When the 818-meter Burj Dubai tower, the world’s tallest building, opened for occupancy with lots of fanfare on January 4, it was proclaimed to be a crowning achievement of the emirate of Dubai, with its bold plans to establish itself as a regional trade and services hub. The $4 billion tower included an Armani hotel, an observation deck, homes, offices and more, and was nothing less than “a symbol of Dubai’s can-do spirit,” according to the building’s owner, state-owned Emaar Properties.
Among Dubai’s creditors, though, the can-do spirit is wearing a little thin. Last November, Dubai World, one of the largest government-owned conglomerates, announced it would not meet billions of dollars of debt repayment obligations. In response, credit ratings agencies such as Moody’s and Standard & Poor’s downgraded the debt of several Dubai government-related entities to junk. “Dubai’s corporate landscape is now effectively a high-yield market,” Moody’s wrote in a December note to clients. In mid-December, Abu Dhabi threw a $10 billion lifeline to Dubai — but the latter is still saddled with debts of nearly $100 billion, which it must face squarely in the coming year.
Dubai’s problems are not the only woes among the economies of the Middle East. Last summer, two vast family-owned conglomerates in Saudi Arabia defaulted on billions of dollars of debt repayments, highlighting lack of transparency and lax lending practices in the region. And in the past year or so, some $500 billion of planned infrastructure projects in the Gulf have been abandoned or temporarily halted as funding has dried up. Meanwhile, the Middle East’s real estate market has slumped — most notably in Dubai, where prices halved in the year following their August 2008 highs.
Still, indications have begun to appear that the region’s fortunes may pick up in the coming year. Economists note that the Middle East’s regional policymakers acted decisively to shield their financial institutions from the worst of the financial crisis and to ensure that liquidity remained in the banking system. This has meant that the effects of the global economic downturn have been less pronounced in the Middle East than elsewhere, and that the region’s banks are largely in a strong position today. It helps, too, that oil prices have doubled in the past year or so, from lows of $33 a barrel in January 2009.
Banking on Oil
“Much will hinge on the pace of the global recovery,” notes Masood Ahmed, director of the Middle East and Central Asia Department at the International Monetary Fund (IMF) in Washington, D.C. The IMF expects global economic growth of 3.1% in 2010; similarly, the London-based Economist Intelligence Unit (EIU) expects growth of 3.2%. If such growth materializes, oil exporters are likely to benefit as prices and volumes grow. (Oil prices are likely to grow moderately, reaching an average $75 to $85 in 2010, according to many estimates, versus an average level of around $61 in the nine months ending September 2009.)
The EIU expects the Middle East and North African economies, including oil exporters such as Saudi Arabia, the United Arab Emirates (UAE), Libya and Algeria, and non-oil exporters such as Tunisia, Jordan and Egypt, to grow 4.7% in the coming year. The bulk of this growth is set to be among hydrocarbon exporters in the region. Notable among these is Qatar, where vast new liquefied natural gas production facilities are due to come online this year, expanding production capacity by 60%. Libya is also a standout: The EIU says it is now “bouncing back after the ravages of the sanctions era” — a 20-year period of UN- and U.S.-imposed sanctions following the 1986 bombing of Pan Am flight 103 over Lockerbie in Scotland. Iraq is also set to benefit from surging oil exports, following deals with Western oil majors to exploit the country’s vast oil fields. Last June, for example, a consortium led by BP, the U.K.-based energy company, won a bid to exploit the Rumaila oil field, making it the world’s second-largest producing oil field.
A jump in oil revenues during 2010 will also likely pave the way for regional oil exporters to step up efforts to diversify away from oil by investing in manufacturing, financial services and tourism. While any growth in the Middle East’s private sector is likely to trail growth in oil in the coming year, many of the Middle East regional oil revenues are recycled into neighboring countries through worker remittances and investment — meaning places like Egypt, Jordan and Lebanon are also likely to benefit from a recovery in the global economic climate.
The region’s construction and real estate sectors may be among the first to benefit from positive signals in the wider economy during the coming year. At the end of 2008, for example, an estimated $2 trillion of projects were underway among member states of the Gulf Cooperation Council (or GCC, comprising Kuwait, Bahrain, Oman, Qatar, Saudi Arabia and the UAE). Of the one-quarter that have been put on hold or cancelled, projects totaling $350 billion are in the UAE alone. As the economic climate improves and credit conditions ease, some of these projects, especially in Qatar and Abu Dhabi, may be revived.
According to Garbis Iradian, senior economist at the Washington, D.C.-based Institute for International Finance, the real estate market is already stabilizing in much of the Middle East region. Still, in Dubai, any sustained recovery in construction and the real estate sector is likely to have been delayed by the recent Dubai World debacle. “One of the after-effects of Dubai World is that it will be more difficult for banks to lend money,” notes Jarmo Kotilaine, chief economist of Riyadh-based NCB Capital (NCBC).
For many Middle Eastern economies, the outlook is set to be buoyed by ongoing public spending programs, some of them initiated during the financial crisis. Saudi Arabia, for instance, has a $400 billion fiscal stimulus package to be implemented through 2013. “Governments will need to continue with expansionary fiscal policies to offset weak private sector demand,” says Iradian. Even if the global economic recovery falters, many governments of oil exporting nations have sufficient reserves to sustain public spending in the coming year. After all, the Middle East and North Africa region has around two-thirds of the world’s proven oil reserves, and almost half of global gas reserves.
Addressing the Challenges
Despite the positive indications for Middle Eastern economies in the coming year, the region’s policy makers face a raft of challenges in 2010 and beyond. Among other things, less well-off states, such as Jordan, will have to hold back on public spending growth in order to keep fiscal deficits in check. And some states — such as the UAE — that drafted policies to protect the financial sector from the downturn, will have to consider lifting these measures again while trying to avoid volatility in local economic conditions. What’s more, countries such as these will be addressing such challenges at exactly the time that the recovery of world economic conditions remains, at best, fragile.
Regional policy makers also face further difficult decisions, including reforms that are likely to be deep and painful. For example, in the Gulf, regional leaders must push through labor market reform to improve economic competitiveness, increase productivity and meet the employment needs of the region’s young population. In recent years, growth in cheap, imported labor has been behind much economic expansion in the Middle East. As a result, bosses tend not to invest in training or technology to step up productivity. Between 2000 and 2007, for instance, labor productivity in the GCC grew by an average 1.0% a year, versus 10.5% in China, 4.9% in India, 1.4% in the U.S. and 1.5% in Europe, according to the Conference Board, a non-profit research organization. And as immigrants fill private sector jobs, unemployment has soared. In the Middle East, unemployment among 15- to 24-year-olds is nearly 25%, compared to the world average of 14%, estimates the Middle East Youth Initiative.
According to Ahmed of the IMF, the process of cleaning up local banks’ balance sheets “needs to be accompanied by enhancements to the regulatory, supervisory and resolution frameworks, where needed.” Until recently, the need for regulation, transparency and sound corporate governance had appeared less pressing against a backdrop of abundant cash and strong economic growth. Then, in August, multi-billion-dollar debt defaults by Ahmad Hamad Algosaibi & Brothers and Saad Group — two large Saudi conglomerates — highlighted the need for greater transparency in the region. The recent Dubai World debacle has exposed the opacity of decision-making at the highest levels of government.
Already, some regional states have started addressing regulatory shortcomings. In the course of 2010, for example, Qatar plans to drop the top tax rate on foreign companies from 35% to 10%. Also this year, the UAE will oblige firms to comply with a corporate governance code, which until now has been voluntary. Bahrain is planning to institute a monthly tax on foreign laborers, which will help level the playing field for Bahraini workers. According to analysts, many of these measures will set the agenda for reform in other states across the Middle East region.
Still, there are uncertainties. Consider, for example, the GCC monetary union. The single currency project, initially planned for 2010 but now delayed, is still in its infancy. While the four states participating at the outset — Kuwait, Saudi Arabia, Qatar and Bahrain — have met some necessary convergence criteria, some of the key institutions are still not on board, agreement on technical details has not been reached, and coordination of economics data from around the region has made little progress. Nevertheless, some key milestones are expected to be reached: For example, the newly formed monetary council will hold its first meeting early this year. “That is important,” says Kotilaine of NCBC. “[The council] is the institutional driver of the process.”
Dubai’s Lingering Question Mark
Another unknown — one of the biggest, perhaps — is the fate of Dubai. In 2010, less than $10 billion of its debt comes up for repayment. But questions remain over Dubai’s mid- and long-term finances, and to what extent neighboring Abu Dhabi will remain supportive. Behind the scenes, it is possible that the rulers of Abu Dhabi and Dubai will reach an understanding. Rather than handing over assets in return for Abu Dhabi’s support, Dubai may agree to a range of concessions to its wealthier neighbor, some observers predict. It’s possible, for example, that Dubai may agree to much-needed consolidation among the two emirates’ leading banks — placing the UAE’s financial sector in a stronger position to compete in the wider Middle East region.
What is clear is that Abu Dhabi is no longer willing to provide blank checks to Dubai’s struggling entities, as Dubai-based Moody’s analyst Philipp Lotter points out. “The question of viability [is] crucial to the decision-making process,” he notes. Kotilaine adds that although Dubai’s value proposition remains unchanged, the emirate will have to sharpen up to regain its footing in 2010. “It might mean the whole [Dubai] venture becoming a little less flashy,” he says.