Research and analysis

GCC Economics Summary: April to May

Published 19 June 2014

0.1 Macroeconomics

A Busy Couple of Months for the IMF

April and May have been busy for the IMF in the Gulf. In addition to releasing updates on Kuwait, Qatar and Saudi Arabia as part of their Article IV surveillance programme (see next two items) they hosted a forum for parliamentarians from across the GCC in Kuwait, a separate conference on economic diversification with the Kuwaiti Ministry of Finance, and a workshop with the Central Bank of Oman. The Kuwait forum was to help Gulf parliamentarians understand the work of the IMF, and to give the IMF a different view of the economic challenges facing the region. The conference in Kuwait brought together academics, businessmen and policy makers from across the GCC to share best practice on economic development and diversification. The Oman workshop was to help the central bank develop a medium term budgetary framework, and support the government’s efforts to improve its finances.

Article IV Surveillance on Kuwait and Saudi Arabia

IMF teams visited Kuwait and Saudi Arabia in May in preparation for the release of Article IV surveillance reports later this year. In Kuwait, the team noted that real non-oil GDP growth was likely to reach 3.9% in 2014, compared with 2.7% last year. They also judged that it would likely reach 5% in the next two to three years. Most of the new non-oil growth was driven by government investment in infrastructure and refineries, and the team echoed previous Article IV reports in warning that continued political prevaricating might erode this stimulus. Whilst they noted that Kuwait’s fiscal position was strong, oil price declines and a failure to contain state current expenditure (particularly on wages and energy subsidies) would erode the economy’s safety margin. The team re-iterated the last Article IV report (released in December 2013) saying that the solution to many of the challenges facing Kuwait was better macro-economic policy making supported by institutional reform.

In Saudi Arabia, the IMF team assessed that real growth was likely to remain above 4% in 2014 and 2015. The main drivers were government spending and the Kingdom’s growing private sector. Inflationary pressures remained under control. In terms of risks, the team judged that growing government expenditure meant this year’s fiscal surplus would likely be lower than last’s (the Saudi government predicted balanced books), and that the budget could enter deficit in the next few years. The Kingdom’s enormous financial reserves (around 100% of GDP) would offer protection against this and downward oil price shocks, and the IMF noted that the Saudi government had made progress on reforming the state budget. They suggested it introduce a medium-term fiscal framework, develop better tools for managing oil price volatility, and monitor carefully rising equity prices. Externally, the IMF acknowledged the Kingdom’s role in promoting global energy price stability, its generous provision of economic aid, and the flows of income it provides to other countries in the form of worker remittances.

IMF Executive Board on Qatar

Further to our summary of the IMF Staff Article IV findings on Qatar in the March 2014 GCC Economics Summary, the IMF Executive Board has endorsed and commented on the report. Key points were:

• real growth is likely to increase to between 6% and 7% p/a over the medium term;
• inflation is likely to remain at between 3% and 4%;
• government spending and financial authority operations needed calibrating to reduce the risks of over-heating;
• the Qatari authorities needed to continue their efforts to select and deliver infrastructure projects as effectively as possible;
• Qatar had made progress in fiscal planning and commitment to reducing spending over-runs;
• Qatar had made progress in improving financial regulation, but needed better liquidity management and risk monitoring; and
• Qatar needed further supply-side reforms, including improvements to the business environment and education.

Housing Sector Pushes Emirati Inflation to 1.9%

The UAE’s National Bureau of Statistics has announced Emirati inflation accelerated to 1.9% year-on-year (yoy) in March (up from 1.8% yoy in February). This is the greatest rate since October 2010. Rising housing costs of 2.4% contributed the most to inflation, but these were partially offset by falling food prices.

IMF data shows the UAE had the lowest average consumer price inflation of all the GCC countries in 2013 (1.1%, vs Saudi Arabia, which had the highest at 3.5%). But extensive subsidies across the region mean that the real rates of inflation are probably significantly greater. The IMF expect Emirati inflation to average 2.2% in 2014. This would still be the lowest among the GCC, with Qatar likely to replace Saudi Arabia in the top spot with 3.6%. But overall, inflation in all Gulf states looks set to remain under control for the foreseeable future.

Kuwaiti Cabinet and Parliament Scrutinise Plans for Subsidy Reform

With IMF warnings of a budget deficit by as early at 2017, the Kuwaiti Government has committed to reining in public spending and blanket fuel, energy, water and food subsidies. Kuwait’s new subsidy review committee, headed by Finance Minister Anas al-Salih and formed by the Cabinet in early 2014, has released its first report and list of initial recommendations to tackle the rising costs of the state’s extensive subsidy regime (currently costing $17.7bn annually). In a move to reassure Kuwaiti citizens, al-Salih has stated publicly that the reforms will not affect low and middle income Kuwaitis, and will not discriminate against expatriates – who currently benefit equally from all except the food subsidies.

The committee’s recommendations could generate savings of up to $1.8bn, and include moving from a flat rate of electricity (of $0.07/kWh) to a staggered system of charges for domestic and commercial electricity usage ($0.07 – $0.43/ kWh), charging higher water rates for domestic water consumption above 30,000 gallons, and removing all diesel subsidies (affecting commercial haulage only as all domestic vehicles run on petrol). These recommendations are currently sitting with the Kuwaiti Cabinet for consideration ahead of their presentation to Parliament. They are more conservative than they might have been, leaving the domestic price of electricity and water well below cost-price, and the difficult issue of petrol subsidies untouched for now.

0.2 Energy

Qatari Investment and Trade Deals

It was a busy spring for Qatar’s energy sector. In April, Qatar Gas started work to double the condensate output of its Ras Laffan refinery to 300,000 barrels per day (bpd). The Ras Laffan 2 project will cost $1.5bn, and when completed in the second half of 2016, will mean Qatar becomes the world’s second largest producer of condensates (after Saudi Arabia). Products will include naphtha, kerosene, diesel, propane, butane, and naphtha.

Separately, Qatar Petroleum has announced plans to invest over $11bn in redeveloping its Bul Hanine offshore oil field. The field is 120km off Qatar’s east coast, and currently produces around 40,000bpd of crude. Qatar Petroleum aims to more than double this to 90,000bpd by 2020 by drilling over 150 new wells, and re-injecting associated gas. The new oil will be exported, and the (sour) gas that is not re-injected will be processed to make other fuels. Qatar Petroleum has not disclosed whether it will have an international partner in the project, though it has been receiving advice from Total on field optimisation.

Further afield, Qatar has been busy securing new markets for its gas, and diversifying its asset base across a range of energy technologies. In April, Kuwait agreed to buy eight cargoes of LNG by the end of 2014 (details on exact quantities remain unclear). Kuwait needs gas for electricity generation, enhanced oil recovery and as a feedstock for its petrochemicals industry. Whilst it had 63 trillion cubic feet (tcf) of estimated reserves, and produced 548 billion cubic feet (bcf) of gas in 2012, difficult geology has prevented domestic supply keeping pace with demand, and the emirate started importing LNG in 2009.

In late May, E.ON and RasGas signed a three year contract for the supply of up to 70bcf of natural gas to the UK. The contract uses hub-indexed pricing, meaning the exact quantity of gas imported, and the timeframes, will emerge over the coming months and years.

Qatar Holding plans to invest $12bn in Turkey’s Afsin-Elbistan coal-fired power plant project (making Qatar the second largest investor in Turkey after Azerbaijan, which has invested $16bn in a refinery project). The Qatari investment follows visits of the Turkish Prime Minister and Minister of Economy in December and April.

Qatar’s Mirqab Capital (which is owned by former Prime Minister and head of the Qatar Investment Authority, Sheikh Hamad Bin Jassim al-Thani) has agreed a $1.55bn takeover of Heritage Oil. Heritage’s main assets are in Nigeria, where it produces more than 50,000bpd. But it also produces oil in Russia and explores in Papua New Guinea, Tanzania, Malta, Libya, and Pakistan.

Finally, during a visit by the Kenyan President, Qatar and Kenya signed an MOU for Qatar’s Nebras Power to develop a $400m electricity station in Kenya. The Qataris and Kenyans also signed an agreement to begin negotiations for the import of up to 1m tonnes of LNG per annum (equivalent to 48.7bcf) for a power plant in the growing port city of Mombasa.

Three New Refineries and a $100m Investment in Saudi Downstream Oil

The CEO of Saudi Aramco has said his company plans to invest $100m in downstream businesses over the next 10 years. Details will evolve over time, but a significant chunk of that investment will be taken up by three new refineries in Jazan, Satorp and Yasref, each capable of processing 400,000 barrels per day (bpd). Aramco is building the Jazan and Satorp refineries in partnership with Total and the Yasref refinery with Sinopec. Combined construction costs could reach $31bn. In addition, Aramco is expanding two petrochemical plants at Sadara (in partnership with Dow), and at Rabeigh (in partnership with Sumitomo). It also plans to develop a retail business within Saudi Arabia (currently, consumers buy fuels from independent distributors).

On a global level, Aramco’ equity in various refining projects give it a total refining capacity of 2.9mbpd, making it the world’s sixth largest refiner. The company plans to increase this to between 8 and 10mbpd (though hasn’t specified over what time frame). This fits neatly with its overall strategy of diversify its asset base away from Saudi oil and gas fields, and giving itself a stake in up and downstream projects elsewhere.

0.3 Supply Side policies

Huge Investment Opportunities in Saudi Arabia – But with Conditions

Abdullatif al-Othman, Governor of SAGIA, the Saudi Arabia General Investment Authority, speaking at the May Euromoney conference in Riyadh, highlighted $120bn of inward investment projects now underway in the Kingdom, and identified healthcare, transportation and energy services as the most promising sectors in a forthcoming investment development plan. He anticipated a new ‘fast-track’ online investment approval service for investors in certain categories, with approvals possible within a week. But he also indicated that in the future he expected foreign investors would be classified according to their contribution to job creation, expansion of the local economy, R&D and technology transfer. Those with the best record might then be rewarded with better land allocation, more favourable pricing of utilities, and increased eligibility for worker permits.

$21bn Spending Boost for Saudi Education

King Abdullah has approved a five year plan worth just over $21bn which will include hiring 25,000 new teachers and building 1,500 new nurseries. This in addition to the $56bn hypothecated for education in the 2013/14 state budget, which accounts for 25% of planned state expenditure.

There has been a steady drive in recent years to shift the emphasis of education in Saudi Arabia towards more practical subjects such as science and engineering. This new money, and the recent appointment as education minister of a moderniser, Prince Khaled al-Faisal (whose father King Faisal pioneered modern education in KSA), is intended to ensure that young Saudis are better prepared than ever to contribute to the Kingdom’s growing non-oil economy.

Saudi Arabia Refines its Saudisation Quota System

As memories of last year’s crackdown on illegal foreign workers begin to fade, the Saudi authorities have begun to focus on other aspects of their Saudisation policies. The core aim remains the same: get more Saudis into work, without reducing short term economic output unacceptably.

The most significant developments have been proposals to allow companies that have met their Saudisation quotas to hire additional foreign workers, and for workers employed by these companies to transfer their sponsorship between them without seeking permission from their employers. This latter proposal would tend to raise the cost of hiring foreigners, reducing their cost advantage relative to Saudis.

Separately, the Ministry of Labour has begun a crack down on Saudi employers attempting to flout the new rules. They identified violations in almost a third of the 150,000 work places they visited in the last 12 months, with the more serious examples involving the theft or misuse of the identities of Saudi nationals to meet Saudisation targets. New penalties for Saudi employers flouting the rules include up to five years in prison and a $2.67m fine. Saudis who fail to pay their domestic workers on time will also now be hit with fines and sponsorship bans.

But the Saudi authorities have been relying on carrots as well as sticks to encourage foreign workers to register themselves, and employers to press on with the process of replacing foreigners with citizens. Foreign workers are now able to enrol in the state vocational insurance scheme and the Saudi Human Resources Development Fund has offered to help firms pay up to 50% of new Saudi workers’ salaries.

Overall, the crack-down and quota system seem to have had some effect. The Deputy Minister of Labour recently stated publicly that the proportion of Saudis employed by the private sector had risen from 10% in June 2011, to 15% in early 2014 (bringing the total number of private sector employees to just over 1.5m). The increase in participation has been particularly marked among women, whose number in the private sector increased from 55,000 in 2009 to 400,000 in April 2014. It’s difficult to judge how much the Kingdom’s growing population and family financial pressures contributed to these increases. And with a total population of nearly 30m, Saudi Arabia still has a considerable way to go. But these latest developments are further evidence that the Saudi economy is moving towards a more sustainable productive base.

UAE Passes SME Law

The UAE has passed a new law to support the growth of small/medium enterprises (SMEs) and boost entrepreneurship in the country. The law, on which the Government started working in 2009, requires federal government entities to allocate at least 10% of their purchasing, servicing and consulting budgets to SMEs. Furthermore, SMEs will have increased access to finance from the Emirates Development Bank and will be granted land for industrial or agricultural purposes.

SMEs in the UAE (which are owned predominantly by expats) account for 92% of all companies registered in the UAE, and could significantly accelerate job creation. It is too early to judge whether the new law will help deliver the government’s target of raising SMEs’ contribution to non-oil growth to 70% by 2020 (it stood at 60% in 2012).

0.4 Disclaimer

The purpose of the FCO Country Update(s) for Business (”the Report”) prepared by UK Trade & Investment (UKTI) is to provide information and related comment to help recipients form their own judgments about making business decisions as to whether to invest or operate in a particular country. The Report’s contents were believed (at the time that the Report was prepared) to be reliable, but no representations or warranties, express or implied, are made or given by UKTI or its parent Departments (the Foreign and Commonwealth Office (FCO) and the Department for Business, Innovation and Skills (BIS)) as to the accuracy of the Report, its completeness or its suitability for any purpose. In particular, none of the Report’s contents should be construed as advice or solicitation to purchase or sell securities, commodities or any other form of financial instrument. No liability is accepted by UKTI, the FCO or BIS for any loss or damage (whether consequential or otherwise) which may arise out of or in connection with the Report.