Dubai: GCC governments face significant challenges in their economic diversification efforts as they face sustained decline in oil prices in recent years, according to global rating agency Standard & Poor’s.
“In our view, the challenges to GCC economic diversification remain substantial and GCC governments’ 20- and 30-year visions are aspirational, with significant progress to be made if they are to be achieved,” said Trevor Cullinan, a credit analyst with S&P.
GCC sovereigns have announced ambitious diversification plans, some of which have existed for several years. These plans have recently gained new impetus following sustained decline in oil prices. By and large, governments have presented National Development Plans (NDPs) or ‘Visions’ with 20- to 25-year time horizons, usually incorporating five-year intermediate strategies.
GCC government strategies broadly target diversification through the expansion of sectors such as tourism, business, and financial services along with logistics. “In our view, it is likely to be a decade long or generational transition. We also believe that structural impediments will hamper the transition toward significantly more diversified economies,” said Cullinan.
In some sectors such as air transport and logistics, the region has some advantage because of its location at the crossroads between Asia and Europe. To this end, GCC sovereigns have targeted the aviation industry among other things, with large investments by Dubai, Abu Dhabi, and Qatar in airports, planes, and flight-services facilities.
The region now acts as a global airline hub with connections to major tourism markets, with Dubai listed as the world’s third busiest airport in 2016 and 2015 according to Airports Council International. The challenge now is to convert transit passengers into tourists.
Despite such examples, the Gulf economies continue to have high concentration and dependence on the hydrocarbon sector, which averaged about 30 per cent of GDP and 60 per cent of total exports over 2015-2016.
With oil prices remaining low for long, GCC governments are faced with the urgent need to diversify their economies. However, they face various impediments to diversification away from hydrocarbons, such as the currency pegs, harsh climate, education and skills, openness to doing business, attractive public sector employment, and close similarities of diversification plans across the region.
The US dollar exchange rate pegs remain appropriate for their economies, providing a nominal anchor for inflation. Pegs are expected to remain in place over the medium term. Analysts however say the pegs hinder the GCC economies’ ability to compete on price in non-oil export markets.
Ease of doing business
As part of the diversification efforts, Most GCC sovereigns have introduced business-friendly reforms such as free trade zones, tax incentives, easing of tariff restrictions, and non-tariff barriers aimed at attracting foreign direct investment inflows and further boosting economic growth in non-resource based sectors.
In enhancing openness to doing business in the region, the reforms should help improve the distance to frontier (DTF). This score measures the distance of each economy to the “frontier,” which represents the best performance observed on each of the indicators across all economies in the World Bank’s “Doing Business” sample since 2005. However, the dynamics have differed regionally over this decade, with the UAE showing a sustained improvement as opposed to deterioration for Qatar, Kuwait, and in particular, Saudi Arabia.
The stagnation in the implementation of business-friendly reforms witnessed outside of the UAE is likely to constrain foreign capital inflows, limiting the Gulf countries’ ability to spur private-sector driven economic growth.
Even with recent increase in efforts towards diversification, analysts say more needs to be done to achieve the goal. “We conclude that GCC governments’ diversification efforts remain aspirational, with significant progress to be made if they are to be achieved,” said Cullinan.
