The Inflation Cycle of 2002 to 2015 - Uhlmann Price Securities

Industrial Portfolio Strategy
The Inflation Cycle of 2002 to 2015 ⎯ April 19, 2002 -72- Legg Mason Wood Walker, Inc.
Saudi National Guard since 1963. Prince Abdullah is generally regarded as having a more fundamentalist
approach to Islam than Fahd, and is reputed to be a strong-willed reformer and a pragmatist.
Royal succession could cause political turmoil in Saudi Arabia. Though Prince Abdullah is reportedly
healthy, at age 78, royal succession is still an open question vis-à-vis other members of the Sudairi Seven,
their descendants, or other members of the royal family. We note that there is a strong relationship between
Abdullah and Saudi Minister of Foreign Affairs Saud al-Faisal, the latter being the son of former Saudi
King Faisal, and it is possible that Saud al-Faisal could emerge as the next Saudi Crown prince upon King
Fahd’s passing, in our view. The lack of clarity with regard to succession is not a major deviation from the
political history of Saudi Arabia. Although Saudi Arabia has established a number of consultative or democratic
institutions, to include the Majlis al Shuria (Consultative Council) that was revived by King Fahd after
the Gulf War, our view is that for the success of the al-Saud monarchy, the next Saudi King must
be a reformer and have more national prosperity via higher oil prices.
In our view, the power structure that has evolved in Saudi Arabia is a triumvirate, and its continued
stability is of global interest to avoid major war and commodity and consumer inflation. In one corner of the
Saudi triumvirate, there is the secular political authority of the al-Saud monarchy. The Saud family derives
inspiration and occasional force from the Islamic religious authorities, who occupy the opposite corner,
some of whom are the descendants of Abdul Wahhab, and are known as the al-Sheiks. Both parties derive
earthly sustenance from the region’s economic interests - mainly related to oil in the modern era – which
occupies the third corner. We believe that oil price deflation since the early 1980s has destabilized the economic
interests of the region, since the history of the Saudi monarchy has been to use financial largesse to
“buy off” discontent. We believe that this economic pressure has created a situation in which some of the
long-simmering religious authorities have used the economic malaise to blame the political authorities for
economic failure and its consequences, potentially in a bid for power and increased religious governance.
The rapid urbanization and collapse of per capita GNP in Saudi Arabia, shown in Exhibit 56, has left
the country with a rising cadre of disaffected young men, in our view. The situation is aggravated by a
birth rate that is among the highest in the world, and a surge from 2000 to 2015 of potentially disenfranchised
young Saudis relative to older, more established, and presumably less fiery Saudis, depicted in Exhibit
57. Unless the oil-based economy of Saudi Arabia receives a boost, and parlays that wealth into a successful
diversification effort, we believe this youth explosion will collide with a dearth of private industry
job opportunities, pushing the existing unemployment rate of approximately 25% even higher. In fact, youth
explosion is a pan-Gulf problem. Among the Gulf states, ex-Iran and Iraq, non-citizens make up 37% of the
population of 32.4 million, and residents under age 15 make up 40% of the population. In Saudi Arabia in
particular, where the economy has failed to diversify beyond oil, in our view, this raises the prospect that
more people will fall under the spell of the radical elements.
With approximately 5,000 Saudi princes, the odds of at least several hundred “black sheep” are quite
high, in our view. Those “bad apples” fuel resentment and may give the approximately 100 ruling princes a
bad name, so we believe that current discussions regarding a culling of the royal roster may gain momentum,
especially since high birth rates make royal expansion an increasingly serious problem.
As a result, Saudi capital flight and corruption are serious issues, the result of some members of the
royal family and high-level technocrats protecting their self-interest in a period of economic pressure. There