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Saudi Arabia's political purge may actually improve the business climate, but comes with huge risk

Key Points
  • A political purge in Saudi Arabia appears to be engineered to consolidate power, tackle corruption and play to populism, analysts say.
  • It could make investing in the kingdom easier by improving transparency, reducing graft and clearing the way for the crown prince's modernization push.
  • However, the business climate could deteriorate if the purge sparks infighting among Saudi Arabia's thousands of royals.
Here’s how the Saudi Arabia crackdown could affect Aramco’s IPO plans

The powerful Saudi crown prince's purge of royals and ministers this weekend could pave the way for improved business conditions in the kingdom, analysts say. However, it also risks plunging Saudi Arabia into chaos if it touches off a showdown in the sprawling royal family, they warn.

Crown Prince Mohammed bin Salman has framed the arrest of 11 princes, four ministers and dozens of officials this weekend as a crackdown on corruption. Others have a called it a power grab meant to smooth the way for the 32-year-old's widely anticipated rise to the throne and his bid to overhaul the Saudi economy.

However, several Middle East watchers rejected an either-or explanation. Instead they say the roundup has elements of an anti-corruption drive, a consolidation of power and a populist appeal to average Saudis fed up with royal excess.

Ultimately there's a danger in consolidating policy into one single individual. When that individual is gone, then chaos cam reign supreme.
Michael Rubin
American Enterprise Institute Middle East scholar

Bin Salman is "trying to change the dynamic between politics and business in Saudi Arabia, centralize that in a way that's never been done before, and really show that the royal family is no longer immune to corruption charges in a way that they have been, really for the duration of their rule," Allison Wood, Middle East consultant at Control Risks Group, told CNBC Europe on Tuesday.

More centralized decision-making could create greater certainty for international investors, said Michael Rubin, Middle East scholar at the American Enterprise Institute, a conservative think tank. Rather than navigating a web of power centers run by thousands of princes, the business community would know exactly whose door to knock on, he said.

Bin Salman "wants to reform the economy, to modernize it, and he doesn't want to deal with resistance. The question is, what happens if he fails? Then you could see a regression in Saudi Arabia that leaves it far worse than it is now," Rubin told CNBC's "Power Lunch" on Monday.

"Ultimately there's a danger in consolidating policy into one single individual. When that individual is gone, then chaos can reign supreme. We're at a very dangerous time for Saudi Arabia right now."

Investors likely to pause plans

It is also a time when Saudi Arabia is aggressively courting international investors.

The kingdom is preparing to sell shares in state-owned Saudi Aramco, a tricky endeavor given the energy giant's notoriously opaque finances. The sale is the cornerstone of bin Salman's plan to expand Saudi Arabia's sovereign wealth fund and diversify its economy.

Just last month, the country hosted a Future Investment Initiative conference that drew financial sector luminaries to the capital city of Riyadh. Those heavyweights included Prince Alwaleed Bin Talal, a billionaire investor often referred to as the Warren Buffett of Saudi Arabia, who was among those swept up in the purge.

In light of recent events, some investors may think twice about putting money to work in the kingdom in the near term, analysts say.

Geopolitical, economic and religous impact of Saudi purge: Atlantic Council's Fred Kempe

"There'll be a concern about whether or not there's going to be stability in the kingdom or not, and that's going to raise questions about is this a good time to be investing?" said Dennis Ross, a diplomat who served in both Democratic and Republican administrations.

The market should not expect Saudi Arabia to develop into a democracy any time soon, he said, but economic reform is a net positive for investors and stands to create a successful model of development that has been lacking in the Arab world. That absence is part of the reason extremist groups like the so-called Islamic State have flourished, added Ross, now a fellow at the Washington Institute for Near East Policy.

Bin Salman has vowed to return Saudi Arabia to "a more moderate Islam." A hard-line conservative interpretation has dominated the kingdom for decades.

Modernization and economic reform give Islamic nations a way to counter radicalization in the digital world, said Fred Kempe, president and CEO of the Atlantic Council.

"Over the short term you're going to have a lot of investor nervousness ... but if this 32-year-old reformer stays in power, can actually change the kingdom ... he could be in power for 30, 40 years and this could be an amazing long-term play," Kempe told "Power Lunch."

Tackling Corruption

Still, the crackdown might have the opposite effect that bin Salman intended, according to Simon Henderson, director of the Washington Institute's Gulf and Energy Policy program. It could very well "scare the hell out of potential investors" who partner with the Saudis.

In his view, the purge was indeed a "power grab" meant to sweep aside influential figures like Prince Mutaib bin Abdullah, the former head of the National Guard and an opponent of bin Salman's swift rise to power.

Bin Salman "needed to bypass Mutaib," Henderson told CNBC's "Squawk on the Street" on Monday. "To accuse him of corruption is a neat way of doing it."

Many Saudi investors will press 'pause' and see how probe plays out: Expert

While uncertainty stirred by the arrests will inevitably have an impact on investment, the main obstacle to doing business in Saudi Arabia is corruption, said Mohammed Alyahya, a nonresident fellow at the Atlantic Council. But prosecuting corruption will actually alleviate longer-term uncertainty and promote transparency, he said.

The purge "stands to change a culture of corruption in the kingdom that can only be changed if a policy of cracking down on the bigwigs, if you like, without any half measures is embarked upon," he told "Squawk on the Street."

Corruption is indeed endemic in Saudi Arabia, but the purge might not be the best way to deal with it, said Joseph Westphal, former U.S. Ambassador to Saudi Arabia under President Barack Obama. Rather than rounding up royals, the Saudis could have better addressed corruption by reforming the country's judicial system.

"I think as an investor I would want to make sure that I'm investing in a country where my corporate investment, my business is protected through some type of rule of law," he told CNBC's "Squawk Box" on Tuesday.

"I don't think that's there."

Here's what Saudi Arabia's power purge means for the kingdom