It’s the growth story, stupid!

Posted on August 16, 2011

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The global price of oil will have the largest impact on Middle Eastern and Arabian Gulf economies.

A US credit downgrade is only part of the story. Sluggish economic growth remains the real concern.

When the long-term creditworthiness of the United States was downgraded from triple-A to double-A-positive by Standard & Poor’s, it highlighted the concern surrounding the world’s largest economy’s ability to service its debt. Indebtedness is, however, only one aspect of the worries that US policymakers face at this time. And, by default, the rest of the world also worries about the US, because they know that every sneeze by that giant economy has the potential to give the global economy a lasting case of influenza.

The bigger problem before global economies remains the slow pace of recovery from the ravages of 2008 and 2009 and the possibility of another recession. The real challenge for the US, according to Daren Acemoglu, a professor of Economics at the Massachusetts Institute of Technology, is not high debt but low economic growth. Acemoglu postulates that an increase of one percentage point in the country’s average growth rate over the next 20 years would not only result in much higher incomes and more jobs for all Americans but would also obviate the need for drastic spending cuts today to rein in the government deficit. “With a 2% increase per year, average incomes in the United States, and to a first approximation government tax revenues, would be 49% higher in 20 years than they are today.” With a 3% increase per year, they would be 81% higher, he writes in the Harvard Business Review.

The effect on the Middle East would be obvious — a stable dollar and increased oil demand would combine to give regional economies the momentum needed to maintain growth. Or not, if global economic growth continues to stagnate or decline.

Nomura Global Economics, in an August 2011 update on its April 2011 GDP growth estimates for this year, has revised downward the forecasts for every single grouping in the world except Emerging Europe, Middle East and Africa, or EEMEA. A global economic slowdown, led mainly by developed economies, will reduce oil demand. IEA and OPEC have both trimmed their global oil demand forecasts for 2011, while supply continues to increase.

These are all signals that have kept markets on edge over the past couple of weeks and the uncertainty is expected to continue. Safe-haven assets like gold seem to shine brighter in such a scenario.

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