Economic Update: Middle East
The ICAEW Economic Update: Middle East, is a quarterly economic forecast for the region prepared directly for the finance profession.
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Q4 2019: The oil sector drag should abate in 2020.
- The Middle Eastern economy is expected to recover in 2020, following what’s shaping up to be the weakest performance on record this year. The improvement will be principally about Iran and Saudi Arabia, with a more modest pick-up elsewhere.
- Oil remains the dominant driver of growth in the GCC states which, given low-trending prices and ongoing output caps, will limit the upside for recovery in the year ahead.
- The outlook for the UAE remains promising, with Expo 2020 expected to boost the economy, in spite of ongoing weakness in non-oil activity.
Incoming data suggests the Middle Eastern (ME) economy remains weak in H2 and we now expect GDP to decline modestly this year, by 0.5%, down from growth estimated at 0.7% in 2018. Our forecasts point to some pick-up in 2020, to about 2.1%, as the two of the largest economies in the region, Iran and Saudi Arabia, accelerate after a dire 2019. Iran’s sanctions-induced contraction this year, which we estimate at 9.3%, has weighed heavily on the aggregate headline growth. Meanwhile, Saudi Arabia is barely growing, at only 0.1%, reflecting for the most part significant overcompliance with OPEC-led oil output cuts.
Weak global demand will constrain the scope for OPEC+ to relax current restrictions. OPEC’s next moves are uncertain and will be decided in the group’s 5/6 December meeting. As a minimum, members will have to roll-over the current level of cutbacks beyond March 2020, when they are currently set to conclude, to reinforce a floor under oil prices.Under the deal, producers pledged to cut 1.2m b/d of output (0.8m b/d from OPEC and 0.4m b/d from non-OPEC), and the actual cuts were some 36% more than this. Meanwhile the ongoing weakness in the global economy will keep a lid on oil prices, maintaining a key headwind for Gulf Cooperation Council’s (GCC) commodity-dependent economies. Following the attack in September on Saudi Arabia’s oil facilities that halted almost 5% of global oil supply, oil prices jumped by 15% in one day, the biggest climb in 30 years. But they swiftly fell back again, to around $60pb, as production was restored, underpinning our 2019 and 2020 oil price forecasts of $63.8 and $64.6pb respectively.
Oil sector dynamics will limit the upside for GCC GDP growth in 2020 though we see some recovery, with the region expanding by expanding by 2.1%, after 0.7% this year. Non-oil growth is also likely to improve to around 2.8% y/y, from an estimated 2.1% this year, supported by government spending. In Saudi Arabia, 2019 is shaping up to be a year of underspending according to the 2020 budget, but increased stimulus for households and industry, is providing a boost to non-oil industries as well as private consumption (the latter has already risen 4.4% y/y in real terms in H1).
GCC: Oil and non-oil real GDP
However, with lower oil exports depressing revenues, there is less opportunity to maintain stimulus. Spending restraint would weigh on near- and medium-term non-oil output growth estimates. This is especially true given the generally weaker sovereign balance sheets compared with a few years ago. Oil prices stand significantly below most producers’ fiscal breakeven levels this year – prices required to meet expenditure targets, while running balanced accounts. In the region, only Kuwait and Qatar can cover spending needs. For Saudi Arabia, for instance, we forecast the fiscal deficit will widen to 6.8% of GDP this year from 5.9% in 2018.
GCC: Government budget balance
By contrast, monetary policy is becoming more supportive. GCC banks have followed moves by the US Federal Reserve, which should be supportive of private sector activity. Kuwait’s central bank joined in the easing in October, having skipped the previous two cuts as the basket of currencies that the Kuwaiti dinar is calculated against allows some flexibility to deviate from the path carved out by the Fed.
Elsewhere in the region, several countries have experienced major protests, including Algeria, Egypt, Iran, Iraq and Lebanon, with levels of economic and political frustration growing in the face of corruption, inequality and mismanagement. In Lebanon, the unfolding economic crisis has reinforced the downturn, with the pace of economic activity easing further from the sluggish pattern of the last two years. We have therefore lowered our 2019 GDP growth forecast to just 0.1%, from 0.8% three months ago. The 1.4% forecast we have for 2020 looks overly optimistic against the backdrop of the evolving crisis even though it is significantly slower than the 2% we anticipated previously. In Iran, the government unexpectedly slashed the fuel subsidy by 50%, causing domestic energy prices to rise substantially. The additional cost burden, which comes at a time of crippling international sanctions and high inflation, has sparked violent protests across the country.
The outlook for the UAE remains fairly optimistic, despite current weak momentum in the non-oil sector. Overall, our 2019 growth forecast has been revised slightly down, to 1.9%, from 2.2% before, but we see stronger momentum in 2020, with the economy expanding by 2.2%. Unlike other countries in the region, the UAE has produced more oil this year compared to last, pumping at a steady pace of around 3.1m bpd, up from 3m bpd in 2018. The upsurge reflects for the most part double-digit growth in output in Q1 due to base effects of field maintenance in 2018. But overall this implies a positive contribution to growth from the oil sector, which has expanded by about 2.5% y/y this year, unlike a drag elsewhere. A gradual increase in UAE’s oil production capacity should see output rise further in 2020, albeit at a slower pace.
UAE: Real GDP growth
There are other reasons to be positive about the outlook. With a year to go to the Middle East’s first World Expo event, Expo 2020, there is expectation that this will give a boost to Dubai and the wider UAE economy. Investment is ongoing and it is hoped that Expo 2020 will attract 25m visitors (14m from overseas) in the six months it is open. We maintain our expectation that non-oil GDP growth will accelerate in 2020, to 2.8%. This is despite the ongoing weakness in the sector; non-oil growth has been below 1% y/y since Q3 2018 and the headline PMI activity indicator is stuck at the lowest level in nine years. While it has proved to be a rather poor barometer of non-oil activity, it points to persistently weak demand.
GCC: Purchasing managers’ index
The authorities have stepped in to support activity; both Abu Dhabi and Dubai are implementing fiscal packages, while the recent interest rate cut by the US Federal Reserve, followed by the UAE central bank given the dollar peg, should support private sector credit growth. But these measures are yet to have an impact on non-oil activity. Nevertheless, Expo 2020 is expected to provide a boost to non-oil activity, with some estimating a contribution of up to 1.5% of GDP.
The expansion in non-oil activity is slowly beginning to translate into stronger job creation, although at a modest rate. Total employment in the private sector increased by 1% y/y in Q2 2019, up from just 0.1% y/y in Q1. However, we note sector-specific variations in job creation. While total employment increased in 'other sectors’, which includes tourism and real estate, it declined in the remaining sectors, including construction, services and manufacturing. But despite some pick-up in real estate transactions and employment, residential home sales prices continue to slide in both Abu Dhabi and Dubai. Market conditions are unlikely to see much of a rebound in the remainder of 2019 and H1 2020, reflecting expected strong supply growth and still subdued demand.
The legacy of Expo 2020 is hard to estimate but the investment climate will remain positive − with infrastructure upgrades; the UAE being the top-ranking GCC country in the recent World Bank Doing Business update; the Dubai International Financial Centre in the top 10 global financial centres; and Lonely Planet listing Dubai as one of the key cities to visit. Indeed, Dubai appears to have attracted $12.7bn in foreign direct investment in H1 (an increase of 135% y/y) while tourist arrivals rose 3% in the same period to reach 8.4m.