Economic Update: Middle East

Economic Update: Moderating expansion amid global uncertainties

• GCC: Regional economies set to expand but at a slower pace
• UAE: Economy enters 2023 on a solid note
• Qatar: Slowing recovery feeds into lower inflation in 2023

GCC: Regional economies set to expand but at a slower pace

• Our Middle East forecast has been revised down slightly, to 2.6%.
• GCC countries have entered 2023 with strong momentum
• Sticky housing inflation slows the pace of disinflation

We continue to expect a weak H1 for global activity and a challenging year as a whole, even though recent data suggests some key advanced economies may be able to avoid recession. In comparison to the global trends, the outlook for the Middle East is stronger, but the pace of GDP growth in the region will more than halve to 2.6% this year (0.1pp down on three months ago), from about 6% last year. The near-term outlook will remain constrained by high inflation and higher borrowing costs, which will weigh on demand and economic activity.

The slowdown in the GCC will also become more pronounced as agreed oil production cuts and tighter policies take their toll, despite continued expansion. The latest Purchasing Managers’ Index (PMI) readings show the GCC entered 2023 with strong momentum, supported by healthy demand and sentiment even as slower global growth weighs on export orders. With growth performance proving stronger than we had expected at the end of last year, particularly in Saudi Arabia and the UAE, we have nudged up our 2022 estimate for the GCC to 7.5% and 2023 to 2.8% (we forecast expansion of 7.1% and 2.5%, respectively, three months ago). Recently released data revealed that the Kingdom's economy grew by 8.7% last year, making it one of the fastest growing economies in the world. Meanwhile, protests, sanctions, currency pressures and inflation will drag down growth in the rest of the Middle East region.

We've lowered our commodity price estimates, with Brent forecasts now seen averaging US$85pb this year, against our forecast of US$92.1pb three months ago. Crude oil prices have been weighed down by continued strength in the dollar and concerns about prospects for global demand, though China’s surprise reopening after rolling pandemic lockdowns has offset some of the downward pressure. OPEC countries have kept to the production targets agreed in November and, barring significant tightening in the oil market, we expect the quotas to be maintained in the group’s next meeting in April and likely beyond.

OPEC policy is again weighing on GCC energy output growth, which we expect to slow to just 0.5% in 2023. The oil sector was the key engine of last year's exceptional GDP performance, rising by over 11%, led by production gains in larger GCC producers.

With oil sector gains exhausted, non-oil activity is again leading the GCC recovery. The overall picture painted by the latest PMI surveys, the most timely indicators of the health of the non-oil sector, is positive, helped by strong sentiment and contained price pressures. We are optimistic about Saudi Arabia, where the National Investment Strategy underpins growth, and investment outlook and indicators of consumer spending point to an ongoing strong recovery. Meanwhile, the UAE's policies in support of expansion in key sectors, embedded in the "We the UAE 2031" vision, will drive growth.

The transition to net zero will remain a key diversification theme in 2023, as the UAE prepares to host the COP28 climate summit, and beyond. The UAE was the region's first to lay out its green plans, committing US$163bn in investment to turn net zero by 2050. Saudi Arabia followed with its green initiative worth US$190bn, with 10 clean energy projects highlighted in the 2023 budget. Recent green bond issues by the Saudi sovereign wealth fund (PIF) highlight its role in helping the Kingdom achieve its net-zero goal by 2060 as part of its growth and diversification strategy.

Travel and tourism will remain supportive of non-oil activity. We expect the recovery in inbound travel to continue in 2023, as regional countries invest in tourism development opportunities. That said, we don't expect a full recovery to 2019 levels until 2024, particularly as the stronger dollar has made the region more expensive for visitors.

We expect budget spending to provide crucial support to the non-oil sectors this year. Given the dependence of regional budgets on oil and gas revenues, their financial positions improved considerably in 2022. Governments approached the energy windfall with caution, using it to replenish reserves and pay down debt, with only a limited increase in spending. With commodity prices having eased in recent months, this caution will endure, even though prices remain above most countries' fiscal breakeven levels, allowing most governments to generate enough revenue to keep budgets in surplus. We expect a surplus of about 5% of GDP for the GCC region as a whole, similar to 2022.  

Stickier-than-expected inflation remains a key downside risk to non-oil activity. Average inflation rates are generally going down, amid a decline in global commodity prices, but there are also several country-specific factors at play, including a post-World Cup reversal in inflation trends in Qatar and a high starting base from doubling the VAT rate in Bahrain. By contrast, inflation in Saudi Arabia is inching higher, pushed up by rent inflation. We continue to forecast average GCC inflation to recede to 2.4% this year, from 3.4% in 2022, but domestic price pressures, particularly from housing, will limit the pace of the decline.

Meanwhile, economic resilience in the US will necessitate more rate hikes by the Fed and we expect most central banks across the GCC to follow suit even as regional inflationary pressures ease. The effects of aggressive policy tightening over the last 12 months will continue to filter through to economic activity, underpinning our view of non-oil GDP growth in the GCC slowing to 4% this year from 5.7% in 2022.

Elsewhere in the Middle East, our growth forecasts for 2023 have generally moved down. We have lowered our forecast for GDP growth for Iran to 1.6% (from 2.0% three months ago) as widespread civil unrest continues to disrupt business activity and consumer spending. That said, no official data has been published since the protests began in September 2022, making estimations of the impact on short-term activity difficult. Lebanon entered 2023 without a president or government, leaving it in a power vacuum. This implies a continuation of the economic crisis, with the formal devaluation of the currency reinforcing triple-digit rates of inflation and widespread poverty. We expect the economy to stagnate this year; we had expected a return to growth three months ago. For Iraq, we have maintained our 2023 GDP growth forecast at 4.3%, expecting the recovery to slow from the projected 7.7% last year, owing to lower oil output and prices.

UAE: Economy enters 2023 on a solid note

• Economy set to grow by 3.2% this year, half the rate of 2022
• Medium-term focus will underpin non-oil sector growth of 3.9% this year
• Accommodative fiscal policy will continue to support GDP growth

The UAE economy entered 2023 on a solid note, and we expect growth to remain robust this year, albeit slowing compared to 2022. The slowdown in growth will be largely driven by OPEC+ policy, which reverses some of the past year's increase in oil production. Our view remains that UAE oil production will broadly flatline this year, following a rise of nearly 19% in 2022. Overall, GDP will grow by 3.2% this year, down from 7.9% in 2022.

We expect non-oil GDP growth to expand by 3.9% in 2023 after growing 6.6% in 2022. High-frequency data, as well as anecdotal evidence about activity, indicate the non-oil economy continues to perform strongly. The PMI reading for the non-oil sector was 54.3 in February, representing a three-month high, having been firmly in expansionary territory through 2022. The current rise in activity is also leading to labour market improvement.

Meanwhile, real estate continues to perform strongly. Sale prices of residential homes had been falling for several years, but the market is now rebounding, with Dubai property sales hitting decade highs in recent months. House prices are also increasing in Abu Dhabi. We expect a positive dynamic to continue in the real estate market amid strong demand. However, as new supply comes online during 2023, it is likely this will contribute to a gradual moderation of the increase in rent.

Tourism is also still recovering. Dubai is again among the world's busiest international airports, and passenger numbers rose 67% y/y in Q4 2022 to their highest levels since 2019, receiving a boost from the FIFA World Cup in Qatar. We expect tourism to continue to recover and forecast that international visitors will increase by 20% in 2023, surpassing pre-pandemic levels.

Recent trade agreements between the UAE and Israel have significantly lowered tariffs – leading to more than a doubling of bilateral trade to $2.6bn in 2022 from $1.02bn in 2021. The agreements followed the signing of the Abraham Accords in 2020, which established full diplomatic relations between the UAE, Bahrain and Israel. That said, exports between the countries still amount to less than 1% of each country's totals, so further strengthening in bilateral trade is likely.

The authorities are implementing policies to encourage the development of new sectors, such as the digital economy, fintech and creative industries, as well as scientific innovation, developing new energy sectors and education. These are part of the "We the UAE 2031" vision. Dubai has announced the Dubai Economic Agenda, "D33", with ambitious plans of economic growth, foreign direct investment (FDI), and foreign trade. Meanwhile, Abu Dhabi's industrial strategy seeks to double the size of manufacturing in the Emirate by 2030 and Abu Dhabi National Oil Company (ADNOC) has ramped up investment in oil production and new energy sources such as hydrogen.

Despite oil prices weakening and OPEC+ cutting production quotas, revenues from the oil sector will remain robust and enable the government to support overall GDP growth this year, while also running a budget surplus of 3.7% of GDP, down from 4.2% of GDP in 2022.

Nationwide inflation data have been unavailable for over a year now, but recent data for Dubai confirm inflationary pressures have eased from last year’s peak. We expect disinflation to continue in the coming months and for UAE inflation to ease to 2.1% this year, down from 5.6% in 2022.

Notwithstanding the decline in inflation, UAE’s central bank will continue to raise its policy rate, mirroring the path taken by the US Fed. We think a 25bps hike in March is likely with one or two more to follow. That will take the cumulative increase in rates to about 500bps in a little over a year, putting pressure on borrowing costs and weighing on lending.

Qatar: Slowing recovery feeds into lower inflation in 2023 

• Recent data indicate a slowing recovery path in 2023
• Public spending will remain supportive of non-oil sector growth, but pace will halve to 3.3%
• Inflation is moderating and should stabilise around 2%

Our 2023 GDP growth forecast for Qatar is still unchanged at 2.7%, only slightly higher than the consensus, at 2.6%. Qatar growth likely exceeded 4% in 2022, marking the fastest pace since 2015 and leaving the economy the largest it has ever been.

We expect the non-oil sector to lead the expansion this year, though the pace of activity will nearly halve, to 3.3%, from over 6% in 2022. The February PMI reading showed business activity expanding for the first time since September last year, led by stronger demand in the wholesale and retail sector. Firms are feeling optimistic about growth over the coming year, with the 12-month ahead outlook soaring to a 41-month high.

Though much of the activity last year was linked to the World Cup, the preparations for the event contributed to medium-term diversification goals through strong gains in construction and real estate (via residential and leisure facilities), transportation (via upgraded transport links, including a new airport and Doha Metro) and financial services. These gains will slow in the coming year and some areas of the economy, such as accommodation and food services, may see a dip in the near term, but we think the ongoing expansion of gas capacity and the pipeline of planned projects will draw FDI and provide support to non-oil activity. Further reforms will also play a role in attracting FDI as Qatar keeps up with growing competition in the region.

Tourism will remain a key driver of non-oil activity. According to the latest figures, there were over 600,000 tourist arrivals in December, the strongest monthly outcome on record. The influx took the 2022 total to 2.56m, more than four times the 2021 figure overall. We expect the number of arrivals to remain high this year, thanks to events which include the Asian Football Cup and Formula 1 Qatar Grand Prix, and to rise further in the medium-term.

Energy prices will remain elevated, albeit easing from 2022 levels, providing support to Qatar's macroeconomic environment. Due to higher prices in main export commodities, Qatar’s trade surplus widened to QAR355.2bn ($97.6bn) last year. As oil and gas prices remain above levels from early 2022, the external position will only deteriorate marginally this year, with the current account surplus little changed from 17.1% of GDP in 2022.

Public spending will remain supportive of growth. High commodity prices underpinned a 54% y/y rise in budget revenue in 2022, pushing Qatar’s budget surplus to QAR89bn, the biggest since 2014. Qatar’s 2023 budget, based on an oil price of $65pb, projects a surplus of QAR29bn, equivalent to 3.4% of GDP and a reduction in spending. Our forecast for Brent is at US$85pb in 2023, significantly above the budgeted price. On that basis, we anticipate a modest rise in spending and a surplus of QAR82bn (9.7% of GDP) this year.

Some of the key drivers behind the rise in Qatar’s inflation in 2022, particularly recreation and culture prices, are reversing now that the World Cup tournament has finished. Inflation registered a monthly drop of 1.8% in January, the biggest in the current series, dragging annual inflation down to 4.2%, from 5.9% in December. Although housing and transport prices continue to rise, average inflation will ease substantially this year, to 2.3%. This is less than half the average rate of 5% in 2022.

Qatar's central bank typically follows the US Fed rate policy, but the paths diverged in February for the first time this cycle, with Qatar skipping the rate hike delivered by the US Fed. With inflationary pressures easing, Qatar's monetary authorities will be hesitant to tighten policy further, but we don't expect rate cuts before 2024.