The United States, the Gulf Arab states, and Israel face escalated threats, both rhetorical and real.
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The second half of the 20th century saw rising inflation across the world as economies experienced a postwar boom, and governments struggled to repay wartime debts. In the 1970s, twin oil price shocks added to the inflationary challenges faced by Western policymakers.
Consequently, academic economists dedicated a large volume of their research to the issue of inflation, and by the early 1980s, they had a sound understanding of inflation’s causes and countermeasures. Rigorous control of the money supply, inflation targeting, and central bank independence proliferated across advanced economies, and by the late 1990s, consumer price inflation was firmly under control in all countries where governments had the requisite political will.
By 2022, almost 40 years on from the inflationary peaks experienced in the United States, the ghost of consumer price inflation had risen from its grave, and new highs of over 9% were registered. With rising global food and energy prices playing an important role, no country has been spared the wrath of inflation, compelling United Nations Secretary-General Antonio Guterres to demand global action to aid low-income households struggling to make ends meet.
Due in part to their large dependence on food imports, the Gulf Cooperation Council countries have also experienced rising consumer prices (around 4%) but to a considerably lesser degree than in advanced economies, such as those of the United Kingdom and United States. The idiosyncrasies of the GCC economies account for a significant portion of these divergent experiences, notably their status as energy exporters rather than importers and the abundance of migrant workers in their labor markets.
Moreover, the presence of a fixed exchange rate with the U.S. dollar in five of the six GCC countries (and a quasi-peg in the case of the sixth – Kuwait), combined with the absence of a political election cycle, mean that monetary policy in the GCC tends to be more technocratic than in countries such as the United States, further contributing to price stability.
Combating inflation has traditionally been a primary goal of governments, as the most salient cost of inflation is that it undermines consumers’ real living standards, as their purchasing power diminishes. However, in the long run, an arguably bigger cost is the loss of trust in the monetary and financial system, especially in the case of volatile and unpredictable inflation. The faith that investors and consumers have in the value of their purchases is critical to the functioning of modern economies, and countries with governments that have mismanaged their monetary systems and lost people’s trust, like Venezuela and Zimbabwe, are doomed to low living standards until they correct course. That is why understanding inflation is so important, including appreciating the reasons for the GCC’s relative success thus far.
The Inflation Data
To benchmark the GCC inflation data, it is compared to that of the U.K. and United States, since they are experiencing some of the highest inflation rates in the Western world and also because of their importance (especially the United States) to the global economy. Moreover, the GCC currencies are pegged to the U.S. dollar (except Kuwait’s, which is pegged to a basket that is heavily affected by the U.S. dollar), and so the United States is the natural benchmark for their inflation.
While countries with advanced economies, such as the U.K. and United States, publish monthly consumer price inflation data promptly and reliably, the GCC countries vary in the availability and frequency of such data. Bahrain, Qatar, and Saudi Arabia provide the highest volume of data. Oman also provides good quality data, albeit with a larger lag. In the United Arab Emirates, Dubai publishes inflation data promptly, but data at the level of the federation is harder to come by. Finding data for Kuwait is much more challenging, possibly due to the coronavirus pandemic.
Consequently, data presented and analyzed here is from Bahrain, Oman (where available), Qatar, Saudi Arabia, and the Emirate of Dubai (serving as a proxy for the UAE). Moreover, due to data limitations, the GCC inflation rate presented here is based on a simple (unweighted) average of the inflation rate in the four countries and Dubai. Fortunately, the intra-GCC variation in inflation is small compared to the differences between the GCC countries and countries such as the United States, and so the precise weighting method used in calculating a GCC average has no substantive effect on the subsequent qualitative analysis of GCC inflation.
Annual consumer price inflation data from 2019-22 for the GCC countries compared to the U.K. and United States reveals several noteworthy phenomena. First, at every point in time, GCC consumer price inflation is significantly lower than that in the U.K. and United States. In the pre-coronavirus period (2019), GCC prices were essentially flat, while those in the U.K. and United States were rising at a rate of approximately 2%. By June 2022, the U.K. and United States were experiencing inflation rates of around 8%, compared to 4% in the GCC.
Notably, given the fixed exchange rate between the GCC countries’ currencies and the U.S. dollar, consumer price inflation in the six states would generally be expected to move broadly in tandem with U.S. inflation. The appearance of a divergence between the United States and GCC is therefore surprising and merits further analysis.
Second, while GCC inflation exhibits an upward trend throughout the period, at no point does it leave the range that central banks typically target, which is usually below 5% (some central banks have tighter targets, but that is the exception rather than the rule). In contrast, throughout 2022, the U.K. and United States have experienced supernormal levels of consumer price inflation.
Third, consumer price inflation gathers momentum in the U.K. and United States in 2021, and this has been attributed to a series of economy-level factors. A leading factor is coronavirus-related disruptions to supply chains, including the physical shipping of intermediate goods and products, and decreased supplies of key inputs, such as energy and microprocessors. In certain cases, the Ukraine war has exacerbated these stresses, but they existed well in advance of the conflict and will continue regardless of the war’s development. This class of inflation harkens back to the commodity-price-induced inflation of the 1970s.
Further, the pandemic has generated significant labor supply shortages in advanced economies. Some people have withdrawn semi-permanently out of disenchantment regarding general working conditions or because child-care challenges have made staying at home preferable to a regular job combined with outsourced child care. This has generated considerable wage inflation, which producers then pass on to consumers in the form of higher retail prices.
Beyond these supply-side factors, in the United States, fiscal and monetary stimulus has enriched consumers, and the coronavirus pandemic has led to pent-up demand, which was suddenly unleashed when vaccine rollouts permitted the resumption of conventional economic activity. This demand-led price inflation is similar to what has happened with stock market and real estate bubbles.
In addition to these aggregate phenomena generating inflation, some sector-specific factors have played a role, too. Sectoral data can also help explain the divergent inflationary experiences of the GCC countries compared to that of the United States.
Inflation at the Sectoral Level
Food and energy have experienced high rates of inflation and have significant weight in household budgets, so this has had a dramatic impact for consumers. In June 2022, the inflation rate for food was 10.4% and for energy was 41.6%, inflicting pain on Americans at the grocery store and fuel pump. However, food’s weight in the basket (13.4%) is much higher than that of energy (8.7%), including gasoline (4.8%).
Within the food category, dairy products (13.5% in June 2022) and oils and fats (19.5%) have both made large contributions to inflation. Vegetable oils have been rising sharply due to supply chain disruptions caused by the Ukraine war, widespread droughts, and competition with biofuels.
Energy, on the other hand, was rising well in advance of the Ukraine war, due to the inability of oil supply to keep up with demand. The oil price collapse in 2014 led to a sharp decline in oil investments, reinforced by anti-fossil fuel rhetoric adopted by Western governments. The result has been supply growing much more slowly than in the past, and so when demand for energy and oil rebounded in 2021, production could not expand to meet the demand.
Looking at Bahrain’s consumer price inflation for the same sectors from June 2021 to June 2022, the general patterns are broadly in line with the U.S. experience, though there are some salient differences. Bahrain is representative of the experiences of Oman, Qatar, and the UAE; Saudi Arabia has experienced a considerably lower inflation rate than its GCC neighbors and is considered separately.
First, despite headline food inflation being broadly comparable, fish and seafood inflation is considerably lower in Bahrain than in the United States. For example, in the second half of 2021, fish and seafood inflation in Bahrain was negative, in contrast to being solidly in the range of 5% to 10% in the United States. Bahrain’s fish and seafood inflation is a lot more volatile too, but that likely reflects Bahrain’s small size, which means higher exposure to local shocks to seafood production.
Second, energy inflation is essentially absent in Bahrain (and the GCC more generally), as opposed to being a major driver of it (on the supply side) in the United States’ case.
Third, restaurant and hotel inflation starts a lot lower in Bahrain (where it is essentially zero) than in the United States before overtaking the United States at the start of 2022. Much of this merely reflects the 5% increase in the value-added tax that went into effect in January. Once this is deducted, inflation in this sector is generally lower in Bahrain (and the GCC more generally) than in the United States.
In Saudi Arabia, the data paints a picture of very mild inflation in all sectors with two exceptions: milk, milk products, and eggs; and oils and fats. There is a small spike in the middle of 2021, and this reflects the move to raise the value-added tax from 5% to 15%, but thereafter prices are extremely stable.
Explanations for the GCC-U.S. Inflationary Divergence
Structural Economic Factors
The first set of factors that account for the moderation of GCC inflation are structural economic factors. As reflected in the energy sector price data, when seeking to maintain price stability, a key advantage that the GCC economies have over Western ones is their fundamentally different system for pricing fuel and electricity. Prices for both commodities are typically subsidized to an extent that they have nominally fixed prices. For example, Bahrain fixes the price of regular octane gasoline to approximately $0.37 per liter, and Qatari citizens are provided electricity free of charge.
In the case of exceptions, such as gasoline prices in the UAE, which are allowed to vary competitively in response to variations in global oil prices, the variation remains considerably below what is seen in the U.K. and other countries. This is because the UAE does not impose green-motivated heavy excise duties on gasoline; in the U.K., such taxes exacerbate the price turbulence stemming from global markets.
The GCC countries also benefited from the mildness of the 2021-22 winter season, which limited electricity demand. In contrast, many Western countries experience peak electricity consumption from December to February as they heat their homes and businesses.
A second structural economic factor that works in the GCC countries’ favor is the openness of their labor markets to migrant workers. Expatriates account for over 75% of the labor force in most of the GCC countries, and the small population of the Gulf states compared to source countries, such as India and Pakistan, means that there is effectively an inexhaustible supply of labor at the prevailing wage. This has allowed GCC businesses to avoid the need to bid wages up – and hence raise their prices.
As an illustration, restaurants in the United States have been hit particularly hard by a lack of willing servers at the historically acceptable wage. In countries such as Oman and the UAE, restauranteurs have access to a virtually inexhaustible supply of Indian and Filipino servers whose services can be procured without the need for a wage rise.
Political and policy-related factors also play an important role in explaining the moderation of GCC inflation. First is the absence of a U.S.-style fiscal stimulus. While the pandemic-induced full and quasi-lockdowns in the GCC countries have resulted in pent up demand for consumer goods, the initial rise in purchasing power has not been as large as in the United States due to the absence of cash handouts to households.
Beyond this transient policy difference between the GCC countries and the United States, the absence of a traditional political cycle in the Gulf affords the six states the opportunity to select a more technocratic inflation strategy. In contrast, the Federal Reserve has always been prone to political pressure.
This famously occurred under President Richard Nixon in the 1970s, when he coerced the Fed into a bout of loose monetary policy to stimulate the economy ahead of elections, resulting in surging inflation months later. Many experts believe that the Fed had been reluctant to control inflation by raising interest rates because of the adverse consequences such a move might have on the Democrats’ electrical prospects during the November 2022 midterm elections. By early 2022, once polls indicated that inflation had become one of the electorate’s chief concerns, the Fed changed course and initiated a sequence of sharp interest rate increases, but this came too late to halt the inflation that Americans experienced during the third quarter of 2022.
In the GCC, meanwhile, inflation has always been a comparatively depoliticized issue, allowing monetary policy to be run by technocrats unaffected by the peaks and troughs of an electoral cycle.
Insulated From Inflation, for Now …
For the GCC countries as well as the U.K. and United States, decades of sound monetary policy transformed consumer price inflation from a government priority to a theoretical source of curiosity that many young people had never experienced. Since 2021, there has been rising inflation in both sets of economies, and the situation became so serious in the United States that the Fed adopted a highly aggressive sequence of interest rate increases.
However, the GCC countries have thus far been able to avert the need for such emergency measures, owing to the persistence of moderate levels of inflation. They owe this partially to the benefits of a depoliticized and technocratic monetary policy, unlike in the United States, where policy is responsive to political pressure induced by the electoral cycle.
Beyond these political factors, the distinct structure of the GCC economies has also played a role. Fixed fuel and electricity prices have blunted the impact of rising global energy prices, while an abundance of migrant workers has prevented the emergence of labor supply crunches. Rising global food prices and coronavirus pandemic-induced supply chain disruptions have generated some degree of consumer price inflation, but by the end of the third quarter of 2022, inflation remained under control, and economics students in the Gulf studying inflation would still have to rely on their textbooks rather than their own personal experience to understand the topic.
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