Dubai. Abu Dhabi. Bahrain. And, of course, Saudi Arabia. The two emirates this year issued debt for the first time in years. So did Bahrain. Saudi Arabia stepped up its debt issuance. The moves are typical for the oil-dependent Gulf economies. When the going is good, the money flows. When oil prices crash, they issue debt to keep going until prices recover. This time, there is a problem. Nobody knows if prices will recover.
In August, Abu Dhabi announced plans for what Bloomberg called the longest bond ever issued by a Gulf government. The 50-year debt stood at $5 billion, and its issuance was completed in early September. The bond was oversubscribed as proof of the wealthiest Emirate’s continued good reputation among investors.
Dubai, another emirate, said it was preparing to issue debt for the first time since 2014 at the end of August. Despite the fact the UAE economy is relatively diversified when compared to other Gulf oil producers, it too suffered a hard blow from the latest oil price crash and needed to replenish its reserves urgently. Dubai raised $2 billion on international bond markets last week. Like Abu Dhabi’s bond, Dubai’s was oversubscribed.
Over subscription is certainly a good sign. It means investors trust that the issuer of the debt is solid. But can the Gulf economies remain solid by issuing bond after bond with oil prices set to recover a lot more slowly than previously expected? Or could this crisis be the final straw that tips them into actual reforms?
No economy, especially not the ones dependent on a single export for most of its budget revenues, can rely on borrowing for long-term survival, let alone growth. In fact, the growth prospects of the Gulf economies are dimming, Reuters’ Davide Barbuscia wrote in a recent analysis of the region. Gulf governments are doing what they have always done: cut public spending and borrow. This time, however, the crisis is like no other before it, and these governments may find themselves in a tight spot while they wait for prices to bounce back.
The problem is that public spending is the main growth driver in the Gulf economies, Barbuscia wrote, quoting the chief economist of Abu Dhabi Commercial Bank. If public spending falls, so will consumption and, therefore, growth. This is already happening and, what’s worse, it is happening across industries.
Earlier this month, IHS Markit said, as quoted by Arabian Business, that non-oil private sector activity in Saudi Arabia and the UAE had fallen in August below 50—the figure that separates growth from contraction. That was after this indicator had registered improvement in the previous month despite still low oil prices.
All Gulf economies—except Qatar—are expected to stay or swing into budget deficits this year, according to the International Monetary Fund. Saudi Arabia, the biggest economy in the region, is seen faring the best, with a deficit of 11.4 percent of GDP, and Oman faring the worst, with a deficit of 16.9 percent. Deficits happen. There is nothing extraordinary about them. What is extraordinary is the lack of wiggle room for the local governments. Investor interest in their new bonds may have been strong, but how likely would it be to remain strong for further debt issues if prices continue hovering around $40 a barrel? This is much below the Gulf economies’ breakeven levels, even the lowest ones. Saudi Arabia’s breakeven alone, according to the IMF, is $76.10 per barrel this year. It could fall to $66 next year, but this will still be too high for comfort with Goldman optimistically projecting Brent to hit $65 a barrel next year.
In what is perhaps a cruel twist, this unprecedented situation is stifling the Gulf economies’ attempts to diversify their economies away from oil. This is incredibly obvious in Saudi Arabia, which had the ambitious goal of becoming a diversified economy by 2030. The goal, however, was to be financed with money from oil sales, and these collapsed this year as the pandemic spread globally. Vision 2030 may well be on its deathbed as the Kingdom, which is the Middle East’s largest producer of oil, grapples with the drop in oil revenues that has promoted a tripling of VAT, a hefty cut in public spending, and the removal of state subsidies for public servants.
Other oil producers in the Gulf are also cutting public spending because this is pretty much the only thing they can cut, along with privileges for citizens, which is unlikely to be a popular move. Spending cuts and loans are the name of the Gulf game amid the crisis. The risk with this game is that if prices do not recover soon, it could turn into a vicious circle or, rather, a vicious spiral that could destabilize the whole region. Maybe these economies need to try a new playbook, one that prescribes actual economic reforms to make them more resilient to oil crises.