Why Aaa ratings are still elusive

The six members of the GCC - Bahrain, Kuwait, Oman, Qatar, Saudi Arabia and UAE - have enjoyed an unprecedented economic boom over the past five years, gaining significant ratings upgrades from Moody's in the process. So why don't even the wealthiest Gulf states now have top-notch Aaa ratings?

Their economies have strengthened so much that some GCC countries now outperform even Aaa-rated countries on some of Moody's calculations. Real growth averaged 6.8 per cent a year in the GCC in 2003-07, the IMF has estimated.

The prosperity of the six GCC countries has climbed sharply, in some cases to very high levels, on the back of soaring global oil prices and impressive progress in diversifying their econ-omies.

Perhaps most importantly from a sov-ereign ratings perspective, fiscal and current account surpluses have widened considerably and net assets have soared despite a strong pickup in imports and government spending.

Indeed, the sharp improvement in the GCC governments' creditworthiness has been fully reflected in Moody's sov-ereign ratings: all six states have been upgraded by two to four notches since 2003. The ratings now range from A2 for Bahrain and Oman, to A1 for Saudi Arabia, and Aa2 for Kuwait, Qatar and the UAE. These are high investment-grade ratings and denote a very low risk of default.

But this still means that the wealthiest GCC states have ratings two notches below the coveted Aaa held by countries including Germany, Japan, the UK and US. Why should this be so?

Reasons

Firstly, Aaa-rated countries tend to be located in regions with a long track record of political stability, whereas the Middle East - and the Gulf region in particular - has a more troubled political history. Current causes for concern include the tensions between Iran and the international community regarding the country's nuclear programme, the ongoing violence in Iraq and the regional rise of sectarianism.

Secondly, institutions in the GCC remain less developed than those in Aaa-rated countries. Moody's regards the effectiveness of countries' administrative, legislative and judicial apparatus as key because they give a picture of the likely stability and consistency of the domestic policy environment over the long term. GCC states face challenges concerning the quality and scope of their economic statistics, and the overall level of transparency also raises concerns.

Finally, the economic performance of GCC countries tends to be highly volatile - far more so in Aaa-rated countries. This is largely because of the GCC economies' still heavy concentration on oil and gas. Globally, countries displaying high levels of economic volatility have tended to be more prone to shocks and therefore to have a greater risk of default. On a positive note, the growing sovereign wealth funds in the region are having a stabilising effect by providing capital and income diversification. While all six GCC states share these attributes, there are differences in degree and significant variations in economic and financial strength between them. These differences continue to be reflected in Moody's GCC ratings.

Nevertheless, we again stress that all of our GCC ratings denote a high level of sovereign creditworthiness based on the countries' generally prodigious financial strength and strong ability to cope with potential shocks.

- The writer is vice-president and senior analyst at Moody's.