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Introduction:

Saudi Arabia (officially Kingdom of Saudi Arabia) is the largest Arab country ofthe Middle East. The kingdom is commonly listed as the world's 14th largest state.The

central institution of the Saudi Arabian government is the Saudi monarchy. TheBasicLaw of Governmentadopted in 1992 declared that Saudi Arabia is a monarchy ruledby the sons and grandsons of the first king, Abd Al Aziz Al Saud. It also claims thatthe Qur'an is the constitution of the country, which is governed on the basis of theSharia (Islamic Law).

Saudi Arabia has an oil-based economy with strong government controls over majoreconomic activities. It possesses about 20% of the world's proven petroleum reserves,ranks as the largest exporter of petroleum, and plays a leading role in OPEC. The

petroleum sector accounts for roughly 80% of budget revenues, 45% of GDP, and90% of export earnings.

Saudi Arabia is encouraging the growth of the private sector in order to diversify itseconomy and to employ more Saudi nationals. Diversification efforts are focusing on

power generation, telecommunications, natural gas exploration, and petrochemicalsectors. Roughly 6.92million foreign workers play an important role in the Saudieconomy, particularly in the oil and service sectors, while Riyadh is struggling toreduce unemployment among its own nationals. Saudi officials are particularyfocused on employing its large youth population, which generally lacks the educationand technical skills the private sector needs. Riyadh has substantially boostedspending on job training and education, most recently with the opening of the KingAbdallah University of Science and Technology - Saudi Arabia's first co-educationaluniversity.

As part of its effort to attract foreign investment, Saudi Arabia acceded to the WTOin December 2005 after many years of negotiations.. Five years of high oil pricesduring 2004-08 gave the Kingdom ample financial reserves to manage the impact ofthe global financial crisis, but tight international credit, falling oil prices, and theglobal economic slowdown reduced Saudi economic growth in 2009, prompting the

postponement of some economic development projects. Saudi authorities supportedthe banking sector during the crisis by making direct capital injections into banks,reducing rates, and publicly affirming the government's guarantee of bank deposits.

Saudi Arabia is one of only a few fast-growing countries in the world with a highpercapita income of $20,800 (2008). Saudi Arabia has begun six "economic cities" (e.g.King Abdullah Economic City) which are planned to be completed by 2020. These sixnew industrialized cities are intended to diversify the economy of Saudi Arabia, andare expected to increase the per capita income. The King of Saudi Arabia hasannounced that the per capita income is forecast, to rise from $20,300 in 2009 to$33,500 in 2020. The cities will be spread around Saudi Arabia to promotediversification for each region and their economy, and the cities are projected tocontribute $150 billion to the GDP.

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http://en.wikipedia.org/wiki/Middle_Easthttp://en.wikipedia.org/wiki/House_of_Saudhttp://en.wikipedia.org/wiki/Ibn_Saud_of_Saudi_Arabiahttp://en.wikipedia.org/wiki/Qur'anhttp://en.wikipedia.org/wiki/Constitutionhttp://en.wikipedia.org/wiki/Shariahttp://en.wikipedia.org/wiki/Per_capita_incomehttp://en.wikipedia.org/wiki/Per_capita_incomehttp://en.wikipedia.org/wiki/King_Abdullah_Economic_Cityhttp://en.wikipedia.org/wiki/Middle_Easthttp://en.wikipedia.org/wiki/House_of_Saudhttp://en.wikipedia.org/wiki/Ibn_Saud_of_Saudi_Arabiahttp://en.wikipedia.org/wiki/Qur'anhttp://en.wikipedia.org/wiki/Constitutionhttp://en.wikipedia.org/wiki/Shariahttp://en.wikipedia.org/wiki/Per_capita_incomehttp://en.wikipedia.org/wiki/Per_capita_incomehttp://en.wikipedia.org/wiki/King_Abdullah_Economic_City

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Macroeconomic Policies :

The Government plays an integral part in Saudi Arabia, it uses two instrumentsnamely, fiscal and monetary policy to take control of the macroeconomic objectives

which are listed below:

Steady Inflation Rate

Keeping Unemployment Low

Managing the Balance of Payment

Managing the Exchange Rate

Ensure Economic Growth

Fiscal Policy:

It is the term given to decisions to vary taxation orgovernment expenditure in orderto influence the economic activity. It can be expansionary or contractionary in nature,however considering the recessionary period the Government should look for anexpansionary policy where it should decrease the rate of taxation and/or increase itsexpenditure in order to boost the economy.

The Kingdom of Saudi Arabia has a very liberal tax system; there are few taxespayable by an individual or a company and they are also at very low rates.

1. Zakat:

The Zakat (a form of tithe) is paid annually by Saudi individuals and companies

within the provisions of Islamic law as laid down by Royal Decree No. 17/2/28/8634dated 29/6/1370 H. (1950). The Zakat is an annual flat rate of 2.5 percent of theassessable amount.2. Personal Income Tax:

For individual employees, both national and expatriate, there is no income tax in theKingdom.Self-employed expatriates such as doctors, accountants, lawyers, etc. pay taxes ontheir net annual income at the following rates:

Net Income (per year) Tax Rate (percent)

First 6,000 Exempted

From SR 6,001 - 10,000 5

From SR 10,001 - 20,000 10

From SR 20,001 - 30,000 20

Over SR 30,000 30

3. Tax on Business Income:

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Y

X

AggregateExpenditure

Income

Fig A

Y1 Y2

E1

E2

45

AE1= C+I+G+X-M

AE2= C+I+G +X-M

0

A company, under the tax regulations, means a company or partnership havingmaterial gain as the basic objective. The taxable incomes of companies include:* profits of a foreign company;* shares of non-Saudi sleeping partners in the net profits of partnership companies.

Net Income (per year)Tax Rate(percent)

First SR100,000 25

From SR 100,001-500,000 35

From SR 500,001-1,000,000 40

Over SR 1,000,000 45

Income tax is charged at different rates for companies engaged in the production ofpetroleum and hydrocarbons in the Kingdom.However, companies formed under the provisions of the Foreign Capital InvestmentsRegulations with participation of Saudi capital of not less than 25 percent areexempt for up to ten years from payment of income tax.

Now, if we look at the other aspect of the fiscal policy which is Governmentspending, it can be seen that Saudi Arabia Government is very determined to investin the economy, and plans to invest $400bn on infrastructure in coming 5 years oftime period of which it intends to spend $70bn this year.

The effect of this Government spending can be shown using the aggregateexpenditure analysis, as shown in fig A, below:

Interpretation:

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If we look at the current expansionary policy of Saudi Arabia , we see that the countryhas no tax on the individuals income provided if hes not self employed. This wouldallow individuals to enjoy a high desposable income, as a result of which theaggregate income spent by these individuals can be expected to be high.In addition to this, the Government is also going to invest $70bn this year and has

started 6 economic cities, which will shift the aggregate expenditure curve upwards asshown in the diagram, thus leading to a higher income level of Y2, at the newequilibrium level of E2. This money invested into the economy will boost theeconomy and will gradually lead to economic growth.

Monetary Policy:

It reflects the decisions made by the Government authorities to vary the quantity ofmoney in the economy. Government can pass an expansionary or contractionarymonetary policy by using the three tools available to it, firstly the discount rate of thecentral bank ( SAMA ) this is the rate at which the the central bank lends money tothe commercial banks, secondly, by the reserve ratio of the commercial banks, andlastly by issuing bonds. However, considering the state of the economy and therecessionary period the country should pass on an expansionary monetary policy inorder to increase the national income and raise the aggregate demand.

However, for Saudi Arabia , it has kept its currency pegged to the US dollar at Sr3.75since June 1986. In order to maintain stability in the exchange rate of the currency theSaudi arabia government varies its interest rates in accordance with the Fed interest

rates. Recently it has reduced its discount rate to 0.25% in line with the near zerorate in the US.Therefore, it can be stated that Saudi Arabia doesnt posses direct control over itsmonetary policy, but the current discount rate would enable the commercial banks to

borrow at a cheap rate, and one could expect the cost of borrowing to be low as banksare expected to lend more in 2010 considering the business optimism and the lowdiscount rate from the central banks.

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Y

X

Fig B

0

Interest

Y

IS 1

LM1

E1

Y1

I1

IS 2

E2I2

Y2

LM2

E3

Y3

ISLM Analysis :

The figure B above shows the ISLM analysis of the expansionary fiscal and monetarypolicy which is passed by the Saudi arabia Government. On the graph the y axisrepresent the interest ( cost of borrowing) and x-axis represents the income.The IS ( investment saving ) curve is downward sloping which shows the negativerelation between the interest rate and the income. This is because at high interest the

cost of borrowing increases which decreases investment which is an integral part ofthe income.The LM ( liquidity and money supply) is upward sloping showing positive relation

between the rate of interest and the money supply.The economy is in a state of equilibrium at E1, at an interest rate of i1 and an incomelevel of y1.

Now, considering the effect of Saudi arabia expansionary fiscal policy where it plansto invest $70bn into its infrastructure, this will make the IS curve shift outwardsleading a new equilibrium E2 at the higher rate of interest of i2 and increased incomelevel of y2. Here we see that the higher income level of y2 was achieved at the cost ofhigher interest rate of i2.

However, this year the expansionary monetary policy which is in line with the USmonetary policy , intends to keep the discount rate as low as 0.25% which is almostnear zero figure. This will ensure the supply of money into the economy by thecommercial banks as it would be easier for them to borrow from the central bank atsuch a low rate.This increased lending will increase the money supply in the economy thus resultingin an outward shift in the LM curve from LM1 to LM2, also resulting in a newequilibrium level at E3 , at a raised income level of y3 at the same interest rate of i1.

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Unemployment & Inflation:

Unemployed labor force accounts for the people who are able and willing to work but

cannot get a job. . The non labour force includes those who are not looking for work,those who are institutionalised and those serving in the military. Unemployment isone of the major concerns for the Government as it helps them to get votes and enjoya sound political status. Although Saudi Arabia practices a monarch system, it tries tokeep the unemployment low as it is one of the major macroeconomic objectives of theGovernment:

* The table above displays the monthly average.

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The above diagram shows the unemployment rate per year experienced by SaudiArabia economy, if we calculate the average of the unemployment rate it comes out to

be 10.37% which is slightly above the average rate. Furthermore unemployment canbe classified into its types, as explained below:

Frictional Unemployment:

It consists of people with physical or mental problems who will sadly never be able totake up employment. It also includes those who have left one job and are looking oftaking up another job. This is considered as a sign of a dynamic economy, and tosome extent this type of unemployment is desirable.Solution:

As for the Saudi Arabia Government this type of unemployment can be minimised ifthe information flow is made two way and more efficient so that the employers andthe employees know about the whole recruitment process.

Year Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2009 Figure obtained from a different source 11.8

2008 9.80

2007 11.00

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Structural unemployment:

It is the unemployment caused by the mismatch of skills. This exists primarilybecause of three main reasons, firstly, a change of technology which results in skillsbecoming outdated, secondly, change in the international economic environment,thirdly, location mismatch which makes labour immobile, thus they fail to get the

jobs.Solution:

The Saudi Arabia Government can go into a joint venture with the industries whichare affected by the improvement in the technology and help them with designingtraining facilities in order to make their employees competitive.

Demand Deficient Unemployment:

It is the unemployment caused due to a lack of demand and is an unacceptable andundesirable state for the economy to be in. This also comes with associated costs likeloss in potential GDP, social costs like high crime rates, deterioration in health,demoralisation, increased poverty, etc.

Solution:In Saudi Arabia it can be expected to be low as government intends to invest a lot inthe economy which eventually improves the living standards of masses in theeconomy, and this will also ensure that the spare capacity of the economy is alsoutilised.

Classical Unemployment:

This is the unemployment which results as a result of wage differentials, if the marketwage is higher than the real equilibrium wage, this situation leads to insider-outsider

problem. A situation where the insiders already employed, enjoy high standards ofliving and hold the influence, such employees hold the power of negotiations and

prevent outsiders from getting the jobs. To the extent they are successful, theunemployment tends to persist.Solution:

Saudi Arabia is a country where there are trade unions, however, there scope ofoperation is very limited and they are not allowed to practice collective bargainingthis prevents the insiders from getting the power to hold the outsiders from the jobsand enjoy the high standard of living.

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Inflation :

It is a rise in the general price level ( the average price of goods and services ) over aperiod of time. It further has two special cases.Firstly, a situation where the price of every single good or service is rising at the same

point in time is called pure inflation.Secondly, a situation where rising prices escalate out of control, which is known ashyperinflation.The most well known measures of Inflation are the CPI which measures consumer

prices, and the GDP deflator, which measures inflation in the whole of the domesticeconomy.The graph below shows the inflation of Saudi Arabia over a period of time:

* The table above

Year Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec

2010 4.15 4.56

2009 7.88 6.91 5.95 5.21 5.48 5.19 4.18 4.07 4.40 3.50 4.00 4.25

2008 6.99 8.67 9.60 10.45 10.36 10.63 11.08 10.91 10.35 10.90 9.50 8.98

2007 3.57 2.98 2.86 2.86 2.96 3.06 3.83 5.04 4.89 5.35 6.00 6.47

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PriceLevel

Real GDPPotential Real

GDP

GDP1

AD1

AD2

AD3

ASY

X

E1

E2

E3

Fig C

P1

P2

P3

Demand Pull Inflation :

This is defined as a situation where the aggregate demand for the goods and servicesis greater than that the economy can supply. This can be explained with the help of a

diagram as shown below in fig C :

The above diagram shows the AD-AS analysis of the Saudi Arabia economy,aggregate demand has various components which can be split into:

Aggregate demand = Consumption + Investment + Government + ( X-M)

Country experiences demands pull inflation when the aggregate demand increasesfaster than the aggregate supply. If we see in the diagram, initially the equilibrium

was at E1, at the price level of P1 as aggregate demand increases which in SaudiArabias case was due to the rising oil prices and the money which the governmentwas injecting into the economy for the development of the infrastructure, economiczones and new industries. This resulted in an upward shift of the aggregate demandcurve from AD1-AD2 it is in this time period that the countries redundant resourcesget utilise and companies start to compete for the limited resources, thus leading to arise in the general price level from P1 to P2. Any further, increase in the aggregatedemand results in an increase in the price level as indicated by AD3 at a price level ofP3, as resources can only be increased in the long term.In addition to this the property owners and businesses also increased pricesconsidering everyone else was doing it in the economy, without any proper

justification for the increase in the prices, which further fuelled the inflation.

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Y

% Unemployment

PC

Fig. D

Inflation-Unemployment Link :

The relation between the inflation and unemployment can be explained by using thePhillips Curve. It suggests that we can trade off unemployment against inflation andvice versa. The country can target a lower rate of unemployment knowing what thecost of achieving it will be in terms of higher inflation or alternatively the (increased)unemployment costs of achieving lower inflation.The diagram below shows the relation between the two:

The Phillips curve is downward sloping because of the negative relation between theinflation and unemployment. The table below justifies this relationship for SaudiArabia economy:

Phillips Curve Relation Inflation Unemployment

Year 2007 4.15% 11%

Year 2008 9.86% 9.8%

Year 2009 5.08% 11.8%

The table shows that when inflation increased in 2008 by 5.71% unemployed fell by1.2% , this is because when the prices increase in the economy it serves as anincentive for the producer to produce more as high quantity of goods are supplied at ahigher price ( law of supply ) . As a result of which the producers hire both more

capital and labour leading to a fall in the unemployment rate. However, in 2009 we

10

X

Infl

atio

n

%

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see that the government ended up with an increase in the unemployment rate of 2% inorder to decrease the inflation rate by 4.78% from 9.86% to 5.08%.

Global Economy:

One of the outstanding features of the second half of the twentieth century has beenthe emergence of a truly global economy. It is to be seen in the internationalisation of

business- the growth and development of multinational companies in manufacturingand in banking and financial services. It is to be seen in the dramatic growth in theinternational trade.For Saudi Arabia since the discovery of oil in the early twentieth century it has a

profound effect on its economic well being. The country has the largest oil reserves inthe middle eastern continent, making it one of the integral member of theOrganization of the Petroleum Exporting Countries ( OPEC ). Based on the latestdate, Saudi Arabia accounts for the 35% of the total proved reserves in the Middle

Eastern Countries, followed by iraq 15.2% and iran at 18% in 2008. The country isalso the largest producer of oil, accounting for some 41.4% of total oil produced bythe Middle Eastern region.

The chart below shows the graphical version of the contribution of oil exported fromthe Middle Eastern countries:

Although mining and quarrying sector which basically includes ( crude oil and naturalgas) is the single largest sector of the Saudi Arabia economy, despite of theGovernment effort to diversify the economy to domestic demand activities. Inadopting the Long Term Strategy (LTS) in its Eighth Development Plan (2004 2009), the government acknowledged that oil resources will eventually deplete, and

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necessary policy responses are thus required to ensure sustainability of economicdevelopment in future.The next chart shows the contribution of oil to the Government revenue:

Saudi Arabia derives its revenue mainly from oil, and it can be seen that in year 2007it nearly touched 90%. The Governments fiscal strength is very dependent on the oilrevenues, and has proven to be very fragile if we consider the oil revenues of therecent years, as shown in the table below:

Oil Revenue Budget

Year 2008 SR1.1trillion SR176.6 billion surplus

Year 2009 SR643billion SR45 billion deficit

It can be seen that Saudi Arabia enjoyed a budget surplus of SR176b in the year 2008due to rising oil prices, which crossed over $100 per barrel. In contrast to this therevenue fell dramatically SR 505billion in the next year due to a fall in the oil prices.

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Composition of World Oil Trade :

The Organization of the Petroleum Exporting Countries (OPEC) was founded inBaghdad, Iraq, with the signing of an agreement in September 1960 by five countriesnamely Islamic Republic of Iran, Iraq, Kuwait, Saudi Arabia and Venezuela. Theywere to become the Founder Members of the Organization.According to the latest statistics available it can be seen that Saudi Arabia contributes25.8% of the worlds total reserves of oil, which is also 1/4th of the total oil of theworld.The diagram below is the graphical representation of the data :

In 2008, it was also recorded that Saudi arabia economy experienced a value ofexports of $304.36billion where the value of export of petroleum stood at

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$283.21billion, which is about 93.05% of the total value of exports. In addition tothis, the country also enjoys a market share of25% of worlds oil reserves.

OPEC Flows of Crude and Refined Oil, 2008(Thousand Barrels per Day)

EuropeNorthAmerica

Asia andPacific

LatinAmerica Africa

MiddleEast

TotalWorld

Middle East 2596 2568 12458 175 582 540 18919

IR IRAN 758 0 1801 0 153 0 2713

IRAQ 512 769 599 0 0 60 1940

KUWAIT 312 149 1945 2 39 0 2446

QATAR 0 0 801 0 0 0 801

SAUDI ARABIA 959 1634 4902 88 340 457 8380UNITED ARAB EMIRATES 54 16 2409 85 51 23 2639

Africa 2757 2707 336 105 125 6 6036

ALGERIA 496 577 85 66 72 2 1298

ANGOLA 298 672 69 0 27 0 1065

NIGERIA 632 1396 85 0 0 0 2113

SP LIBYAN AJ 1331 62 97 40 27 4 1560

Asia/Far East 0 43 347 0 0 0 391

INDONESIA 0 43 347 0 0 0 391

Latin America 211 1392 138 1320 12 0 3073

ECUADOR 0 232 14 144 0 0 391

VENEZUELA 211 1160 123 1176 12 0 2682

The data above shows that Saudi Arabia had a total of 8380 thousand barrels per day of productionin year 2008, which is about 44.3% of the total production of oil as compared to other countries.In addition to this, Saudi Arabias manufacturing industry also exports goods which on the other handmake up only a fraction of the total production of the country. The graph below shows the graphicalrepresentation of this distribution :

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International Trade Theories:

International trade enables nations to specialize their production, enhance theirresource productivity, and acquire more goods and services. This can be achieved bytrading goods in which the country can produce efficiently by trading for goods andservices which it cannot produce efficiently.However, the complete answer to thequestion Why do countries trade? hinges on three facts:

o The distribution of natural, human, and capital resources among nations is

uneven, natinos differ in their endowments of economic resources, as forSaudi arabia it has 25% of the worlds oil reserves.

o Efficient production of various goods requires different technologies or

combinations of resources. For instance, Japan can produce efficiently a

variety of labor-intensive goods such as digital cameras, cd players , videogame players, other examples include luxury automobiles from Germany,software from the united states, and watches from Switzerland.

o Products are differentiated as to quality and other non price attributes. A few

or many people may prefer certain imported goods to similar goods madedomestically.

Generally, the distribution of resources, technology, and product distinctiveness amongnations, however, is not forever fixed.When this distribution changes, the relativeefficiency and success with which nations produce and sell goods also changes, but if weconsider Saudi Arabia the it can be seen that the Government is also trying to diversify byinvesting in the industrial sector and by building 6 economic cities to facilitate trade.

Black = billions of 42 gallon barrelsRed = % of World Oil Reserves

The table above shows, that Saudi Arabia has 258.6 of identified reserves which isalmost equal to its existing proven reserves. Furthermore, it also signifies that thegovernment has enough oil reserves that it could rely on them in future.

Oil Reserves Statistics

Proven Reserves (Oil Industry) IdentifiedReserves

RecoverableReserves

Saudi Arabia 263.5 261.4 258.6 374.2

Saudi % of World 25.5 26.9 23.4 16.5

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Theory of Absolute Advantage :

Adam Smith came up with the theory of Absolute Advantage, the theory states, that inthe abscense of government interventionist policies, cost differences would explainthe movement of products across national boundaries. These differences reflectednatural and acquired advantages.Smith Argued that free trade would allow that country to increase exports of the

products in which it had an absolute advantage, hence increasing the size of themarket.However, this theory has some unresolved difficulties to it . Firstly, it dealsonly with the supply side of the market. Secondly, it theory holds true on theassumption that ifcountry A has an absolute advantage in the production of productX then some othercountry B has an absolute advantage in the production of productY.It further supposes that there is a demand for product Y in country A and a demandfor product X in country B. This double coincidence of demand is something whichis hard to find in the practical world therefore it may not be a very realistic theory, inaddition to this, unless these conditions are satisfied mutually advantageous tradecannot take place.

Theory of Comparative Advantage :

David Ricardo introduced the concept of comparative advantage which remains the

keystone of analyses of international trade to this day.It is based on a model with two countries, two products, and one factor of production,labour. This theory demonstrates that even if one of the country has an absoluteadvantage in producing both the products, and the second country has an absolutedisadvantage in both products, it may have a comparative relative advantage in the

production of one of the product. The argument can be justified using the opportunitycosts of production.Lets say for the sake of argument we take two countries, A and B, two products, cloth& plastic, and one factor of production, labor.

Units of output per hour of labour

Countries Cloth Plastic

A 14 25

B 11 19

Now clearly it can be seen that country A has an absolute advantage in producingboth the products cloth and plastic, and can produce efficiently.However, when we consider the opportunity cost of production the picture changes.

Opportunity costs to both countries

Products A B

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Cloth 1C=1.78P 1C=1.73P

Plastic 1P=0.56C 1P=0.58C

Suppose labour is fully employed in both countries and suppose further that there isno trade and both countries want an additional unit of cloth. To gain more cloth they

both have to switch resources out of plastic production into cloth production.For country A to acquire an additional unit of cloth requires a sacrifice of 1.78 unitsof plastic, the opportunity cost of cloth. For country B, however, the sacrifice is only1.73 units of plastic, which makes cloth relatively cheaper in country B. Whereas,country B has an absolute disadvantage in both the products as seen earlier, but itturns out that it enjoys a comparative advantage in cloth production.

Interpretation:

In the above scenario, both the countries should reallocate all resources to theproduction of the product in which they have a comparative adcantage and exchange aquantity of each product which they produce. Through trade both the countries canconsumre more of both products and obviously gains through trade.

However, as far as Saudi Arabia is concerned , oil makes up almost 90% of itsexports and is the major source of fiscal strength of the Government. Its a natural godgifted resource which only a fraction of the countries in the world possess.Furthermore, oil is a necessity and every country needs to have it . Therefore, thistheory can help Saudi Arabia economy to trade with the countries where they have toforgo less in order to attain more of other goods and services which they cannot

produce themselves. This would allow the residents of the country to enjoy a better

standard of living and they can make the most of what is available to them this way.

Heckscher-Ohlin Theory of Trade :

The H-O model is commonly referred to as the factor endowment model. Accordingto this model, there are two factors of production, capital and labour, which togetherare used in the production of one or other of two goods. For ease of exposition, onlytwo countries are assumed by the model, although the conclusion derived from thetheory are applicable to the a number of countries.

The central assumption of the model is that the two countries will exhibitdifferences in relative factor endowments. As in, one country will have anabundance of capital relative to labour a capital rich country while the othercountry will have relatively larger supplies of labour relative to capital- ie it will belabour-rich. These terms are strictly used in the application of the thoery.

That is to say, if Country A is labour rich then this means that it has a higher labour-capital ratio than Country B. Necessarily in this case, Country B must be capital-richas it will have a higher capital-labour ratio than Country A.

The second assumption of the theory is that the goods produced can also be classified

as labour intensive ( meaning that relatively more labour is used to produce them) orcapital intensive ( meaning that relatively more capital is used to produce them ) .

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Furthermore, assuming that markets are perfectly competitive, and that technology isidentical between the two countries, we can conclude that the relative price of thelabour-intensive good will be lower in the labour-rich country where the labour isrelatively expensive. It should be clear that the price of the capital-intensive good

would be lower in the capital rich country. In this way we can see that the H-O modelties comparative (cost) advantage in production completely to a countrys initialfactor endowment.

Interpretation:

Under the assumptions set out above, goods can be identified as capital or labourintensive.If markets are competetive, this must mean that the country which has arelative abundance of capital will be able to produce the capital intensive commodityat a lower cost than te country in which capital is relatively scarce.. Consequently, thecapital rich country willl specialse in producing and exporting the capital-intensive

product. By precisely the same line of reasoning we can conclude that the labour richcountry will specialise in the production of the labour-intensive commodity.As for Saudi Arabia, it exports oil, which was discovered in 1938 at a depth of1,440m in the dammam oil fields. Since then the country has been exporting

petroleum and importing the capital and labour into the country.The table below shows the value of the capital imported over a few years time

period:

The table below shows the value of capital exported over the same time period :

If we just take year2005 for comparison it can be seen that the value of Saudi Arabiaexpenditure on the capital imported is just over $24billion however the value ofcapital exported is only $2.4billion which is almost 10% of the amount spend oncapital imported. Thus it can be concluded that Saudi Arabia is constantly spending alot on importing capital into the country for development purposes.According to another source, 23% of the population is made up of foreign nationalsliving in Saudi Arabia, although the actual percentage is not measured in state censes.There are over eight million migrants from countries all around the world (includingnon-Muslims): Indian: 1.5 million, Pakistani: 1.1 million, Bangladeshi: 1.0 million,Filipino: 950,000, Egyptian: 900,000, Yemeni: 800,000, Indonesian: 500,000, SriLankan: 350,000, Sudanese: 250,000, Syrian: 100,000 and Turkish: 80,000. There arearound 100,000 Westerners in Saudi Arabia, most of whom live in compounds orgated communities.

Year 2001 2002 2003 2004 2005

Capital

Expenditure

$13,110,898,000 $14,107,756,000 $15,737,740,000 $19,294,972,000 $24,013,521,000

Year 2001 2002 2003 2004 2005

CapitalExportedIn Value

$955,365,000 $1,019,929,000 $1,180,450,000 $2,421,492,000 $2,451,041,000

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http://en.wikipedia.org/wiki/Non-resident_Indian_and_Person_of_Indian_Originhttp://en.wikipedia.org/wiki/Pakistanihttp://en.wikipedia.org/wiki/Bangladeshhttp://en.wikipedia.org/wiki/Filipino_peoplehttp://en.wikipedia.org/wiki/Egyptianshttp://en.wikipedia.org/wiki/Yemenhttp://en.wikipedia.org/wiki/Indonesiahttp://en.wikipedia.org/wiki/Sri_Lankanhttp://en.wikipedia.org/wiki/Sri_Lankanhttp://en.wikipedia.org/wiki/Sudanesehttp://en.wikipedia.org/wiki/Demographics_of_Syriahttp://en.wikipedia.org/wiki/Turkish_peoplehttp://en.wikipedia.org/wiki/Western_worldhttp://en.wikipedia.org/wiki/Compound_(enclosure)http://en.wikipedia.org/wiki/Gated_communityhttp://en.wikipedia.org/wiki/Non-resident_Indian_and_Person_of_Indian_Originhttp://en.wikipedia.org/wiki/Pakistanihttp://en.wikipedia.org/wiki/Bangladeshhttp://en.wikipedia.org/wiki/Filipino_peoplehttp://en.wikipedia.org/wiki/Egyptianshttp://en.wikipedia.org/wiki/Yemenhttp://en.wikipedia.org/wiki/Indonesiahttp://en.wikipedia.org/wiki/Sri_Lankanhttp://en.wikipedia.org/wiki/Sri_Lankanhttp://en.wikipedia.org/wiki/Sudanesehttp://en.wikipedia.org/wiki/Demographics_of_Syriahttp://en.wikipedia.org/wiki/Turkish_peoplehttp://en.wikipedia.org/wiki/Western_worldhttp://en.wikipedia.org/wiki/Compound_(enclosure)http://en.wikipedia.org/wiki/Gated_community

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This shows that Saudi Arabia imports both labour and capital into the country, and isconstantly developing itself from the funds attained from oil exports.

International Trade Policies:

Internatinoal trade policies involves a range of policies adopted by a country in orderto influence the level of their exports and imports. The motives for a governmentadopting this policy are varied but are often not based on the legitimate rationale ofincreasing economic efficiency. As for Saudi Arabia it follows a trade policy which isconsistent with the main macroeconomic and microeconomic goals of theGovernment.

Tariff and non-tariff barriers (NTBs) :

Governments can adopt a range of trade policies which can be conveniently divided

between tariff and non-tariff barriers. The excise taxes on imported goods are calledtariffs. They can be in two forms, firstly, in the form of a lump sum tax measuredagainst the volume or weight of the product. Secondly, it can be based on a

percentage of the value of the imports, which is called Ad Valorem Tax.A nontariff barrier is a licensing requirement that specifies unreasonable standards

pertaining to product quality and safety, or unnecessary bureaucrative red tape that isused to restrict imports. Some countries require their importers to acquire licenses,this way they can control the level of imports by restricting the licenses issued.The following table shows the tariff rates of Saudi arabia on various imports :

Sr.# Items Description Tariff Rate1 Cereals/ Coffee ( free ) Vegetables & Fruits ( selected items) 5%

2 Tobacco100% or SR150 for

1000 cigarettes

3 Beverages (beer, wine and grape must are banned ) 5%

4 Plastic ( those with the gravity

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Arabia itself is a manufacturer of plastic and 4% of its exports accounts for plasticalone.

Objectives of Tariff and non-tariff barriers (NTBs) :

o To protect a domestic industry this is usually done to protect the infant

industries which refer to the new and growing industries in order to enable them tostand up to the competetion of foreign companies. With the passage of time the newcompany loses its disadvantages of being a late comer in to the business, and would

probably be enjoying economies of scale and become ready to compete with rivalfirms.

o To control the level of consumption- this is to reduce the consumption of a

luxury or a bad good which is imported e.g cigarettes, which is the reason SaudiArabia has a tariff of 100% on tobacco.

o To generate revenue for the Government- the revenue obtained from the

trade taxes adds to the fiscal strenght of the Saudi Government, although they havea low tariff of 5% on most of their imports. However, if we look at the finesimposed on the violators of the trade laws, the fines range from SR 500 to SR5000depending on the degree of violation. The total revenue obtained from the taxesmake up around 5.6% of the total GDP of the country as of year 2009.

o To protect employment level in the country- this is one of the most common

arguments for protectionism. It is done in order to reduce unemployment, because ifforeign competetion drives the domestic firms of the country out of business, it can

result if people losing job, which could lead to depression, escalating crime rate,etc.

o To improve the balance of payment balance of payment is a record of all

the transactions of the country, if imports outstrip export exports then it means thatmore money is leaving the country then entring it , resulting in a deficit of balanceof payment.

o To improve the terms of trade.- which is the rate at which units of one

product can be exchanged for another product.

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Y

X

Dd

Sd

Pd

E1

Q

Pt

Pw

a b c d

Fig E

Sd + Q

Tariffs and their Effects :

Once again we turn to supply and demadn analysis- now to examine te economiceffects of protective tariffs. The curves Dd & Sd in the Fig E show domestic demandand supply for a product in Saudi Arabia, in which it has a comparative disadvantagelets say for the sake of argument the product is plastic.

Without world trade, the domestic price and output would be Pd & Q respectively(.asfor now disregard the curve Sd + Q).

Assume now that the domestic economoy is opened to world trade and anothercountry B who have a comparative adcantage in plastic, begins to sell in SaudiArabia. We assume that with free trade the domestic price cannot differ from theworld price, which here is Pw. At Pw domestic consumption is d and domestic

production is a. The horizontal distance between the domestic supply and demand

curves at Pw represents imports of ad.The rest of the analysis is split into its effects:

Direct Effects:Lets say Saudi Arabia imposes a tariff of 8% on import of plastic. This would raisethe price of plastic from Pw to Pt, resulting in four effects:

Decline in Consumption:

An increase in the price from tariff from Pw to Pt results in a decline in demand.

Consumer Before Tariff After Tariff

Price Pw PtQuantity demanded d c

Net Loss High price of(Pt-Pw) x Reduced goods(d-c)

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Increased Domestic Production:

An increase in price from Pw to Pt results in an increase in domestic supply, as moreis supplied at a higher price now.

Decline in Imports:

The producers of Country B which were exporting plastic to Saudi Arabia will behurt. Although the sales price of plastic is higher now by PwPt this amount accrues tothe Saudi Arabia Government as tax revenue. The revenue of Country B will declineas their volume of exports will fall:

Domestic Producer Before Tariff After Tariff

Price Pw Pt

Quantity Supplied a b

Net Gain (Pt-Pw) x (b-a)

Foreign Producer Before Tariff After Tariff

Price Pw PtQuantity Supplied ad ac

Net Loss (Pw) x (d-c)

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Tariff Revenues:

The orange rectangle represents the amount of revenue tariffs will yield to the SaudiArabia Government.

The tariff revenue is a transfer of income from consumers to government and does notrepresent any net change in the nations economic well being. The result is thatGovernment gains this portion of what consumers lose by paying more for plastic.

Indirect Effect:

Tariff allow residents to import as much as they want, but on the international scene,it promotes inefficient producers and restricts worlds real output.

Economic impact of Quotas :Import quota is a legal limit placed on the amount of some product that can beimported in a given year. Quotas have the same economic impact as tariffs, with one

big difference: While tariffs generate revenue for the domestic government, a quotatransfers that revenue to foreign producers.Suppose in Fig.E instead of imposing a tariff if Saudi Arabia goes for restricting thenumber of imports equal to bc units. As a consequence of the quota, the supply of

plastic is Sd+Q in Saudi Arabia. This supply consists of the domestic supply plus thefixed amount bc ( =Q) that importers will provide at each domestic price.As for the price, it doesnt extend below Pw as no other country would be willing tosupply at less than the world price. We can now compare the two different forms of

protectionism used as shown in the table below:

Before Tariff After Tariff

Price Pw Pt

Quantity Imported ad bc

Government Revenue 0 (Pt-Pw) x bc

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Therefore, it can be concluded that a country can be better off if it goes for imposing aTariff rather than a quota. As for now, Saudi Arabia hasnt imposed any quota.

Non-tariff barriers (NTBs) :

They include all the barriers to trade which are not in the form of Tariffs. They can beclassified in the following forms:

Quantitative & Similar Constraints:o Export Constraints- Just like the import quotas but applied to the exports.

oLicensing- Requires both the importer and exporter to acquire a trade license, in

Saudi Arabia the registration fee is SR 500, which can be easily raised.oVoluntary Export Restraints-limits set by the importing countries that are set by the

exporting country. It can be organized on multilateral or bilateral basisoExchange Controls- constraints on the receipt or payments in foreign currencies

most often in order to control capital movements but on occasions to control trade.oEmbargo- which is a complete ban for example wine, beer are completely

prohibited in Saudi Arabia because of strict Islamic ( Sharia ) Law.

Non-tariff Charges:

Tariff Vs Quota

With Tariff With Quota Effect

ConsumersLose, as they get less (c) at a

higher price PtLose, as they get less (c) at a

higher price PtSame

Domestic

Producers

Gains, by producing more(b) at a price of Pt

Gains, by producing more(b) at a price of Pt

Same

Government

Revenue

Saudi Arabia can generaterevenue from tariff

No revenue is generatedTariff +ve

Point

Foreign

producer

Lose, as for them quantitysupplied decreases from d to

d, and their revenue falls

Orange area of the diagramshows the gain to foreign

producers

Quota vePoint

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oAntidumping penalties- this is when a charge is put on the imports when it is

maintained that the prices set by foreign firms do not accurately reflect the costs ofproduction.oDeposits in Advance- this requires that a proportion of the contract price is

presented in advance of the exchange and payment of the goods or services.

Customs Administration:

oAdministrative process- the process by which goods clear customs can be punitive

in terms of the time taken and leakages. This leads to increasing costs for theforeign firms as the stock can remain in bonded warehouses for some time. As forSaudi Arabia, if the import is done with the help of a local Saudi national, theGovernment does facilitates, by providing 10 days of free storage space.

oValuation Criteria- the application of pricing system on which to base tariffs which

is systematically different to the invoice price. If the customs value imports at a highprice this increases the duty for the importer thus resulting in goods becominguncompetitive in the domestic market. As for Saudi Arabia lets say if we takevehicles the value is calculated after applying a method of depreciation on the priceof the vehicle when it was new, which can give the importers a good idea of howmuch the car would cost afterwards, which keeps traders certain and makes tradeeasy.

Technical Barriers to Trade:

o Safety and industrial Regulations

o Health and Sanitary Standards

o Packaging/labelling regulations.

o Advertising and media regulations.

Such NTBs can be difficult to identify and consequently to quantify. To the extentthat this is true the possibility of negotiated reductions is more problematic.Sometimes domestic producers with influence aim for NTB despite of its negativeimpact on national welfare as it facilitates their business in the long run.

Balance Of Payment:

A nations balance of payment is the sum of all the transactions that take placebetween its residents and the residents of all foreign nations. Those transactions

include exports and imports of goods, import and export of services, touristexpenditures, interest and dividends received or paid abroad, and purchases and salesof financial or real assets abroad.The statement shows all the payments a nation receives from foreign countries and allthe payments it makes to them.A single balance of payments is divided into three components: the current account,the capital account, and the official reserves amount.

Current Account:

This account comprises of the countries trade in currently produced goods andservices. Saudi Arabia exports are taken as a credit item into the account, they earn

and make available foreign exchange in the Saudi Arabia. The supply of foreigncurrency is kept with the Saudi Arabia banks.

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In the same manner, the Saudi Arabia imports are taken in as a debit item as theyreduce the stock of foreign currencies in the Saudi Arabia. The out payment made tothe rest of the world against these imports decreases the foreign reserves for SaudiArabia.The balance of trade for Saudi Arabia economy is the difference between its exports

and its imports of goods. If exports exceed imports, the result is a surplus on thebalance of goods, however, if imports outstrip the export its considered as a deficit.The balance on goods and services is the difference between the Saudi Arabia exportsof goods and services and Saudi Arabia imports of goods and services. A tradesurplus is considered as a favourable state for the country, rather than a trade deficit.The graph below shows the balance of trade for Saudi Arabia for the past few years:

Saudi Arabia reported a balance of trade surplus equivalent to 137043.million of US$in December of2008. Saudi Arabia is the world's leading oil producer and exporter.Oil accounts for more than 90% of the country's exports. Saudi Arabia mostlyimports machinery and equipment, foodstuffs, chemicals, motor vehicles and textiles.Its main trading partners are: Japan, European Union, China and the United States.

It can be seen from the graph that in year 2007 Saudi Arabia balance of trade was79819million US $ , which increased dramatically in year2008 considering the risein the price of oil, resulting in an increase in the balance of trade up to 137043m US$,which is a 72% increase from the previous year.

Year Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Total2008 137043.0 137043.02007 79818.8 79818.8

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Year Mar Jun Sep Dec Total

2008 132322.0 132322.02007 93392.4 93392.4

The current account shows a surplus of132322m US$ for the year 2008, the currentaccount includes both balance of trade (visible goods) and balance on services. As the

balance of service wasnt available one can still calculate the balance on services. Bysubtracting the balance of trade from the current account balance of trade, which is($137043m-$132322m = $4721m. This shows that the huge surplus from the trade ofgoods which is a component of the current account was reduced by $ 4721m by theheavy import on services over the same year.

Capital Account:

The second account with the overall balance of payments account is the capitalaccount, which summarises the purchase or sale of real or financial assets and thecorresponding flows of monetary payments that accompany them. For example, a

foreign firm may buy a real asset, say, an office in Saudi Arabia or say a Governmentsecurity. Both kinds of transaction involve the export of the ownership of SaudiArabia assets from the Saudi Arabia in return for in-payments of foreign currency.Conversely, a Saudi firm may buy say a hotel chain in a foreign country or some ofthe common stock of a foreign firm. Both transactions involve the import of theownership of the real or financial assets to the Saudi Arabia and are paid for by out-

payments of foreign currencies. These imports are designated Saudi purchases ofassets abroad, and they represent an outflow on the capital account.However, the law guaranteed foreigners protection against Saudi nationalization of

particular industries and reduced the income tax on foreigners. The Capital MarketLaw of 2003 created further opportunities, allowing for initial public offerings and

denationalizing some industries. In 2004 Saudi Arabia received about US$300million in foreign direct investment. According to the Saudi Arabian General

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Investment Authority (SAGIA), investment capital secured through investmentlicenses increased 787 % in the first quarter of 2005 over the same quarter in 2004.Despite these advances, foreign investors have been hesitant to participate in Saudiventures because of the long tradition of government interference in the marketplace,

bureaucratic nuisances, and concerns about instability and terrorism. Moreover, the

government continues to ban foreign investment in national defence or certain sectorswith religious significance such as health and pilgrimage services.

Official Reserves Account:

The third account in the official balance of payment is the official reserves account.The central bank of Saudi Arabia hold quantities of foreign currencies called officialreserves.These reserves can be drawn on to make up any net deficit in the combined currentand capital accounts (the same way a person draws from his savings to pay for aspecial purchase) .As for Saudi Arabia if we look at the balance of trade which is the information

available it can be predicted that Saudi Arabia should have pretty sufficient foreigncurrency reserves than it needed.The three components of the balance of payments ( the current account, the capitalaccount, and the official reserves account) must together equal zero.

Exchange Rates:

It refers to the rate of one nations currency in terms of another nations currency. Asfor Saudi Arabia, it maintains a fixed exchange rate regime, pegging the Saudicurrency (Riyal) to the U.S. dollar at $1=SR3.745. This makes trade between SaudiArabia and US easy as there is no uncertainty, however, the Saudi Arabian MonetaryAgency (SAMA) ability to employ a monetary policy is constrained due to itscommitment to the fixed exchange rate against dollar. Thus, changes in the Saudimoney supply and interest mirror the changes taking place in US money supply andinterest rates.

Forms of Exchange Rates:The system of exchange rates used by a country allows it to rectify the imbalances inits balance of payments deficits and surpluses. There are two pure types of exchange

rate systems:Flexible-or Floating Exchange Rate System:

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SR

pri

ce

of1

Po

un

d

Y

X

Exchange Rate:

SR 5 = 1 pounds

D1

S1

Riyal depreciates(pound appreciates)

Riyal appreciates(pound depreciates)

Fig. F

Quantity of Pound

This is where the demand and supply determines the exchange rates and in which nogovernment intervention occurs.We can examine the rate at which KSA might be exchanged for British pounds. Asshown in fig. F below:

The curves D1 and S1 show the demand and supply of pounds in the currency market.The demand for pound curve is downward sloping because all British goods andservices will be cheaper to the KSA if pounds become less expensive to the KSA.Thus, at lower KSA prices for pounds, the KSA can get more pounds and thereforemore British goods and services per riyal. To buy those cheaper British goods, KSAconsumers will increase the quantity of pounds they demand.The supply of pounds curve is upward sloping because the British will purchasemore KSA goods when the riyal price of pounds rises ( that is when pound price ofriyal falls). When the British buy more KSA goods, they supply a greater quantity of

pounds to the foreign exchange market. In other words, they must exchange poundsfor riyals to purchase KSA goods. So, when the riyal price of pounds rises, the

quantity of pounds supplied goes up.

Interpretation:

An exchange rate determined by market forces can, and often does, change daily likestock and bond prices.Depreciation- when the riyal price of pounds rises, for example from SR5=1 toSR7=1, the riyal has depreciated relative to the pound ( and pound has appreciated).When a currency depreciates, more units of it (riyal) are needed to buy a single unit ofsome other currency (pound).Appreciation-when the riyal price of pound falls, say from SR5=1 to SR3=1 the riyalhas appreciated relative to the pound. When a currency appreciates, fewer units of it

(riyals) are needed to buy a single unit of some other currency (pounds).

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SR

pri

ce

of

$1

Y

XD1

S1

Fig. G

Quantity of Dollar

c

Exchange Rate:SR 3.82 = $1 pounds

Thus, depreciation of pounds means appreciation of riyal and vice versa.

Determinants of Exchange Rates:

oChange in taste any change in consumer tastes or preferences for the products of a

foreign country may alter the demand for that nations currency and change itsexchange rate.

oRelative Income Changes- a nations currency is likely to depreciate if its growth of

national income is more rapid than that of other countries.oRelative Interest Rates- changes in relative interest rates between two countries may

alter their exchange rate. People invest in the country where they have a betterreturn on their investment; this increases the demand for the currency, whichultimately results in the appreciation of the currency.

oSpeculation- currency speculators are people who buy and sell currencies with an

eye toward reselling or repurchasing them at a profit.

Fixed Exchange Rate System:

Saudi Arabia has a fixed exchange rate with United States, and the Government ofthe two nations maintain SR3.75=$1.The problem is that such a government agreement cannot keep from changing thedemand for and the supply of dollars. With the rate fixed, a shift in demand or supply

will threaten the fixed exchange rate system, and government must intervene toensure that the exchange rate is maintained. Usually there is a limit + or 1% bywhich the actual exchange rate may deviate from the peg.

Three Basic Generalizations

Demand Increases Currency Appreciates Demand Decreases Currency Depreciates

Supply Increases Currency Depreciates Supply Decreases Currency Appreciates

If a nations currency appreciates some foreign currency depreciates relative to it.

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Exchange Rate:

SR 3.75 = $1 pounds

ab

B.O.P deficit

D2

Now in the above Fig. G suppose the KSA demand for dollar increases from D1 toD2 and a KSA payment deficit ab arises. Now, the new equilibrium exchange rate(say SR 3.82 = $1) which is above the fixed exchange rate of (SR3.75=$1).The imbalance created can be adjusted by altering the market demand or marketsupply or both so that they will intersect at the SR3.75=$1. The Government hasseveral ways to do this. Such as:

Protectionism- the government can resort to ways of reducing imports by using atariff, a tax on foreign products. However, the feasibility of this option is howeverextremely limited.Firstly, countries have treaty obligations under the General Agreement on Tariffs andTrade.Secondly, any such action may result in retaliation so that while foreign currency

payments may fall through reduced imports, foreign currency earnings may also fallthrough reduced exports. However, for KSA oil makes up 90% of its revenues, and isa commodity which is a necessity, which leaves the Government with an advantage.

Contractionary Fiscal Policy- the imports of the country can be reduced if the

domestic demand is decreased, which can be achieved by increasing the taxes in orderto reduce the disposable income, and by reducing the government expenditure. Thispolicy deflates the economy.

Interest Rates- This policy can be expected to operate both on current and capitalaccount of the balance of payments. A high rate of interest, reduces the domesticinvestment as cost of borrowing goes up, and also decreases the credit financedconsumer expenditure in the economy, thus reducing the demand of imports. Higherinterest rates may also discourage local investors in investing abroad.

Improved Domestic Goods- this is a long term solution, where the Government of

KSA should establish more industries in the country, help companies in research and

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development projects, invest in countrys workforce in order to raise productivity andquality of the domestically produced goods.

Bretton Woods System:In 1944 major nations held an international conference produced a commitment to a

modified fixed exchange rate system called an adjustable-peg system or simplyBretton Woods System. The system was designed to capture the advantages of goldstandard (fixed exchange rates) while avoiding its disadvantages (painful domesticmacroeconomic adjustments).Furthermore, the conference created International Monetary Fund (IMF) to makethe new exchange rate system, feasible and workable. IMF still plays a basic role ininternational finance, providing loans to developing countries, helping nations incrisis, and nations making the transition from communism to capitalism.

Under the Bretton Woods System there were three main sources of the needed dollars:

Use of Official Reserves:

One way to maintain a fixed exchange rate is to manipulate the market through theuse of official reserves. Such manipulations are called currency interventions. Byselling part of its reserves of dollars, the KSA government could increase the supplyof dollar, shifting the supply curve S1 to the right so that it intersects D2 at b thereby

bringing the exchange rate back to SR3.75=$1.

Gold Sales:

The KSA Government might sell some of its gold to US for dollars. The proceedswould then be offered in the exchange market to augment the supply of dollars.

According to the world official Gold holding, KSA has a Gold Reserve of 143. tonneswhich is quiet acute, primarily because of the reason that the economy exchange rateis backed up by oil

IMF Borrowing:

The needed dollars might be borrowed from the IMF. Nations participating in theBretton Woods system were required to make contributions to the IMF based on thesize of their national income, population, and volume of trade. If necessary, the KSAcould borrow dollars on a short term basis from the IMF by supplying its owncurrency as collateral.

As for Saudi Arabia, the country is one of the 186 member countries who have joinedIMF, the position of the country is strong as it is one of the major oil producingcountry. However, the country backs plans to increasing emerging nations say in theIMF by improving their voting capacity.

The Managed Float:In Managed Floating exchange rates among major currencies are free to float to theirequilibrium market levels, but nations occasionally use currency interventions in theforeign exchange market to stabilize the market exchange rates.

Normally, the major trading nations allow their exchange rates to float up or down to

equilibrium levels based on supply and demand in the foreign exchange market. The

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changing environmental conditions among nations require continuing changes inequilibrium exchange rates to avoid persistent payments deficits or surpluses.But nations also recognize that certain trends in the movement of equilibriumexchange rates may be at odds with national or international objectives. On occasions,nations therefore intervene in the foreign exchange market by buying or selling

large amounts of specific currencies. This way, they can manage exchange rates byinfluencing currency demand and supply. As for KSA apart from US it manages itscurrency by Managed floating exchange rate system, and the table below shows theexchange rate of the country with some countries:

The Saudi Arabia tries to keep the exchange rate movements into control, as it is oneof the main macro economic objectives of the Government, and at times, it also actslike a tool to help achieve other macroeconomic objectives.

International Economic Integration :

International economic integration means full economic union among a group orgroups of countries. Frequently this is also called 'total' economic integration in

Currencies Rates

US Dollar 3.75

Pound Sterling 6.630

Indian Rupee 0.145

Uae Dirham 1.02

Japanese Yen 28.88

Pakistani Rupee 0.152

Canadian dollar 3.349

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distinction of some other international arrangements involving closer economiccooperation or some degree of integration such as free trade areas, customs unions,and common markets. From Islamic point of view any arrangements are welcome aslong as it would lead to the establishment of closer-co-operation or stronger tiesamong Muslims. The nature of these economic integration relationships usually

results in achieving synergy effects. Economists recognise four different main levelsof international economic integration, they are:

Free Trade Area:

These are trading agreements by which all barriers to trade are removed between theparticipants but each partner has the freedom to negotiate independently with anyother non participating country as to the regulation of trade.This agreement should lead to common prices for internally produced goods withinthe area as any price differentials would be quickly dealt with by buyers and sellerstrading between the high and low price markets.Problem: Is the arrangements one participating partner can make with a country

outside the agreement. It is also possible that a country may independently negotiatefavourable trade terms with a country from outside the agreement.

Customs Unions:

It can be considered as an extension to the free trade areas. It incorporates the idea ofa free trade area but with the addition of a common trade policy for all countries withthe custom union to all countries outside the union.Merits: It eliminates the problems faced with the free trade area, in addition to this ina state of union the countries can collectively bargain for better deals.Demerits: The problem arises where the reluctance of countries to entering a customsunion rests with their opposition to sacrificing an area of their sovereignty.

Common Market:

This is a customs union plus the facility for the freedom of the factors of production,namely labour and capital to move between countries. This enables the unrestrictedflow of labour and capital across national borders within the common market. Inreality the flow of capital is rarely restricted between the borders, but the ability ofworkers to move is highly constrained.Demerits: Centralisation of control fades away as we move up the economic ladder ofintegration, the nations authority continues to erode and the trade off between theeconomic returns and economic sovereignty widens.

Economic & Monetary Union:

The final step up the integration ladder occurs when the national monetary and fiscal policies are united. Any influence that a country will have depends on theirrepresentation in the executive, central bank or in the parliament that determines oroversees the actions of the newly created state. This leads to a common currency anda single central bank to control the monetary policy. Furthermore, it may often lead tothe centralisation of the responsibility and authority for decisions on taxation andgovernment expenditure.However, it is difficult enough when evaluating the economic costs and benefits butwhen the political and social repercussions are also brought into the equation then it is

very much more an act of faith than a rationally taken decision.

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The Table below shows the SWOT Analysis of the Arab Countries:

Strengths

Arab have strong historical, religious, cultural, and language affinities Common and unique values and moral standards

There are capital, intellectual, labour and skills There is a great threat facing them Privatization and liberalization

Weaknesses

Lack of trust and commitment Lack of a healthy investment environment and capital market Economic and political independence on Western Countries, e.g. USA Identity problem and crisis Conflicts between Arabs Tussle between 'the B's' - business and bureaucracy Lack of statistics and dependable demographic studies Lack of experimental science and technology Existing trade barriers Restrictive ownership rules Close financial markets

These weaknesses create obstacles to free trade among the Arabs.

Opportunities

Effective use of resources by improving the quality of their human and capitalresources

Be strong enough to be more global competitive union Economic Integration and Arab Common Market Creating incentives for Arabs abroad to return to their lands and help their

countries

Threats

The existing economic and political blocs and globalization

Lack of vision Lack of clear and well-defined banking and monetary systems and procedures Foreign economic blocs The current tension situation between Arabs and Israel Internal competition among Arab countries The heavy intervention of foreign sources to evaluate the region's countries

economic significance

Global Consequences of Preferential Trading Arrangements:

Initially it was the first step of the countries towards obtaining a global free trade.

Once countries had adjusted to the new environment and had observed the benefits ofa more liberalised trading relationship, it was thought, and then further steps would

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follow. Instead, the ability of a region to be self-sufficient and to rely heavily on intra-regional trade has raised many questions.By definition, removing barriers within a region while leaving intact the barriers tocountries which are not part of the trading block explicitly discriminates against thosecountries. This might leave these left out countries in a very competitive environment

with the newer challenges of a global market.

Interpretation:

It should be noted that these modes of economic cooperation allow countries tocooperate with each other in order to harness and coordinate the internal and externalresources, skills and power to perform their economic activities more efficiently andeffectively than before (or, to some extent, than others). In short, the collaborators

believe that their success does not require others to fail. They also have a philosophythat, in the spirit ofcollaboration, a win-win approach is most effective way to create

a bigger pie and then obtain a bigger share of it.

However, for the Arab world to integrate itll first have to meet certain criterias like:

The privatization of economy and industry:

The problems of public sector inefficiency in the Arab world call for increaseattention should be a broadly acceptable conclusion. This could reduce the burden offthe government.However, if the Government intends to do so, it should do it gradually, as thedisadvantages of rapid privatization can outweigh its advantages.

Balancing Physical & Human Capital:Arab countries like other developed countries should find a closer balance betweenthe human skills and the technological advancements.

Redesigning Government Controls:

Government intervention in markets has unacceptable political consequences,particularly the concentration of economic as well as political power in the hands ofpoliticians and administrators who, being human, will not use it wisely

Political and social willingness, motivation, and strategic fit:

The partners should have a strong motivation for entering the integration relationship.

They should have something of value to contribute to a successful relationship. Thecollaborators should have a clearly identifiable source of sustainable competitiveadvantage and it should develop an increasing level of interdependence

Interdependence:

The partners should have complementary assets and skills. Neither can accomplishalone what both can together.

Cultural fit:

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Cultural fit requires that each partner carry out its commitments and shows its trustingbehavior and attitude. They should be able to share the information and knowledgerequired to enhance and sustain the relationship.

Institutional arrangements:

The collaborative relationship is given a formal status. So that considering the worsecase scenario the disputes can be resolved.

Integration and integrity:

For best survival opportunities the partners develop linkages and shared ways ofoperating so they can work together smoothly. They should build an effectivecommunication system between many units at many institutional levels.

Conclusion:Today, the old nature and boundaries of countries and organizations become less andless useful in organizing economic activities. In effect, an economic alliance ornetwork based on- cooperation, collaboration, flexibility, adaptation, risk and costreduction, shared interest and objectives, and a commitment between differentcountries on an integrating ongoing basis-, has been emerged as a more effectiveapproach to meet the new global environment.Arab countries, on the other hand, are not being changed quickly enough. They havenot participated fully in the drive to liberalize trade and so have not derived the

benefit they might have by doing so.

References:

http://www.the-saudi.net/business-center/regulation-tax.htmhttp://www.tradingeconomics.com/Economics/Inflation-CPI.aspx?Symbol=SAR

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http://www.the-saudi.net/business-center/regulation-tax.htmhttp://www.tradingeconomics.com/Economics/Inflation-CPI.aspx?Symbol=SARhttp://www.the-saudi.net/business-center/regulation-tax.htmhttp://www.tradingeconomics.com/Economics/Inflation-CPI.aspx?Symbol=SAR

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http://www.tradingeconomics.com/Economics/Unemployment-rate.aspx?symbol=SARhttp://www.indexmundi.com/saudi_arabia/unemployment_rate.htmlhttp://www.arabianbusiness.com/581258-saudi-inflation-forecast-to-fall-in-2010http://www.arabianbusiness.com/582477-saudi-banks-seen-lending-more-in-2010---

ncbhttp://www.reuters.com/article/idINL1116639520080211http://www.tradingeconomics.com/Economics/Balance-Of-Trade.aspx?Symbol=SARhttp://www.indexmundi.com/saudi_arabia/current_account_balance.htmlhttp://www.arabianbusiness.com/582483-oil-exports-to-allow-saudi-economy-35-rise---ncbhttp://www.opec.org/opec_web/en/about_us/169.htmhttp://www.indexmundi.com/trade/exports/?country=sahttp://www.opec.org/library/Annual%20Statistical%20Bulletin/interactive/2008/FileZ/Flowbot.htmhttp://www.radford.edu/wkovarik/oil/2worldoil.mideast.html

http://www.arabianbusiness.com/573930-saudi-cenbank-says-usd-peg-beneficial---paperhttp://www.bi-me.com/main.php?c=3&cg=4&id=44740&t=1http://www.smi.uib.no/pao/zineldin2.htmlTextbook: Introduction to Economic 2 ( Heriot Watt University)Textbook: Economic by McConnell Brue

Prepared By:

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http://www.tradingeconomics.com/Economics/Unemployment-rate.aspx?symbol=SARhttp://www.tradingeconomics.com/Economics/Unemployment-rate.aspx?symbol=SARhttp://www.indexmundi.com/saudi_arabia/unemployment_rate.htmlhttp://www.arabianbusiness.com/581258-saudi-inflation-forecast-to-fall-in-2010http://www.arabianbusiness.com/582477-saudi-banks-seen-lending-more-in-2010---ncbhttp://www.arabianbusiness.com/582477-saudi-banks-seen-lending-more-in-2010---ncbhttp://www.reuters.com/article/idINL1116639520080211http://www.tradingeconomics.com/Economics/Balance-Of-Trade.aspx?Symbol=SARhttp://www.indexmundi.com/saudi_arabia/current_account_balance.htmlhttp://www.arabianbusiness.com/582483-oil-exports-to-allow-saudi-economy-35-rise---ncbhttp://www.arabianbusiness.com/582483-oil-exports-to-allow-saudi-economy-35-rise---ncbhttp://www.opec.org/opec_web/en/about_us/169.htmhttp://www.indexmundi.com/trade/exports/?country=sahttp://www.opec.org/library/Annual%20Statistical%20Bulletin/interactive/2008/FileZ/Flowbot.htmhttp://www.opec.org/library/Annual%20Statistical%20Bulletin/interactive/2008/FileZ/Flowbot.htmhttp://www.radford.edu/wkovarik/oil/2worldoil.mideast.htmlhttp://www.arabianbusiness.com/573930-saudi-cenbank-says-usd-peg-beneficial---paperhttp://www.arabianbusiness.com/573930-saudi-cenbank-says-usd-peg-beneficial---paperhttp://www.bi-me.com/main.php?c=3&cg=4&id=44740&t=1http://www.smi.uib.no/pao/zineldin2.htmlhttp://www.tradingeconomics.com/Economics/Unemployment-rate.aspx?symbol=SARhttp://www.tradingeconomics.com/Economics/Unemployment-rate.aspx?symbol=SARhttp://www.indexmundi.com/saudi_arabia/unemployment_rate.htmlhttp://www.arabianbusiness.com/581258-saudi-inflation-forecast-to-fall-in-2010http://www.arabianbusiness.com/582477-saudi-banks-seen-lending-more-in-2010---ncbhttp://www.arabianbusiness.com/582477-saudi-banks-seen-lending-more-in-2010---ncbhttp://www.reuters.com/article/idINL1116639520080211http://www.tradingeconomics.com/Economics/Balance-Of-Trade.aspx?Symbol=SARhttp://www.indexmundi.com/saudi_arabia/current_account_balance.htmlhttp://www.arabianbusiness.com/582483-oil-exports-to-allow-saudi-economy-35-rise---ncbhttp://www.arabianbusiness.com/582483-oil-exports-to-allow-saudi-economy-35-rise---ncbhttp://www.opec.org/opec_web/en/about_us/169.htmhttp://www.indexmundi.com/trade/exports/?country=sahttp://www.opec.org/library/Annual%20Statistical%20Bulletin/interactive/2008/FileZ/Flowbot.htmhttp://www.opec.org/library/Annual%20Statistical%20Bulletin/interactive/2008/FileZ/Flowbot.htmhttp://www.radford.edu/wkovarik/oil/2worldoil.mideast.htmlhttp://www.arabianbusiness.com/573930-saudi-cenbank-says-usd-peg-beneficial---paperhttp://www.arabianbusiness.com/573930-saudi-cenbank-says-usd-peg-beneficial---paperhttp://www.bi-me.com/main.php?c=3&cg=4&id=44740&t=1http://www.smi.uib.no/pao/zineldin2.html

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Hijab Amer Pasha 091613372

Muhammad Shakeel 091615413

Muhammad Zawar ul haq 091620152Hammad Akhtar Mughal 091617026

Muhammad Imran 091615424

Muhammad Imad 091615468

Charanjeet Kaur 091597670