DUBAI (Reuters) - A Western boycott of a major business conference in Riyadh next week suggests rising political risks in Saudi Arabia could harm its ambitions to attract foreign capital and diversify its economy away from oil.

FILE PHOTO: A Turkish police forensic expert arrives at the Saudi Arabia's consulate in Istanbul, Turkey October 17, 2018. REUTERS/Huseyin Aldemir

Rather than whipping up interest in Saudi investment opportunities, the event risks becoming a public relations debacle because of the disappearance of Saudi dissident Jamal Khashoggi, company executives and analysts say.

Turkish officials have said Khashoggi was killed inside the Saudi consulate in Istanbul. Saudi Arabia denies this.

More than two dozen top officials and executives from the United States and Europe, including U.S. Treasury Secretary Steven Mnuchin and the chief executives of JP Morgan Chase JPM.N and HSBC HSBA.L, have canceled plans to attend the Future Investment Initiative due to unease over the Khashoggi affair.

That may not prevent the event from proceeding - over 150 speakers from more than 140 organizations originally signed up, organizers said. But it deprives the conference of much of its star power.

As Western companies fret over the risk to their reputations of doing deals and possible exposure to any sanctions imposed over the Khashoggi case, they are likely to put much new business in Saudi Arabia on hold for now.

The freeze may apply to both new Western contracts or investments in Saudi Arabia, and the Saudi government’s own program of buying corporate assets abroad through its $250 billion Public Investment Fund (PIF).

“Most Western businesses will come under pressure to reconsider their exposure to Saudi Arabia in light of the Khashoggi affair,” said Ayham Kamel, head of the Middle East practice of political risk consultancy Eurasia Group.

But the freeze on new deals may start to ease within a few months. Many Western firms have too much at stake to abandon the Middle East’s biggest economy; privately, some told Reuters they would send lower-level executives to the conference.

BILLIONS AT STAKE

Larry Fink, chief executive of U.S. investment manager BlackRock BLK.N, said he was pulling out of the conference but would not cut ties with Saudi Arabia as he wanted to "preserve the relationships that we'd worked so long for".

Companies in China and Japan have shown little or no sign of withdrawing from the event, so U.S. and European firms may lose out on business if they stay cool toward Riyadh for too long.

“In the new year the impact may start to ease, particularly given that the U.S. seems to be helping Saudi Arabia sweep the incident under the carpet,” said Jason Tuvey, senior emerging markets economist at Capital Economics.

U.S. President Donald Trump has said he wants to protect Washington’s security cooperation with Saudi Arabia and billions of dollars of military equipment sales to Riyadh. He raised the possibility that “rogue killers” murdered Khashoggi, a theory which could absolve Saudi leaders from responsibility.

British foreign minister Jeremy Hunt said on Friday that allegations about Khashoggi’s case would be totally unacceptable if true but he added Britain had a strategic relationship with Saudi Arabia, and that any British action would be “considered”.

Tuvey and others predicted the cost of any sanctions would be small. The option most widely discussed by U.S. politicians is the so-called Magnitsky Act, which can impose visa bans and asset freezes on individuals over human rights issues.

If a small group of Saudis were found responsible for Khashoggi’s death and sanctioned this way, it could be embarrassing for Riyadh but have no significant economic impact.

A Gulf banker who works with Saudi Arabia said that however the Khashoggi affair ended, the opportunities to earn fees arranging deals for the PIF meant Western banks would ultimately be “back on their knees seeking business” from it.

After the killing of student protesters in Beijing in June 1989, direct foreign investment in China sank over 20 percent in the first half of 1990 but about a year later, it was once again growing strongly.

Financial market moves show investors are worried about the Khashoggi affair but not nearly as fearful as they were after oil prices began plunging in 2014.

The Saudi riyal fell in the forwards market and the cost of insuring Saudi debt against default is up, but by small margins compared to past bouts of instability.

LONG TERM

But even after normal business ties with the West resume, Khashoggi may cast a shadow over foreign capital flows into Saudi Arabia. Western companies may be keen to earn fees and win contracts, but perceptions of rising political risk could limit foreign direct investment.

A Gulf banker said she was receiving many queries about the Khashoggi affair from foreign clients as it was the latest in a series of crises under Crown Prince Mohammed bin Salman, including the arrest of scores of officials and businessmen in a corruption purge last year.

“It’s cumulative – the Yemen war, the dispute with Qatar, the tensions with Canada and Germany, the arrests of women activists. They add up to an impression of impulsive policy-making, and that worries investors.”

If Riyadh escapes major sanctions over Khashoggi, it may still face a less sympathetic U.S. Congress. This could, for example, lead to a revival of efforts to pass legislation exposing OPEC oil producers to anti-trust lawsuits.

And some fear the affair could weaken the 33-year-old Prince Mohammed’s domestic authority, creating political instability or slowing his reform drive, which has included slashing the state budget deficit and lifting a ban on women driving.

The reforms and the corruption crackdown have won Prince Mohammed support among many Saudis, but have also hurt some royal family members and businessmen. The Khashoggi affair could conceivably become the catalyst for a backlash.

“We’re worried that this could derail all the work that has been put in the past year towards the economic and social reforms,” said a banker in Riyadh.