Ku-
wait and the UAE. By yearend 1982, Kuwait had
amassed $69 billion and the UAE $35 billion (tables 2
and 3). We believe that bank deposits and short-term
government securities made up little of either portfo-
lio. the bulk of each country's
financial investments in long-term government and
corporate securities, with more than two-thirds locat-
ed in the United States and Western Europe.
This wealth allowed each nation to make foreign and
domestic investments designed to cushion their do-
mestic economies against future oil price declines. In
the past this cushion, along with Saudi productive
capacity, provided Riyadh leverage to force other
OPEC members to maintain production quotas. It
also gave the Saudis the wherewithal to try to affect
the politics of other countries with large doses of
foreign aid.
Saudi Arabia, Kuwait, and UAE:
Official Foreign Assets
Billion US S
350
about their portfolios and prefer to avoid speculation
in securities that might destabilize financial markets.
Kuwait and the UAE, for example, sought long-term,
high-yielding investments in order to free future
generations from dependence on crude oil exports. To
this end, Kuwait allocated 10 percent of its annual oil
revenues to the Reserve Fund for Future Generations
(RFFG)-now accounting for about half of Kuwait's
$70 billion portfolio.
Saudi investment policy has reflected Riyadh's desire
to keep assets relatively liquid and to maintain a
maturity structure that would provide a steady cash
flow to finance the country's development plans and
make Riyadh less dependent on the vagaries of the oil
Investment Philosophies and Strategies
Since the rapid buildup in assets began in 1974, Saudi
Arabia, Kuwait, and the UAE have followed fairly
conservative investment philosophies. All are secretive
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Table 1
Saudi Arabia: Distribution of Official Foreign Assets a
Location c
63
144
153
135
126
United Kingdom
13
18
15
4
3
Other Western Europe
11
22
21
26
21
Canada and Japan
3
14
17
21
18
7
9
17
18
Gold and IMF
4
7
10
12
13
Bank deposits
17
19
19
16
11
Government securities
17
56
59
62
54
Corporate securities
18
32
32
16
15
Other assets d
7
18
21
29
33
a Yearend totals; derived using yearend exchange rates.
b Estimated.
1979-82 numbers based on balance-of-payments data. Numbers
may not add because of rounding.
d Includes concessionary loans and oil for Iraq.
market. During the latter stages of the accumulation,
however, SAMA attempted to lengthen the maturity
structure, shifting its purchases to medium- and long-
term securities. Holdings of corporate securities in-
creased by 75 percent, while shorter term government
securities were rolled over into longer maturities to
take advantage of higher interest rates and to boost
investment income. However, liquidity and safety
remained the key to SAMA's investment strategy.
largely of corporate bonds and equities.
Kuwait owns 3 to 5
percent of some of the top 500 companies in the
United States. Traditionally, Kuwait and Abu Dhabi
have maintained equity holdings under 5 percent in
any one company to avoid possible bad publicity
resulting from disclosure laws. However, Embassy
reporting indicates that Kuwait's newly established
Public Investment Authority may change the rule for
more profitable investments. The Abu Dhabi Invest-
ment Authority (ADIA) has already diverged from
this policy by purchasing 10 percent of Reuters.
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Table 2
Kuwait: Distribution of Official and
Quasi-Official Foreign Assets a b
Location d
42
54
62
69
67
70
United Kingdom
11
14
17
25
22
21
Other Western Europe
6
6
7
6
7
Canada and Japan
I
1
1
I
2
IMF and IBRD
I
1
2
I
I
United States, other countries, and unlocated
34
37
39
Currency
Pounds sterling
3
3
2
2
2
Marks
5
6
6
6
6
6
Yen
1
1
1
1
2
Other currencies
3
4
4
5
4
3
Gold and SDRs
1
2
2
1
1
Unknown
6
12
18
14
19
21
Type of account
Gold, SDRs and IMF position
2
2
2
2
2
Bank deposits
2
1
1
2
Government securities
2
3
3
3
3
3
Investment accounts
26
33
37
39
35
32
Other assets f
7
10
15
17
10
14
Unknown
2
5
4
15
18
a Yearend totals; derived using yearend exchange rates.
b Includes foreign assets of mixed-sector investment companies.
Estimated.
d Estimates based on balance-of-payments data. Numbers may
not add because of rounding.
e These accounts include some deposits but are largely invested
in medium-term government securities, corporate bonds, and
equities.
f Includes concessionary loans and direct placements.
Increased Direct Investments
Diversification away from crude oil exports as their
sole source of revenue and into petrochemical and oil
product exports has been a prime goal of all three
Gulf states. Embassy reporting indicates that Saudi
Arabia, along with its foreign partners, has invested
$15 billion in developing its petrochemical sector-
substantially more if infrastructure costs for Al Ju-
bayl and Yanbu al Bahr, where the industry is
located, are included. Press reports indicate that
Riyadh's capacity to produce basic petrochemicals
and petrochemical products is expected to reach
7 million metric tons by 1986 and, despite decreasing
world demand, expansion plans continue. In mid-
December, the Saudi Arabian Basic Industries Corpo-
ration signed the final agreement to construct a $600
million facility at Al Jubayl that is expected to go on
stream in 1988. With at least a 2-to-I cost advantage
over developed country producers, a little more than
half of the production will be aimed at the export
market.
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Table 3
UAE: Distribution of Official Foreign Assets a
Location c
18
27
33
35
39
36
United Kingdom
1
3
2
2
2
2
Other Western Europe
1
2
1
2
2
2
Currency
Dollars
10
NEGL
2
a Yearend totals; derived using yearend exchange rates.
b Estimated.
c Estimates based on balance-of-payments data. Numbers may
not add because of rounding.
d Includes some placements with international institutions and
government securities.
e Includes concessionary loans, direct placements, and real estate.
In addition to Riyadh's petrochemical ventures, all
three countries have expanded their refining capabili-
ties. Between mid-1984 and 1987, Saudi Arabia,
Kuwait, and the UAE will add more than I million
barrels per day (b/d) of capacity to refine fuel oil,
diesel, naphtha, and other petroleum products, ac-
cording to industry studies.' While Riyadh maintains
primarily home-based production, Kuwait and Abu
Dhabi also seek foreign energy-related direct invest-
ments. Last year, for example, the Kuwait Petroleum
Company (KPC) purchased Occidental's Geothermal
Power Plant in northern California for $350 million to
add to existing US holdings that include the purchase
of Santa Fe International for $2.5 billion. During
1983-84, the KPC purchased Gulf Oil's European
refineries and marketing outlets.
The UAE is just beginning to diversify overseas. In
mid-1984, the Abu Dhabi National Oil Company
together with ADIA set up the International Petro-
leum Investment Company (ADIPIC). Press reports
indicate that ADIPIC is modeled after the KPC, and
the company will eventually seek to purchase or
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The expansion of Persian Gulf petroleum investments
has several implications for future oil markets. By
purchasing foreign interests or planning to increase
crude oil pipeline capacity to the Red Sea, Riyadh
will become less dependent on Gulf shipping lanes,
thereby ensuring its income stream should Gulf hos-
tilities worsen. In Kuwait's case, foreign oil interests
may also serve to soften the blow of depressed crude
exports in the wake of the current oil glut. On the
other hand, competition to sell products from down-
stream refining activities by Saudi Arabia, Kuwait,
and the UAE could counter their longer term inter-
ests as members of OPEC. Since product prices are
not regulated by OPEC, countries with export refin-
eries can sell products at attractive prices-keeping
oil production up when crude sales weaken. This
practice cuts into the market shares of those mem-
bers exporting primarily crude oil forcing them to
discount prices to retain customers-while further
undermining the official price structure.
At the same time, the existence of substantial unused
petrochemical capacity will lessen Saudi ability to
reduce its vulnerability to oil price movements. De-
pressed petrochemical prices will reduce the value of
Riyadh's 1985 exports to about $1.6 billion instead
of the $3-4 billion originally forecast. Furthermore,
the EC decision to impose a 13.5-percent duty on
Saudi methanol exports probably will be the first of
several actions designed to reduce Riyadh's penetra-
tion of West European petrochemical markets. Be-
cause of their proximity to European and Japanese
markets, Saudi petrochemicals can compete more
effectively there than in the United States. However,
because they produce primary petrochemical prod-
ucts, they probably could provide feedstocks for the
US markets as well.
manage foreign refineries and petrochemical opera-
tions. ADIPIC activities probably will focus on down-
stream operations instead of oil exploration since the
emirate of Abu Dhabi currently produces about
800,000 b/d of crude-only about a third of its
capacity. With the decline in oil revenues, ADIPIC
will probably purchase some existing oil refineries and
distribution networks for more attractively priced
product sales.
Saudi Arabia
The fall in oil production by more than one-half since
1981 has rendered Saudi financial reserves essential
to maintaining planned levels of economic activity in
the Kingdom. We estimate that SAMA now has $126
billion in foreign assets, having drawn down more
than $1 billion a month from the 1982 peak. The
liquidation is even larger if an estimated $6 billion of
cash and oil given to Iraq during 1982-84-but still
counted as assets-are excluded. We estimate that
Riyadh currently has $103 billion in spendable assets
consisting of gold and IMF accounts, bank deposits,
corporate and government securities, and direct place-
ments. The rest consists of illiquid concessionary loans
and aid to Iraq.
SAMA's recent portfolio management policy reflects
the government's continuing desire for a high degree
of liquidity:
? We estimate that $17 billion in corporate securities 25X1
were liquidated during 1982-84 and turned into
shorter term assets.
? Press reports indicate that SAMA is no longer
rolling over maturing bonds plus interest but is
transferring the interest to cash deposits and rolling
over the bonds into shorter maturities. Maturities of
Certificates of Deposits (CDs) and other time depos-
its are also being shortened. Furthermore, US Trea-
sury bills and other assets sold prior to maturity
have become increasingly important to satisfying 25X1
normal liquidity requirements.
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The shorter maturity structure of SAMA's portfolio
makes it more interest sensitive. We estimate the
lower level of interest-earning assets and the decline
in world interest rates reduced SAMA's investment
income in 1984 by almost $2 billion, to $13 billion.
Table 4
OPEC: Oil Revenues and Current
Accounts Under Various Price Scenarios
In addition to raising the liquidity of their reserves,
the Saudis have reduced the proportions of dollar
assets and US placements in their portfolio. We
estimate that dollar investments now constitute less
than 55 percent of their asset holdings, down an
estimated 7 percent from 1982. Dollar placements in
the United States are down an estimated 20 percent.
The heavy sales of dollar assets in favor of European
currency-denominated assets have dampened
Riyadh's investment income and cost it an estimated
$4 billion in foreign exchange losses during 1984. We
believe SAMA's policy reflects the desire to purchase
goods with valuable dollars and the hope that other
currency-denominated assets recover sometime in the
future.
Kuwait and the UAE
Although Kuwait and the UAE have made fewer
portfolio adjustments than Riyadh, investment in-
come has become more important as a source of
revenue. We estimate that Abu Dhabi earned $4.2
billion from investments during 1984-about a third
of oil revenues-which added a sizable cushion for its
recession-plagued economy. Kuwait's investment in-
come equaled over half of its $10 billion oil revenue
last year. However, Kuwait continues to reinvest its
asset earnings rather than use them for current
spending.
Although OPEC has done remarkably well in pre-
venting large oil price declines over the last few years,
the continued weak oil market is making it difficult
for OPEC to maintain the present price structure.
Last year's mild fourth quarter prompted buyers to
draw on inventories in anticipation of a further fall in
prices. Spot prices rose only slightly in response to the
cold weather this year in Europe and the United
States, and further pressure on prices is likely in the
spring when seasonal declines in demand probably
will occur.
1984 Oil
Revenue
1985 Oil Revenue If Prices:
Constant -$2/b
-$5/b
Total OPEC
150.2
144.8 137.5
126.7
Saudi Arabia
39.0
38.2 36.2
33.3
Kuwait
10.0
10.0 9.5
8.7
UAE
12.6
11.7 11.1
10.3
Rest of OPEC
88.5
84.9 80.7
74.4
1984 Current
Account
Balance
Projected 1985 Current
Account Balances If Oil Prices:
Constant $-2/b
$-5/b
Total OPEC
-9.3
-23.6 -30.9
-42.1
Saudi Arabia
-13.7
-14.6 -16.6
-19.7
Kuwait
6.1
5.4 4.8
4.0
UAE
7.4
5.6 5.1
4.2
Rest of OPEC
-9.1
-20.0 -24.2
-30.6
As the largest oil exporter, Saudi Arabia stands to
lose the most financially from an oil price decline
(table 4). A $2 or $5 per barrel oil price decline from
the 1984 average of $27.28 per barrel would reduce
Saudi liquid asset levels well below $90 billion if
Riyadh maintains current import levels. Even if
OPEC manages to forestall a further fall in prices, we
believe Riyadh will have to continue its $1-billion-per-
month reserve drawdown and push its spendable
assets to about $94 billion by the end of this year,
according to our estimates.
Although Saudi assets are still huge given Riyadh's
population, their steady dwindling raises some poten-
tial political problems. We believe that a drop in
assets below $100 billion coupled with depressed oil
revenues would force Saudi leaders to make some
difficult choices. Popular criticism of the perceived
mismanagement of the economy by the royal family
makes domestic austerity measures, budget cuts, and
import reductions unattractive. Faced with a continu-
ing drawdown in assets, the Saudis will probably
reduce spending further.
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For the UAE and Kuwait, capital flight is more of a
problem than declining oil revenues. According to
press reports, the UAE Central Bank logged a $5.5
billion capital outflow during the first half of 1984,
and we estimate an $8 billion outflow for the year.
For several months during 1984, Kuwait was experi-
draw on assets, and both Kuwait and the UAE might
have to scramble for more liquid portfolios as future
drawdowns appeared imminent.
encing a $1-billion-a-month capital flight,
In both countries, higher
returns on dollar deposits versus local currency depos-
its, shrinking domestic markets, as well as regional
Gulf hostilities have prompted individuals to seek
safer and more lucrative havens for investments.
According to Embassy reports, the UAE Central
Bank issuance of local currency-denominated CDs to
commercial banks earlier this year to attract liquidity
met with only limited success. Recently, the UAE
Central Bank manager also issued a warning to
private investors regarding restrictions on monetary
flows abroad. The Kuwait Central Bank reportedly
had more success with the implementation of a two-
tier exchange rate and increased regulations of banks
and exchange houses. However, Gulf central banks
usually have little authority in financial affairs and
influence policy largely through moral suasion. Thus,
we believe the fundamental problem of capital flight
will not be corrected until Gulf economies strengthen,
domestic investment opportunities expand, and cen-
tral banks obtain more power to implement currency
controls.
Under the circumstances of a $2 or $5 price decline,
we believe that Kuwait and Abu Dhabi still would
show healthy, albeit smaller, current account surplus-
es and fare better than their OPEC counterparts.
Both probably could get by with reduced oil exports,
but investment income would begin to play a role in
current financing. Because both countries' portfolios
are largely made up of corporate securities and
equities, a drop in world interest rates and the higher
OECD economic growth that probably would result
from an oil price decrease could well raise investment
income and the value of their holdings but probably
not enough to compensate for the drop in oil revenues.
Returns from downstream oil operations would weak-
en, and financial and domestic pressures could mount.
Resulting recessionary impacts coupled with contin-
ued capital flight would add to UAE pressures to
Cuts in Spending
The financial strains that already have reduced eco- 25X1
nomic activity in the three countries will continue.
Real gross domestic product (GDP) in Saudi Arabia 25X1
and the UAE declined 11 percent in 1983 and an
average of 3 percent last year. Further declines of 3 to
4 percent are expected in 1985 for Riyadh and Abu
Dhabi. After real GDP growth of 7.6 percent in 1983,
the Kuwaiti economy only grew an estimated 2 25X1
percent in 1984, and slower growth is expected this
year.
Because the three have tried to insulate their indige-
nous populations from budget cuts, expatriate labor
and foreign-dominated companies are bearing the
brunt of spending decreases. Construction companies
continue to be hardest hit as projects are put on hold
and payments are delayed. Riyadh refused to bail out
two large construction companies-Carlson al Saudia
(a Saudi-US joint venture) and the Shobokshi group
(Saudi-owned)--along with more than 300 other
bankrupt firms last year. Press reports indicate that
some of the firms have large loans outstanding,
payable to US banks.
Some parts of expenditures will remain unscathed in
spite of declining oil revenues. Defense expenditures 25X1
remain a high priority for all three countries. Abu
Dhabi has announced that it will proceed with its
option to purchase a second squadron of Mirage 2000
aircraft from France. Defense accounts for more than
50 percent of UAE expenditures, and Abu Dhabi
probably will budget another $2 billion this year
despite grumblings that the federation should allocate
more for infrastructure and development projects.
Embassy reporting indicates that petrochemical and
crude refining development expenditure plans will
also remain largely intact for Kuwait. In addition,
subsidies-such as free health care and cheap elec-
tricity-have not yet been targeted for serious cuts as
they are considered too politically sensitive.
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Riyadh is attempting to reduce its reliance on reserves
this year through fiscal belt-tightening. King Fahd
recently ordered a balanced budget of $55 billion-a
$4 billion decrease from last year's actual expendi-
tures. We estimate this could ease Riyadh's current
account deficit by $1-$4 billion, depending on the
import component of expenditure cuts. Two refinery
projects were abandoned in March, but other targeted
cuts were not specified. Embassy reporting indicates
that local businessmen favor reduced budget outlays
but are concerned about how the cuts will be made.
Although the amassed fortunes of Saudi Arabia,
Kuwait, and the UAE have enabled them to give
billions of dollars in project loans, military aid, and
balance-of-payments support to other LDCs, aid dis-
bursements are down more than 50 percent since
1981, to an estimated $6.4 billion in 1984 (table 5).
Iraq received two-thirds of last year's total, with more
than 85 percent consisting of oil sold on Iraq's behalf
by Saudi Arabia and Kuwait. Saudi and Neutral
Zone exports for Iraq now amount to about 400,000
b/d. We expect oil aid to Iraq to remain at the same
levels in 1985. Even after 1987, when Iraq will be in a
position to increase oil exports by as much as 1 million
b/d, we believe Baghdad will insist on continued oil
and cash from Saudi Arabia and Kuwait as payment
for protecting the Gulf states from Iran. The UAE
made one aid payment to Iraq early last year, but we
find no evidence of any payments since. Because of its
commercial and cultural ties to Iran, Abu Dhabi is
more likely than other Gulf states to reduce aid to
Iraq. Furthermore, we believe President Zayed dis-
likes Iraqi President Husayn and is using the de-
pressed state of the UAE economy as an excuse for
the drop in aid.
We expect the three countries to continue to reduce
aid to other LDCs, such as North Yemen and Sudan,
although Saudi cuts have been and probably will
continue to be less severe. Saudi Arabia is current on
its $1 billion annual Baghdad Pact payments to Syria,
Jordan, and the PLO, but we have seen no evidence
that Riyadh made its usual $100 million payment to
Yemen for balance-of-payments support in 1984.
Kuwait promised to continue its Baghdad support last
year, committing $340 million, but we believe only
$98 million was disbursed. Kuwait disbursed another
Table 5
Bilateral Military and Economic
Aid Disbursements
From Saudi Arabia
Iraq
Cash
4,000
2,400
622
233
Oil c
0
0
1,025
2,600
Other Arab states
3,655
2,960
2,005
1,082
Non Arab Islamic
665
595
985
584
Other less developed
65
80
297
234
From Kuwait
2,810
3,280
1,087
1,454
1,500
Iraq
Cash
2,000
2,000
400
50
Oil
0
0
292
1,131
Other Arab states
730
1,100
350
268
Non Arab Islamic
45
110
10
5
Other less developed
35
70
35
NEGL
From UAE
2,170
1,690
580
215
200
Iraq
1,400
1,250
450
200
Other Arab states
680
275
130
15
Non-Arab Islamic
70
65
0
0
Other less developed
20
10
0
0
Estimated.
b Projected.
c Valued at $25 per barrel.
$98 million earlier this year. Moreover, Riyadh is
substituting oil for cash in more disbursements. Last
year the Saudis provided Somalia with $20 million of
In addition, Saudi Arabia and Kuwait reported-
ly have renewed the contract to provide 250,000 b/d
of Neutral Zone crude to Iraq.
We expect Riyadh to maintain foreign assistance
disbursements in 1985 close to last year's levels, but
oil aid could make up a larger portion.
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We expect that most Kuwaiti assis-
the UAE will again provide only minimal aid.
Regional Banking Impacts
The continuance of depressed economic growth cou-
pled with intensified regional instability could damage
Gulf financial sectors. Gulf governments probably
could rectify the situation before a collapse, but it
may require a substantial liquidation of reserves.
Although we do not believe a crisis will occur this
year, the regional banking systems remain vulnerable
to shocks such as a surge in capital flight. In Kuwait
and the UAE, domestic lending has scarcely grown
since 1982 because of the economic slowdown and
lack of domestic investment opportunities. Further-
more, the dissolution of the Souk al Manakh,
Kuwait's unofficial stock market, continues to weigh
reports, the 45 registered companies on Kuwait's
official stock exchange could lose $1.4 billion in
1985-possibly setting off another stock market
crisis.
In the UAE, the recession has reduced the number of
profitable lending opportunities for banks and left
some on shaky ground. The takeover of the Dubayy-
based Emirates National Bank (ENB) by the Union
Bank of the Middle East was the result of ENB's
carrying $55 million in doubtful loans. Embassy
reporting indicates that the Dubayy Bank, the UAE's
fifth largest in terms of assets, was in danger of
collapsing because of foreign real estate losses. It was
later purchased by the government. The Central Bank
is encouraging more local bank mergers as the region-
al slowdown has cut into bank profits, but the Central
Bank has no more power to rectify the situation than
the individual emirates are prepared to give it. More-
over, some bank-owning families have close connec-
tions with the rulers of emirates and probably will
lobby against further interference.
Saudi banks have also been hit by the regional
slowdown. Embassy reports indicate that Riyadh's
National Commercial Bank recorded a second year of
declining profits, partly because of bad loans. The
Embassy expects the other 10 Saudi banks to report
similar declines.
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Cartel Pressures
As the oil market weakness continues, pressures with- 25X1
in OPEC probably will mount. In the past, Saudi
Arabia, with its large production capacity, acted as
swing producer-filling shortfalls in production or
absorbing cuts to stabilize crude prices. Riyadh also
could maintain discipline over weaker and less
wealthy cartel members as other OPEC states real-
ized that Riyadh, with its large production capacity
and financial reserves, could send oil prices tumbling
and further weaken some already shaky economies.
Lower production has given Riyadh less room to
maneuver when market conditions dictate a large cut
in production, but it still maintains the production
capacity to flood the oil market and cause a large
price decline. Although we do not consider an all-out
price war a serious threat, we cannot rule out the
possibility. Currently, OPEC members are generally
adhering to their quotas, however, a further drop in
OPEC oil demand could prompt members to produce
more oil. The Saudis seek to serve their long-term
interests and may reach the point where they believe a
sharp price drop is the only way to restore discipline.
A prolonged price war could damage Riyadh's finan-
cial position, but it would be far more damaging to the
rest of OPEC.
Over the last two years, we estimate that Saudi
Arabia has drawn down $13 billion of its assets placed
in the United States, about 90 percent being US
Government securities. We believe, however, that the
current rate of asset liquidation is not enough to strain
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the markets for US securities and that, even if oil
prices drop by $5 a barrel, the selloff of US invest-
ments by Riyadh probably would not exceed $1.5
billion a month. SAMA, being an active trader of US
securities, could liquidate $100-200 million of US
investments a day indefinitely to dealers without
attracting undue attention or affecting interest rates.
We and other financial observers also believe that a
sudden, large selloff of government securities by
SAMA would not pose problems for US financial
markets. The market for US Government securities is
large and efficient and handles an average of more
than $50 billion a day. Many analysts believe that for
Saudi Arabia to sell $20 billion to the Treasury over a
week might cause temporary instability but that the
market could absorb this amount with no effect on US
interest rates or exchange rates.
Given SAMA's penchant for secrecy and its aversion
to disturbing financial markets, we feel that sudden
changes in investment policy are unlikely. SAMA
probably realizes that sharp shifts in its investment
holdings in the United States could negatively impact
on other portions of its portfolio. For example, a large
liquidation of US Government securities might lead to
a loss in the value of other dollar-denominated invest-
ments.
Some US banks, however, could experience a cash
squeeze should SAMA make sudden, large withdraw-
als.
amount of loan exposure to debtor nations by US
banks holding SAMA deposits. Should SAMA's wor-
ries deepen, it could withdraw deposits from some US
banks.
Middle Eastern branches of US banks are also record-
ing declining profits because of the regional slow-
down. Embassy reporting indicates that US branches
are reducing lending and increasing their reliance on
service fees to generate revenues until commercial
activity resumes. Even though US banks have a
competitive edge over Saudi banks in providing ser-
vices, they may not provide enough revenue for all to
survive.
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