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Is the opportunity in the Middle East all it’s cracked up to be?

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A truly adventurous expat

With several of my friends having moved, or considering moving, to the Middle East, I wanted to take a moment to consider exactly what the attractions of such a move could be for erudite, sophisticated expats (as opposed to estate agents, headhunters and so on from the Home Counties).

The Middle East is not one place, of course, so I will stick to looking at the two or three locations which are emerging more regularly in conversation: the UAE and Saudi Arabia (hereafter referred to as “the Kingdom” in deference to the Kool-aid drinkers out there – you know who you are). Specifically, it is jobs in Dubai, Abu Dhabi and now Riyadh which appear more frequently, creating the wave of excitement about acronyms which we have become used to: ADQ, ICD, ADIA, PIF and so on.

It strikes me that as an expat looking to take up a second innings in the Gulf after years in, say, East Asia, there are three variants of what might make the story “the real thing”. First, obviously, as a source of investment funds for expats to service; secondly as a final market for commerce and consumption; and lastly, unashamedly as a venue for globalists to pass their time and enjoy ill-gotten gains. I will assess each of these in turn.

As a source of investment funds

This storyline seems pretty unassailable. Sovereign wealth is not the only form of investment money, but they are a useful proxy for the overall picture even if doing so favours the Middle East (China and other major economies have much more substantial capital in the hands of corporates). Gulf SWFs have been accumulating for some time – as an oil and gas banker, even the 2000s were an era to look for their capital. Then along came PIF which blew them all out of the water.

Sovereign wealth AUM by country (US$bn)

Source: SWF Academy / LBS; Note: ‘Other Gulf’ includes Kuwait, Qatar, Oman and Bahrain

However, it is important to consider that the attraction of this money is not only that there is a lot of it, but that the holders must be rather stupid. For all the noise, the scale of SWF money from the Gulf is comparable with Asia – Singapore alone has funds equivalent to the Kingdom, whilst China dwarfs all of them. So why are these same expats not clamouring to work at Temasek or the CIC?

As racist as it sounds, it is because expats want to believe the Middle East is still ‘dumb money’ compared to Asia. And while a case could be made for this – a significant amount of the Gulf money remains undeployed and one assumes they are not yet as sophisticated – one must surely be conscious of the closing window. If it took 20 years for Asian money to wise up, there is no reason to believe Middle East will be slower; indeed it may well be faster.

Additionally, to rely on this argument, we are really saying that expats do not know if they like actually living in these places, but they must because the Gulf has the money and we do not. The expectation is that activity will be largely outbound, allowing expats to service their hosts but spend as much time as possible elsewhere. Geneva without the scenery … an exciting start.

As a commercial market

This is a more productive area to discuss and indeed to hope for. Expats in Asia will be painfully aware that ultimately, the self-sustainability of an economic opportunity relies on underlying indigenous consumption and therefore on population scale.

The markets we are talking about in the Middle East are not enormous. The Kingdom spices things up with its arrival of course, adding 35m people to the cluster of small city states around it, and this should not be dismissed; but it is hardly the stuff of global engine rooms. On a simple basis, unless the ‘Middle East’ can come to encompass two or more of Egypt (113m people), Iran (89m) or Turkey (85m), the scale of the opportunity presents an insurmountable problem for those seeking to make long-term money.

But there are nuances. For instance, what exactly is the region’s ’Middle Class’ and how does it compare? For this quick assessment, I tend to use the Credit Suisse data on wealth distribution as a basis, with the US$10,000 band representing the ‘emerging middle class’ while the US$100,000 speaks to those who are truly middle class. From a consumption perspective, this equates respectively to those who can be ‘mass modern’ consumers (shopping in, for instance, air conditioned modern retail outlets), and those who are ‘mass premium’ consumers (who might, for instance, consider buying a Lexus or holidaying abroad). This is a shorthand but useful nonetheless.

On the positive side, small as the population is, the spending power in the UAE and the Kingdom is probably outsized compared to markets we know and love in Asia. While the adult population of the two countries totals the same as Malaysia, the numbers of upper middle classes are significantly higher. In particular, richer consumers abound here compared to similar sized Asian countries, hinting at a strong market for luxury goods.

On the other hand, while the population has been growing, the prospects of that growth face some headwinds. Unsurprisingly, the Gulf states tend to suffer significant inequality, which is never a strong basis for future development. As has been discussed previously, there is a significant correlation between low starting inequality and the pace of nominal GDP growth, with the likes of China and Vietnam outperforming Indonesia and the Philippines as a result. The Emirates and the Kingdom fare poorly on this which may indicate a lower ceiling of sustained progress.

Combining these together, I think what we are looking at is an exciting enough market, about the size of Singapore + Malaysia with a chance of ultimately becoming Thailand. Let us be clear: if the Kingdom can achieve the level of Thailand, with its relatively strong manufacturing and consumption, it will have done very well indeed. It will not make huge numbers of foreigners hugely rich, but will support a few of them for a few years; and if you are geared towards the luxury end of the market, the region may well reward you handsomely.

As the new globalist hub

Now we come to the most nebulous and most hubristic idea: that following the ‘decline’ of Asia, and therefore the lessening of the attractions of Hong Kong and Singapore, the likes of Dubai can take up the mantle of being the hub of the ‘citizens of the world’ (aka ‘citizens of nowhere’).

If we look at the two previous sections, we have covered some, but not all, of this ground. On the one hand, the sheer volume of investment flow (mostly outbound) will for a few years require international talent until, like developed Asia, they no longer need it. On the other hand, even the most optimistic view of domestic demand shows a ceiling in both amount of foreign employees and for how long they are needed. But what if the Gulf somehow “corners the market” for international expats, becoming the place for the globalised to live as this world ever shrinks into localisation?

First off, we should be clear that following the examples of the Asian city-states, there can really only be a couple of these if they succeed at all. The fundamentals argue in favour of the UAE over the Kingdom at this point, since Dubai is already established and given the seeming hardships still true of Saudi which, regardless of the pace of liberalisation, will still see expats want to party elsewhere. For the record, given the religious nature of society, I do not see Riyadh being able to be as ‘fun’ as Beijing was c 2005-2015 – so that already robs it of one possible selling point.

So assuming that we are talking about Dubai, possibly assisted by Abu Dhabi, the question is whether the allure of regional investment flows can outweigh the domestic demand elsewhere, and if so, by how much to allow expats to feel like the little kings they want to be? It assumes a substantial ongoing decline in Asia, for a start: if even one of Singapore or Hong Kong remain alive, they will immediately draw critical mass away from the Emirates. The UAE strategy is rather Google-esque, since it sort of requires going for broke. You either win everything or you end up not breaking out of the limited regional play.

Could expats from London or New York live in the Emirates and traverse the globe from their new-build beach homes? Certainly there are a few geographical benefits in terms of time zones (albeit not for the US market, a true arbiter). The place is spanking new and Filipina helpers are a dime a dozen. But unlike in Hong Kong, and slightly more like Singapore, expats would have to spend much more of their time on flights since others would be less naturally attracted to travel through. When you factor in that the ‘big neighbour’ is much rougher than China or Indonesia were for the others, it paints a picture of life being a touch less fun.

As a final note, I have not excluded consideration of other jurisdictions, because none of them pass muster. Kuwait is totally off the agenda due to its domestic social policies. Qatar remains too much of a geopolitical risk locally for expats to throw their lot in with compared to the others. Bahrain is the other ‘sanctuary’ city but has surely lost the race to get started vis-a-vis the Emirates. Further afield, Oman and Jordan are on the fringes of the region.

The sad thing is that all of these venues are new-builds: what a cultured foreigner would really want is to live in historical Baghdad, Damascus or Tehran, but these are all off the market. Had any of these cities been the take-off point, the story could be dramatically different.

A baseless prediction

Where does this all leave us? As an Asia expat for over 15 years now, based in Singapore, Hong Kong and Beijing, I will indulge myself on making an outside-in forecast about how attractive the Middle East really is for myself and my friends.

First, I cannot refute that a near-term bubble of at least 3-5 years is still in the offing. Dubai has already had a decent innings but I do expect real estate investment for instance to be well-rewarded. For a few years, too, I expect some decent employment opportunities to emerge for first movers, the equivalent of FILTH during the 1980s and 1990s. Real skills will not be much required in the very first wave. The Gulf will also attract – possibly permanently – currently homeless parts of the global new economy such as crypto.

However I do expect this to change quite quickly, and more so than in Asia. Dubai does not have the colonial and post-colonial legacies of Hong Kong or Singapore commercially, socially, infrastructurally or legally. This means a lesser and shorter rent seeking phase for white people. It also exerts no permanent hold on its larger neighbours the way Hong Kong (for China) and Singapore (arguably Malaysia and Indonesia) do, which means the opportunity will start to ‘leak’ out to the local markets more quickly than they did in Asia. The Emirates will not have a century to be bedded in as the place to do business in Saudi the way Hong Kong did for China. Development, if successful, will more resemble how Vietnam has exploded so indigenously, barely giving regional expats a window to be relevant.

More than anything though, my feeling is that the Middle East just cannot become ‘pleasant’ enough to be sustainable for so many expats. The moment they are not needed they will leave, whereas Hong Kong (and Singapore?) continue to exert an influence over expats even as its best days appear to be behind it. It has mountains; it has seasons; it has a western mentality partially instilled into local people. I don’t doubt that Dubai has been fun, and Abu Dhabi and Riyadh may yet be for a few years; but I don’t believe it will feel as expansive as, say, living in Shanghai has been. And some of that has to be the size and depth of the local civilisation. The globalists will definitely lose interest after a while.

For out-of-work bankers, this will not deter the enthusiasm to look West. Some will have perfectly decent second careers there – albeit probably for a shorter period and likely involving a more frontier lifestyle than they are used to. Good luck to them – expats are nothing if not opportunistic. But to those who believe the Middle East represents a generational opportunity to take up the mantle of a growth engine, I think they will need to moderate their hopes. We will see how right this may be within 5 years.

The End of Entrepôts – why the future is big, not small

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Lugard

Photo: Lord Lugard with the Legco in 1909

It is one of the most oft-repeated fallacies in modern politics that the future is destined to be ever smaller and fragmented. One only has observe the fetishization of breakaway movements such as Scotland or Catalonia and hear the accompanying, knowing murmurs telling us that in political terms at least, atomization is the way of the future – small is beautiful. Some still reach further back, summoning up the collapse of the Soviet Union as proof that all large entities must collapse.

This is completely at odds with reality, on a number of levels. First, recent history has, far from being driven by a narrative of devolution, instead been dominated by the rise of “big countries” which in turn are resurrecting their own brand of Great Power relations. The corresponding decline in relevance of smaller entities is pronounced – most noticeably in the shape of individual European nations which have seen their weight fall off considerably. The 2010 Copenhagen agreement, where Obama sidelined the Europeans to reach straight for emerging giants, was an early sign of this; the gradual extinction of the Quadrilateral in determining trade policy was another.

Indeed in my 2013 paper on China and multilateralism, I noted that the world is if anything heading towards a new “community of empires”, with both the foreign and domestic policies of China, Brazil and India joining the US and Russia in pursuing an unrelentingly imperial logic. In response, those outside of their orbit are banding together to form what are prima facie trade blocs, but which are in reality the beginnings of something much more. Whether the European Union, ASEAN or Mercosur, nation-states are ceding sovereignty slowly but surely for the express purpose of aggregating their power in the world beyond. Even in unexpected corners of functioning humanity such as East Africa, union is the name of the game. Status and size do not have a linear correlation; as one reaches critical mass, the relationship becomes exponential. A power ten times as large as its neighbours is far more than ten times as important.

At the heart of this is a simple thesis: in the long run, the power of any country will be determined by the size of its population (with a shared identity – more of that another time), somewhat adjusted for a country’s natural resource base. In the long run, all else is mere noise. Yes, certain countries or civilisations may exercise disproportionate power for a period of time, even centuries. This can have any number of causes but often it is because of temporary technological disparities – temporary because in the long run, all technology will permeate meaning that we arrive back at where we started: population. Any vision of a world where the largest population blocks are not the most important countries must be premised on a smaller, more nimble country actively and exploitatively keeping larger population blocks subject. This was a kernel of much of European colonialism of the 19th century (which should not be conflated with a general model of imperialism exercised in human history).

Now in the long run, as Keynes says, we are all dead. So does it matter? I would say yes it does, particularly for those living in and around the rising powers of Asia such as China, Indonesia and to a lesser extent, India. Because some of these changes are no longer concerns for the long term, but coming to maturity now.

One lesson is this: the age of entrepôts such as Hong Kong and Singapore is fast coming to an end. In the future, there will be no space for such outposts any longer, at least in their current form. This is because the very existence of such centres is a lingering post-colonial legacy, based on an economic system that is now no longer extant. City-states like Singapore thrive because they are a form of offshoring, and the offshoring they offer is reaching the end of its useful life.

We should be crystal clear that offshoring has two forms: there is offshoring for work a country does not want to do, and offshoring for work it cannot do. On the one hand, there is what we classically understand as “offshoring” where one jurisdiction offers a cheaper way of producing goods and services for a richer one – offshoring from below. Textiles in Bangladesh fall into this, as does the core of China’s economic rise during the 1990s and 2000s. The second form is what hubs such as Hong Kong, Singapore, Dubai and even London offer to an extent – offshoring  from above. They provide capabilities that other poorer, less developed countries cannot do themselves.

The problem is that much of the world is catching up. There is precious little that can be done in Hong Kong today that cannot be done in China; yet Hong Kong really only exists to serve the Chinese economy, much as some lament its progress to becoming “just another” Chinese port. Singapore is safer for the moment, but it is still implausible to imagine that Malaysia, much less Indonesia, will allow the island to remain an offshoring hub for high value-added industries such as finance. As with China, they will end up doing everything themselves. The post-colonial legacy of substantially inadequate skills and infrastructure will be bridged, if not today, then tomorrow. At that point, the city-states will have precious little left. This is a problem not faced by Bangladesh – but then no-one wants to be Bangladesh. There is a reason why entrepôts barely exist in the OECD and if they do, they service a tiny, marginal sliver of their neighbours’ economic life as Jersey or the British Virgin Islands do. It is because there is no room at the top.

Britain suffers from many of the same issues. Plenty have lauded the supposed rebirth of the British automotive industry, and in a few instances, this is well justified. But for every Aston Martin or Morgan, where real value-add and R&D is achieved in the UK, there is a far bigger presence of Nissan or Toyota. The latter however, are essentially a little Bangladesh model – investment into the UK occurs not because of any inherent capabilities, but because we are marginally cheaper and have fewer regulatory restrictions (unionization etc) than regional neighbours. This is not much of a national dream.

The other side of the UK is that of the entrepôt. Here I am referring to her services exports – but not the headline-grabbing financial services sector, which will be pretty easily replicable elsewhere, but rather industries such as advertising, publishing, design and architecture which are more genuinely unique. And one can tell that they are unique, since whereas the UK can barely export any financial services to the big empire economies of the US or China, it sells large quantities of stylish design. The problem is, this is nowhere near enough to support an independent UK – the idea of the UK becoming a “Singapore of Europe” is beyond fanciful, as I have noted before.

Singapore has been conspicuous in how strongly it clings to and pushes for ASEAN. And the reason is clear: if ASEAN does not succeed in binding the region together, Singapore will soon have nothing to offer its larger neighbours. Only a union of sorts will allow it to continue holding a position of import. Hong Kong’s commercial residents have long acquiesced to the fact that it will have to be another Chinese city, albeit one offering some special rules and playing a specific role. Hong Kong’s flagship airline’s troubles reflect the decline of hub-and-spoke trade in favour of point-to-point, and are a microcosm of how the whole economy is developing. Dubai will play off the inability of regional giants to pull their weight (Iran, Egypt and Turkey) but if and when they do, it too will face the same problems of reinvention.

But the old model of “Singapore” is a complacent and condescending anachronism – and those pushing the model for countries like Britain are living a sheer fantasy.

Explaining the Umbrella and Sunflower protests

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As a brief follow-on from my previous piece on Taiwan, I have done a quick and dirty analysis on what is driving youth discontent in Greater China, and specifically what has arisen in Hong Kong and Taiwan in recent years.

In this single chart, I believe I capture what I would call the “aspiration deficit” in being a young person in these two jurisdictions today. Here I have calculated the house pricing and rental in key cities as a multiple of graduate starting salaries.

Graduate salaries

Sources:

  1. Graduate salaries for PRC cities from Baidu News, as per 2017
  2. Graduate salary for Hong Kong from SCMP, as per 2016
  3. Graduate salary for Taiwan from Taipei Times, as per 2016
  4. House price and rental data from Knight Frank Greater China Property Market Report Q3 2017, based on Luxury Residential

The caveats: this is not designed to give any sort of rule of thumb about how long it takes to save for a flat, or how much is used up of income to pay for rent. I may even come up with a better methodology going forward – if the data allows. Instead, this exercise is simply a measure of what pressure there is on the dreams of those who newly come onto the job market, having been promised that their four years at university would lead them to a better life. This is why the luxury Residential market is I think an adequate metric on which to judge.

What is shows is quite how desperate prospects are for many of those in Hong Kong and Taiwan. Their earnings are stagnant, yet house pricing is going up. Welfare is better than in China, but the infrastructure is beginning to creak. The idea of looking after themselves – let alone looking after their parents – seems distant; and of course having children in this environment is ever less appetising. This is perhaps the single largest contributor to the upheavals experienced from students and other youth in the Umbrella and Sunflower movements – and it explains why so many young people see their future in China or elsewhere abroad.

To bring this back to politics, I wrote some time ago on the problems Beijing has had in relying on local tycoons to press their case in Hong Kong:

“… less obvious has been how housing prices are preventing young local Hong Kong residents from starting lives properly, and in this as with much else the fault lies in a government that has existed to serve the tycoons – let us call them the Oligarchs – instead of the people. Beijing has been complicit in this since it decided to use the Oligarchs as a shortcut towards legitimacy after the handover. In colonial times, many tycoons were respected by locals as examples of being able to escape the unspoken racial glass ceiling, but since 1997 these Oligarchs have gone on to really take local people for a ride. Beijing is now paying the price for siding with the rich against the poor for so long. There is a limited amount of time that this can continue before Beijing must begin to change sides.“

The same, in a sense, is true of Taiwan, where the big business lobby has been allowed to get rich off mainland China, repatriate their earnings and create asset bubbles in Taiwan that put home ownership increasingly beyond the reach of locally based graduates. It is a death spiral for aspiration – and it is this, much more than any real impact on living standards – which diminishes the legitimacy of any regime.

The Handover Hangover – Britain and Hong Kong in the age of the New Normal

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HK handover

The British media, between the endless coverage of the debacle that is Brexit, the May government and the spectre of Jeremy Corbyn, recently managed to find a little time for soul-searching over Hong Kong, on the twentieth anniversary of the 1997 handover. The hand-wringing tone over whether Britain had let the people of Hong Kong led the Guardian for instance to note that:

“Theresa May’s government faces a choice between upholding legal principle and democratic values, and its chronic post-Brexit need for Chinese trade and business at any price. No prizes, or yellow umbrellas, for predicting which way May and Johnson will jump.”

The torturous link to contemporary politics aside, these op-eds convey a tone of unfulfilled potential. Chris Patten weighed in with his own personal laments over what has slowly occurred since , self-flagellating over Chinese encroachment of the former colony.

Yet much of this seems rooted in misconceptions that still seem to pervade the British establishment. For a start, the very act of suggesting that Britain should “do something” about still hints, however much denied, that she is in a position to do so. This is unrealistic not only because of the relative imbalance but also the distance and relevance of the two countries, notwithstanding the occasional bravura peeks through, wishfully claiming that “China needs Britain more than Britain needs China“. This mismatch is true politically, culturally, socially and above all, economically.

In cold economic terms, it is not only the the imbalance that demonstrates relative strength – China incurred a US$37.6bn trade surplus in 2016 for instance – but also mutual insignificance. According to data, Britain is only China’s 9th largest trading partner, accounting for just 2.7% of Chinese exports, far from enough to move the psychological needle. Compare this with Germany, for whom the UK constitutes 7.1% of exports, or even the US at 3.8%. Britain and China are simply not that relevant to each other. China matters slightly more to the UK than vice versa, accounting for 4.4% of her exports (and arguably Chinese consumption of British goods such as high end cars is less easily replicable than in the other direction), but it is still not much of a basis for negotiations or threats.

Moreover, there appears to be a parochial misunderstanding about Hong Kong’s destiny as “just another Chinese city”. Critics will say that social and political life are not the same as economic life; to that I would say one necessarily follows the other. Consider a recent piece in the Financial Times about how the Hong Kong has changed since 1997. Two visuals stand out:

Hong Kong is increasingly no longer a regional hub but more of a China port. Yet this is not just a function of being on China’s doorstep, or even of China’s desire to integrate Hong Kong as some might imagine; it is rather a consequence of the fact that the old colonial entrepot model of corporate imperialism in Asia is gone. China is a self-sustaining economy of critical mass. The days of being able to “do” China from offshore, are as absurd as believing one can cover the US from London or Toronto. This is beginning to apply to other countries too, particularly Indonesia but also Thailand and increasingly, Malaysia. The concept of largely expat financiers and traders sitting in the comfort of the Victoria harbourfront whilst servicing these jurisdictions is faintly ridiculous; and this is a global emerging markets trend.

Asia has changed. The era when its leadership still had links with their former colonial rulers, such as the Cambridge-educated Lee Kwan Yew to Britain, is over. A telling moment was the closing in 2009 of the much-loved Far Eastern Economic Review, a deeply socio-political publication inhabiting a world where Asian leaders and western discourse still understood each other. Today, nothing could be further from the truth – as countries like China pass the “peak export” phase of their development cycle, their economies and leadership are inevitably more introspective. Each country must be engaged from a truly domestic perspective and cities like Hong Kong, and to an extent Singapore, are less relevant. There is nothing Britain can or should do about this.

At least Hong Kong, despite its comparative decline, still has a future bound up with a single large power. Singapore will soon come to find that its position as a safe haven for Indonesian and Malaysian investment and private wealth is under a more serious threat – which has led to their driving ambition behind ASEAN. London, in the end, will probably feel these winds of change too.