Following a prolonged stint of explosive growth, GCC policymakers have been landed with the task of stabilising and diversifying the region’s economy. Having accumulated a vast pool of wealth in recent years, leaders must now identify economic drivers that are separate from oil, and put their funds to use in laying the foundations for sustainable growth. Here we take a look at some of the region’s biggest challenges and opportunities, and highlight the companies that have played an instrumental part in the GCC’s path to prosperity in the World Finance GCC Awards 2014.
“Higher world oil prices have raised the revenues of Gulf oil producers to unprecedented heights,” says Atif Kubursi, Professor of Economics at McMaster University in Canada. “Unfortunately the oil fortunes have not led to diversified and productive economic structures, as could and should have been realised given their enormous wealth. The GCC countries are more rich than they are developed.” The GCC boasts the largest proven oil reserves of any region worldwide, representing little over 35 percent of the world’s total at approximately 486.8 billion barrels. Discussions of the area’s prosperity, therefore, are often intertwined with developments in oil and gas, or fluctuations in the commodity’s price.
Oil prices reached an all-time-high of $147.27 a barrel in July 2008, and GDP in the GCC region increased threefold in the period from 2002 to 2008, throughout which demand for oil was strong and geopolitical stability much improved. However, growth in the region’s oil sector slowed to a crawl in 2013, finishing the year at 0.4 percent. While the sector is expected to post closer to 1.5 percent growth in 2014, the unimpressive figures serve as a sobering reminder of the GCC’s unsustainable economic makeup. “The Gulf countries remain today, as they were decades ago, principally undiversified and heavily dependent on the core oil sector,” says Kubursi.
Time for new revisions
Although the model has served the region well so far, evidence suggests that the commodity’s prospects are growing increasingly uncertain, and the region’s production rate could level out by 2025, contract by 2055, and go into sharp decline before the turn of the century. For instance, demand for oil plummeted soon after the financial crisis took hold, exposing the weaknesses of the region’s overreliance on hydrocarbons, and prompting policymakers and investors alike to rethink the GCC’s economic makeup.
“Were oil supplies everlasting, and the demand for oil strong and continuous, economic diversification would be pointless,” wrote Kubursi in his 1984 text, Oil, Industrialisation and Development in the Arab Gulf States. Unfortunately for the Arab Gulf states, hydrocarbon reserves are not, and the region’s huge oil and gas industry, while prosperous, has long starved the economy of the diversity it so needs.
What’s more, the shale revolution and the increasing viability of unconventional hydrocarbons is squeezing prices further still, as the geographical domination of oil production steadily moves away from the Middle East. While GCC producers – particularly Saudi Arabia – are keeping consumers well stocked in the event of supply disruptions, the wealth has so far failed to translate into jobs and domestic gains.
Consequently, economic diversification has come to be seen as one of the most important considerations for the Gulf states in cementing a more sustainable means of economic growth, as the region – for the first time in a while – looks beyond oil.
For all of the GCC countries, oil revenues as a share of total budget revenues stand above 80 percent, according to research led by BNP Paribas, representing a dangerously high dependence whichever way you look at it. The downturn in the global oil market, however, saw investments wane and development slow, and governments in the six Gulf states have since taken pains to transform their national development strategies and look to sectors aside from hydrocarbons.
Underpinned by budget surpluses and rising oil prices, spending and private sector conditions have improved in the non-oil sector of late and lifted the region’s outlook ahead of what it was. Qatar National Bank, for one, estimates that economic growth for 2014 will come to 4.7 percent, up from 3.7 the year previous and backed primarily by advances in the non-oil sector and accommodative fiscal and monetary policies.
UAE storms ahead
One country where non-oil sectors are far outperforming oil and gas related developments is the UAE, where manufacturing and hospitality have emerged this year as key growth drivers. With easy transport links to Africa, India and Central Asia, the UAE and Dubai in particular, is an attractive destination for manufacturers looking to tap opportunities in any number of emerging markets. These manufacturing opportunities, combined with record high hotel occupancy rates and air passenger traffic figures, mean that the country is no longer dependent on oil in quite the same way it has been.
Another sector exhibiting growth in the Gulf is banking, which has posted a loan growth average of 10.6 percent for this year. Led most notably by Saudi Arabia, Qatar and the UAE, the region’s banking sector is currently in the midst of adapting for a new competitive landscape and enjoying the benefits that come with solid economic fundamentals. “The pre-crisis heyday of growth for all GCC countries is gone, leaving behind a more diverse banking landscape. Triggered primarily by macroeconomics, demographics, and regulation, the new landscape is here to stay, and it is having far-reaching consequences on both strategic and operational levels,” according to an AT Kerney report entitled The New Reality of GCC Banking.
The GCC’s non-oil sector is forecast to hit six percent for this year, far and above comparative oil-related growth and a percentage point higher than previously anticipated, according to KFH Research. This growth is due largely to the on-going expansionary fiscal policy in the region, with government spending for the region having risen approximately six to seven percent through 2013 and 2014. What’s more, inflation throughout the GCC remains relatively low, which in many cases is approximately a little over two percent (see Fig. 1). Monetary policy is also healthy, with key lending rates in the GCC standing at two percent or lower.
The business environment in the GCC countries is also much improved on years passed, and, according to the World Bank’s 2014 Doing Business report, the region boasts the most hospitable climate in the Middle East and North Africa. Most of the Gulf countries ranked highly in this year’s report, with the UAE and Saudi Arabia coming in at 23 and 26 respectively. Nonetheless, other sources have been quick to point out that there exists a fair few challenges to first overcome before the GCC cements its status as a fertile ground for SMEs and investors.
“The overall picture is one of uneven progress. On one level, investors are welcomed: the countries are open to foreign ownership and red tape on things like construction permits has been cut. But on another level, there are policies restricting foreign labour and widely varying business regulations, which can stall projects and growth. These two contrasting messages from GCC countries present a conundrum for investors,” writes Aviva Freudmann, Editor of the Merck Serono-sponsored report entitled The business environment in Gulf Co-operation Council countries.
Remaining challenges
Regardless of the impressive rate at which the non-oil sector is expanding and the improved climate for doing business, the challenges of fiscal reform and job creation remain for many in the region. Although the oil sector has contributed vast sums to the region’s GDP and oil exports, this has largely failed to translate into well-paying jobs and is affecting the regions’ current account balance (see Fig. 2). Therefore, structural reforms are necessary to target inefficient bureaucracy and corruption, alongside uncompetitive tax systems, and subsidised energy that serves only to handicap the non-oil economy.
The IMF has warned that without more private sector jobs there could be a one million-job gap shared between the Gulf Arab states before 2018. Owing to an overreliance on the oil sector, the region’s public sector is growing increasingly crowded, and private companies are expected to generate only 600,000 jobs in the next five years, far short of the 1.6 million required. Another issue is that 88 percent of government jobs go to nationals, whereas just shy of 70 percent of private sector jobs go to expatriates, starving nationals of the employment they so need.
“The massive expatriate labour imported remains heavily biased toward cheap Asian workers. There is little incentive to source knowledgeable workers or create new production clusters outside oil and the high consumption economy it engenders,” says Kubursi. However, governments in the six member states are beginning to introduce laws that encourage private entities to employ nationals ahead of expatriates.
The abundance of foreign workers is symptomatic of the region’s failure to develop critical skills and inspire a strong work ethic among its citizens, according to one Booz&Co report entitled Meeting the employment challenge in the GCC: the need for a holistic strategy. Educational deficiencies alongside a lack of vocational training, and a lack of opportunities for nationals are also compounding the problem.
“Overall growth prospects in the region remain considerably below what is needed to make a dent in the high unemployment, particularly among youth,” said the IMF’s Middle East Department Director Masood Ahmed. “Many of the necessary reforms are difficult to implement during political transitions. Yet some can be pursued immediately and would help improve confidence. For example, streamlining business regulations (to start a business, register property, or obtain permits and electricity), training the unemployed and unskilled, improving customs procedures, and deepening trade integration.”
Irrespective of the challenges that remain for GCC governments and private enterprises, the region’s impressive growth rate has attracted foreign investment in abundance. Playing host to some of the world’s largest hydrocarbon reserves (see Fig. 3), international investors see the region’s oil sector as an assured return on investment, considering the rate at which oil prices have risen in years passed.
“Beyond oil, however, the complex and vitally important trade and investment relationship the GCC has with the world is less well known. New markets are being sought around the world for a growing range of non-oil goods and services, while, on the investment side, both the well-capitalised sovereign wealth funds and an increasing range of private investors have built up wide-ranging investment portfolios. Emerging markets, especially in Asia, are becoming increasingly important economic partners for the GCC,” reads one report by the Economist Intelligence Unit.
Central to the GCC’s improved investment landscape is the increasing economic clout of India, China and Sub-Saharan Africa on the world stage. To put the rise of emerging markets into perspective, findings presented by the Economist Intelligence Unit show that non-OECD global nominal GDP accounted for 16 percent of the total, whereas in 2015 the amount is projected to reach 41 percent. As emerging markets continue to gain in stature, many will be looking to the GCC as an accommodating environment in which to work and a crucial trading partner.
Provided that the six GCC states expand upon their economic make up and take advantage of their proximity to rapidly emerging markets, the region will stand at the forefront of global economic affairs. To celebrate the GCC’s transformation, World Finance pays tribute to the companies leading the region’s most impressive advances in the GCC Awards 2014.
