GCC economies cloudy.
Following the drastic drop in oil prices in 2015, the macro economic environment has changed dramatically. This has had wide-ranging consequences across the GCC region and has radically altered the financial landscape.
Carla Slim, Economist Middle East North Africa, Standard Chartered Bank, addressed this during a recent speech at the Gulf Bond and Sukuk Association's Debt Capital Market conference held in Oman.
"The first direct impact of lower oil prices we have seen for 2016 has been on the oil revenue front. Government revenue has taken a hit, and this led to large fiscal deficits in the region for 2015 and also large fiscal deficits in 2016 as we move forward. The deficits have come in different structured shapes and different sizes as well.
The reality is that the decade of high oil prices is behind us and we need to adjust to the new reality of lower oil prices. Large fiscal surpluses, large current account surpluses and a very rapid accumulation of savings are a thing of the past," she said.
In order to finance these large deficits accumulated in 2015, governments across the region took a diversified approach through tapping some of their savings and issuing debt. Tapping savings was an immediate solution to the problem of financial deficits but, going forward, governments are likely to rely more heavily on issuing more debt, lowering spending and attempting to increase income. There will be further project delays and increasing project prioritisation as the liquidity environment tightens and governments look to decrease expenses.
"What have we seen as responses to lower oil prices is subsidy reforms in terms of fuel, in terms of utilities, water and electricity, and in some countries like Bahrain, even food. More project delays, more project reassessments, and more project prioritisation can be expected... Also in the medium term we are expecting the introduction of VAT [value added tax], and maybe in the medium to long term we can expect the introduction of income tax. But even in the short term we are even seeing indirect taxes increasing--all of these responses will boost revenues and increase government revenue. Government spending can be contained immediately but boosting income will take longer," Slim said.
Slim also talked about the impact that lower oil prices have had on the GCC's pegged currencies.
"Now the spotlight in financial markets is focusing on the currency forwards markets. Financial markets feel that weaknesses and relative vulnerabilities of GCC economies today need to be reflected in price performance, and since the market cannot express this weakness in the spot market, it has taken it to the currency forward market to try to express these vulnerabilities. The forwards market is pricing in a devaluation, it is pricing in a move away from fixed currency exchange rates. Our view from our banks perspective, however, has been and still is that the central banks of the region are committed to their fixed exchange currency regimes at the current rate," she said.
"Our own view is that central banks still have adequate foreign currency reserves to be able to maintain their peg. Yes we've seen Saudi Arabia has lost more than $100 billion in foreign currency reserves year-to-date since beginning of lower oil prices, but for other countries, such as Oman for example, this argument does not hold because Oman's foreign currency reserves have remained broadly stable and if anything in 2015 have increased slightly. As of January, our GCC-wide view is that the region has more than $2.5 trillion in savings, whether counting central banks foreign currency reserves or sovereign wealth funds savings. So we think they are more than able to maintain their currency fixed to the dollar at the current rate, as long as they deem it appropriate for their own economies."
A devaluation of local currencies will not necessarily help improve the export prospective for regional economies either. Standard Chartered believes oil, the GCC's largest export by far, will not be significantly more attractive to buyers should local currencies become devalued. In addition, a devalued currency will increase the cost of the goods and services which the region imports, which may result in a net cost for the economy in question.
"We try not to spend too much time contemplating [the central bank's] commitment [to their dollar peg] because the day the central bank changes their policy there will be no forward guidance; the central banks can remain openly committed to their currency regimes and then change their minds without giving a heads-up to the markets," Slim said. "The implications this year of the challenges combined with responses is that fiscal deficits will remain large and they will remain wide, liquidity will be tight and growth will slow. Together this is a slightly more difficult combination in 2016 than what we have seen in 2015, times are tougher but opportunities have definitely not dried up, if anything they have become more rewarding. To end this on a positive, I would like to flag a view we have for this year: we think financing of the fiscal deficits will probably rely more on debt than it did in 2015 because debt came slightly later during the year in 2015 for most GCC economies. We think that in 2016 everyone now is prepared for lower for longer oil prices and the share of financing for fiscal deficits will rely more on debt than on savings or foreign currency reserves than in 2015."
Michael Grifferty, President, The Gulf Bond and Sukuk Association, believes that the regulatory environment for bond and Sukuk issuance is reaching a state of maturity.
"I think policy makers understand the value and importance in developing the market and are taking a more and more strategic view rather than opportunistic, that's still in progress but we see more emphasis on understanding the market. I think that the regulators have generally been supportive in a de facto way trying to support issuers who are trying to apply by providing more clarity on the frameworks so that issuers, and those advising them, will rely less on the goodwill and understanding of regulators to be supportive. This will also take some the onus off the regulators if there is more clarity in the regulatory framework then there will be less for regulators to talk about," he said.
Large fiscal surpluses, large current account surpluses and a very rapid accumulation of savings
are a thing of the past.
- Carla Slim, Economist Middle East North Africa, Standard Chartered Bank
Focus on Oman
The Gulf Bond and Sukuk Association (GBSA) in partnership with Dentons and Standard Chartered Bank held its inaugural debt capital market conference in Oman. The conference, which gathered senior government officials with over 100 leaders from the corporate, financial, legal and regulatory communities, coincided with an intensification of Sukuk and bond issuance activity in the Sultanate.
HE Hamood Sangour Al-Zadjali, Executive President of Central Bank of Oman, delivered the opening keynote speech stating, "The Government raises debt for fiscal requirements and managing liquidity in financial markets. The pricing of these issuances also helps in developing a yield curve which could be a benchmark for other interest rates."
"Led by the Oman Government, more Oman-based companies have taken advantage of bond/Sukuk markets to extend their liability profiles and diversify their investor bases," said Michael Grifferty, President of the Gulf Bond and Sukuk Association.
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