Riyadh, Asharq Al-Awsat- The majority of the Gulf States are witnessing a massive economic boom as a result of the unprecedented rise in oil prices. The price of an oil barrel continues to break new records on a daily basis in what has become a frantic race so that the price of oil per barrel has reached US $129.
Analysts expect the prices to rise to US $200 per barrel by the end of the year, which would generate huge cash surpluses for these states. However, one needs to take into account the lack of investment opportunities and the weakness of capital markets in such states, in addition to their small size, which means that they are incapable of absorbing this liquidity and employing it in a positive manner so as to serve sustainable development.
But what makes matters worse is that loan rates are low in these states as a result of pegging their currency on the dollar, which then requires them to keep up with the US Federal Reserve in terms of lowering lending rates. Moreover, various states have pumped huge amounts of liquidity [into their markets] with the aim of improving and reinforcing the infrastructural network and diversifying the income sources in an attempt to avoid making the same errors of the previous boom.
Inevitably, all of this will increase inflation which is kept under control through an unbalanced battle, since these states are engaging in battle whilst being stripped of the most important weapon required for the management of liquidity, which is to raise finance charges as a result of pegging their currency on the US dollar. As such they are trapped between a rock and a hard place; between liquidity surplus and the pegging of currency.
An example of this is when Saudi Arabia began to build economic cities throughout the kingdom and started developing the transportation network by creating a modern railway network to connect various parts of the kingdom, in addition to developing major and vital projects, such as airports, hospitals and universities, which meant that the state was pumping liquidity into a market that was already bloated with it.
The outcome was that the liquidity began to fluctuate between the two available investment channels, which were stocks and real estate. Initially, this liquidity entered into the stock market and led to the so-called bubble and now, it has turned to real estate in which prices are rapidly rising so that the suburbs have become unaffordable – not to mention city prices.
There is no doubt that the options available to curb inflation continue to be limited in light of what has been mentioned above. In my opinion, one of the most important tools that the state and its institutions have yet to direct their attention to is sukuk. Islamic bonds are an important instrument that may be employed to absorb liquidity in a positive manner that can serve the supreme interests of any given state and society due to the following characteristics:
First, Islamic bonds are a Shariah-compliant tool that is widely accepted by all investors, including individuals and Islamic- and conventional- financial institutions. As such, they could absorb a part of that liquidity. Perhaps it is worth noting here that 80 percent of sukuk holders worldwide are non-Muslims.
Second, the structures of the Islamic bonds range from Ijarah, which allows for the fluctuation of returns with limited risks, to the high risks and big returns entailed in Musharaka and Mudaraba, while debt-based bonds and other compound structures such as Murabaha and Istisna allow investors to diversify their investments in accordance with the risks and returns.
Third, they are negotiable.
Fourth, they lead to the private sector’s contribution to developing the states’ infrastructure, the outcome of which is a voluntary partnership between both public and private sectors.
Fifth, they lead to diversifying the investment tools that are fit for circulation and as such, open up new investment channels that contribute to the development of capital markets.
Sixth, they contribute to providing huge and long-term finance to high-cost projects.
* Lahem al Nasser is an Islamic banking adviser.