This paper envisages the existence of contagion in the Arabian Gulf economies. It examines whether there has been contagion in the region following the 1987 U.S. stock market crash and the 1997 Thai exchange rate devaluation. Hence, the aim of this paper is to ask whether larger economies of the Gulf, such as Saudi Arabia, act as contagion originators by propagating regional as well as outside crises affecting smaller countries of the region. Specifically, two main questions are raised in the paper: (1) does contagion exist in the Gulf region and (2) is contagion propagated through large economies (Saudi Arabia) to smaller ones? The paper defines contagion as a significant increase in cross-market linkages after a shock. An attempt was made to test whether there was contagion in the region after the 1987 U.S. stock market crash and the 1997 Thai exchange rate devaluation, and whether it has been propagated through Saudi Arabia, the largest economy of the region.
According to the author, the correlation procedure and direct changes method are supportive of contagion in the region, mainly transmitted through Saudi Arabia, the largest economy of the region. The results of the study suggest that:
smaller Gulf economies (other than Saudi Arabia) can protect themselves against crises contagion through diversification in production and trade, and capital controls
countries with similar industrial structures and other economic and demographic characteristics, such as the Gulf countries, are likely to benefit from a complete economic integration.
when incomes are high and the integrated market is large, the growth of trade will be greater and thus economies will be immune to external shocks
In addition, when tariffs are low as they are in the Gulf, chances of trade diversion are lessened and comparative advantage has a greater chance to work. Moreover, outward-oriented economic policies in such areas as foreign exchange rates and government regulation (exchange control) give a greater chance for trade to increase with lower barriers. By contrast, overvalued foreign exchange rates, price fixing and over-regulating governments hinder the effectiveness of trade liberalization. Finally, a salient dynamic advantage of economic integration is that of monetary unification. With a single currency there is no necessity for foreign exchange transactions or for maintaining numerous central banks' union.