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The impact of Covid-19
on the Gulf state economies
COVID-19 is leaving a lasting impact on the global economy. While many countries around the world are facing the dilemma of saving lives by effectively stopping their economies, the problems faced by GCC oil producers has yet another facet: turbulence in the energy markets. The combination of these two unfavourable developments is likely to test the resilience of the economies of this region.
Similarly to other regions of the world, Middle Eastern countries have introduced several fiscal and monetary policy measures to uplift their reeling economies. However, despite these measures, the IMF projects the regional economy in the GCC to contract by an average of 3.1% in 2020 as a result of demand and supply-side shocks, effectively removing $425 billion from their economic output. In this analysis, we will seek to go beyond these numbers and discuss why the GCC region is not on firm footing in comparison to other emerging nations.
The outlook for the energy market paints a pessimistic view for the regional economy
Leading GCC economies such as the Kingdom of Saudi Arabia, the United Arab Emirates, and Bahrain have been on a mission to reduce their exposure to and reliance on the energy market over the last few years. For example, Saudi’s Vision2030 was launched in 2016 in a bid to reduce the country’s dependence on oil.
Similarly, the UAE has long focused on non-oil related business activities such as real estate and financial services to drive its economic growth. However, even after all these measures, the region’s fortunes are still largely tied to the fate of the global oil market. As the below chart illustrates, commendable progress has been made in the last decade or so but oil still accounts for more than 30% of GDP in many countries in the region.
According to data from the U.S. Energy Information Administration, a barrel of WTI crude oil will average approximately $36 in 2020, whereas a barrel of Brent crude is expected to trade at an average price of around $39. These numbers are much better than the negative prices temporarily seen 20th April 2020 but are still not good enough to help GCC countries break even in terms of their respective current account balances. Even low-cost producers such as the Kingdom of Saudi Arabia and the UAE are likely to experience current account deficits as a result of low oil prices.
Even though business activities are returning to their normal state in many industrialised countries – the United States, India, China, and Germany, for instance – progress is slow and it will likely take until at least the fourth quarter of this year for demand to gain meaningful traction. A second wave of the pandemic is also possible, which present yet another risk factor. According to data from Bloomberg, oil storage facilities in Cushing, Oklahoma are still operating at elevated occupancy levels, which is an indication of inventory build-up in the United States and suggests bad times ahead for the global energy markets. As a region that depends on crude oil exports, the GCC will find it difficult to return to the pre-coronavirus level of economic growth anytime this year.
The dependency on China will hurt the region
The trade relationships with China will not come to the rescue of the GCC this time around. In fact, the dependency on China will result in a loss of business and foreign direct investment this year for a number of reasons.
First, China is one of the largest buyers of crude oil from the GCC. The number of barrels exported to China declined dramatically in conjunction with the two-month-long lockdown in the country that forced manufacturing plants to shut down.
The demand for oil bottomed out in February and March but recovered in April. However, China’s demand for energy is projected to remain well below the highs seen in December2019 through the end of 2020 which is not welcome news for GCC which will undoubtedly impact the recovery of the GCC economies.
Second, the GCC was seeing a boom in Chinese investments under the Belt and Road Initiative, the global infrastructure development strategy adopted by the Chinese government in 2013. Chinese investments in every other region had slowed down by 2018 except for its investments in the MENA region.
While this investment trend is not a surprise – oil infrastructure projects are one of the primary focus areas of the Belt and Road Initiative – investments, will now likely decline in the next couple of years as the economic growth of China decelerates as a result of the supply chain disruptions resulting from COVID-19. Even if the global economy recovers sooner than many economists believe, multinational corporations will still want to reduce their exposure to China as the flaws of depending on one country have been exposed in stark relief during this crisis.
COVID-19 and the lockdowns imposed by GCC nations have hampered economic growth expectations in the first quarter of this year. Many countries in the region, however, are beginning to return to relatively normality. Both the Kingdom of Saudi Arabia and the UAE have lifted many mobility restrictions internally and others are expected to follow suit.
This will, no doubt, revive business activity in the country. The billion-dollar stimulus packages introduced by all these countries and rate cuts will also likely assist in the stabilisation of the regional economy. However, t dependency on China and oil exports will keep the economy under pressure for some time to come, even after the COVID-19 crisis has abated. The GCC region could be one of the slowest regions to recover from the virus-induced recession. However, the long-term prospects for the region are still positive as the leading economies in the GCC diversify and continue to position themselves as global financial hubs.
About the author(s)
Harold Alby is a managing director and chief operating officer at Inova Capital. Justin Inniss is a managing director at Inova Capital.For more details on our insights please get in touch with us at Inova Capital AG on +41 415616905. Inquire about our ideas and nowcasting capabilities.