The sustained decrease in oil prices is weighing on public finances and thus far the government has addressed the shortfall in oil revenues through a combination of spending cuts and subsidy moderation. The slump in oil prices is also affecting the liquidity of the banking sector and some banks are cutting off loans to small- and medium-sized enterprises amid fears of credit default. However, the UAE continues to be one of the most diversified economies in the region. In late-November, the government announced that it would invest AED 300 billion (USD 82 billion) in the fields of science and advanced technology in an effort to establish a sustainable growth model that is resilient to energy price fluctuations. The government, however, didn’t make clear how many years it will take to fully carry out the massive investment. High-frequency data show that business conditions in the UAE’s non-oil private sector economy improved in Q3 2015.
The UAE economy will continue to suffer the effect of lower oil prices going forward. Indeed, the country is set to record the first fiscal deficit in six years this year. Nevertheless, in the medium term higher government spending and the finalization of Iran’s nuclear deal will have a positive impact on the UAE’s economy. Focus Economics panelists expect GDP to grow 3.3% in 2015 and 3.2% in 2016.
In November, consumer prices fell 0.34% over the previous month, which followed the 0.48% increase observed in October and marked the second consecutive decrease after nearly a year of monthly increases. According to the National Bureau of Statistics, November’s figure mainly reflected lower prices for transport as well as for food and soft drinks.
Inflation eased from 3.7% in October to 3.5% in November, thus hitting an 11-month low. The recent high levels of inflation mainly reflected a hike in electricity and water tariffs in Abu Dhabi—the biggest emirate in the UAE. Annual average inflation was stable in November at October’s 4.0%.
As elsewhere in the region, there is concern relating to unemployment and under-employment, particularly among the young. Accordingly, the government adopted a policy of “Emiratisation”, whereby the job market will favour nationals rather than expatriate workers. To date, however, the labour market remains highly skewed towards foreign nationals.
Relatively low oil prices mute inflationary pressures
GDP growth in 2014 is estimated at +4.2% (+5.2% in 2013) and both the oil and non-oil sectors (particularly trade, tourism and transport) contributed positively. However, overall growth was below potential because of regional tensions (despite some positive substitution effect as the UAE is perceived as a safe haven within the wider region) and weakness in some key markets (including the Eurozone). Government spending (including social support packages and increased subsidy provision) and investment were also strong and somewhat compensated for weaker external demand.
The growth outlook remains favourable, despite currently lower oil prices
The outlook for 2015 is for an easing in growth to reflect relative weakness in the oil sector and, in particular, reduced revenues through lower prices; indicative crude Brent oil prices at mid-June 2015 were down 40% y/y. Weakness in the oil sector is partly offset by growth in non-oil sectors. The UAE has developed rapidly as a transport hub and, last year, Dubai International Airport overtook London Heathrow as the busiest airport for international passenger traffic (almost 70 mn passengers). It is also the busiest for Airbus A380 usage and the world’s sixth busiest cargo airport.
Oil prices are expected to consolidate around USD60-70/barrel, although uncertainties relating to the potential increase in Iranian crude supplies to world markets and to further production of energy supplies from North American shale reserves provide downside and upside risks. The global outlook for 2015 is for a gradual and probably subdued recovery, with the UAE benefiting from increased world trade and further boosted by preparations ahead of hosting the World Expo 2020. EH expects GDP growth of +3.5% in 2015 and +4.5% in 2016.
Exchange rate system will continue
Price pressures remain low, although an improving housing (and general construction) market suggests that upward movement can be expected. EH expects consumer price inflation will end 2015 at around 3.3% and be around 3% at end-2016.
EH does not expect the exchange rate regime to change in the forecast period to end-2016, with the fixed peg of AED3.67 = USD1 throughout. Indeed, UAE authorities continue to re-iterate their commitment to the dirham’s peg, despite ongoing speculation (in markets and general commentaries) of a fundamental change to the system. EH does not envisage the introduction of an effective GCC single currency in this period. In May 2009, the UAE opted out of the monetary union but this policy may be revisited when the GCC moves forward with its planned integration.
External accounts will weaken but remain strong
Although the UAE’s economy is relatively diversified compared with other GCC states, the strength of the external accounts continues to depend on internationally-determined oil prices and the country’s associated revenue generating capacity. Crude oil and related products account for over 50% of the UAE’s export receipts. Strong current account surpluses were recorded in 2011-13, when oil prices were high (indicative average benchmark prices of over USD100/barrel, after USD80/b in 2010). EH forecasts the current account surplus at +9% of GDP in 2014. Global oil prices fell below USD100/b in September 2014 and bottomed at USD46/b in January 2015 before staging a recovery to USD65/b in mid-June.
Oil prices are not expected to climb back to USD100/b in the forecast period. As a result, the UAE’s external accounts are likely to deteriorate. However, the country is one of only a few that has the ability to alter its oil output in an attempt to support oil revenues and the UAE’s policy is likely to be aligned closely with that of neighboring Saudi Arabia. Whatever policy is adopted in relation to oil output, the current account will remain in surplus over the forecast period.
Hard currency foreign exchange reserves are over USD70 bn but the UAE’s policy is to keep FX low and store accumulated wealth in other areas, including several sovereign wealth funds (currently estimated at a combined value of around USD1,188 bn, with USD773 bn held by the Abu Dhabi Investment Authority) and in other assets. Accordingly, a strict interpretation of import cover (currently just less than three months) is not an accurate measure of external liquidity. Using an alternative definition, EH calculates import cover is comfortably in double figures. Net external assets are equivalent to over 110% of GDP.
External debt levels and servicing of obligations are comfortable in the forecast period
External debt ratios are relatively low, with total foreign debt stock at around 44% of GDP and 48% of export earnings and the debt service ratio on existing obligations is under 4.5% of total export receipts. As a result, external payments of debt obligations (and, by association, settlement of trade payments) will not be problematic.
- Stable society, with established method of succession.
- Abundance of natural resources (hydrocarbons).
- Large asset holdings and investments held overseas. Net creditor status.
- Actively diversifying economy.
- Relatively liberal business and trading environment.
- Fiscal and current accounts sound, despite some short-term effects from current weaker oil prices.
- Re-classified to emerging market status (formerly frontier market) within the MSCI.
- Regional co-operation through the GCC.
- Despite diversification (including further developments in the transport and travel sectors), the economy overall is affected by the vagaries of international oil and gas markets.
- High dependence on global and regional markets and events.
- Fixed exchange rate peg to the USD limits independence of monetary policy.
- Speculative flows (stock market, real estate etc.) provide some concern of asset bubbles.
- Regional uncertainties.
- Data provision is poor for a high income