Are there any hidden assumptions or price rigidities in Saudi Arabia that might inhibit market force indicators from revealing the true economic health of the country, thereby either preventing government policy actions from correcting the problems or otherwise making them ineffective and counterproductive? How difficult is it to invest and repatriate profits, and how would you deal with the need for educated managers and executives that can operate effectively in Saudi Arabia?
While the government is preparing its monetary and fiscal policies, it disregarded the items below (Porter, 2009):
Variability of the oil prices
Variability of the oil demand
Sudden and unexpected exchange rate changes
The government has established a General Investment Authority comprising related governmental offices in order to regulate the investments and assist the investors. The companies wanting to invest in Saudi Arabia need to get license by the authority after fulfilling the requirements. So, the investor like to invest in Saudi Arabia can go to authority's OSS (One Step Shops) and get the information about the country, economic situation, and its investment situation. The government facilitated investment procedures in the country.
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As stated in the case, tax rates and tax regulations are the least problematic factors in Saudi Arabia for the investors. Repatriation of the profits causes additional taxes. Normally, the profits earned in the host country are taxed and then transferred to the home country. Since Saudi Arabia is very competitive in tax issue, companies are not requested to pay additional income taxes. This is very attractive feature for the Foreign Direct Investors in Saudi Arabia because international companies are refraining from the double taxation. Additionally, the low-level burden of government regulations is another advantage for the FDI's. Therefore, repatriating the profits would not be problematic in Saudi Arabia. (http://www.mofa.gov.sa/Detail.asp?InSectionID=3977&InNewsItemID=34476)
Since there is a shortage of qualified managers and executives in Saudi Arabia, it would be fine to fill management positions by mother company's professionals. Shortly, the ethnocentric staffing policy would be appropriate. The reason for that is that Saudi Arabia is not a developed country in terms of human resources. Additionally, in terms of corporate culture, assigning mother company's nationals who have worked for a long time for that company as manager or executive would ease the adaptation process. It is obvious that it would also be possible to utilize and exploit experiences and knowledge for mother company's nationals who have gained in headquarters. Ethnocentric staffing could cause displeasure in Saudi Arabia among the employees and mid-level managers. It is also obvious that managers assigned from other nations can be confronted with cultural differences. In order to overcome these disadvantages, managers and executives should be trained for the cultural issues. (Hill, 1994)
What is the current domestic and international economic situation in the country relative to best performance measures for that country?
Saudi Arabia is one of the largest patrol exporters in the world. Export revenues originated from Patrol accounts for 83% of total its total exports. Government aims to diversify its export revenues in order to diminish its dependency on the patrol.
Monetary policy is being executed by Saudi Arabian Monetary Agency (SAMA). Tasks of this institution are interest rates, inflation, monetary conditions and the exchange rate. The major issue for the country is to select the correct policy and decide to use which policy can be used to achieve the targets. Since riyal is pegged to US dollar, interest rates were needed to be adjusted to US interest rates.
Inflation led to depreciation of riyal which caused more price increases. At this point, Saudi Arabia wanted to reap the advantage of arbitrage (riyal-EUR-USD) which could stabilize the prices of consumer goods imported and needed to adjust the Exchange rate in order to hinder these increases. SAMA needs to guarantee that it can feed the market with dollars. SAMA needs to maintain foreign reserves to keep the Exchange rate stable. These reserves can be used to as extra fund by the government. By utilizing these reserves, Money supply and inflation can be adjusted. (http://www.investopedia.com/articles/03/020603.asp)
Falling oil prices, deficits of the manufacturers and economic crisis are affecting the country's growth. Due to the problems stemming from government economic policy, inflation, exchange rates are being affected in the form of chain reaction. Falling oil prices have direct negative impacts on current accounts resulting in melting in international reserves and larger fiscal deficits. At this point, it is very obvious that the government needs to align the priorities in its monetary and fiscal policies. Monetary and fiscal politics should work in the aim of overall wealth in terms of inflation, exchange rate, growth. (AMB Country Risk Report,2009)
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GDP: GDP rate is directly related to oil prices and production in Saudi Arabia. As long as oil prices increase in international market, business environment and consumers' trust and government spending increase in Saudi Arabia. As shown in exhibit 2, expenditure based GDP has changed by time after 2003. The government increased its consumption and investments after 2006. In 2009, it was estimated that GDP would decrease slightly, but would increase in 2010. Government wanted to attract the sectors apart from patrol in order to diversify the economy and revenues. Therefore, government made investments in infrastructure. By doing that government aimed to create new business area for investors and job opportunities for the unemployed people. In 2008, due to falling oil prices and global economic recession, government wanted to instigate the domestic economy in order to maintain the growth. However, in 2010, while being successful in diminishing the inflation, GDP targets felt short. The reason for that was the lower oil export and revenue. Therefore, the government is very keen to increase its investments in social infrastructure in order to instigate domestic economy. Additionally, the government is well aware of the needs for the FDI's and diversification of the economy.
Inflation: As shown in exhibit 1, inflation increased from approximately 4% in 2007 to 9,9% in 2008. In earlier years, inflation increased continuously and reached the peak value in 2008. while targeted GDP growth was in range. The reason for this massive increase was the rising energy prices. SAMA decelerated the money supply and ensured cash flow for the economic growth. Due to the investment expenditures of the government, government needed to increase the size of the money supply which ignited inflation rates. The government tended to cheaper imports from Europe in order to diminish the inflation rate. The government still concentrated on the infrastructure projects and subsidies. With the appreciation of the US dollars, cost of import and commodities are lowered and inflation reduced. So, the government could also reap the advantage of the recovery of the international markets in terms of inflation.
Interest rates: Because Interest rates lowered, the government reaped the advantage of this situation since the banks needed lend these moneys instead of holding and depositing cash with the SAMA. So, banks were willingly or unwillingly also in favor of country's growth. However, the country still needs to follow up US interest policies in order to keep the exchange rate at 3,75.
Balance of payments: After 2003, because of the increasing energy demand and prices, Saudi Arabia's economy had large surpluses. However, in 2009, balance of payments decreased due to lower oil prices and demand. Since oil prices were low and very competitive, the government needed to devalue the riyal to decrease its budget deficit. Saudi Arabia would need to devalue the riyal in order to recover its budget deficit as much as possible.
Price stability: Monetary policy's aim is to keep the dollar/riyal rate at 3,75 as long as possible. By doing that, government would not only be able to maintain public's support and stimulate the investors to make domestic investment, but also equilibrate the balance of payments and internal price stability. However, pegging riyal to US Dollars was very open to speculation. Market players could sense the revaluation and take their positions against that in order to have profits. (Al Jasser & Banafe, Xxxx)
Stability: Since oil prices are defined and paid in dollars, Saudi Arabia used US dollars as an intervention currency. This means that the government allows the riyal's value to change freely in relation to EUR and other currencies. Fluctuations in rates could cause ambiguity in price estimations of imported and exported goods. In order to clear ambiguities in the country, government would need to keep exchange rate stable as much as possible. (Al Jasser & Banafe, Xxxx)
Is Saudi Arabia currently following appropriate economic policies from a domestic as well as international perspective? Provide supporting justification for your answer?
Ther main difficulties that Saudi Arabia need to deal with (Porter, 2009):
Saudi Arabia's macroeconomic policies are not transparent and very open to speculation.
Country's budget is fluctuated due to increasing or falling patrol prices.
Since exchange rate is fixed to US dollars, monetary policy can have negative effects trade balance and hence inflation.
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While government is concentrated on social needs and public wealthness, their plans on education and health are falling short.
Fixed exchange rate enables the country to import or export Money when demand and supply change. As stated in the case, surplus of money supply caused a capital outflow and loss of international reserves. Additionally, in case of high demand on money, capital inflow will be created and international reserves will be increased. This is the effect of the monetary policy on the domestic side.
As stated by Hill (1994), there are some arguments on fixed and floated exchange rates.
With regard to monetary discipline, fixed exchange rate disabled Saudi Arabia to supply the money at inflationary rate, since the exchange rate is depended on US dollars.
With regard to speculation, speculations cause swings in exchange rates. It is possible to affect the rates with speculations, even though inflation and balance of trades are in a good position. This is very dangerous for the country in terms of export and import prices. Since riyal is dependent on US dollars, exchange rate issue is very open to speculations. However, the policy of the government is not very open and transparent. Therefore, the government should apply transparent policy.
With regard to uncertainty, fixed rate nullifies the uncertainty and reinforces the international trade. Investors can be sure of the exchange rates and do not need to worry about the exchange rates in the future. Floating exchange rate can overcome uncertainty problem by forward exchange market.
With regard to trade balance adjustments, fixed exchange rate policy complicates the balancing trade problems.
If Saudi Arabia aims to be competitive, it needs to set a free economy and change its exchange rate strategy. By pegging its currency to US dollars, it created a stable environment for the FDI's. However, since its economy is heavily dependent on oil exports, falling prices of oil prices can change domestic economy in terms of inflation, balance of payments. Additionally, the position of US dollars in international market has a direct impact on Saudi Arabia. In order to adapt itself to international development, Saudi Arabia needs to US Dollars as intermediator. If Saudi Arabia were using floating exchange rate, It could set its own monetary policy and fit its domestic market to international economic trends.
Currently, government is the decision maker and intervener on the economic policies. In order to develop the economy, government has taken an important step by invoving governmental offices, schools, private organizations and companies. However, government needs to work on making the Economy transparent and close to speculations.
If you recommend that WCC proceed with the decision to invest in production and distribution facilities which strategy would you suggest they follow from among those we have discussed? Explain and justify your recommendation.
Saudi Arabia's telecommunication sector is very promising. Investors are building up consortiums to invest in and establishing offices in order to take position in Saudi Arabia. Since Information and Telecommunication sector is booming in Saudi and major companies are investing in this country, this market can be a very good opportunity for WCC to grow and take position in GCC market also. Since the sector is very competitive, WCC will need to be very aggressive. WCC will need to concentrate on sales and business development activities. Therefore, WCC can search for a local or international company which is managed poorly and in a predicament due to economic crisis but had a successful background in the market (Hill, 1994).By doing that, WCC can exploit this company's experiences and knowledge on the local market and combine that with its own core competence and know-how.
Horizontal FDI structure needs to be applied by WCC (Hill, 1994). WCC will need to afford permanent establishment costs or merge with a company currently operating in Saudi Arabia. Since WCC will enter into a new country with completely different culture, the management needs to carefully set entrance and exit strategies.
WCC as Telecommunication Company needs smaller parts to be imported and exported, import and export costs of these materials can be negligible. So, WCC can export its products manufactured in Saudi Arabia to other countries in the region via its distribution points in the country. Saudi Arabia can become an export hub for WCC.
WCC can establish sales office involving expatriates. Management staff should come from home country and they should be familiar with the company's rules and culture. Sales staff can mainly involve expatriates who are experienced in telecommunication sector and know WCC. In order to meet the goals, challenging targets and incentives needs to be set by the management. Organizational structure should be mainly based on operational activities in order to decrease overhead costs and be agile in the market. Know-how will be kept in home country. However, in terms of effectiveness and profits, some materials which do not require specific know-how and competence can be assembled in Saudi Arabia. For the assembly, WCC can train the employees.
Since Saudi Arabia is a new market for WCC, WCC will need to strictly control the financial situation of its regional entity in order to keep its target in the range. Therefore, controlling and reporting procedures will be very rigid. In order to maintain proper information flow to headquarters and provide common understanding between headquarter and regional entity, managers from home country will be assigned to critical positions like CFO, CEO, and Accounting.