Higher debt, funding costs to weigh on some GCC states

POTENTIALLY LARGE FISCAL AND FINANCING RISKS COULD EMERGE FOR A HANDFUL OF NATIONS

While public debt levels remain at manageable levels for most GCC countries, the rapid build-up in debt levels combined with a rising cost of funds, changes in credit global conditions and exchange rate dynamics could pose future financing risks for some of these countries, according to analysts and economists.

According to the latest regional economic outlook from the International Monetary Fund (IMF), the debt positions of the Middle East’s oil exporters have increased by an average of 10 percentage points of gross domestic product (GDP) each year since 2013, with countries financing large fiscal deficits through a combination of drawdowns of buffers (where available) and increased domestic and foreign borrowing.

“Looking ahead, several factors are likely to continue to drive debt upward for oil exporters. These include the slower pace of fiscal consolidation, weak growth prospects, and the possibility of higher financing costs — given the expected monetary policy tightening in advanced economies,” said Jihad Azour, the IMF’s director of the Middle East and Central Asia Department.

Diversifying funding sources

Total financing requirements to fund deficits and investment programmes across the GCC remain large. Moves to attend to growing financing needs in low oil price environments are driving GCC states to increasingly diversify their sources of financing.

According to a recent study by Mitsubishi UFG Bank (MUFG), the cumulative gross financing needs could amount to $69.3 billion (Dh254.53 billion) for 2018 for the GCC region, and $49.8 billion between 2018 and 2022.

Despite the rising financing needs, GCC countries have the capacity to finance their deficits and investment programmes as they have accumulated significant savings in the last fifteen years, which could be tapped to finance deficits and investments. Public debt-to-GDP ratios are low and moderate, with the exception of Bahrain, making it easy to raise debt on international markets.

However, analysts say a change in global credit conditions, ranging from higher interest rates and changes in credit outlook for regional sovereigns, could impact both cost and the availability of credit.

“The impact of ongoing fiscal consolidation measures relative to the size of the adjustment necessary to prevent a potential deterioration in credit worthiness may be insufficient in some GCC countries — any delays or policy reversals may keep ratings under pressure in Bahrain and Oman,” Ehsan Khoman, head of research at MUFG Bank said in a recent note.

According to the IMF, given anticipated financing needs, the cumulative overall fiscal deficits of oil exporters in the Middle East are projected at $294 billion in the 2018–22 period, while cumulative government debt amortisations are forecast at $71 billion in the same period.

These countries are increasingly vulnerable to a sudden tightening of global financial conditions. For example, taking account of the gross financing needs for 2018, a 200 basis point increase in interest rates would add between 0.1 and 0.6 per cent of GDP a year to interest payments for regional oil exporters, increasing existing fiscal challenges.

Contingent liabilities

Upcoming debt maturities over the next five years are expected to amount to $312 billion of non-government-issued international debt (of which almost 40 per cent corresponds to state-owned enterprises).

Therefore, the fiscal impact could be larger if countries also experience a sudden stop in international market access that leads to a materialisation of fiscal contingent liabilities.

While credit ratings are more or less stable for mot GCC sovereigns, a gradual tightening in financing conditions due to the withdrawal of monetary policy accommodation is expected to have some impact, going forward.

“Financing conditions could tighten more rapidly than we currently assume, either globally or for specific sovereigns. For instance, the impact of the unwinding of quantitative easing on portfolio flows to emerging markets remains untested, and could contribute to higher risk premia. In recent weeks, financing conditions have tightened with yields and/or exchange rates under pressure for a number of emerging and frontier markets; capital flows have also slowed,” Elisa Parisi-Capone, vice-president and senior analyst at Moody’s, wrote in a recent note.