Fiscal balance to remain in small deficit

The fiscal balance will remain in manageable deficit in 2017 and 2018 amid weak oil revenues and an easing in fiscal consolidation, as Dubai’s government gradually ramps up spending on construction projects in the run-up to the Expo 2020 event. We foresee a deficit of 3.1% and 2.0% of GDP in 2017 and 2018, respectively.

Nonetheless, fiscal adjustment and reform is proceeding, with the establishment of the Federal Tax Authority (FTA), subsidy cuts and the introduction of fees and taxes on selected goods and services. According to official reports, Abu Dhabi has cut back or delayed spending on a number of projects designated as low-priority. Efforts have also been made to rely more heavily on the private sector for implementation of some projects.

In a bid to raise more public revenues, in August the newly established FTA published a law on an excise tax. The tax will be levied on selected goods — tobacco, energy drinks and soft drinks — from the beginning of October. With the excise tax set at 100% on tobacco and energy drinks and 50% on fizzy drinks, it is expected to raise around $2 billion (0.5% of GDP) in annual fiscal revenue.

Furthermore, the UAE will be one of the first GCC nations to implement a VAT. The tax will be imposed on UAE companies from January with annual revenues greater than $1 million. At 5%, the VAT is expected to generate around $5 billion in tax revenues or 1% of GDP.

To avoid relying solely on foreign reserves to finance the coun- try’s public deficit, Abu Dhabi issued $5 billion in sovereign bonds in April 2016, its first issuance since 2009. But there has been no new sovereign debt issued since. The UAE is in the process of finalizing a federal debt law, which will allow the federal government to issue bonds as well.

Yields on debts maturing in 2021 for Dubai and Abu Dhabi have remained fairly low and steady, relative to their GCC peers, on the back of stable economic conditions. Indeed, the main credit default swaps (CDS’s), which are typically good bellwethers of a sovereign’s level of risk, remain close to multi-year lows. As of end of August, the CDS on five-year Dubai and Abu Dhabi government debt stood at 122 and 55 basis points (bps), respectively.