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Friday, March 04, 2016
Oil Price and its Effects on the GCC
[Update: Coincidentally 2 days after I posted this Moody's announced it was downgrading Bahrain to junk and putting Saudi, UAE, Kuwait and Qatar on review for possible downgrades. Maybe they read this post ;-p ]
Occasionally friends back home ask me how the oil price is impacting the Middle East. Are there tons of layoffs? Empty buildings? Governments in financial trouble? Unless you’re reading the more serious financial newspapers for the most part all you’ll see is clickbait-worthy shock headlines (“Expert says Saudi Arabia will be Bankrupt in x Years!”) so it might not be the most balanced picture.
Don’t get me wrong there has definitely been an impact – a Government can’t have its income slashed by 50+% and just brush that off. Some countries are weathering it better than others, some have small populations and a large build-up of surpluses from the boom years to see them through the next while. Most have tightened their belts and cut spending and reduced subsidies, but how well it will work really depends on the country.
Now I’m not a huge expert on country analysis, and I don’t have access to all of the data, so I figured that I would put together a broad overview of each of the Gulf countries and how other agencies (IMF, credit rating agencies, etc.) have evaluated them.
The largest of the Gulf countries, with a total population roughly 50% greater than the rest of the Gulf countries combined, problems here will inevitably ripple through the rest of the region. Oil makes up roughly 75-85% of the Saudi Government’s revenues and with their large population, as well as wars in Yemen and Syria that they are supporting, Government spending was big. There’s some murmuring in the media that consultants have been hired to develop a huge set of spending cuts for the Government, and subsidies on things like fuel have already been reduced, but there are probably some big spending cuts coming. Estimates are the Government spent $100-120 billion of their reserves in 2015 (maybe even more!) to offset the loss of revenue, something they can’t continue to do indefinitely, especially since in 2015 oil was hovering around $50-60 for much of the year, in 2016 it’s been more like the low-$30s.
Many analysts are worried. At one point during the boom S&P had Saudi Arabia rated at a quite respectable AA-, then last year downgraded them to A+. But two weeks ago they were downgraded again, to A- with a negative outlook, which means they’ll likely be downgraded again sometime over the next 12 months unless they make some big changes (to give you an idea of what an A- rating means it puts Saudi Arabia on a similar rating to Latvia and Malaysia). The IMF is pushing for Saudi to implement taxes such as a VAT to help make up for the lost revenue but I think a lot more will need to be done unless the oil price greatly improves.
Other rating agencies have been more optimistic than S&P and while they have put Saudi on a negative watch they haven’t done the big downgrades like S&P has. Perhaps they expect a rebound in oil prices.
A much smaller country with a lot of oil & gas, Qatar is one of the countries that will weather the storm better than most other oil producing countries. They haven’t been sitting on their laurels though, there have been spending cuts, cancellations of many upcoming projects, reductions in some subsidies, and in a surprise move a recent announcement merging some Ministries and other Government organizations together to cut costs.
The 2016 budget calls for a deficit of about US$13 billion, based on oil averaging $48 a barrel. So far the price has been roughly 30-40% lower, if it continues then Qatar is facing a much bigger deficit. I expect that if oil stays at around $30-35 then in the summer we’ll see a revised budget with even more spending cuts.
The cuts are more proactive then driven by necessity, Qatar could probably fund big deficits for a decade or more given its huge sovereign wealth fund. Most analysts estimate that in the past Qatar would breakeven at around $60-65 a barrel (estimates for Saudi Arabia were over $100 a barrel), with the spending cuts the breakeven is now likely in the mid-50s so even a moderate uptick in the oil price would give Qatar breathing room and moderate deficits.
Analysts don’t seem to be too concerned about Qatar, at least for the short-term. S&P has kept its rating at AA, recently affirming the rating at stable, and the IMF was praising Qatar for the actions it was taking to reduce costs. Moody’s and Fitch have also kept their ratings for Qatar at the same high level.
Good news for Qatar’s austerity plan does not mean good news for people on the ground here, spending cuts means layoffs and as construction projects are completed there will be fewer projects starting so while the population has been relatively stable or even growing (growth in areas like construction jobs is keeping pace with layoffs in the oil and other sectors), layoffs in the construction sector are inevitable at current levels of spending. I expect the overall number of expats in Qatar to start shrinking in early-2017 unless oil rebounds.
Many people don’t realize that Bahrain doesn’t have a lot of oil, it was one of the first to develop its oil and because it is a tiny country (about 1/12th the size of Qatar) it did not take long to use a lot of it up so the country was not flush with cash like Abu Dhabi or Qatar. Much of the economy is still based around oil but there is also some reliance on money from Saudi Arabia, either through trade or tourism. Thus the drop in oil price impacts the Government’s revenues, but the ripple effect from Saudi adds an extra punch.
While it was once an oil-wealthy country things have been tougher over the years, and uprisings in 2011 didn’t help matters, so Bahrain did not have the high credit ratings of its neighbours. It was at a moderate BBB- rating from S&P but was recently downgraded to BB (similar to Costa Rica and Guatemala), which is in the ‘junk’ territory. This despite numerous reforms the Government has taken to try to cut spending and improve revenues. Fitch and Moody’s haven’t dropped Bahrain’s rating into junk territory just yet [update: 2 days after this post Moody's downgraded Bahrain 2 notches to match S&P's rating]. I’m assuming the ripple effect from Saudi was bigger than anticipated, or S&P expects that it will be bigger in the near future. The Government was planning to issue bonds to help cover the deficit but is now reconsidering due to the rating downgrade as they would have to offer the bonds at a higher interest rate. If they can’t fund the gap they’ll have to dig deeper into spending cuts.
In the same boat as Qatar: lots of oil, small population, tons of money in their Sovereign Wealth Fund to fund deficits, and a budget that did not require oil to be extremely high to make the books balance. Like everyone else they have been cutting spending anyway by removing or reducing subsidies on things like electricity and water, but unlike Qatar have also embarked on a program in 2013 to reduce the ex-pat population by around 100,000 a year for the next decade. The Government has gotten tougher about issuing residence visas, have stepped up police raids searching for illegal workers, and instructed Government organizations to try to do more to phase out ex-pat jobs (I assume so that they can be given to Kuwaitis).
Rating agencies have Kuwait rated the same as Qatar, the equivalent of AA (S&P), and don’t expect that to change in the near-term.
Actually seven emirates in one country and rating agencies tend to rate the emirates separately. In truth two of the seven dominate the economy: Abu Dhabi (largest economy, has the oil) and Dubai (2nd largest, not much oil but lots of tourism and property development). The other five, combined, wouldn’t likely be the size of Dubai’s economy.
Abu Dhabi is also similar to Kuwait and Qatar, the population is relatively small compared to the amount of oil it produces, did not need oil at $100 to run the Government spending, and it has the 2nd largest sovereign wealth fund in the world (after Norway) so has tons of money to fund any deficit. It too is rated AA by S&P and there haven’t been any threats of a downgrade yet. Moody’s does a rating for the entire country of the UAE as one entity, also the equivalent of AA.
Dubai is a bit trickier as there are no recent ratings by any of the credit rating agencies. If you recall, in 2009 Dubai hit a major crisis and had a financial collapse, triggered by the near-bankruptcy of Dubai World. S&P immediately issued big downgrades so in 2010 Dubai simply stopped paying the rating agencies to do any ratings. A Google search hasn’t found a rating since.
Dubai has recovered from the ’09-’10 meltdown, thanks in no small part to an emergency $25-30 billion (maybe more) from Abu Dhabi when everything was crashing, but while the Dubai Government does not rely heavily on oil (I think oil is <5% of the economy) the ‘ripple effect’ is hitting it. Dubai is a regional financial hub so can’t help but feel the bite when the neighbouring economies cut spending. Lots of tourists were from the GCC as well as Russia so thanks to the oil price and a strong US dollar tourist numbers and how much they spend are also decreasing. Reports note that property prices in Dubai fell around 10-15% during 2015 and the stock market has dropped around 10% in the last six months. It’s not looking too rosy but I highly doubt Dubai is anywhere near the level of financial trouble that countries like Bahrain are mired in, and they can count on some support from Abu Dhabi if things get tough.
Poor Oman. One of my favorite countries in the Gulf, and the people there so kind, yet it lacks the financial resources of its richer neighbors. The economy does rely heavily on oil just like everyone else, it's just that they don't have as much of it as their neighbours. I think the Sultan has done a good job with what he has but the country will never have the glitz and splash that the UAE and Qatar does.
Naturally this means the downturn in oil prices will hit the country hard. Unemployment will likely get worse (a touchy subject that in 2011 resulted in some protests in the country) and despite some spending cuts the government will run a significant deficit in 2016. If the oil price does not significantly improve Oman is looking at a very rough next few years.
This vulnerability has led to rating downgrades. S&P recently downgraded them from BBB+ to BBB-. Moody’s has also done recent downgrades and Fitch has been downgrading their ratings on some Omani banks. Oman's long-term debt is still investment-grade, albeit just above the line, and more spending cuts will be needed to prevent future downgrades. Like Bahrain this will increase the risk of political instability, though I don’t think Oman would ever reach the level of problems that Bahrain has in this regard.
So that’s the summary. Basically not a rosy picture. Some can weather the storm but others are going to really face issues if oil continues to remain low in the long-term.