UAE reaps the rewards of fiscal discipline

Published in MEED, 19 February 2017

Tough austerity decisions have been taken when needed, meaning the UAE has relatively little debt

The worst may now be over for the UAE economy. After a slowdown in 2016, the country looks to be in line for a modest rebound in activity in 2017, with Dubai expected to lead the way.

This is in part a reward for having taken tough austerity decisions in the past. As a consequence, the UAE’s fiscal position is relatively strong and it can reap the benefits from the recent rise in oil prices.

The improvements do not herald a return to the boom years, however, nor even the growth enjoyed in 2015, when the economy expanded by 3.8 per cent. Although estimates for last year vary, everyone accepts there was a downturn. London-based Capital Economics, for example, says the UAE’s GDP growth slowed to 2 per cent in 2016, but will recover to 2.5 per cent this year. Dubai-based Emirates NBD reckons growth dropped to 3 per cent in 2016, but is forecasting a pick-up to 3.4 per cent this year.

However, not everyone expects an acceleration. Ratings agency Moody’s Investors Service suggests growth will be lower this year, at 2.1 per cent, compared with 2.3 per cent in 2016.

Comparative safety

In any case, the country still looks to be in better shape than most of its regional peers. The federal government has been running a budget deficit since 2015, but has relatively little debt and a declining (albeit still high) reliance on oil revenues.

“The UAE was more proactive than a lot of the other Gulf countries when it came to fiscal consolidation,” says Jason Tuvey, Middle East economist at Capital Economics. “It deregulated fuel prices before the other Gulf countries and pared back its spending. The budget deficit didn’t get to the double-digit levels of Saudi Arabia; government revenues are a bit more diversified and they’ve got enormous savings. So the emirates are in a good position compared with the other Gulf economies.”

Expectations for this year have been bolstered by positive data from the purchasing managers’ index (PMI), a measure of non-oil private sector activity. In January, the index rose to 55.3 points from 55 points a month earlier, helped by a pick-up in new orders (anything more than 50 points indicates economic growth).

“We’ve seen signs that global growth is strengthening,” says Tuvey. “The UAE is well placed to benefit from this as a trading and logistics hub, and its export orders seem to be picking up.”

In contrast, the oil sector seems likely to have a tougher year. Emirates NBD reckons increased crude production last year contributed 0.7 per cent to its estimate of 3 per cent headline growth. The Opec deal to cut output for six months, which took effect in January, means that will not be repeated this year, although the deal has at least contributed to a rise in oil prices, which boosts sentiment. The key question is whether lower crude production will be offset by a strong enough rise in non-oil activity over the course of the year. There are some indications it will.

Preparations to host Expo 2020 will help drive economic activity in Dubai. The emirate’s 2017 budget includes provision for a 27 per cent increase in infrastructure spending to AED8.1bn ($2.2bn), according to Moody’s, which will contribute to a budget deficit of AED2.5bn, or 0.6 per cent of the emirate’s GDP. The money is being poured into expanding Dubai’s transport network and is happening alongside continued investment in real estate.

Mathias Angonin, an analyst at Moody’s, says the increased infrastructure spending “will support Dubai’s construction industry and real GDP growth at a time when most GCC governments are reducing spending and economic activity continues to slow in the region”.

Emirates NBD says Dubai outpaced the UAE as a whole last year, with growth of 3.5 per cent. For this year, it forecasts the emirate’s economy will expand by 4 per cent. “We expect investment in infrastructure to underpin Dubai’s growth over the next few years as the country prepares for Expo 2020,” says Khatija Haque, head of Middle East and North Africa research at the bank.

Contrasting performances

Dubai’s robust performance contrasts with the situation in neighbouring Abu Dhabi, which remains heavily exposed to the changes in the oil market. Growth there is expected to be lower this year. Even so, the impact of Expo 2020 and the related investments in Dubai’s infrastructure and hospitality sector should have a favourable impact on the country as a whole.

“We’re expecting Dubai to grow a little faster than Abu Dhabi, mainly because Abu Dhabi still has a chunk of its economy dependent on oil and the Opec agreement means oil production is unlikely to rise as much as it did last year,” says Haque. “Last year that was a big driver for Abu Dhabi’s growth and this year it’s going to be more of a headwind.

“When you look at the investment [in Dubai], expanding the airport and the road infrastructure is going to benefit the other emirates as well. Growing the tourism sector, the hospitality sector and attracting more visitors to Dubai is a strategy that goes beyond 2020 and that’s ultimately going to benefit the entire country, not just Dubai.”

There are some potential difficulties that could alter the trajectory of the UAE economy, however. Should US President Donald Trump decide to tear up the Iran nuclear deal or force a renegotiation, that would undermine the benefits the UAE could gain from stronger trade with an Iran more fully engaged in the world economy. The expanded sanctions measures imposed by the US on 3 February highlight the risk, although they should not cause much direct impact.

“The fact that the list does not include Iranian financial institutions, government ministries or major Iranian corporations means these measures should not fundamentally upset the sanctions relief provided under the Iran nuclear deal,” says Adam Smith, a partner at US law firm Gibson, Dunn & Crutcher and a former senior adviser at the US Treasury’s Office of Foreign Assets Control, which manages Washington’s sanctions programmes.

Sluggish growth in the rest of the GCC could also hold back the UAE’s tourism, logistics and real estate sectors. In the domestic economy, the deregulation of petrol prices means any rise in oil prices will be reflected in higher energy and transport costs, which will feed through to higher inflation and could dent consumer spending.

Overall, however, the outlook is relatively benign, and certainly more positive than in many other corners of the Gulf. “It’s slowly getting better,” says Tuvey. “Austerity is easing significantly this year and global growth is picking up, so there are some good signs for the UAE.”