A World Bank Group Publication for the Gulf Cooperation Council Economies Gulf Economic Monitor Staying the Course on Reforms In Focus: Water for Prosperity and Development Gulf Economic Monitor Staying the Course on Reforms In Focus: Water for Prosperity and Development Executive Summary The near-tripling of oil prices from their trough in January Nevertheless, risks remain, and these are, on balance, tilted to 2016, to nearly $80 per barrel in early October 2018, has the downside. At the global level, these include growing trade spurred a recovery in the GCC economies, following three protectionism, global financial volatility as advanced econo- years of persistent weakness. Additional support has come mies tighten monetary policy, and heightened geopolitical ten- from rising oil production, and a slower pace of fiscal consoli- sions that could depress global demand and trade, affect access dation as government revenues have increased. Saudi Arabia to and cost of financing, and weigh down global energy prices. emerged from recession in the first quarter of 2018 and Ku- Even the potential upside risk of higher oil prices if larger -than wait, in the second quarter. The United Arab Emirates, Qatar, -expected supply shortages emerge is in fact a negative, since a Oman and Bahrain posted positive economic growth rates in key domestic risk for the GCC region is a slowing in the pace the first half of the year. Higher energy prices and rising oil of reforms. This is because higher -than-anticipated oil and gas production are also helping the GCC countries to narrow large revenues could reduce the pressure for governments to reform. fiscal and external deficits, which had emerged in the wake of the 2014 oil shock. It is critical, however, that the GCC governments stay the course with the structural reforms launched after the 2014 oil On aggregate, the region is expected to post growth of 2.0 price shock. First, GCC economies are still heavily dependent percent in 2018, following a contraction of 0.3 percent in on oil and gas production, exports, and fiscal revenues, and 2017 (the first such contraction in over a decade). Looking continue to face long term challenges vis-a-vis sluggish do- further ahead, growth is expected to reach 2.7 percent in mestic economies, demographic pressures and long -terms risks 2020, as high energy prices and the expiration of the OPEC+ related to the transition to a low carbon global economy. Sec- agreement bolster government revenues, support higher gov- ond, although oil prices have recovered from their 2016 trough, ernment spending and lift domestic sentiment and activity. they are unlikely to return to their pre-2014 peak as the funda- External and fiscal imbalances are also expected to narrow, mentals of the oil market have changed and there remain sig- with Saudi Arabia and the UAE achieving near fiscal balance nificant downside risks. Third, the forecast period of higher oil by 2020 and, along with Qatar and Kuwait, returning to cur- prices affords the GCC countries the opportunity to advance rent account surpluses during 2018 -20. This positive outlook reforms under less stressful conditions even as evidence sug- is underpinned by an upward revision of our oil price fore- gests— as we discuss in the Monitor—that fiscal adjustment in casts from US$60 a barrel for 2019 -20 (in the February 2018 the GCC is less costly, in terms of its adverse effects on non - issue of the Gulf Economic Monitor) to US$72 a barrel for oil growth, than previously thought. Finally, recent global fi- that time period. Projections also assume that GCC countries nancial volatility and capital outflows from emerging market will persevere with important structural reforms initiated in economies underscores the importance of anchoring the confi- recent years. dence of global financial markets via credible reform agendas. Fiscal consolidation, economic diversification and social de- insolvency law in 2018, and the UAE, in 2016. These laws will velopment are central to the vision statements, development support the business environment for both foreign investors strategies, and structural reform programs drafted by the GCC looking to earn returns on their investments, and for domestic countries since mid-2014. firms and entrepreneurs. On the fiscal front, previous editions of the Gulf Economic With respect to social development and labor market reforms, Monitor have explored measures to mobilize revenues from the this issue considers reforms related to the nationalization of non-oil sector (including VAT and key excises) as well as en- GCC workforces. In this context, countries have stepped up ergy subsidy reforms. This report take a deeper look at the efforts to nationalize their workforces in a bid to reduce their challenges posed by an extremely large public sector that acts dependence on foreign labor, which accounts for 80 percent of as an “employer of first and last resort” for GCC nationals, and private sector jobs in the region, mostly non -skilled. For in- the costs that this imposes, both fiscally and in terms of distor- stance, Saudi Arabia doubled the levy on expatriate labor in tions in the labor market. 2018, Oman banned the recruitment of expatriate workers in 90 job categories in ten industries for a year, and Kuwait plans This report argues that public wage bill and employment re- to restrict employment in government contracts to local work- forms will benefit the GCC in several ways: reducing expendi- ers. The authorities must be mindful of the business continuity ture rigidities imposed by the wage bill will generate fiscal issues attendant to these workforce nationalization programs savings and free resources for growth-enhancing spending on and must do more to ensure that their nationals can assume and infrastructure and human capital; removing labor market dis- perform the work of expatriates in key industries. Governments tortions favoring government employment will boost private must strengthen educational systems and training programs to sector development; and improving the delivery of public ser- address private industry’s need for suitably skilled nationals vices. The Monitor also notes that, except for the UAE and for technical jobs. Qatar, other GCC countries do not rank high in global rankings of infrastructure quality. Given substantial infrastructure plans Finally, in the In Focus section, the Monitor turns its attention in the pipeline across the region, it argues that it is critical for toward water, a topic that has implications for long -term eco- governments to improve the efficiency of investment, which in nomic and environmental sustainability—water. The central turn will require a strengthening of public investment manage- challenge for the region is how to better manage water re- ment institutions. sources and deliver water services in the presence of acute wa- ter stress, consumption levels that are the highest in the world, Previous issues of the Monitor have explored privatization and and when dependence on energy-intensive water desalination the use of public private partnerships (PPPs) as diversification is extreme. Developing national water sector strategies that and private sector development initiatives. This issue shifts at- address these challenges, and that coordinate decisions and tention to reforms aimed at improving the business environ- water management across a range of sectors—be they energy, ment. The UAE, Saudi Arabia and Qatar have joined Kuwait water conservation, coastal management, or agriculture—will and Bahrain in allowing 100 percent foreign ownership of firms be critical. This report argues that obtaining data on water - in select, if not all, business sectors. The UAE, Bahrain and related variables, such as availability and use, and economic - Qatar are also granting 10-year, if not permanent, residency to related variables, such as cost of option, is a first step toward foreign investors. While these reforms are important steps in developing such a strategy. Additional steps include coordinat- attracting foreign investors, the region needs to widen these ing the actions and decisions of government agencies that need efforts. The latest World Bank Doing Business report revealed to work together to achieve long-term sustainability and ac- many areas where policy makers could reform business regula- countability objectives; moving toward stronger private sector- tion and boost private activity. At least one of these— resolv- led service delivery under effective public -sector oversight; ing insolvency—is central to the link between regulatory quali- and strengthening the management of water supply and sanita- ty and efficient business outcomes. Saudi Arabia drafted an tion services (including recycling). The Pulse of the Region The Global Backdrop (Figure 3), reflecting weakening trade in and out of Asia, de- celerating imports from some major advanced economies, and continued trade tensions between the U.S. and China. Although Global economic growth remains robust, but is container shipping volumes bounced back at the start of the uneven and appears to be slowing … third quarter of 2018, new export orders have continued to deteriorate. Previously, a cyclical recovery in global manufac- Global economic growth remained robust in the first half of turing and investment, following a prolonged period of marked 2018 (Figure 1). However, indications are that global indus- weakness, propelled global goods trade growth to 4.6 percent trial activity and goods trade momentum have slowed in re- in 2017, three times the pace observed the previous year. The cent months (Figure 2), with a particularly pronounced de- momentum was sustained in early 2018, despite easing export celeration in the trade -intensive capital and intermediate - orders, and services trade growth also gathered strength. How- goods sectors. Moreover, growth has become more uneven, ever, the acceleration has since weakened, including for indus- accelerating in the United States on the back of fiscal stimu- trial production. Meanwhile, trade policy uncertainty has lus, and moderating in many other parts of the world. reached record highs in recent months. Since the beginning of Among emerging market and developing economies, growth the year, the U.S. has imposed tariffs on about US$300 billion has become more heterogeneous, reflecting country -specific of imports, US$250 billion of them on imports from China. In challenges. In addition, a strengthening U.S. dollar, trade response, China, the European Union, Canada, Mexico and tensions, deteriorating growth prospects, concerns about other countries have placed retaliatory tariffs on a comparable external vulnerabilities, and domestic challenges have all value of U.S. exports. contributed to substantial currency declines and capital out- flows in some emerging markets and developing economies. Financial market conditions have tightened in emerging Commodity markets have also diverged, with crude oil pric- markets and developing economies over 2018, reflecting, in es rising on supply deficits and metal and most agricultural part, concerns about reduced U.S. dollar -denominated commodity prices declining on demand concerns (World funding, escalating trade tensions, and rising policy uncer- Bank, 2018d). tainty. Financial market jitters have been most pronounced in Turkey and Argentina, where external financing needs … while global goods trade has weakened, and are particularly large, but other major emerging market and financial market conditions have tightened in developing economies have also suffered from currency developing countries pressures (Figure 4), tighter borrowing costs, and broad - based capital outflows. In response, a growing number of Following the strong gains at the start of the year, global goods central banks have hiked interest rates or intervened in for- trade slid for the first time in the second quarter of 2018 eign exchange markets. Global GDP growth Global Purchasing Managers’ Index (PMI) Percent, QOQ seasonally-adjusted annualized rate Index value seasonally adjusted, 50+ = expansion 6 56 5 55 54 4 53 3 52 2 51 1 50 May-2015 May-2017 May-2018 May-2016 Jan-2015 Jan-2016 Jan-2017 Jan-2018 Nov-2015 Nov-2016 Nov-2017 Jul-2015 Jul-2016 Jul-2017 Jul-2018 Mar-2015 Mar-2016 Mar-2017 Mar-2018 Sep-2015 Sep-2016 Sep-2017 Sep-2018 0 Q1-2015 Q4-2015 Q3-2016 Q2-2017 Q1-2018 World High-income countries Developing countries Manufacturing output New export orders Global trade and industrial production growth Changes in real effective exchange rates Percent, 3-month seasonally adjusted annualized rate Percent, December 2013 – September 2018 15 6 30 5 20 10 10 4 0 5 3 -10 0 -20 2 -30 -5 1 -40 Czech Republic Peru Turkey Hong Kong, China Hungary South Africa Philiipines Mexico Singapore Colombia Indonesia Chile Malaysia Saudi Arabia Russia India China Korea, Rep. Poland Brazil Argentina Taiwan -10 0 Jan-2016 Jan-2017 Jan-2018 Jan-2015 Oct-2015 Oct-2016 Oct-2017 Jul-2015 Jul-2016 Jul-2017 Jul-2018 Apr-2015 Apr-2016 Apr-2017 Apr-2018 World trade volume (lhs) World industrial production (rhs) Energy prices have risen sharply on robust de- Energy prices mand and supply deficits US$ Global energy prices have almost tripled over the past two years, from US$30 per barrel (bbl) in January 2016 to US$80 bbl in 120 18 October 2018 (Figure 5), supported by a broadly-based global 100 16 recovery and production restraint by 12 OPEC and 10 non-OPEC 14 80 12 producers following the OPEC+ agreement of December 2016. 10 More recently, the Brent price, the benchmark for half of global 60 8 oil trade, rose to a four-year high of US$85 per barrel in early 40 6 October 2018, driven in large part by the prospect of a shortfall in 20 4 global supply once U.S. economic sanctions against Iran come May-2013 May-2014 May-2016 May-2017 May-2018 May-2015 Jan-2014 Jan-2015 Jan-2016 Jan-2017 Jan-2018 Jan-2013 Sep-2013 Sep-2014 Sep-2015 Sep-2016 Sep-2017 Sep-2018 into force in November 2018. Iran is the OPEC’s third largest oil producer, exporting, at its peak in mid-2018, some 2.7 million barrels per day (mbd), about 3 percent of daily global consump- Crude oil, ave. of Brent, Dubai, WTI, US$/bbl (lhs) tion. With the imposition of U.S. sanctions, some 500,000 mbd, Crude oil, Brent, US$/bbl (lhs) or possibly more, are expected to go offline. The fear is that the Natural gas, Japan (LNG), US$/mmbtu (rhs) loss of Iranian exports is not going to be completely made up, Change in oil production by Saudi Arabia and Russia even with available capacity in, and an expressed willingness by, Saudi Arabia to boost supply, much less with limited spare ca- Million barrels per day, since October 2016 pacity in other OPEC members (Figure 6). Global Outlook and Risks 0.2 0.0 -0.2 Global economic and trade growth are expected -0.4 to moderate in the near-term -0.6 Global economic growth is expected to remain firm at 3.0 per- cent in 2018 before slowing slightly to 2.9 percent in 2019 and -0.8 2.8 percent in 2020 (Figure 7). Global growth assumptions are Oct-2016 Oct-2017 Dec-2016 Dec-2017 Apr-2017 Jun-2017 Apr-2018 Jun-2018 Feb-2017 Feb-2018 Aug-2017 Aug-2018 above estimates of potential, suggesting that capacity con- straints will become more binding in the near term. The ad- vanced economies, which remain constrained by weak produc- Saudi Arabia Russia tivity trends, will move closer to their long-run potential growth path. Growth in the advanced economies will edge down to an average 1.8 percent in 2 019-20 from 2.2 percent in GDP real growth 2018. The emerging market and developing economies offer Percent more robust growth prospects, reflecting a modest acceleration among large commodity exporters, which will offset the antici- pated structural slowdown in China. Growth in the aggregate 5 among emerging market and developing economies will pick up from 4.2 percent in 2018 to 4.6 percent in 2020. 4 After surging to a six-year high of 4.8 percent in 2017 with the 3 cyclical upturn in worldwide manufacturing and investment, 2 the growth rate of global trade in goods and services is antici- pated to moderate to 4.3 percent in 2018, before decelerating to 1 3.8 percent by 2020 (Figure 8). Moderating global economic growth, easing global investment momentum, trade policy un- 0 certainty, and higher tariffs will weigh on global trade pro- 2016 2017 2018e 2019f 2020f spects. The tariffs are likely to depress bilateral trade, weaken World Advanced economies global supply chains, and increase trade diversion. Emerging market and developing economies Oil prices are forecast to increase further in 2019, and interest rates may rise faster than previously anticipated World trade volume growth Percent Oil price forecasts have been revised upward since the publication of the Bank’s Commodity Markets Outlook in April 2018, when crude oil prices were forecast to average US$65 bbl in 2018. With 6 the recent price ramp-up in spot and futures markets, crude oil prices are expected to average US$72 bbl in 2018, up by 35 per- 5 cent from US$53 bbl in 2017, and to pick up to US$74 bbl in 2019 (Figure 9). The upward price pressures reflect robust global 4 oil demand despite rising trade tensions, the continuing decline in production by Venezuela, and any larger-than-anticipated reduc- 3 tion in exports by Iran as economic sanctions by the U.S. come into effect beginning in November 2018 (the supply deficits may 2 not be fully offset by OPEC due to limited spare capacity in most 1 members other than Saudi Arabia). The average crude oil price is then expected to settle lower at US$69 in 2020, with the upside 0 limited in the medium term by the ability of non-conventional oil 2016 2017 2018e 2019f 2020f producers in North America to enter and exit the market. Energy price forecasts U.S. Treasury yield curve US$ Percent 80 3.5 75 3.0 70 2.5 65 2.0 60 1.5 55 1.0 50 0.5 45 0.0 1-year 2-year 3-year 5-year 7-year 1-month 3-month 6-month 10-year 20-year 30-year 40 2016 2017 2018e 2019f 2020f Crude oil, ave of Brent, Dubai and WTI, US$/bbl, Apr 2018 Crude oil, ave of Brent, Dubai and WTI, US$/bbl, Oct 2018 Dec-2015 Dec-2016 Dec-2017 Oct-2018 Looking forward, global interest rates are expected to rise at a precarious security situations in Sub-Saharan Africa, and diplo- faster pace than previously projected, as upward revisions to the matic tensions among the major powers could severely impact U.S. growth outlook lead to expectations of a somewhat faster growth and development prospects in the affected regions and pace of U.S. interest rate hikes in 2019-20. U.S. bond yields hit hinder activity at the global level (World Bank, 2018c). multi-year or multi-decade highs across the curve in early Octo- ber, with the yield on the benchmark 10-year note jumping from 2.4 percent in end-2017 to 3.15 percent, its highest level Regional Developments since 2011 (Figure 10). The lift in U.S. yields helped fuel strong gains in the U.S. dollar, with the U.S. dollar index (measured against six major currencies) hitting 95.78 in early October. Above-trend growth and narrowing economic slack will also lead to further monetary policy normalization in other advanced economies. While the U.S. Federal Reserve is on track to shrink Growth picked up in the region in the first half its balance sheet by 4 percent of GDP by the end of 2020, the of 2018 … European Central Bank is expected to bring its asset purchase program to a close by the end of 2018 (World Bank, 2018c). Economic activity and sentiment have begun to recover in the Due to the prospect of faster monetary policy normalization in GCC region following an extremely weak 2017 when aggre- the major advanced economies, financing conditions are ex- gate regional GDP contracted by 0.3 percent, the first down- pected to tighten more rapidly than previously anticipated in turn since the global financial crisis of 2008-09. The weakness emerging market and developing economies. in 2017, visible in decelerated or negative growth in all GCC economies except Bahrain, reflected the impact of lower oil Risks to the global outlook are on the downside prices, the associated fiscal retrenchment and its impact on non -oil activity, and compliance with oil production cuts agreed to Global risks are tilted to the downside and they include escalat- among OPEC and non-OPEC countries. However, both output ing trade protectionism, disorderly financial market movements, and sentiment have gradually recovered as global energy prices and heightened geopolitical tensions. Escalating trade protec- have risen, and more recently, as oil production curbs were tionism triggered by tariff increases by the United States and lifted in June 2018. With fiscal and external imbalances also retaliatory measures by China and other trading partners could narrowing, the region has remained largely immune to the fi- depress medium-term growth prospects globally by raising trade nancial volatility that has beset other emerging market econo- costs along global value chains and exacting negative spillovers mies in mid-2018. At the same time, the pace of recovery has in commodity and financial markets. An abrupt tightening of been slow, reflecting the impact of new taxes, subsidy cuts, global financing conditions reflecting reassessments of inflation and labor market measures. risk, stretched asset valuations, higher debt, and possible further U.S. dollar appreciation could raise borrowing costs and have The Kingdom of Saudi Arabia—the region’s largest economy severe consequences in emerging market and developing econo- and OPEC’s biggest producer—emerged from recession with a mies facing substantial refinancing needs. Heightened geopoliti- 1.2 percent year-on-year (yoy) and a 1.1 percent quarter-on- cal tensions including intensifying strains in the Middle East, quarter seasonally-adjusted annualized (qoq saar) growth in the first quarter of 2018 (Figure 11 and Figure 12). Growth contin- GDP growth, quarterly ued at positive rates of 1.6 percent yoy and 0.6 percent qoq saar in the second quarter of 2018. Previously, the economy Percent year-on-year had contracted 0.9 percent yoy in 2017, with four consecutive quarters of negative growth, as oil production and exports de- clined from OPEC-agreed cuts and non-oil output growth re- 8 mained tepid. Both outturns have since been reversed. 6 4 Oil output expanded 0.6 percent yoy in the first quarter and 1.3 2 percent yoy in the second quarter. Saudi Arabia raised output 0 in June before a revision to the OPEC+ agreement was final- -2 ized that allowed the OPEC+ partners to offset production -4 shortfalls by some members. The non-oil sector grew 1.6 per- -6 cent yoy in the first quarter and 2.4 percent yoy in the second quarter. Fiscal measures, including spending on salaries, bo- Q1-2015 Q2-2015 Q3-2015 Q4-2015 Q1-2016 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q2-2018 Q1-2018 nuses and social benefits, supported stronger non -oil activity. A robust performance by the financial, real estate and business Bahrain Kuwait Qatar services sectors and a slower contraction in the transport sector Saudi Arabia UAE - Abu Dhabi UAE - Dubai offset continuing weakness in the construction sector, which contracted for a tenth consecutive quarter. GDP growth, quarterly High-frequency numbers suggest the recovery remained robust Percent QOQ seasonally-adjusted annualized rate in the third quarter. Oil production likely increased by more than 2 percent to an estimated 10.7 mbl in September from 10.46 mbl in June. The whole economy Purchasing Managers 6 Index (PMI), which covers the entire non -oil private sector, jumped to 55.1 in August, its highest reading for the year 4 (Figure 13). However, the government ’s “Saudization” measures may have offsetting contractionary effects on the non 2 -oil economy going forward. Employment quotas for nationals, 0 mandated under the Nitaqat system, and levies on expatriate labor, introduced in 2018, have pushed out a quarter of a mil- -2 lion foreign workers in the first quarter of 2018. Most of the foreign workers were employed in construction (some 126,000 -4 workers) and in trade (about 53,000). The departing foreign Q1-2015 Q2-2015 Q3-2015 Q4-2015 Q1-2016 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q1-2018 Q2-2018 workers have not yet been replaced by Saudi nationals. Bahrain Kuwait Qatar Saudi Arabia The UAE appears to be recovering from slow growth in 2017. The non-oil sector expanded 3.3 percent yoy in the first quarter of 2018, supported by positive economic sentiment from higher oil prices and improved global economic conditions, according Purchasing Managers Surveys (PMI) to the index of non-oil activity constructed by the central bank Index values seasonally adjusted, 50+ = expansion (the index tracks GDP growth using economic activity variables including the PMI, consumer prices, and oil prices). Abu Dhabi, the largest of the seven emirates, posted a modest pick-up in 62 growth to 0.1 percent yoy in the first quarter of 2018, from -1.1 in the fourth quarter of 2017. That said, the whole economy 60 PMI for the UAE, which covers the non-oil private sector for 58 the national economy, appears to largely reflect softer external, 56 rather than domestic, demand. New export orders dropped to a 54 four-month low of 54.6 in August, and the whole economy PMI slid for the second consecutive month to 55.0 in August. 52 50 Qatar’s economy has fully adjusted to the impact of a sever- May-2015 May-2016 May-2017 May-2018 Jan-2015 Jan-2016 Jan-2017 Jan-2018 Nov-2015 Nov-2016 Nov-2017 Jul-2015 Jul-2016 Jul-2017 Jul-2018 Sep-2015 Sep-2016 Sep-2017 Sep-2018 Mar-2015 Mar-2016 Mar-2017 Mar-2018 ance of trade and diplomatic ties with some GCC neighbors in June 2017. The economy grew 2.0 percent yoy in the first quarter of 2018 and 2.5 percent yoy in the second quarter. Saudi Arabia - whole economy UAE - whole economy Growth in the non-hydrocarbon sector was strong, helping offset a small contraction in the hydrocarbon sector. Qatar has opened a new port, re-routed international trade, diversified Crude oil production import sources, and increased domestic food processing, while Million barrels per day liquidity pressures that emerged last year have waned. With economic conditions improving and uncertainty diminishing, consumer confidence rose to its highest level in nearly two 20 years in the first quarter of 2018. 15 Kuwait also pulled out of recession, growing 1.95 percent yoy in the second quarter of 2018, the first positive print in six 10 quarters, following contractions of 0.4 percent yoy in the first quarter of 2018 and 3.5 percent in 2017. Weakness in 2017 5 was due to a sizable 7.2 percent downturn in the oil sector, which was only partially offset by a 2.2 percent expansion in 0 non-oil activity, the latter aided by steady growth in household Jul-2018 Q1 2015 Q2 2015 3Q 2015 4Q 2015 Q1 2016 Q2 2016 Q3 2016 Q4 2016 Q1 2017 Q2 2017 Q3 2017 Q4 2017 Q1 2018 Q2 2018 Aug-2018 spending and higher government consumption spending. Non - oil sector growth has strengthened further in 2018, rising to 4.1 and 6.9 percent yoy in first and second quarters respectively, Saudi Arabia UAE Kuwait Oman Qatar Bahrain led by robust growth in the transportation, communications and financial sectors. Retail spending was buoyant in the first half of 2018, bolstered by higher oil prices, rising public sector employment, and positive household sentiment. Kuwait is the Qatar), the growth performance in first half of 2018 was large- fifth-largest OPEC oil producer, and one of the few OPEC ly driven by oil and gas production and exports, supported by members with spare oil production capacity. Oil output has higher oil and gas prices. risen to 2.8 mbd, a daily increase of 90,000 barrels since June, following the revision of the OPEC+ production cuts. Crude oil production by Saudi Arabia and the GCC was 17.1 mbd in the first quarter of 2018 and 17.3 mbd in the second Oman does not report quarterly national accounts in real quarter, compared to 17.2 mbd in 2017 (Figure 14). Higher terms, although the government announced that GDP grew 6.5 output in the first half of 2018 by Saudi Arabia, of around percent yoy in the first quarter of 2018 in nominal terms. Quar- 90,000 barrels per day over 2017 levels, covered for lower terly oil and gas production data indicate a pick -up in the hy- output, mainly by the UAE, of around 70,000 barrels per day. drocarbon sector. Oil production increased 0.2 percent yoy in the eight-month period January-August 2018 after contracting Following the OPEC+ agreement first struck in December 3.9 percent yoy during the same period in 2017. Gas produc- 2016 among the 12 OPEC and 10 non -OPEC suppliers to cut tion expanded 6.8 percent yoy in the first quarter of 2018 on global production by 1.8 mbd beginning in January 2017, higher output from the Khazzan gas field. crude oil production by the GCC slid to 17.2 mbd in 2017, some 4.4 percent lower than in 2016. Compliance with the Bahrain bounced back from a 1.2 percent yoy (1.3 percent qoq agreement had been 95 percent in 2017 by OPEC members saar) contraction in the first quarter of 2018 to a 2.4 percent and 82 percent by non-OPEC producers, according to the In- yoy (5.3 percent qoq saar) expansion in the second quarter. ternational Energy Agency. The cutbacks have helped re- The oil and gas sector, which contracted 14.7 percent yoy in balance the global crude oil market in the past 21 months and the first quarter because of oil field maintenance, grew 0.8 per- lifted international oil prices to around US$80 per barrel (the cent yoy in the second quarter due to higher natural gas pro- average of the Brent, Dubai and West Texas Intermediate duction. Non-hydrocarbon growth was positive at 1.9 percent prices) in October 2018 from as low as US$30 per barrel in yoy in the first quarter of 2018, driven by the construction of January 2016. large scale GCC-funded infrastructure projects and associated domestic demand, an important development for an economy However, unexpected production outages in 2018 in Venezue- that is the least dependent on hydrocarbon GDP in the GCC. la, Libya, and Angola, all OPEC members, had effectively Non-hydrocarbon growth picked up to 2.8 percent yoy in the brought supply cuts to around 2.8 mbd by mid -2018, over- second quarter as the construction sector continued to perform shooting the cutback target by some 55 percent. The United strongly, with ongoing infrastructure projects along with some States, China and India have since urged oil producers to re- private real estate developments, and the manufacturing sector lease more supply to prevent an oil deficit that would under- grew on the back of strong aluminum output. mine global growth. In June 2018, OPEC made a pledge in Vienna to 100 percent compliance with the OPEC+ agreement. … buoyed by rising oil and gas prices The commitment implies an increase in production by around 0.7-1.0 mbd, although the communique does not specify how With hydrocarbons accounting for a large part of GDP across the production increases would be allocated among the parties. the GCC countries (from a fifth of GDP in Bahrain to half in Indications are that OPEC members are still over -shooting Natural gas production Fiscal deficit, quarterly Billion cubic meters Percent of GDP 45 10 40 5 0 35 -5 30 -10 25 -15 20 -20 15 -25 -30 10 -35 5 Q1-2015 Q2-2015 Q3-2015 Q4-2015 Q1-2016 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q1-2018 Q2-2018 0 2015 2016 2017 Qatar Saudi Arabia UAE Oman Kuwait Bahrain Oman Qatar Saudi Arabia production cuts while non-OPEC producers are under- has also added natural gas from the U.S. to its list of goods performing. The International Energy Agency reports compli- under tariffs as its trade conflict with the U.S. has escalated. ance rates in August 2018 at 115 percent of the target by Qatar, the world’s biggest natural gas exporter (and a compet- OPEC and 75 percent by non-OPEC suppliers, although com- itive supplier with sizable output and low costs), is seeking to peting estimates place these rates higher, at 129 percent by expand its production capacity from 77 to 100 million tons a OPEC members, and lower, at 69 percent, by non-OPEC part- year and is well-positioned to help meet higher future global ners.1 Among the OPEC members, Saudi Arabia, the UAE, demand for natural gas. Kuwait and Iraq have boosted output; however, total OPEC production remains lower than targeted because of under - investment in Angola and falling output in Venezuela and Iran, partly a reflection of U.S. sanctions. Governments continued with fiscal adjustment, albeit at a more gradual pace … Recent data show higher production by the GCC of 0.51 mbd, from 17.53 mbd in the second quarter of 2018 to 18.04 mbd Budgets approved for fiscal year 2018 for the GCC countries, in August 2018, including an incremental output by Saudi or for fiscal year 2018-19 (April-March) in the case of Kuwait Arabia of 0.28 mbd over the same period to 10.42 mbd in and Qatar, generally envisage a narrowing of deficits in 2018 August. Preliminary numbers for September indicate that from 2017. Countries reporting quarterly fiscal data—Saudi production by Saudi Arabia likely topped 10.7 mbd in the Arabia, Qatar, and Oman—indicate that deficits were cut in the month and may reach 11.0 mbd by end -2018. Having spare first or second quarter of 2018, from the fourth quarter of 2017 capacity and acting as a key swing producer, Saudi Arabia (Figure 16). Oil price assumptions in budget projections are will likely lead in offsetting deficits with the OPEC+ produc- generally more conservative than actual outturns for the year tion targets. Saudi Arabia and Russia reportedly agreed to thus far, so that final budget outturns are on track to be better another output boost ahead of a meeting among the OPEC+ than projected across the GCC. partners in Algiers in September. Overall, the GCC governments are continuing with fiscal Meanwhile, the GCC’s natural gas producers, which raised consolidation plans launched after oil prices collapsed in mid output last year (Figure 15), stand to benefit from the surge in -2014, albeit at a more gradual pace in 2018 as several adjust- natural gas prices, driven by extreme weather -related demand, ment measures were front -loaded in 2015-16. Two coun- in the near-term, and China’s drive to replace coal with clean- tries—Saudi Arabia and the UAE—have already introduced er burning natural gas, in the medium to long term. China, the 5 percent value -added tax (VAT) on goods and services which overtook South Korea as the world ’s second biggest planned by the GCC governments as a region -wide harmo- buyer of natural gas with 38 million tons of imports in 2017 nized tax to be implemented starting in 2018. Four coun- ( 46 percent higher than in 2016), is seeking long -term supply tries—Oman and Bahrain in 2018, and Saudi Arabia and commitments of 65 million tons per year through 2022. China UAE earlier in 2017—have implemented the 100 percent excise tax on tobacco products and energy drinks and the 50 percent excise tax on soft drinks, similarly covered by a GCC 1/ https://www.bloomberg.com/graphics/opec-production-targets/ unified tax agreement. Saudi Arabia reduced its fiscal deficit from 17.2 percent of LNG revenue boosted Qatar’s public finances to a small sur- GDP in the fourth quarter of 2017 to 5 percent in the first quar- plus of 0.6 percent of GDP in the first quarter of 2018, the first ter of 2018. Oil revenue remained nearly flat despite signifi- positive outturn since the first quarter of 2016, following a cantly higher crude prices because of an over -shooting of out- larger-than-expected production in the North Field. Qatar had put cuts in the first quarter. Non-oil revenue jumped 63 percent planned a modest budget for FY2018-19, with capital expendi- yoy, driven by an almost 300 percent yoy increase in receipts tures, already high at half of total expenditures, remaining flat from taxes on goods and services following the implementa- for the year. The boost to spending would come from salaries, tion of the VAT in January 2018. Purchases of goods and ser- a fourth of total expenditures, which were budgeted to rise by vices were down 39 percent yoy and capital expenditures, 11 around 9 percent from 2017, with increases in salaries for na- percent yoy, but salaries rose 20 percent yoy following the tionals and an easing in cuts for expatriates. Overall, spending rollback of salary cuts introduced in 2016 and an even bigger would increase 2.4 percent in the fiscal year; however, on a increase in social benefits. general government basis, the fiscal balance is anticipated to shift into a small surplus of over 2 percent following a deficit Apart from implementing the VAT, Saudi Arabia also substan- of under 2 percent in 2017. The fiscal surplus may eventually tially increased gasoline and electricity prices in January 2018. be higher in 2018 than the current oil and LNG production and Gasoline prices rose from Saudi riyal (SAR) 0.8 (US$0.21) per revenue data suggest, considering that Qatar records hydrocar- liter to SAR 2.04 (US$0.55) for Octane 95 and to SAR 1.37 bon revenue from two streams: a steady receipt of taxes and (US$0.37) for Octane 91, equivalent to price increases of 127 royalties throughout the year, plus a lump -sum dividend from and 83 percent respectively. The price increases effectively the state-owned Qatar Petroleum at the end of the year. eliminated consumer price subsidies on Octane 95. The gov- ernment also increased electricity tariffs and simplified tariff Kuwait approved a separate Kuwaiti dinar (KD) 3.3 million tiers for residential and commercial consumers. The new tariffs (US$10.6 billion) capital budget for fiscal year 2018-19 (April- are supposed to reflect the average supply cost of electricity, March) after passing the KD 21.5 million (US$69.1 billion) main but still generate subsidies because electricity producers con- budget earlier in the year (the National Assembly considers the tinue to receive their oil supply at subsidized prices. capital budget separately). The authorities are reorienting spend- ing from expenditure toward investment. The budget for FY2018 The government is also reporting its smallest quarterly fiscal -19 envisages a deficit of KD6.5 billion (US$21.7 billion), lower deficit since the first quarter of 2016, at US$2.0 billion in the than the KD7.9 billion (US$25.4 billion) shortfall in FY2017-18. second quarter of 2018. Compared to the first quarter, oil rev- enue was higher in the second quarter. Non-oil revenue in- Earlier this year, the government announced the postponement creased 42 percent yoy due to VAT and excise tax collections. of the implementation of the VAT, originally scheduled for Zakat taxes and income from sovereign assets held by the 2018, to 2021. It will move forward, however, with the imple- Saudi Arabia Monetary Authority and the sovereign wealth mentation of the excise tax on tobacco and soft drinks. Kuwait fund, the Public Investment Fund for Saudi Arabia (PIF), were is also proceeding more gradually with subsidy reform. The also higher. government began to rationalize electricity and water subsidies in September, but recent tariff increases have been implement- In the UAE, Dubai and Abu Dhabi announced separate eco- ed more slowly than originally proposed. There has been nomic stimulus packages in April and June 2018, respectively. strong opposition in Parliament to the subsidy reductions and The Dubai plan consists of supply-side measures, including there appears to be limited support for the VAT as well. allocating around 20 percent of public tenders to small and medium enterprises (SMEs), offering incentives to some 1,000 Oman reduced its fiscal deficit from 10 percent of GDP in the emerging market start-ups to locate in Dubai, and attracting fourth quarter of 2017 to 5.8 percent in the first quarter of international investment funds to invest in real estate projects. 2018. LNG revenue rose by some 17 percent, boosted by both The Abu Dhabi plan proposes spending United Arab Emirates higher global LNG prices and larger production volumes, in- dirham (AED) 50.0 billion (US$13.6 billion) over three years cluding from the Khazzan gas field. Higher fiscal revenues to boost the economy through infrastructure, industrial, SME encouraged the government to relax the salary threshold—from and social projects, and to provide 10,000 jobs to nationals. Omari rial (OMR) 600 (US$1,560) to OMR 950 (US$2,470) —of eligibility for the fuel subsidy scheme that was first an- These twin moves partly ease, but do not completely reverse, nounced in December 2017. The registration -based National the fiscal adjustments made in 2015-16. The stimulus plans Subsidy System provides eligible households 200 liters of pet- come after the two emirates raised infrastructure spending in rol a month at a subsidized rate of US$0.47 per liter, a 47 per- the second half of 2017: Abu Dhabi to increase crude output cent discount from the retail price. The higher threshold allows from its offshore Upper Zakum and onshore Bab oil fields, and the subsidy scheme to cover two -thirds of Omani households. Dubai to upgrade infrastructure for the World Expo 2020. The higher expenditures will be funded by higher oil revenues and Meanwhile, Oman introduced the region-wide excise taxes on non-oil revenues. The UAE launched the 5 percent VAT on tobacco products, energy drinks and soft drinks in August January 2018 but pledged not to increase federal fees for gov- 2018. Earlier in January, Oman received US$210 million in ernment services for the next three years. financing from Saudi Arabia, part of the US$10 billion that the General government international debt securities Current account balance, quarterly outstanding, US$ billion, end-of-period Percent of GDP 70 30 60 20 50 10 40 30 0 20 -10 10 -20 Q1-2015 Q2-2015 Q3-2015 Q4-2015 Q1-2016 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q1-2018 Q2-2018 0 Bahrain Kuwait Oman Qatar Saudi UAE Arabia Q1-2015 Q4-2017 Q1-2018 Q2-2018 Kuwait Qatar Saudi Arabia GCC Development Fund had allocated to Oman in 2011. The measures, including a restraint on capital spending. The econom- aid will be coursed through the Saudi Fund for Development ic support would be tied to the achievement of fiscal targets and will be used for infrastructure development in the Duqm monitored by the Arab Monetary Fund. In October, the three Special Economic Zone, where Oman is building a port, a ship pledged to give US$10billion to support the country’s funding repair yard and drydock, and a fishery harbor. requirements in relation with a fiscal reform package aiming to eliminate its budget deficit by 2022. Bahrain also introduced the excise taxes on tobacco products, energy drinks and soft drinks and, in addition, raised petroleum … and continued to access international debt prices for the second time in two years, both in January 2018. markets Following the two measures, the government announced that no new taxes or subsidy cuts would be pursued before compensa- GCC government international debt stock rose in the first half tory measures for low-income citizens are implemented. Bah- of 2018 from 2017, from new international bond sales through rain had previously taken small steps at fiscal adjustment. The April 2018 (Figure 17). government cut subsidies on fuel in January 2016, raised import tariffs on alcohol and tobacco in February 2016, and increased Saudi Arabia sold US$11.0 billion also in April 2018 in three electricity and water prices in March 2016. The measures were tranches (US$4.5 billion with a 4 percent coupon maturing in criticized roundly in Parliament and by the public. 2025; US$3.0 billion with a 4.5 percent coupon maturing in 2030; and US$3.5 billion with a 5 percent coupon maturing in The smallest of the six GCC economies, Bahrain has suffered 2049). The sovereign wealth fund, the Public Investment Fund persistent fiscal deficits since 2009, even before oil prices col- (PIF), is looking to raise US$5-8 billion in a syndicated loan, lapsed in 2014-16, and posted the region’s largest deficit, at following the later timeline for the initial public offering (IPO) by 15.1 percent of GDP, in 2017. General government debt is also the Saudi Arabian Oil Company (Saudi Aramco), which would the highest in the region and has doubled in the last four years have generated a flow into the PIF. Saudi Aramco was itself con- to 90 percent of GDP in end -2017. Foreign assets of the central sidering an inaugural bond to help finance its acquisition of bank barely cover two months of imports of goods. SABIC, the state majority-owned petrochemical company. Bahrain received an offer of economic support from three GCC Qatar issued US$12 billion in April 2018 in three tranches partners—Saudi Arabia, the UAE, and Kuwait—in mid-2018. (US$3.0 billion with 3.875 coupon maturing in 2023 in April The offer was relayed as CDS spreads (the cost of insuring Bah- 2018; US$3.0 billion with a 4.5 coupon maturing in 2028; and raini debt against default for five years) spiked above 600 basis US$6.0 billion with a 5.103 percent coupon maturing in 2048). points in June, their highest since 2008, from 240 basis points in The issue was the government’s first Eurobond sale after its dip- March. The one-year forward premium on the Bahraini dinar lomatic rift with some GCC neighbors erupted in June 2017. also climbed nearly 40 percent to 192.50 in June, reflecting Qatar attracted US$53 billion in orders on the US$12 billion speculation about the peg to the U.S. dollar. The three countries sale, and the 30-year tranche commanded a 205-basis point disclosed in August that they were reviewing a fiscal adjustment spread over U.S. treasuries, lower than the 210-basis point program for Bahrain that would focus on revenue measures, spread on its May 2016 sale, suggesting that the diplomatic dis- including the introduction of the VAT, and expenditure pute has not increased Qatar’s international borrowing cost. Oman sold a record US$6.5 billion in January 2018 in three tranches (US$1.25 billion with a 4.125 coupon maturing in Trade balance, quarterly 2023; US$2.5 billion bond with a 5.625 coupon maturing in US$ billion 2028; and US$2.75 billion with a 6.75 coupon maturing in 2048). The government issue added to expanding international borrowing by Oman’s SOEs in 2018. Nama Holding Company 4 approached banks to raise US$1.2 billion for the country’s electricity transmission and distribution network and Oman 3 Gas Company discussed a US$1.0 billion bridge loan to fund 2 work on the Salalah LPG extraction plant and the 22 -km gas 1 pipeline to the Duqm Special Economic Zone. Previously, Oman Oil Company secured a US$1.0 billion pre-export fi- 0 nancing loan in 2017 and Petroleum Development Oman, a -1 US$4.0 billion bank loan in 2016. -2 Q1-2015 Q2-2015 Q3-2015 Q4-2015 Q1-2016 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q1-2018 Q2-2018 Bahrain issued a 7.5 year US$1.0 billion sukuk (Islamic bond) yielding 6.875 percent (4.2 percentage points above equivalent U.S. treasuries) in March 2018. The government had earlier Bahrain Oman cancelled a conventional bond offering before the sukuk sale because of high yields demanded by investors. Bahrain has increasingly turned to the international debt market for deficit financing since 2015 and the National Assembly, the lower Oil exports, nominal value growth rate house of Parliament, raised the debt ceiling to 107 percent of Percent year-on-year GDP in June 2017. 80 60 Higher oil prices supported an improvement in current account balances 40 20 Saudi Arabia, Qatar and Kuwait reported current account 0 surpluses in the first quarter of 2018 (Figure 18), continuing -20 with quarterly surpluses beginning in the second quarter of -40 2016 for Kuwait, first quarter of 2017 for Qatar, and the third -60 quarter of 2017 for Saudi Arabia. Saudi Arabia also posted a Q1-2015 Q2-2015 Q3-2015 Q4-2015 Q1-2016 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q1-2018 Q2-2018 current account surplus in the second quarter. Quarterly current account data are not reported by the three other GCC countries. However, quarterly trade numbers indicate that Oman posted Kuwait Oman Qatar Saudi Arabia trade surpluses in the first half of 2018, while Bahrain contin- ued to record deficits (Figure 19). The GCC’s trade performance is invariably driven by energy Non-oil exports, nominal value growth rate exports, which account for more than half of all merchandise Percent year-on-year exports by the region. Saudi Arabia hiked oil export volumes by 0.5 mbd between the third quarter of 2017 and the first quarter of 2018, taking GCC overall oil exports volumes up 60 200 from 11.7 mbd to 12.1 mbd over the same period. Supported 40 150 by higher global crude oil prices, oil exports by Saudi Arabia 20 grew at a nominal rate of 16 percent yoy in the first quarter and 100 54 percent yoy in the second quarter of 2018 (Figure 20). The 0 50 quarterly nominal value growth rates were no less notable for -20 Qatar, at 36 percent yoy in the second quarter of 2018, and -40 0 Oman, at 46 percent. -60 -50 Q1-2015 Q2-2015 Q3-2015 Q4-2015 Q1-2016 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q1-2018 Q2-2018 Non-oil exports posted growth rates of over 20 percent yoy in Saudi Arabia in the second quarter of 2018 and almost 10 per- cent yoy in Qatar, where they make up a fifth of all exports in Bahrain Oman Qatar each country (Figure 21). A growth rate of almost 170 percent Saudi Arabia UAE Kuwait (rhs) yoy in the first quarter of 2018 in Kuwait would be remarka- Imports, nominal value growth rate growth ble, except that non-oil exports account for only a tenth of all exports. Non-oil exports increased over 5 percent yoy in the Percent year-on-year second quarter of 2018 in Bahrain, where they account for slightly over two-fifths of all exports. 60 Import growth, which remained negative in Saudi Arabia in 40 the first quarter of 2018, for the ninth consecutive quarter since the first quarter of 2016, swung around to a 5.5 percent yoy 20 growth in the second quarter of 2018 (Figure 22). Import 0 growth strengthened in Qatar and Kuwait but compressed in -20 Oman and Bahrain in the second quarter of 2018. -40 … and helped build reserves or contain reserve Q1-2015 Q2-2015 Q3-2015 Q1-2016 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q1-2018 Q2-2018 Q4-2015 drawdowns, except in Bahrain Saudi Arabia (Figure 23) and the UAE lost reserves in the Bahrain Kuwait Oman first half of 2018 from end-2017, on capital account deficits. Qatar Saudi Arabia UAE Reserves were US$3.0 billion less in Saudi Arabia, at US$493 billion at the end of the first quarter, and US$4.5 billion less in the UAE, at US$90.5 billion at the end of the second quarter. Saudi Arabia international reserves, excluding gold UAE reserves remained close to their level in end -2015, US$ billion US$93.7 billion, but Saudi reserves were a third off their level in end-2014, US$907.6 billion. Still, reserves provide ample import cover for Saudi Arabia, at 49 months of imports of 700 goods, although much less so for the UAE, at only 4 months imports of goods. 600 Qatar added US$10.5 billion to reserves at the end of 2017, 500 Kuwait, US$4.4 billion, and Oman, US$2.0 billion (Figure 400 24). Qatar’s reserves stood at US$24.3 billion at the end of the second quarter of 2018, covering 9.5 months of imports of 300 goods and Kuwait’s reserves were US$38 billion at the end of 200 the second quarter, or 12.7 months of imports. Oman ’s re- serves stood at US$18.1 billion at the end of the first quarter of 100 2018, covering 8.5 months of imports of goods. 0 2015 2016 2017 Q1-2018 Q2-2018 Bahrain, which reported its third straight annual current ac- count deficit in 2017, lost US$400 million of international re- serves in the first half of 2018. The Central Bank of Bahrain’s foreign assets of US$2.2 billion at the end of the second quar- International reserves, excluding gold ter of 2018 are a third of their level of US$6.1 billion at the end US$ billion of 2014, and cover barely 2 months of imports of goods, down from almost 7 months of imports at the end of 2014. The de- pleted reserves reduce buffers for the dollar peg and the ability 100 to fund maturing bonds. 80 60 Headline inflation increased in Saudi Arabia and the UAE with the implementation of the 40 VAT, but has eased since then 20 Consumer price inflation rose in Saudi Arabia and the UAE in January 2018, as the GCC’s two largest economies introduced 0 a 5 percent VAT at the beginning of the year. Inflation rose to Bahrain Kuwait Oman Qatar UAE 3 percent yoy in January in Saudi Arabia, from -1.7 percent the 2015 2016 2017 Q1-2018 Q2-2018 previous November 2017, before settling lower at 2.3 percent in August (Figure 25). Inflation also jumped to 4.5 percent yoy in January in the UAE, from 1.7 percent in November, before CPI inflation, monthly moderating to 3.8 percent in July. The month -on-month rates Percent year-on-year were 3.5 percent in Saudi Arabia in January (Figure 26), and 2.6 percent in the UAE. 5 The sharp rise in the CPI in Saudi Arabia to its highest 4 monthly rate since September 2016 followed a full year of de- 3 flation in 2017. The sectors that saw a major impact from the 2 VAT were food, household furnishings, and recreation, where 1 prices jumped between 5.0 to 5.6 percent month -on-month 0 (mom). Housing, which is exempt from VAT, rose only 1.8 -1 percent mom, while education, also exempt, declined 0.8 per- -2 cent mom. The VAT was not the only driver of inflation in Jan-2015 Jan-2016 Jan-2017 Jan-2018 Oct-2015 Oct-2016 Oct-2017 Jul-2015 Jul-2016 Jul-2017 Jul-2018 Apr-2015 Apr-2016 Apr-2017 Apr-2018 January, however, as domestic fuel prices also rose sharply, between 82 and 126 percent yoy for various products, reduc- ing, if not eliminating, long-standing fuel subsidies. Bahrain Kuwait Oman Qatar Saudi Arabia UAE The UAE had expected a higher inflation rate in January than the 4.5 percent yoy posted, considering that energy prices had also risen and, with subsidies removed, that price rise should have been reflected in local costs. A soft property market in CPI inflation, monthly Dubai helped contain the UAE-wide inflation, with residential Percent month-on-month seasonally-adjusted property prices dropping 4.6 percent yoy on average in 2017, rents falling 1.7 percent yoy in January 2018, and housing and utility costs declining 0.7 percent yoy, also in January. 4 3 Credit growth remains weak, and deposit growth, mixed 2 1 Except in Qatar and Bahrain, where it appears to be recovering 0 in the second quarter of 2018, credit growth to the private sec- -1 tor remains weak in the rest of the GCC (Figure 27). Credit -2 contracted in Saudi Arabia for the fifth consecutive quarter, Jan-2015 Jan-2016 Jan-2017 Jan-2018 Oct-2015 Oct-2016 Oct-2017 Jul-2015 Jul-2016 Jul-2017 Jul-2018 Apr-2015 Apr-2016 Apr-2017 Apr-2018 by 0.5 percent yoy in the first quarter of 2018 before recover- ing slightly by 0.6 percent in the second quarter. The long stretch of private credit contraction began after oil prices col- Bahrain Kuwait Oman lapsed in mid-2014, as bank liquidity dried up and business Qatar Saudi Arabia UAE confidence tanked. In addition, borrowing by the government may have reduced credit to the private sector. Credit growth has been subdued in the UAE since the third Bank credit to the private sector, growth quarter of 2017, growing 1.9 percent yoy in the first quarter of Percent year-on-year 2018 and 3.4 percent in the second quarter. Credit to firms was poor, with government-related entities de-leveraging and the property market softening. Credit to consumers was weak, as 30 poor consumer sentiment and price pressures from the intro- 25 duction of the VAT weighed on demand for personal loans. 20 Credit growth has been sluggish in Kuwait since the beginning 15 of 2018, flattening at 1.7 percent yoy in the first quarter and 10 1.6 percent in the second quarter. 5 0 Growth in banking sector deposits had weakened in the -5 GCC in the wake of the 2014 oil shock and as fiscal pres- Q1-2015 Q2-2015 Q4-2015 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q1-2018 Q2-2018 Q3-2015 Q1-2016 sures contributed to governments drawing down deposits held with the banking sector. The exception is Qatar, where rapid withdrawal by foreign clients of deposits at Qatari Bahrain Kuwait Oman banks forced the government to bring in cash from abroad Qatar Saudi Arabia UAE to stabilize bank balance sheets (Figure 28). Over the past Deposits at banks, growth two years, as fiscal pressures have eased, and as economic activity has begun to revive, deposit growth has begun to Percent year-on-year improve, albeit modestly. Government deposit growth has been particularly strong in the UAE at 24 percent yoy in the first half of 2018. Local savings rates increased with the 20 monetary policy tightening, encouraging savings at local 15 banks. In Qatar, the much slower growth rate of government deposits in the second quarter of 2018 indicates that private 10 deposit outflows may have abated, allowing the government 5 to reduce its support. 0 -5 Q1-2015 Q2-2015 Q3-2015 Q4-2015 Q1-2016 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q1-2018 Q2-2018 Regional currencies appreciated with the U.S. dollar … Bahrain Kuwait Oman As the U.S. dollar depreciated 9.5 percent in broad nominal Qatar Saudi Arabia UAE effective terms between December 2016 and April 2018, the GCC currencies similarly depreciated against the currencies of their trading partners, although by varying amounts (Figure Nominal effective exchange rates 29). Since then, the U.S. dollar has strengthened by 5.5 percent Change, + = appreciation between April and September 2018 on stronger economic per- formance in the first and second quarters of 2018 and three policy rate hikes since the start of the year. The GCC curren- cies have appreciated, in tandem, in nominal effective as well United States as real effective terms, although real rates are still lower than in January 2017 and are only moderately higher than in Janu- ary 2015 (Figure 30). UAE Saudi Arabia … and interest rates rose with U.S. policy rates Qatar Most GCC central banks matched policy rate hikes by the Oman U.S. Federal Reserve during 2018. The U.S. central bank Bahrain raised the Federal Funds target rate to 1.625 percent in March, 1.875 percent in June and 2.125 percent in Septem- -10 -5 0 5 10 15 20 ber (Figure 31). In response, the Saudi Arabia Monetary Jan-2015 - Dec 2016 Dec 2016 - Apr 2018 Apr 2018-Sep 2018 Authority increased the repo rate to 2.25 percent in March, 2.5 percent in June and 2.75 percent in September, and the Central Bank of the United Arab Emirates , the CD rate to 2.5 percent in March, 2.75 percent in June and 3.0 percent in Real effective exchange rate index September. The Qatar Central Bank, which maintains an 2010 = 100, increase = appreciation interest rate framework with three rates, kept the repo rate unchanged since December 2017 at 2.5 percent, but raised the central bank deposit rate to 2.25 percent in September. 130 The Central Bank of Kuwait raised its discount rate to 3.0 percent in March, but paused in June and September, citing 125 economic concerns. Meanwhile, the Central Bank of Oman 120 raised rates gradually each month, taking the repo rate from 115 2.06 percent in January to 2.57 percent in September. Final- 110 ly, the Central Bank of Bahrain increased the one -week deposit rate to 2.0 percent in March, 2.25 percent in June 105 and 2.5 percent in September. 100 May-2015 May-2016 May-2017 May-2018 Jan-2015 Jan-2016 Jan-2017 Jan-2018 Sep-2015 Sep-2016 Sep-2017 Sep-2018 The policy rate hikes beginning in December 2016 have led to higher bank real lending rates in the region. (Figure 32). In Kuwait, the real lending rate has increased steadily since end - Bahrain Saudi Arabia UAE 2016, topping nearly 5 percent in the second quarter of 2018. Near-Term Prospects and Key Risks Central bank policy rates Percent The recovery of global oil prices from their trough in 2016, following the OPEC+ strategy to restrict supply to revive pric- 5 es, underpins the forecast for a steady recovery of the GCC economies in the near-term. The sources of growth will be 4 roughly balanced, with the contribution of private consumption 3 to GDP growth doubling from 2016 to 2019 and that from 2 fixed investment nearing a percentage point by 2020 (Table 1). 1 Higher oil revenues will enable governments to revive invest- ment spending in support of economic diversification objec- 0 Jan-2015 Jan-2016 Jan-2017 Jan-2018 Oct-2015 Oct-2016 Oct-2017 Jul-2015 Jul-2016 Jul-2017 Jul-2018 Apr-2015 Apr-2016 Apr-2017 Apr-2018 tives and sustain social spending in response to tax measures and energy subsidy reform. Fiscal deficits will gradually nar- row or shift into surplus, slowing the recent debt buildup, while current account balances, mostly in surplus since 2017, Bahrain Kuwait Oman will expand, augmenting international reserves. Qatar Saudi Arabia UAE US Economic growth is expected to rebound Growth is expected to recover across the GCC over the fore- Lending rates, adjusted for CPI inflation cast period, 2018-20. Saudi Arabia, Kuwait, and Oman Percent emerged from recession in 2017 and resumed growth in 2018 (Figure 33). Thereafter, economic growth will strengthen in most countries through 2019 and 2020. Bahrain will continue 6 to post positive GDP growth numbers during the period, alt- hough the economy will slow by more than a percentage point 5 from 2017 to 2019. 4 3 Growth is projected to average 2.1 percent in Saudi Arabia in 2018-20, driven by higher oil production particularly after the 2 expiration of the OPEC+ agreement in end-2018, greater non- 1 oil exports, and brisk domestic demand through 2020. As the 0 world’s third largest crude oil producer with a self-declared Q1-2015 Q2-2015 Q3-2015 Q4-2015 Q1-2016 Q2-2016 Q3-2016 Q4-2016 Q1-2017 Q2-2017 Q3-2017 Q4-2017 Q1-2018 Q2-2018 capacity of 12 million barrels a day, Saudi Arabia is well posi- tioned to raise output after the expiry of the supply reduction agreement and to help offset an expected decline in Iranian Bahrain Kuwait Oman Qatar supply after the U.S. reimposes sanctions on OPEC’s third largest oil producer. Saudi Arabia has also moved to boost gas production to supply feedstock for the petrochemical industry, with Saudi Aramco awarding tenders to add capacity at the GDP growth Hawiyah and Haradh plants that will double gas output to 23 Percent billion standard cubic feet per day by 2021. While the economy will continue to be driven by oil during the 6 forecast period, Saudi Arabia will realize gains in the non-oil sector, particularly manufacturing and services, where investor 4 and business confidence is recovering and hiring has picked up. Services is projected to grow an annual average 3.0 percent in 2 2018-20. On the demand side, private consumption growth will 0 be positive as the government restores some of the benefits for public sector workers that were cut in 2016-17 (Figure 34). Pro- -2 gress on several constructions projects will add to growth. -4 The UAE is projected to grow at an annual average 3.1 percent 2016 2017 2018e 2019f 2020f in 2019-20, from an estimated 2.0 percent in 2018, supported Bahrain Kuwait Oman by higher oil production from the unwinding of the OPEC+ Qatar Saudi Arabia UAE agreement, the implementation of the Abu Dhabi and Dubai The growth of Qatar’s gas industry is expected to remain ro- economic stimulus plans, and the impetus from hosting the bust during the forecast period. The world’s fifth largest natu- World Expo in 2020. ral gas producer (4.8 percent of global production in 2017) and the largest exporter (10.7 percent of world pipeline and LNG The stimulus initiatives support the UAE’s broad diversification exports in 2017) continues to supply LNG to the UAE under strategy. Dubai, a more diversified economy, is stepping up existing deals. Meanwhile, Qatargas, the surviving entity from efforts to pioneer technology entrepreneurship, aiming to draw a January 2018 merger with the country’s second-largest gas the interest of international investors and start-ups. Abu Dhabi, firm RasGas Company Limited (RasGas), is reportedly negoti- more reliant on oil, is focusing on industrial and SME projects. ating a short-term LNG supply deal with PetroChina, which Meanwhile, the UAE is spending heavily on infrastructure, with has turned away from U.S. natural gas suppliers following Chi- US$7 billion (around 2 percent of 2017 GDP) allocated for new na’s trade conflict with the U.S. construction and upgrading related to hosting the World Expo, the international exhibition designed to showcase the achieve- Qatar is also implementing a large public investment program ments of nations. The event, the first to be held in the Middle for 2014-24, valued at US$130 billion (77 percent of 2017 East and North Africa region in the exposition’s almost 170- GDP), with many projects linked to its hosting of the FIFA year history, will feature international and corporate organiza- World Cup in 2022. Some projects have hit delays, including tions from 132 countries and is expected to draw huge numbers Qatar Rail’s long-distance passenger and freight rail and net- of visitors, boosting private consumption and services. work project. But, considering the size of the investment plans, construction activity related to the World Cup will continue to Economic growth in Qatar is expected to steadily increase to support growth during the forecast period. Non-oil growth will 2.3 percent in 2018, 2.7 percent in 2019 and 3.0 percent in average around 3.0 percent in 2018-20. 2020. The US$10 billion (6 percent of 2017 GDP) Barzan nat- ural gas project, the joint venture between Qatar Petroleum and Kuwait will rebound from recession in 2017 to a 1.5 percent Exxon Mobil that will be operated by Qatar Liquefied Gas growth in 2018 and 3.0 percent in 2019 and 2020. Plans to Company (Qatargas), the world’s largest LNG company, will invest US$115 billion (96 percent of 2017 GDP) in the oil come onstream in 2020, adding 2 billion cubic feet per day, or sector over the next five years—the target is to boost produc- 12 percent more to the country’s current natural gas production tion capacity by 1 million barrels a day to 4 million barrels a of 17 billion cubic feet per day. day by 2020—will spur growth during the forecast period. Kuwait and Saudi Arabia are reportedly making headway to- wards a political agreement to restart two oil fields in the Par- Contributions to GDP growth titioned Neutral Zone which have been offline for four years. Percentage points Restarting the shuttered oil fields—the offshore Khafji deposit and the onshore Wafra field where output is to be shared equally between Kuwait and Saudi Arabia—will bring 6 500,000 barrels of crude a day onto the market and help meet part of Kuwait’s target. 4 2 Implementation of Kuwait’s Northern Gulf Gateway project, 0 unveiled in May at the 2018 Kuwait Investment Forum, could -2 boost growth above the forecast for 2018-20. The megaproject -4 aims to develop the country’s northern region—with a new 2018e 2018e 2018e 2018e 2018e 2018e 2019f 2020f 2019f 2020f 2019f 2020f 2019f 2020f 2019f 2020f 2019f 2020f airport, an industrial hub, and tourism and education zones— and link the area with China’s Belt and Road Initiative. Kuwait Bahrain Kuwait Oman Qatar Saudi Arabia UAE announced plans to attract US$140-200 billion (117-167 per- cent of 2017 GDP) in FDI for the project, which is also ambi- Private Consumption Government Consumption tiously projected to create 300-400 thousand jobs. Fixed Investment Net Exports GDP growth Oman is forecast to recover from a 0.9 percent contraction in 2017 to 1.9 percent growth in 2018 and 2.8 percent in 2020. Natural gas production from the Khazzan gas field, the British Petroleum development which was commissioned in Septem- Meanwhile, the US$6.5 billion (19 percent of 2017 GDP) Sitra ber 2017, is expected to steadily increase during the forecast oil refinery expansion project will not start to boost exports period. Meanwhile, British Petroleum and Oman Oil, which until 2022. Likewise, oil production from Bahrain ’s newly own 60 and 40 percent respectively of the Khazzan field, have discovered 80-billion-barrel shale reserve (the discovery was agreed to the development of the second phase (the Ghazeer) announced in May 2018) —potentially supplying 200,000 bar- that will boost output from the field by 50 percent to 1.5 billion rels per day, should the reserve be developed—is not expected cubic feet per day by 2021. Total Omani natural gas production to commence until five years hence, in 2023 at the earliest. was 1.7 billion cubic feet per day in 2017. The economic growth projections for Bahrain assume that the Growth during the forecast period is also expected to benefit country will continue to receive financial assistance from the from economic diversification initiatives. The opening in May GCC Development Fund and economic support from Saudi 2018 of the Batinah Expressway, Oman ’s 270-kilometer eight- Arabia, the UAE and Kuwait. Of the US$10 billion pledged by lane highway that connects the Muscat Expressway in the capi- the GCC Development Fund by 2021, around US$3.2 billion tal at Halbun with Oman’s border with the UAE at Khatmat worth of projects has been started. Meanwhile, Saudi Arabia, Malaha, will provide a boost to the country’s logistic sector. the UAE, Kuwait and the Arab Monetary Fund are in discus- The project directly benefits the Khazaen Economic City sion with Bahrain on the scope and terms of the economic sup- (formerly called the Khazaen Logistics Hub) in South Al Bati- port offered in June 2018. nah and the Port of Sohar in Liwa, which has taken over cargo traffic from Port Sultan Qaboos in Muscat. Moreover, the im- Current account balances will mostly return to plementation of several business reform measures— surpluses liberalizing key sectors, implementing the FDI law, using pub- lic private partnerships (PPPs), and allowing 100 percent for- The region’s four largest economies—Saudi Arabia, the UAE, eign ownership of companies—will lead to higher investment Qatar and Kuwait—are projected to post current account sur- in the economy. pluses during the forecast period (Figure 35). Only Oman and Bahrain will continue to incur deficits. Bahrain’s economy is expected to slow from 3.9 percent growth in 2017 to 3.2 percent in 2018 following a curtailment Saudi Arabia’s external accounts are expected to strengthen in capital spending by the government. However, growth will during the forecast period, and the current account is projected remain positive and improve slightly from 2.6 percent in 2019 to be in surplus at an average 9.7 percent of GDP in 2018-20. to 2.8 percent in 2020, helped by higher oil production and the Oil production and exports are expected to rise with the expiry expansion of capacity at Aluminum Bahrain (Alba). Produc- of the OPEC+ agreement, and on the back of anticipated robust tion from the Line 6 expansion project at Alba, which will be global demand for crude. Trade surpluses will be large with world’s largest single-site aluminum smelter after the comple- rising export shipments of aluminum, phosphates, and petro- tion of the project, will begin in January 2019, boosting alumi- chemicals, including from the Sadara Chemical Company’s num production by the firm by 50 percent to 1.5 million metric giant 26-plant integrated chemical complex, a joint venture tons per year. between Saudi Aramco and the Dow Chemical Company. The Current account balance Fiscal balance Percent of GDP Percent of GDP 20 5 15 0 10 -5 5 0 -10 -5 -15 -10 -20 -15 -20 -25 Bahrain Kuwait Oman Qatar Saudi UAE Bahrain Kuwait Oman Qatar Saudi UAE Arabia Arabia 2016 2017 2018e 2019f 2020f 2016 2017 2018e 2019f 2020f “Saudization” program and curbs on money transfers will re- investment may raise the import bill. Gains in tourism should strain outward remittances. However, interest payments will narrow the services deficit. But, repatriation of profits by for- rise due to the growing external debt stock. eign companies will likely keep the primary income deficit high, as will remittances, despite the “Omanization” drive, as Imports related to infrastructure development are expected to the private sector remains dependent on foreign labor. limit the size of current account surpluses in the UAE at an average 4.9 percent of GDP in 2018-20. Oil and gas exports, In Bahrain, the current account is expected to remain in deficit non-oil merchandise exports, and services credits will all rise during the forecast period, but the deficit may narrow to 2.8 during the forecast period, supported by higher oil production percent of GDP in 2018 and 1.9 percent in 2020, from 4.5 per- and the gains made from economic diversification efforts fo- cent in 2017. Merchandise trade should be helped by the rise in cused on the UAE’s role as a regional economic hub. Tourism oil prices, an increase in aluminum exports from the opening of and financial services demand will spur services credits. Alba’s sixth potline in 2019, and a pick-up in refined oil ship- ments. However, demand for consumer and capital goods im- Qatar’s current account surpluses should average 7.6 percent ports may also rise with positive economic growth. Mean- of GDP in 2018-20. Global demand for LNG is expected to while, services credits have been negatively affected by ad- remain healthy and keep Qatari gas exports buoyant. Services verse political developments. Despite the improvement in the credits should improve with the efforts by the airline SOE, current account, reserves may remain within a few months of Qatar Airways, and the maritime firm, Milaha, to establish new imports of goods without aid from Bahrain ’s GCC partners. transport routes. Income credits will fall with the ongoing liq- uidation of assets by the Qatar Investment Authority, and in- Fiscal deficits are projected to progressively come debits will rise with payments on the growing external narrow debt stock. Outward worker remittances will keep the transfers account in deficit. Fiscal deficits are projected to reverse to surplus in Qatar begin- ning in 2018, progressively narrow in Bahrain, Kuwait and Kuwait is expected to record current account surpluses during Oman over 2018-20, and approach near-balance in Saudi Ara- the forecast period, but the surplus may moderate from 10.6 bia and the UAE by 2020 (Figure 36). The projections are un- percent of GDP in 2018 to 5.9 percent in 2020. Imports related derpinned by a more gradual pace of fiscal adjustment across to infrastructure investment will increase during the forecast the GCC, supported by higher oil and gas receipts and addition- period. The services account will remain in deficit. al rounds of revenue enhancement and expenditure reduction. Oman’s current account deficit is projected to gradually narrow Saudi Arabia is expected to close its budget deficit from 17.2 during the forecast period from 9.8 percent of GDP in 2018 to percent of GDP in 2017 and 9.0 percent in 2018 to 0.5 percent 7.6 percent in 2020. Refined oil exports are anticipated to in- by 2020, achieving a near fiscal balance ahead of schedule. The crease from the Sohar refinery improvement project, and gas government had previously deferred its target date to achieve a exports, from the Khazzan gas field. Non-oil exports are also balanced budget to 2023 rather than 2019, due to concerns about expected to increase with the economic diversification initia- economic growth. The slower pace of fiscal consolidation has tives. However, expanding consumer demand and a pickup in been deemed broadly appropriate considering the availability of fiscal space in the economy; gross financing needs and the debt- plan over the forecast period through 2020. Dubai has ramped to-GDP ratio remain below thresholds, both under baseline and up capital spending for World Expo 2020, with a 47 percent stress scenarios. increase in budgetary spending on infrastructure in 2018 over 2017. Dubai’s investment for World Expo 2020 is estimated at The budget for 2019, released with the government’s first ever US$7.0 billion (6 percent of the emirate’s 2017 GDP, or 2 per- budget statement in early October, is broadly consistent with cent of the UAE’s 2017 GDP). the foregoing scenario. Government revenues are forecast to rise to SAR 978 billion (US$261 billion) in 2019. Total gov- Qatar is projected to improve on an estimated fiscal surplus of ernment expenditures are projected to increase by 7.4 percent 2.3 percent of GDP in 2018 with marginally higher surpluses to SAR 1,106 billion (US$295 billion) in 2019 from an esti- of 2.9 percent in 2019 and 2020. Revenue is anticipated to in- mated SAR 1,030 billion (US$275 billion) in 2018 to cover crease with the rise in LNG prices, and higher natural gas pro- financing expenses, subsidies and social benefits. The deficit is duction, including from the Barzan gas project, by 2020. Qatar expected to narrow to SAR 128 billion (US$34 billion) in 2019 is also expected to implement the VAT during the forecast from an estimated SAR 148 billion (US$40 billion) in 2018. period, presumably in 2019. Capital spending will expand dur- The budget statement also commits the government to ing the forecast period with the implementation of Qatar ’s strengthen governance, improve transparency, continually reas- US$130 billion multi-year public investment program. Pared sess spending priorities, and encourage citizens to find jobs. down from an original US$180 billion (107 percent of 2017 GDP), the investment plan includes upgrades to infrastructure, The near-term projections assume that Saudi Arabia will re- including for the FIFA World Cup in 2022. Moreover, new main firm on its commitment to raise non-oil sources of reve- capital spending may be expected during the forecast period nue. The government is set to revise the mandatory registration for the expansion of the North Field, the massive offshore field threshold for the VAT to a turnover of SAR 1.0 million where the majority of Qatar’s natural gas is located, following (US$267,000) in 2019 to enlarge the tax base from 110,000 to the lifting of the 2005 moratorium on new export -oriented gas 400,000 mostly small business taxpayers. The threshold was projects announced in early 2017. set to a turnover of SAR 375,000 (US$100,000) when the tax was introduced in January 2018 in a bid to win ready compli- In Kuwait, the government has postponed the implementation ance and to ease tax administration. Following plans detailed of the VAT for three years, from 2018 to 2021. The delay in in the 2018 Update to the Fiscal Balance Program, the govern- the introduction of the VAT and recent increases to budgetary ment is also set to further rationalize energy and water tariffs spending are likely to reduce the gains from higher oil prices over the period 2019-25. The early measures in 2015 raised and keep the deficit large, although declining, at 4 -5 percent of electricity tariffs for households by an average 35 percent and GDP in 2019-20 (the fiscal balance excludes investment in- prices for fuel products by 29 -133 percent. come and mandatory transfers to the Future Generations Fund). Kuwait has a low fiscal break-even price for oil, providing a The projections also assume that the government will continue less pressing motivation to mobilize non-oil revenues, and a to limit the future growth of current spending, which accounts strong populist Parliament, opposing measures, including the for three fourths of total public expenditure, while allowing for VAT, that reputedly impose financial burdens on citizens. increases in capital outlays, albeit from a lower base. The Citi- zens’ Account Program, introduced in December 2016 to com- Budget spending in FY2018-19 is 12 percent higher than in the pensate low- and middle-income households for the price ef- previous year. Proposals to develop the Northern Gulf Gate- fects of the VAT and the energy subsidy cuts, now benefits way project near the border with Iraq suggest that the govern- half the population and will likely be maintained as a social ment remains focused on large-scale projects, consistent with protection fund directed at low-income Saudi nationals. But, the five-year development plan which seeks to revive stalled the Royal Decree of January 2018, which provides a monthly infrastructure ventures. Kuwait’s large sovereign wealth fund allowance to government workers, students, retirees, and social (the Kuwait Investment Authority holds assets valued at benefit recipients, is set to expire in 2019. US$592 billion, around 490 percent of 2017 GDP) and large foreign reserves (at US$38 billion in end -June 2018, around 32 The UAE is on pace to achieve near fiscal balance by 2020, percent of 2017 GDP) provide ample financial resources for gradually reducing its deficit from 1.4 percent of GDP in 2018 large-scale projects. to 0.5 percent in 2020. Revenues will remain robust, with oil revenues boosted by higher oil prices and non -oil revenues Oman is expected to cut its fiscal deficit from 6.4 percent of supported by collections from the VAT, implemented in Janu- GDP in 2018 to 4.9 percent in 2020. The government plans to ary 2018, and the excise taxes on tobacco products, energy introduce the VAT in 2019, according to a Ministry of Finance drinks and soft drinks, introduced in October 2017. notice in late 2017, although more firm details have not been issued since. Meanwhile, the government will continue with Investment in infrastructure, focused on enhancing the UAE ’s investment spending during the forecast period for the Duqm role as a regional economic hub, will keep spending buoyant. Special Economic Zone, the country’s flagship economic di- Abu Dhabi will implement its new US$13.6 billion (6 percent versification project and plans to fund the venture with more of the emirate’s 2017 GDP) three-year development spending international borrowing. General government gross debt CPI inflation Percent of GDP Percent 120 6 100 5 4 80 3 60 2 40 1 20 0 0 -1 Bahrain Kuwait Oman Qatar Saudi UAE 2016 2017 2018e 2019f 2020f Arabia Bahrain Kuwait Oman 2016 2017 2018f 2019f 2020f Qatar Saudi Arabia UAE The forecast for a narrower fiscal deficit in Bahrain of 4 per- VAT and excise taxes and new cuts to energy price subsidies. cent of GDP in 2020 from 5 percent in 2018 and 12.9 percent Inflation is projected to top 3.7 percent in Saudi Arabia and in 2017 assumes than Bahrain will accelerate and strengthen its 4.2 percent in the UAE and 3.7 in 2018 (Figure 38). Saudi Ara- fiscal reform efforts. The government is considering a volun- bia and the UAE implemented the VAT in January and Saudi tary separation program for public sector employees, deeper Arabia added fresh cuts to electricity and fuel subsidies at the subsidy reforms, and the privatization of selected health and same time. The effects of the VAT are not expected to cascade, education services. The government is also in discussion with however; the maximum direct effect on the price level will not its GCC partners and the Arab Monetary Fund on a broader exceed the tax rate of 5 percent. The inflation rate is expected fiscal consolidation program that can be supported with donor to drop to 2.0 percent in Saudi Arabia and 2.5 percent in the funding. The VAT, anticipated to be implemented in 2019, and UAE in 2019. the excise taxes will be vital to the country’s revenue mobiliza- tion effort. Controlling expenditures, including by reforming Qatar is expected to implement the VAT in 2019 and inflation government agencies and cutting subsidies, will help improve is projected to reach 3.8 percent in the year before slowing economic efficiency. down to 2.5 percent in 2020 as the impact of the VAT hike falls. In Kuwait, inflation is projected to rise to 3.0 percent in Lower deficits should moderate the growth of 2020, from 2.2 percent in 2018, from subsidy reform. Kuwait public debt, except in Bahrain is not set to implement the VAT until 2021. Public debt ratios are projected to decline in Qatar and flatten Inflation is forecast to rise to 3.2 percent in Oman in 2020, in the UAE. They are also projected to rise slowly in Saudi from 2.1 percent in 2018, from the introduction of indirect tax- Arabia and Oman but climb more sharply in Kuwait and Bah- es. Oman introduced the excise taxes on tobacco products, ener- rain (Figure 37). gy drinks and soft drinks in August 2018, but has not firmed up implementation plans for the VAT. Bahrain introduced the Saudi Arabia is expected to continue financing its deficits in excise taxes on tobacco products, energy drinks and soft drinks 2018-19 with a combination of asset drawdowns and domestic and raised petroleum prices in January 2018; inflation is ex- and international borrowing. But, to protect its reserves, the pected to average 3.0 percent in the year. Inflation is forecast to government will likely finance its deficits to a greater degree accelerate to 5.1 percent in 2019 before easing to 2.4 percent in by issuing debt, both to domestic banks and on the internation- 2020. Bahrain is expected to implement the VAT in 2019. al debt markets. Oman in seeking loans of up to US$1.2 billion to finance infrastructure development in the Duqm Special The GCC central banks are expected follow U.S. Economic Zone. monetary policy Inflation is anticipated to spike with the VAT, Monetary policy is constrained in the GCC by the currency but stabilize quickly pegs. The GCC central banks are expected to broadly follow U.S. monetary policy. At the September 2018 meeting of the Inflation is anticipated to rise moderately across the GCC dur- Federal Open Market Committee (FOMC), the monetary ing the forecast period following the implementation of the policy-making body of the Federal Reserve System, the U.S. Target for the Federal Funds rate Oil GDP, exports, and revenues, 2015-17 Percent Percent of GDP, total exports, and total revenues 4.5 Median Oil GDP 4.0 % GDP UAE Oman Kuwait Bahrain Saudi Arabia Qatar 3.5 3.0 Oil exports % total exports 2.5 UAE Oman Qatar Saudi Arabia Kuwait Bahrain 2.0 Oil revenues 1.5 % total revenues UAE Oman Bahrain Kuwait Qatar Saudi Arabia 1.0 0.5 0.0 2018 2019 2020 2021 0 20 40 60 80 100 central bank signaled that it saw the Federal Funds rate at The GCC countries stand to benefit from an improved outlook 2.313 percent (median value) at the end of 2018, and 3.063 for oil and gas prices, with higher prices lifting their fiscal rev- percent (median value) at the end of 2019 (Figure 39). The enues and export receipts. median estimates imply one additional rate increase in 2018 and three rate increases in 2019, from the current target of There are both upside and downside risks to oil prices, which 2.125 percent set in September 2018. topped US$85 bbl (Brent) in early October. Saudi Arabia, Rus- sia, and their partners in the OPEC+ agreement have commit- The GCC central banks will likely tighten monetary policy ted to boost production following an overshooting of the agree- through 2020 as the U.S. Federal Reserve continues to hike ment targets. But markets remain concerned with potential rates to normalize monetary policy. The rate increases will additional losses in Venezuela, which is grappling with field raise domestic concerns across the GCC that tighter monetary shutdowns from an exodus of workers, and in Iran, which faces policy might constrain economic growth. The concerns will be economic sanctions from the United States. On the downside, heightened in countries facing less robust growth prospects. any weakness in global demand (e.g. related to trade tensions, or weakness in major emerging market economies) could also weigh on energy prices. Risks and Long-Term Challenges Other external risks include those related to bouts of turbulence in global financial markets and the associated volatility in capi- Risks to the regional outlook are tilted to the tal flows. GCC sovereign wealth funds have investments downside … abroad, some governments in the region have large deficits to finance, and banks have direct and indirect exposure to real The region faces a number of risks, which are on balance tilted estate. Any sharp drop in equity indices, rise in financing costs, toward the downside. These include steep upward or down- or drop in asset values will have implications for governments, ward changes to oil and gas prices, geo -political risks and risks households and firms (depending on their exposure). Smaller from volatility in global financial markets. A key domestic risk GCC countries with large financing needs could be particularly is a slowing of the pace of reforms in the region in the face of exposed to such risks. Other external risks include geo -political the increase in oil prices over the past year. tensions within the wider Middle East and North Africa region that affect energy supplies/prices and or weigh on investor The historical dependence of the GCC economies on oil and gas sentiment and confidence in the region. production, exports, and revenues heightens the sensitivity of regional outturns to oil and gas prices and demand. The hydro- A key domestic risk for the GCC region is a slowing in the carbon sector accounts for an average 40 percent of GDP in the pace of reforms if higher-than-anticipated oil and gas revenues GCC, and even for the most diversified economy in the regional reduce pressure on governments to undertake critical spending group, the UAE, the hydrocarbon sector is still 30 percent of adjustments and policy shifts. Governments have so far main- GDP (Figure 40). Except in the UAE, hydrocarbon exports are tained a focus on reform imperatives while striving to be re- more than roughly 65 percent of total goods exports, and hydro- sponsive to popular sentiment, often by implementing carbon revenues, more than 75 percent of total fiscal revenues. measures to alleviate cost-of-living concerns (e.g. the freeze on Fiscal break-even price of oil, 2018 External break-even price of oil, 2018 US$ per barrel US$ per barrel 120 120 100 100 80 80 60 60 40 40 20 20 0 0 Bahrain Kuwait Oman Qatar Saudi UAE Bahrain Kuwait Oman Qatar Saudi UAE Arabia Arabia Fiscal break-even price Forecast for 2018 External break-even price Forecast for 2018 Price in Oct 2018 Price in Oct 2018 school tuition fees in Dubai and the introduction of a Citizens strategies drafted by the GCC countries since mid -2014. Fiscal Account payment in Saudi Arabia). Given the social contract adjustment remains necessary, on the revenue side, to mobilize in the GCC countries, reducting the subsidy bill and restraining non-oil sources of government revenue, and on the expenditure public-sector wages will continue to be sensitive. This is espe- side, to align expenditures with revenues and increase the eco- cially so for Kuwait, where the executive and legislative nomic efficiency of government spending. Private sector de- branches will likely vigorously debate reform plans. velopment is key to each of the countries’ economic diversifi- cation. And, labor market reforms would mobilize the human Higher oil prices also exert less pressure on the GCC countries capital of the region, whose potential is insufficiently tapped to advance the revenue enhancement and expenditure reduction by distortionary policies that currently steer a well -educated measures launched in response to the collapse of oil prices in population into public sector employment and overly rely on 2014 and the emergence of large fiscal and current account foreign unskilled labor. Sustaining the reform momentum deficits in 2015-16. The forecast price for oil for 2018 far out- when energy prices are high makes sense because concerns strips the fiscal break-even price of oil (the oil price at which with growth, employment and welfare impacts are less press- the fiscal balance is zero) for Kuwait and Qatar (Figure 41), ing during a period of economic recovery. while the market price in October 2018 is close to topping the fiscal break-even price for Oman and the UAE (IMF, 2018a). Finally, any delay in reforms could serve as a negative signal The gaps are even larger between the forecast price for oil for to investors about the long-term outlook for the region and 2018 and the external break-even price (the oil price at which therefore its ability to attract FDI and external investors, both the current account balance is zero) for Kuwait, Qatar, Saudi critical parts of the diversification agenda. A commitment to Arabia and the UAE (Figure 42). reforms, in contrast, could help to set in motion a virtuous cy- cle of positive sentiment, higher investment and higher output. … and argue for continuing with structural re- forms Updated fiscal multipliers suggest that fiscal ad- justment in the GCC is less costly than previous- The presence of these risks to the global and the regional out- ly thought look underscores the need for pressing ahead with structural reforms initiated by the GCC countries since mid-2014. Alt- Recent research on fiscal multipliers in the GCC countries of- hough data point to sustained oil prices in the US$70 per barrel fers two findings that may help support ongoing fiscal adjust- range, fundamental changes in the oil market—shale oil has ment programs in the region (Fouejieu et al, 2018). The first is increased global recoverable oil reserves and turned scarcity that fiscal multipliers in the GCC have declined in recent years. into a glut—make a return to the elevated oil prices of the early And the second is that capital expenditure multipliers are larger 2010s unlikely (Stocker et al, 2018). The prospect of oil prices than current expenditure multipliers. remaining markedly under their pre-2014 levels underscores the urgency for oil exporters to continue with fundamental reforms. The weaker relationship between lower government spending and non-oil GDP growth in the recent data is evidenced both Fiscal consolidation, economic diversification, and social devel- by simple correlations and by fiscal multiplier calculations, opment are central to the vision statements and development the latter using linear and non -linear estimation procedures. Public wage bill, 2000-16 Public employment, 2005-16 Percent of GDP Percent of total employment 20 Wage bill, percent of GDP 14 15 12 Kuwait Saudi Arabia Bahrain 10 10 8 Oman 6 5 Qatar 4 0 2 UAE Bahrain Kuwait Oman Qatar Saudi UAE 0 Arabia 0 10 20 30 40 Other oil exporters (7), average Public employment, percent of total employment The correlations are statistically significant for three defini- The second implication is that reducing less productive cur- tions of spending (total, current, and capital) and show that, rent spending and protecting efficient investment expendi- whereas a one percentage point growth in total spending was tures will help limit the adverse impact of fiscal consolidation associated with 1.1 percentage point growth in non -oil GDP on economic activity. The crucial distinction is that the in- for the complete period 1990 -2016, the ratio fell from 1.4 vestment expenditures must be economically efficient. This during 1990-2007 to 0.6 during 2008-16. The fiscal multipli- report discusses wage bill reform as a current expenditure er computations show similar patterns. Over the full sample reduction measure, as well as improvements in capital ex- period 1990-2016, the estimated fiscal multipliers are 0.2 for penditure efficiency that are needed in light of large public current spending and 0.4 for capital spending, both in the infrastructure plans. short term (one -year impact of spending on non -oil growth), and 0.4 for current spending and 1.3 for capital spending, in Fiscal adjustment plans could consider reforms the long term (three -year impact). Focusing on the most re- to public wage bills … cent period, 2011-16, the fiscal multipliers are insignificant for current spending and 0.4 for capital spending in the short Expenditure reduction measures have so far targeted electricity term, and 0.2 for current spending and 0.9 for capital spend- and water tariffs and subsidies for gasoline and other fuel prod- ing in the long term. ucts. Among other potential expenditure measures, the GCC countries have yet to systematically explore reforms to public Using the actual composition of fiscal consolidation in the wage bills as a strategy to contain government spending and region, simulations predict that fiscal adjustment would cut address fiscal deficits (Tamirisa and Duenwald, 2018). non-oil GDP growth to 4.0 percent in 2017 (trough) if the fiscal multipliers for 1990 -2016 were used, but to only 2.7 Public wage bills are large, as a percentage of GDP, in the percent if the updated fiscal multipliers for 2011 -16 were GCC economies, compared to other oil producers or the rest of used. Moreover, if the adjustment were to fall solely on cur- the world. They are especially large in Kuwait, where they rent expenditure, non-oil GDP growth would be 4.5 percent in have topped 18 percent of GDP, and in Saudi Arabia, where 2017 (trough), using the updated fiscal multipliers for 2011 - they have exceeded 13 percent of GDP for almost two decades, 16. However, if the adjustment were to consist entirely of cuts 2000-16 (Figure 43). The large public wage bills are the result to capital spending, non-oil GDP growth could be as low as - of high levels of public employment and unusually large com- 1.0 percent. pensation. In Saudi Arabia, public employment accounted for more than a third of total employment in 2005-16, and in Ku- The results have two implications for fiscal adjustment pro- wait, close to a fifth (Figure 44). grams in the GCC countries. The first is that ongoing fiscal consolidation in the GCC could be less costly than previously In many countries in the Middle East and North Africa thought. This should reassure policymakers in the region who (MENA) region, where the public wage bills are larger than in have considered delaying planned revenue enhancement and other emerging markets and developing economies, the high expenditure reduction measures. It should also help inform wage bills reflect the traditional role of the state as “the em- opponents of fiscal reform measures of the merits and costs of ployer of first resort”. In the GCC, public payrolls are used to fiscal adjustment. distribute oil income. The availability of fiscal revenues is a key determinant of wage bills in the long run. In the GCC, the wage bill to KD3.2 million (US$10.6 million) in the first where oil revenues were 65-85 percent of fiscal revenues in year of the reform plan. 2000-16, oil prices were an important driver of wage bills. Public wage bill reforms will benefit the GCC economies in The wage bills account for a large share of fiscal expenditures several ways. Reducing expenditure rigidities arising from in the GCC. For almost two decades, they have made up for 40 high wage bills and enabling, instead, higher investment in percent of total spending in Saudi Arabia, over 35 percent in infrastructure will promote growth. Removing labor market Bahrain and Kuwait, and almost 25 percent in Oman (Figure distortions favoring government employment will boost private 45). In the UAE, the public wage bill may be under -estimated sector development. Rationalizing public pay relative to pri- as wages in some sectors may be classified under other ex- vate pay will support efforts to create jobs in the private sector, penditure categories. The large share of wage bills in total gov- the more sustainable source of employment for millions of new ernment expenditures imply that wage bills have edged out graduates entering labor markets. other priorities in the budget, including potentially more pro- ductive spending for infrastructure. … and upgrades to infrastructure Apart from maintaining consistently high levels of public em- The quality of infrastructure varies across the GCC. Executive ployment, the GCC countries have also offered unusually gen- opinion surveys conducted for the World Economic Forum’s erous compensation packages to government employees. Pub- Global Competitiveness Report for 2017-18 rank the UAE as lic sector pay was over 150 percent of private sector pay for the fourth best among 137 countries on the overall quality of equal competencies in Saudi Arabia and Qatar, over 200 per- infrastructure (WEF, 2018). In contrast, Kuwait is ranked 69th cent in Bahrain, and close to 250 percent in Kuwait (Figure (Figure 47). The quality of various classes of infrastructure 46). The wide public-private sector wage gaps have distorted also varies among the six countries. That of electricity supply labor markets in the GCC, discouraging private employment in is high across the board. However, those of air transport infra- favor of government employment, hindering skills develop- structure and port infrastructure decline sharply as the country ment for private industry, and unfairly benefiting insiders in rankings fall (Figure 48). the civil service. The long-term vision statements and medium-term spending The fiscal deficits across the GCC highlight the need for fiscal plans of the GCC countries highlight investment in infrastruc- reform, as well as labor market reform and education reform, ture as an important driver of economic growth. The UAE’s to address the strain that large public wages bills have imposed Abu Dhabi will spend part of its US$13.6 billion stimulus plan on public finances and the distortions they have inflicted on on infrastructure, while Dubai has allocated US$7 billion for labor markets. The measures must progress beyond temporary infrastructure upgrades for World Expo 2020. Qatar is imple- fixes, including hiring and wage freezes, which may be useful menting a US$130 billion public investment program for 2014 - in the short run but will be difficult to sustain in the medium to 24, including projects linked to the FIFA World Cup in 2022. long term. Kuwait’s flagship economic diversification venture, the North- ern Gulf Gateway project, and Oman’s major diversification Meaningful public wage bill reform will include: (a) anchoring project, the Duqm Special Economic Zone, are both heavy on public employment and compensation plans to a medium-term infrastructure spending. fiscal program; (b) focusing employment and compensation policies on providing quality public services; (c) strengthening In water infrastructure in the region, Oman, which is commis- the institutions that enable governments to better control em- sioning three water desalination plants at Sohar, Barka and ployment and link compensation to performance; (d) sequenc- Quriyatand in 2018, is planning to add 10 more plants to its ing reforms and building synergies with other policies, includ- network by 2023. The expansion aims to supply 90 percent of ing on labor and education; and, (e) communicating the reform the population with piped water by 2035. plans firmly to reset public expectations. Overall, rebalancing the composition of public expenditures The priorities vary by country. In Saudi Arabia, which re- toward capital spending should help improve infrastructure, versed reductions in government employee allowances enact- support non-oil growth, and spur productivity gains in the ed in October 2016, new allowances and reinstated annual GCC economies. But the economic and social impact of public step-pay increases will keep the wage bill high in 2018. In investment depends on its efficiency, and the efficiency of in- Qatar, which has more fiscal space, tightening the eligibility vestment, in turn, depends on how it is managed. Countries for allowances and reducing staff size by natural attrition will with more robust public investment management institutions help reduce the wage bill in the first stage of reform. In the produce more efficient and productive investments. medium to long term, a comprehensive assessment of work- force requirements will help deliver stronger results. In Ku- In Saudi Arabia, the authorities have put in place mechanisms wait, where the wage bill rose most sharply in the region after to review existing and new capital projects before they are the Arab Spring, standardizing the salary structure and keep- funded. In the UAE, the government must carefully monitor ing wage increases below inflation will limit the increase in capital transfers to government related entities (GREs), many Public wage bill, 2000-16 Public-private sector wage gaps, 2005-16 Percent of total spending Percent 40 Public employment, percent of total labor force 35 90 80 Qatar Kuwait 30 70 25 60 Saudi Arabia 20 50 15 40 Bahrain 10 30 5 20 0 10 Bahrain Kuwait Oman Qatar Saudi UAE 0 Arabia 0 50 100 150 200 250 300 Other oil exporters (7), average Public-private sector wage gap, percent Quality of overall infrastructure Quality of various infrastructure 1 = extremely under developed, 7 = extensive & efficient 1 = extremely under developed, 7 = extensive & efficient UAE [4] UAE [4] Qatar [22] Qatar [22] Bahrain [25] Bahrain [25] Saudi Arabia [30] Saudi Arabia [30] Oman [32] Oman [32] Kuwait [69] Kuwait [69] 0 1 2 3 4 5 6 7 Quality of electricity supply Quality of air transport infrastructure 0 1 2 3 4 5 6 7 Quality of port infrastructure Quality of roads of which have developed major infrastructure projects for Abu In the water sector, the challenges for the GCC countries are Dhabi. The UAE must also review future GRE investment to better manage water resources and deliver water services plans. Large investment projects, if not implemented prudent- in a region where water stress is acute, water consumption is ly, may create additional macro-financial risks. In Kuwait, the highest in the world, and dependence on energy -intensive there are potentially large gains from improving public invest- water desalination is extreme. The GCC countries need to ment management, considering that the country suffers from draw up water sector strategies that address these challenges. large infrastructure gaps while lagging its income -group in The In Focus section of this report sets out options to man- capital spending. age water resources for security and sustainability objectives and to deliver water services with accountability and finan- Apart from working to improve their public investment man- cial sustainability. agement systems, the GCC governments should also review the broader set of governance issues related to their infra- Economic diversification and private sector de- structure programs, including, among others, the regulatory velopment initiatives have recently focused on framework for infrastructure investment, the institutional liberalizing foreign investment rules … implications of scaling-up infrastructure spending, and the options for, and fiscal costs of, public -private partnerships in Patterns of foreign direct investment (FDI) vary among the infrastructure. GCC countries. The stock of FDI at the end of 2017, expressed FDI stock FDI, non-resident inflows Percent of GDP US$ billion 80 14 70 12 60 10 50 8 40 6 4 30 2 20 0 10 2019f 2019f 2019f 2019f 2019f 2019f 2018e 2018e 2018e 2018e 2018e 2018e 2017 2017 2017 2017 2017 2017 0 Bahrain Kuwait Oman Qatar Saudi UAE Bahrain Kuwait Oman Qatar Saudi Arabia UAE Arabia Developing countries Advanced economies 2010-16 average as a percentage of GDP, roughly matched the average for de- Saudi Arabia disclosed plans to allow full foreign ownership veloping countries in Saudi Arabia, the UAE and Oman in specific sectors in May 2018. Specifically, the Saudi Arabia (Figure 49). They stood under the developing country average General Investment Authority (SAGIA) was considering al- in Qatar and Kuwait, and only topped the advanced economy lowing 100 percent ownership of retail companies and engi- average in Bahrain (UNCTAD, 2018). The GCC countries neering firms. The UAE announced plans allowing 100 percent have recently stepped up efforts to liberalize their foreign in- foreign ownership of firms in May 2018, although restricted to vestment laws, in a bid to attract foreign direct investment sectors to be agreed upon by a committee of the seven emir- (FDI) in their economies, as well as portfolio investment flows ates. Currently, the UAE allows 100 percent foreign ownership into their equity and debt markets. only in the free zones, outside of which foreign ownership is capped at 49 percent. Qatar’s Council of Ministers approved a Liberalizing foreign ownership of firms is likely to help raise new draft foreign investment law in June 2018, permitting for- FDI flows into the GCC. The Institute for International Fi- eign investors to own 100 percent of companies across all sec- nance forecasts higher FDI flows in 2019, compared to 2017 tors, subject to the approval of the Ministry of Economy and and to estimates for 2018 (Figure 50). FDI flows have been Commerce, up from the 49 percent limit for firms outside of declining in recent years, however, and the uptick in 2019 may free zones. only exceed the historical average in nominal U.S. dollar val- ues in the UAE and Oman. The drive for higher FDI is moti- These three countries joined Kuwait and Bahrain, which had vated by the view that FDI conveys economic advantages to previously allowed a 100 percent foreign ownership in at least host countries. FDI are traditionally thought to increase the some business sectors. Kuwait passed the Direct Investment volume and the efficiency of investment and increase the rate Promotion Law in 2015 to allow foreigners 100 percent owner- of economic growth in the host country through technology ship of a commercial entity. Bahrain allowed 100 percent for- transfer, diffusion, and spillover effects. eign ownership in several sectors in 2016. Some GCC coun- tries are also considering relaxing residency permits for foreign Openness to FDI is a vital channel by which developing econo- investors. The UAE and Bahrain announced plans for a ten - mies gain exposure to the global technological frontier, in ad- year residency for foreign investors in May 2018. Qatar is re- dition to participation in international trade and contacts with portedly mulling permanent residency for foreign investors. the diaspora, foreign academia and international organizations (World Bank, 2008). Technology, broadly defined to encom- Meanwhile, portfolio investment flows are also expected to pass the techniques by which goods and services are produced rise in the GCC (Figure 51), notwithstanding the decision by and marketed, is central to economic growth and social wel- Saudi Arabia to postpone the initial public offering for Saudi fare. But most emerging markets and developing countries lack Aramco. MSCI, which compiles the most widely tracked stock the ability to generate innovations at the technological frontier, market indices, announced in June 2018 that Saudi Arabia which implies that technological progress must be achieved will be included in its Emerging Markets benchmark beginning through the adoption and adaptation of existing or new tech- with the reviews of the index in May and September 2019. nologies. Policies encouraging FDI and trade, along with in- Earlier in April, FTSE Russell, another index firm, upgraded vestments in human capital, enable improvements in techno- the Tadawul, the Saudi stock exchange, to emerging market logical achievement. status in a decision that will come into effect in March and December 2019. The MSCI and FTSE decisions are expected to drive a combined US$15 billion of passive foreign invest- Portfolio investment, non-resident inflows ment into the Saudi market, around 7 percent of the value of US$ billion the market’s freely-floating shares. Moreover, the investment banking firm JP Morgan Chase announced in October that it will include the U.S. dollar bonds of Saudi Arabia, the UAE, 70 Qatar, Kuwait and Bahrain in its benchmark EMBI dollar 60 bond index over the course of next year and assign the bonds a 50 combined weight of 11.2 percent. The five GCC countries 40 could benefit from a combined US$43 billion of portfolio in- 30 flows as a result of their inclusion in the EMBI index. 20 10 … but must also consider improvements to the 0 domestic business environment -10 2018e 2018e 2018e 2018e 2018e 2018e 2019f 2019f 2019f 2019f 2019f 2019f 2017 2017 2017 2017 2017 2017 Reforming the regulations that constrain domestic business activity is as beneficial to economic growth and private sector Bahrain Kuwait Oman Qatar Saudi Arabia UAE development objectives in the GCC and elsewhere as liberaliz- 2010-17 average ing the rules that govern foreign direct and portfolio invest- ment from abroad. Taken together, they improve the operating environment for foreign investors as well as domestic firms and entrepreneurs (Hornberger et al, 2011). criminal penalties. Meanwhile, the country’s Securities and Commodities Authority has proposed the creation of a second- The Bank’s Doing Business publication identifies many areas ary exchange for loss-making firms listed in the Abu Dhabi where improvements to the business environment could boost and Dubai exchanges, although the details of the proposal are private activity (World Bank, 2018b). Among the 11 areas that yet to be fully vetted. are covered by the Bank report, that of resolving insolvency lies central to the link between regulatory quality and efficient Encouraging strategic investments, both foreign and domestic, business outcomes (Figure 52 - Figure 57). The recovery rate in digital services could help the Middle East and North Africa for secured creditors and the extent to which domestic law has countries create and grow a “new regional digital economy”, incorporated internationally-accepted principles on liquidation according to a recent study (World Bank, 2018g). The concept and reorganization are indicators of regulatory quality. Effi- appears attractive and finds an echo in the UAE’s plan to pio- cient outcomes occur when viable businesses are given a neer technology entrepreneurship in Dubai. The regional pro- chance to survive while inefficient firms exit the market, put- posal may eventually help the GCC countries advance their ting resources to better use elsewhere in the economy. national economic diversification efforts in the medium to long term, if carefully planned and efficiently executed. Important- The GCC economies perform poorly on the resolving insolven- ly, the GCC countries must be cognizant of the strategic role cy indicator, which measures the time, cost, outcome and re- that the private sector must play in this and any other economic covery rate for a commercial insolvency and the strength of the development initiative. legal framework for insolvency. However, the GCC’s two larg- est economies have recently introduced reforms to improve GCC governments must support workforce na- their commercial bankruptcy and corporate restructuring re- tionalization efforts with education reform and gimes. Saudi Arabia approved a landmark insolvency law in pay parity measures February 2018. Modern bankruptcy legislation did not previ- ously exist in Saudi Arabia and solvency was handled under Some GCC governments have recently stepped up efforts to the 1931 Commercial Court Law and a 1996 royal decree on nationalize their workforces in a bid to lessen their economies’ preventing bankruptcy. The legislation had been under prepa- dependence on foreign workers, or at least the private sector ’s ration for several years and its implementation should help dependence on foreign workers. On average, foreign labor ac- several large firms currently facing difficulties and seeking to counts for 80 percent of private sector jobs in the GCC, mostly restructure debts with their creditors. The new law also offers in low-skill categories. Meanwhile, nationals work predomi- protection to creditors. nantly in the government sector, where, in the GCC ’s highly segmented labor markets, they enjoy higher wages and greater Earlier, the UAE also introduced a new insolvency law in job security than do those employed by private industry. 2016. The Bankruptcy Law allows companies greater opportu- nities to instigate protective composition procedures and work Saudi Arabia doubled the monthly levy on expatriate workers with creditors in restructuring proceedings, in contrast to the to SAR 400 (US$107) in January 2018 on firms that fail to previous regime which placed a greater emphasis on creditor meet the 50 percent “Saudization” ratio (the percentage of protections and formal bankruptcy proceedings along with Saudi nationals in a firm’s workforce). The fee is set to rise to Bahrain Doing Business scores Kuwait Doing Business scores Starting a business Starting a business 100 Dealing with 100 Dealing with Resolving insolvency 80 Resolving insolvency 80 construction permits construction permits 60 60 40 40 Enforcing contracts Getting electricity Enforcing contracts Getting electricity 20 20 0 0 Trading across Trading across Registering property Registering property borders borders Paying taxes Getting credit Paying taxes Getting credit Protecting minority Protecting minority investors investors Oman Doing Business scores Qatar Doing Business scores Starting a business Starting a business 100 Dealing with 100 Dealing with Resolving insolvency 80 Resolving insolvency 80 construction permits construction permits 60 60 40 40 Enforcing contracts Getting electricity Enforcing contracts Getting electricity 20 20 0 0 Trading across Trading across Registering property Registering property borders borders Paying taxes Getting credit Paying taxes Getting credit Protecting minority Protecting minority investors investors Saudi Arabia Doing Business scores UAE Doing Business scores Starting a business Starting a business 100 Dealing with 100 Dealing with Resolving insolvency 80 Resolving insolvency 80 construction permits construction permits 60 60 40 40 Enforcing contracts Getting electricity Enforcing contracts Getting electricity 20 20 0 0 Trading across Trading across Registering property Registering property borders borders Paying taxes Getting credit Paying taxes Getting credit Protecting minority Protecting minority investors investors SAR 700-800 (US$187-213) per worker by 2020. Earlier, in In Oman, where 40 percent of 44,000 job seekers in Septem- July 2017, Saudi Arabia imposed a levy on resident expatriate ber 2017 had university degrees, the preference remained for dependents at SAR100 (US$27) a month, rising to SAR 200 public sector employment. And yet, the government will un- (US$54) a month in 2018 and SAR 400 (US$107) a month by likely be able to continue providing additional jobs to nationals 2020. Saudi Arabia subsequently reported a 6 percent decline given the squeeze on public finances. Achieving pay parity in the number of expatriate workers in the country in the first between public and private employment should help the gov- quarter of 2018, with the decline concentrated in the construc- ernment steer workers toward the private sector under its tion, trade and manufacturing sectors. These three sectors “Omanization” drive. have performed poorly recently; they are the same sectors where the government had previously imposed other In countries where workforce nationalization drives need to be “Saudization” requirements more heavily, raising costs for more attuned to economic necessities, including the evident both employers and workers. need for foreign workers in construction jobs, governments are taking a more nuanced view of foreign employment. Kuwait planned to implement further controls on the employ- ment of expatriate labor and restrict government contracts to The UAE announced changes to labor regulations in June local workers under its “Kuwaitization” program. In May 2018 but focused on improving the business environment and 2018, government agencies announced the termination of some increasing both domestic private and foreign participation in 1,000 expatriate workers in the public sector. Earlier, in Janu- the economy. The government will replace the mandatory ary, the government unveiled a plan to provide job opportuni- bank guarantee for labor recruitment with a low -cost insur- ties to 17,000 nationals in the private sector in place of expatri- ance system, to reduce the cost of recruiting foreign labor for ates. It also instructed local banks to increase the number of companies. The government also plans to issue temporary six - Kuwaiti employees to 70 percent of various positions. month visas to expatriates who wish to be reemployed in the country and two-year visas to foreign students who are gradu- Oman banned the recruitment by the private sector of expat- ating from university. riate workers in 90 job categories in ten sectors in January 2018. The temporary ban was to apply for six months, but Qatar signed bilateral worker protection agreements with a the government extended the ban for another six months, in dozen countries in 2017, after which the International Labor July 2018. The government reported a 0.3 percent month -on- Organization (ILO) dropped a complaint against Qatar ’s labor month reduction in the country ’s expatriate workforce of practices in November 2017. The case had been originally filed around 1.8 million in January 2018. Meanwhile, Oman also by a group of countries in 2014 against Qatar for violation of amended its part -time employment regulations in April ILO conventions on forced labor. The decision helps ensure 2018, to allow more flexible working arrangements for retir- that Qatar meets its need for foreign labor to work on large ees and students. The government hopes that its infrastructure projects, including for the FIFA World Cup “Omanization ” plan significantly raises the percentage of which Qatar is hosting in 2022. The government also proposed nationals in private sector employment from the current low additional reforms on foreign employment, including a mini- rate of 14 percent. mum wage, the details of which are not yet available. The nationalization drives have implications for business conti- … and do more to advance female employment nuity, particularly in small and medium enterprises. Saudi Ara- and protect women’s pay bia and Oman have been careful to consider these risks. Small businesses with less than nine employees are exempted from Meanwhile, GCC governments could do more to encourage the expatriate levies in Saudi Arabia, up to the first five expatriate participation of women in the workforce. Employment rates workers. Businesses registered with the Public Authority for are generally low among women across the GCC, ranging from Small Business Development and insured with the Public Au- 20 percent of the female population aged 15+ years in Saudi thority for Social Insurance are exempted from the year -long Arabia to 58 percent in Qatar in 2017 (Figure 58). There is also expatriate ban in Oman. a wide disparity between pay for female and male workers in the region. Yet, more needs to be done by GCC governments to ensure that their nationals can assume and perform the work of expat- Saudi Arabia’s royal decree in September 2017 lifting the riates in key industries. In Kuwait, where expatriates make up world’s only ban on women drivers went into effect in June some 70 percent of the local population of 4.4 million and over 2018, with some 120,000 women reportedly applying for driv- 80 percent of the labor force, skills mismatches are a binding er’s licenses on June 24. The Saudi reform could make the constraint. Educational systems and training programs must commute to work less difficult for women, encouraging more address the need for suitably skilled nationals for technical jobs women to actively seek work opportunities and making the in private industry. Meanwhile, business owners are likely to employment of women workers more attractive for business resist the quotas on nationals and the fees on expatriates if they firms. The government expects the number of women holding are unable to draw qualified and skilled nationals from the la- driver’s licenses to top 3 million in 2020, and the women labor bor pool, according to recent reports. force participation rate to reach 30 percent by 2030, up from Labor force participation, and Wage equality for similar work. Female/Male ratio, 1 = parity Wage equality for similar work 1 UAE Qatar 0.8 Bahrain 0.6 Saudi Arabia Kuwait 0.4 0.2 0 0 0.2 0.4 0.6 0.8 1 Labor force participation the current 20 percent. Going forward, greater easing of guard- ianship rules—women were allowed access to government services, including education and healthcare, without the con- sent of a guardian in May 2017—would take the reforms sev- eral steps further. In the UAE, the cabinet recently approved new draft legisla- tion guaranteeing equal pay for men and women, in a bid to encourage higher labor force participation among women na- tionals. The government is also reviewing maternity leave allo- cations and creating more flexibility for part-time workers. Both are embedded in the country’s “Emiratisation” drive. The UAE has a higher participation among women in the public and private sectors compared with other GCC countries, and the government previously created a new state agency, the Gender Balance Council, to advance women’s participation in the public-sector workforce. The UAE offers a model that oth- er GCC countries could consider. and management creates opportunities to reduce the costs of water supply. New water recycling and desalination technolo- First of all, I would like to emphasize that the GCC countries have gies may lead to significant cost reductions. One example is the highest levels of water stress in the world. These stress levels the cutting-edge technology for water desalination using solar rise when water withdrawals for human, agricultural, and industrial power, which is an untapped renewable energy opportunity. uses are higher than the level of renewable water resources. In all Recycled water is also part of the solution to closing the sup- the GCC countries, water withdrawals are more than 95 percent of ply-demand gap. As urban water demand rises with popula- available surface freshwater. Furthermore, domestic water con- tion expansion, the volume of wastewater will also increase. sumption for GCC residents is almost twice the consumption for Even if some GCC countries collect more than half of their those of other high-income countries. This high consumption re- wastewater, they recycle only half of this collected lates in part to disincentives to use water wisely, such as low water wastewater, losing opportunities to create additional much tariffs, lack of metering, and lack of water-saving devices. Moving needed water supply. away from high levels of water consumption can potentially free up water to meet projected demands and thereby also potentially avoid or defer expensive supply-side investments. There’s room First, the effective management of water resources is critical for improvement, because countries with similar levels of develop- to water security. The key dimensions of this relate to manag- ment and much greater freshwater resource endowments have ing supplies in a cost-efficient manner amid uncertainties much lower levels of per capita water consumption. (such as rainfall and groundwater), managing demand (due to with increasing population), and managing the cost of energy I think it is important to note an additional challenge related to (such as costs of desalination). Governments can pull a num- water security in the GCC: namely, heavy reliance on the ener- ber of levers to achieve these objectives, including diversify- gy sector for water production, treatment, and conveyance, as ing water supplies, improving water storage, and planning for well as wastewater treatment and distribution. In the GCC contingencies. Data to inform policies will be a critical input countries, this challenge is compounded by the scarcity of into better water management. However, such data are often freshwater resource endowment and heavy dependency on lacking, and to fill this gap, policy makers should prioritize energy-intensive water desalination. structured assessments of the availability, quality and use of water and other water metrics, as well as how these variables Another challenge that undercuts water security is that water might change over time (e.g. due to population growth, or tariffs are very low in some GCC countries. For example, high - climate change). income GCC domestic water users pay less for their household water than high-income citizens of Paris, Barcelona, and Lon- Second, it will be important to put in place the right set of in- don. Overall, the Middle East and North Africa region spends a centives—in particular arrangements to manage water with- higher proportion of GDP (about 2 percent) on water subsidies drawals. This will require strengthening governance arrange- than any other region. ments for surface and groundwater resources that would set out the implicit and explicit rights and expectations for water with- In addition to low water tariffs that do not encourage good man- drawals and collective management. As the In Focus section agement, nonrevenue water also presents a challenge to the sus- discusses, the Om Er Rbia River Basin Agency in Morocco is a tainability of the water service delivery model in the GCC coun- good example of such efforts: the agency regulates the man- tries. Nonrevenue water is water that has been produced and is agement of over-exploited aquifers through agreements among ‘lost’ before it reaches the customer, through leaks, theft, or le- stakeholders on the use of groundwater. gal use with no payment. Levels of nonrevenue water can be reduced using appropriate management and technical actions. Third, I want to emphasize that we definitely see signs of posi- The ‘retrieved’ water can then be used to meet increasing de- tive change in the GCC. In particular, there is more private mands, deferring investments in expensive supply-side options. sector involvement emerging, while institutional roles are also realigning. To ensure better outcomes for users, this realign- Finally, climate change will have significant effects on the ment needs to focus on accountability and financial sustaina- water sector, accentuating shortages in already water -scarce bility, while also clearly defining institutional roles and perfor- regions, and, in combination with bad water management prac- mance indicators. Cost recovery—which is needed to anchor tices, contributing to slower growth. Indeed, we estimate at the financial sustainability and incentivize long term investment— World Bank that water scarcity related to climate change might is still a challenge in some GCC countries, although reforms in lead to 6 to 14 percent reductions in annual GDP growth in the this area have begun. MENA region. Climate change is also associated with higher risks of coastal flooding and more extreme rainfall events. Finally, as we discuss in the In Focus section, policy makers also need to pay attention to the regulatory and oversight func- tions required to ensure successful private sector engagement. This has hitherto been overlooked, but is a crucial element in Well, in our view, water security does not need to be expensive ensuring that private sector providers provide quality services or rely on nonrenewable energy sources. Innovation in technology for users. In focus Water for prosperity and development This Special Focus summarizes emerging challenges and op- freshwater resources, the need to augment supplies with noncon- portunities for the water sector in the Gulf Cooperation Coun- ventional sources, and in most cases, unsustainable use of fresh- cil (GCC) countries and suggests ways to respond to these water resources. challenges in the context of growing climate change and de- mographic pressures. GCC countries are characterized by high The share of unsustainable groundwater use in the GCC levels of water stress, some of the highest levels of water con- countries is the highest in the world. The GCC countries are a sumption in the world and dependence on energy -intensive global hotspot for unsustainable groundwater abstraction (Wada water desalination. At the same time, there is scope to im- and Bierkens 2014). Unsustainable groundwater abstraction prove the delivery of water services. Following a description arises when the rate of groundwater pumping exceeds the rate at of the GCC’s water resources and water service delivery chal- which groundwater is naturally recharged. If the groundwater lenges, two sets of recommendations and related actions are balance of a country is compared with a bank account, then discussed. The first set relates to managing a diverse set of unsustainable groundwater use is equivalent to the withdrawal conventional and nonconventional water resources for security of money faster than it is deposited. In some GCC countries, and sustainability. The second set of recommendations is almost all groundwater abstraction is unsustainable, as shown in linked to delivering better water services with accountability Figure 60. When groundwater resources are abstracted faster and financial sustainability. than they are replenished, the quality of the remaining ground- water decreases, and the resource eventually becomes depleted, thus posing a major risk to the GCC countries. The GCC countries’ water challenges Domestic water consumption for GCC residents is almost twice the consumption for residents of other high -income Water stress and groundwater depletion countries. Countries with similar levels of development and much greater freshwater resource endowments have much The GCC countries have the highest levels of water stress in lower levels of residential water consumption (PwC 2014). the world. Water stress arises when water withdrawals for hu- This high consumption is due in part to disincentives to use man, agricultural, and industrial uses are higher than the level of water wisely, such as low water tariffs, lack of metering, and renewable water resources—that is, a high water withdrawal-to- lack of water -saving devices. Reducing high residential wa- availability ratio. In all the GCC countries, water withdrawals ter consumption can potentially free up water to meet pro- are more than 95% of surface freshwater availability, as shown jected demands, allowing for the deferral of expensive sup- in Figure 59. This indicates greater competition for limited ply-side investments. The water-energy nexus and emerging solutions to close the water supply-demand gap Water stress Water withdrawals as % surface freshwater availability GCC countries rely on the energy sector for their water security. Water production, treatment, and conveyance, as well as wastewater treatment and distribution, require energy. In the GCC countries, given the scarce freshwater resource endow- Bahrain ment and heavy dependency on energy-intensive water desali- United Arab Emirates nation, the water sector is heavily dependent on energy. As Qatar such, any policy affecting energy allocation and consumption, Saudi Arabia including subsidies, will distort how water is allocated, man- aged, and eventually used. This highlights the need for inte- Kuwait grated water and energy sector strategies. Oman MENA (excl. GCC) The GCC countries account for about half of the world ’s installed desalination capacity (Global Water Intelligence OECD countries 2016). The GCC countries top world rankings for energy con- sumed in desalination (Figure 61). Low energy prices and low medium-low medium-high high very high <10% 10-20% 20-40% 40-80% >80% technology improvements, which have lowered plant opera- tional costs, have in part enabled the steady growth of desali- nation. Desalination and wastewater reuse offer the potential for highly reliable water supplies independent of the effects of Groundwater depletion climate change. These technologies are appealing because Share of groundwater abstraction that exceeds they provide a “drought-proof” supply source, essentially al- natural recharge lowing countries to break free from natural physical water scarcity. However, beyond the cost of the actual desalination technologies, costs per cubic meter of water delivered depend 100% on a range of factors such as salinity levels, energy prices, and water subsidies. Approximately half the costs of desalination 75% consist of energy costs, which, given the volatility of the ener- gy market, adds considerable challenges to the future of desal- ination relying on nonrenewable fossil fuels in the Middle 50% East and North Africa (World Bank 2012). 25% Long-term effects of desalination need to be taken into account. Desalination costs and feasibility depend on the 0% quality of seawater at the intakes. Excessive brine discharge MENA* Kuwait Oman UAE Qatar Saudi Bahrain or lack of wastewater treatment complicate desalination pro- Arabia cesses, increasing costs and forcing plants to shut down occa- sionally. Brine discharge from desalination plants significant- ly degrades the water and salt mass balances of receiving wa- ter bodies. In the Arabian Gulf, brine discharge from desalina- Energy demand for desalination and water reuse tion plants increases ambient seawater salinity by about 20 Mtoe (million tonne of oil equivalent) percent. This can have long-term negative impacts on the en- vironment and on the desalination process itself. Negative environmental impacts can occur where brine is discharged UAE close to vulnerable aquatic ecosystems. Vulnerable aquatic Saudi Arabia ecosystems include shallow seas with little circulation and Qatar Kuwait abundant marine biodiversity. Open -sea and high-energy ma- European Union rine environments tend to be less sensitive to changes in salt Oman mass balances because of the faster mixing of the waters. Bahrain Libya Brine discharge can also have detrimental effects on the desal- Al geria ination process itself. The salinity concentrations of Red Sea China Desalination and Arabian Gulf waters have increased due to desalination. Egypt Re-use Israel As a result, desalination plants produce less potable water for Australia the same amount of energy input. This raises the cost of desal- United States ination (Bashitialshaeer, Persson, and Aljaradin 2011; South Africa Dawoud and Al Mulla 2012). 0 2 4 6 8 10 12 14 Overview of desalination technologies widely used in the Middle East and North Africa region and their costs • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • • Water security does not need to be expensive or rely on technology in other parts of the world. Potable water supplies in nonrenewable energy sources. Technological and manage- Singapore and parts of Spain, Australia, and the United States ment innovation offers opportunities to reduce the costs of rely primarily on reverse osmosis (World Bank 2017b). water supply. Emerging water recycling and desalination tech- nologies could lead to significant cost reductions, yet choosing Recycled water is also part of the solution to closing the the best technology option is challenging. Some of these tech- supply-demand gap. As urban water demand grows in re- nologies are listed in Table 1 and include multi -effect distilla- sponse to population expansion, the volume of wastewater will tion, hybrid desalination systems, nano -membranes, adsorp- also increase. Traditionally, the public sector collected all tion, and electrochemical desalination. wastewater and treated and recycled or disposed of it, normally in the sea. The growing trend in the world’s arid regions is for Leapfrogging to cutting-edge technology for water desali- some users to retain their wastewater, treat and recycle it, and nation using solar power is another renewable energy op- use it internally for industrial processing and landscaping. The portunity that remains untapped. Desalination powered by recycled wastewater subsector is the most challenging given solar energy will not only ensure affordable, sustainable, and the magnitude of the problems needing resolution, the work secure freshwater supply, but will also help increase the capac- that needs to be done, and the costs of doing it. Figure 62 ity for new industrial and farming activities and reduce domes- shows the level of wastewater collection in the GCC countries tic gas consumption for water production (World Bank 2012). and the level of treated wastewater that is recycled. Although some GCC countries collect more than half of their Two key pillars of a long-term desalination infrastructure wastewater, they recycle only half of this collected wastewater, strategy are emerging—adopting more-energy-efficient de- missing the opportunity to create additional water supply. salination technologies, such as reverse osmosis, and transi- tioning to alternate energy fuels, such as solar. Solar photovol- Another alternative and possibly lower cost option to aug- taic technology can be used for membrane-based reverse osmo- ment water supplies is to use groundwater aquifers as res- sis desalination. Reverse osmosis is the preferred desalination ervoirs. This water management solution, often referred to as managed aquifer recharge2, could significantly improve water security by increasing water storage capacity, which is current- Collected and recycled wastewater ly very low in the GCC countries (Figure 63). Water policy Percentage of wastewater produced innovations are needed for managed aquifer recharge to work. First, conjunctive use planning of recycled water and ground- water resources needs to be in place. Second, regulation of 80% groundwater use and groundwater and associated land zoning, as appropriate, are needed to establish a groundwater reserve 70% and ensure that groundwater resources remain pollution free. 60% For managed aquifer recharge to become part of the solution, 50% groundwater needs to be abstracted at sustainable levels. 40% 30% In the context of a highly subsidized supply of gas for pow- 20% er generation and low consumer tariffs, it will continue to 10% be difficult for solar-based desalination, wastewater recy- cling, and managed aquifer recharge options to compete 0% Oman Saudi UAE Kuwait Qatar Bahrain with fossil fuel–based desalination options. A detailed strate- Arabia gic plan with dated targets and an approved list of incentives, Recycled wastewater Collected wastewater including auction or feed-in tariff-based policies, priority in dispatch, and other conditions, may be needed to attract more participation and investments from the private sector. Dam capacity per capita Water service delivery and financing m3/inhabitant Despite this challenging water resource situation, water tariffs are very low in some GCC countries. Low water tar- USA 2287 iffs indicate that water utilities have very low cost recoveries and rely on government subsidies to finance their operations. Mexico 1229 For example, high-income GCC domestic water users pay less Morocco 522 for their household water than high-income citizens of Paris, Jordan 36 Barcelona, and London (Figure 64). The difference is even Saudi Arabia 31 more striking between the GCC countries, with water users in Oman 19 Abu Dhabi paying about 50 times as much as water users in UAE 6.6 Riyadh, as shown in Figure 64. Overall, the Middle East and Qatar 0 North Africa (MENA) region spends a higher proportion of Kuwait 0 gross domestic product (about 2%) on water subsidies than any other region in the world (Kochhar et al. 2015). Bahrain 0 0 500 1000 1500 2000 2500 High water subsidies and low water tariffs undermine in- centives for efficient water use and encourage over - exploitation. Part of the water challenge in the GCC countries lies in managing demand and putting the right water -saving Combined water and wastewater bill in selected cities incentives in place. The GCC countries are reported to have USD per m3 the greatest domestic per capita water consumption in the world, as analysis of national domestic per capita consump- tion suggests (Figure 65). These are politically sensitive is- sues, yet it is essential that they be addressed to improve water Paris service delivery and water resource productivity. The more London energy and water are subsidized, the higher the demand is as Barcelona their true cost is externalized. Dubai Muscat Nonrevenue water also challenges the sustainability of the Abu Dhabi water service delivery model in the GCC countries. Levels Doha Kuwait City Manama 2/ Managed aquifer recharge consists of intentionally recharging aquifers (e.g., via pumping or infiltration basins), which can be done for different purposes: Riyadh storing water and preventing evaporative losses, improving water quality, sustaining groundwater levels. 0 0.5 1 1.5 2 2.5 3 3.5 4 Domestic water consumption Nonrevenue water in the GCC and high-income Litres/person/day countries (HIC) rates Oman Qatar Saudi Arabia UAE Kuwait Bahrain Bahrain Qatar Saudi Arabia Oman UAE Germany Kuwait Chile Australia Median HIC* 0 100 200 300 400 500 600 0% 5% 10% 15% 20% 25% 30% 35% of nonrevenue water3 in some GCC countries stand well above Taking the water security agenda median values for other high-income countries (Figure 66). High levels of nonrevenue water can be reduced using appro- forward priate management and technical actions. The “retrieved” wa- ter can then be used to meet increasing demands, deferring Managing a diverse set of conventional and non- investments in expensive supply-side options. conventional water resources for security and sustainability Demographic growth, climate change, and fiscal challenges Managing water resources in a cost-efficient, resilient way is a key element of water security. Water resource management Investments in infrastructure and reforms are required to aims to provide reliable supplies amid uncertainties related to address demographic growth, climate change, and other supply availability (rainfall, groundwater), demand (increasing uncertainties such as energy prices. Projected increases in population), and energy (costs of desalination) at a reasonable water demand from population growth, especially in urban are- cost. Different measures exist to achieve these objectives, in- as, could lead to further unregulated exploitation of groundwa- cluding diversification of water supplies, storage, and contin- ter resources. Demographic growth will raise supply costs and gency planning. Identifying the most cost-effective and resilient costs to collect and treat wastewater, posing fiscal challenges. water management strategy requires understanding the extent to which data and information, on water and economic variables, Climate change effects on the water sector are going to be are available and the extent to which governance, incentives, significant. The World Bank estimates that water scarcity and institutions are aligned to make change happen. related to climate change might lead to 6 -14 percent reduc- tions in annual GDP growth in the region (World Bank 2016). One of the big challenges of water management in the GCC Climate change will bring about higher temperatures, leading is the availability of data to inform policies. Data on water- to increased water requirements for agriculture. It will also related variables, such as availability and use, and economic - increase coastal flood risk and cause more extreme rainfall related variables, such as cost of option, are often lacking. Ef- events (Verner 2012), leading to flash floods, such as the 2009 fective assessment of the availability, in quantity and quality, floods in Jeddah, Saudi Arabia, which brought losses of and use of water resources is a first step toward achieving sus- US$1.36 billion (World Bank 2014). All these effects will tainable water resource management. This includes monitoring pose additional challenges to the planning and operation of of surface and groundwater resources, actual rates of water use, water systems, requiring novel management and decision - and wastewater and effluent discharges. It also includes as- making tools to support water sector investments in the face sessing how these water-related variables might change in the of climate change. future as a result of increasing population, food security con- cerns, or climate change and developing responses that are proportionate to these changes (Box 1). 3/ Nonrevenue water is water that has been produced and is “lost” before it reaches the customer (through leaks, theft, or legal use for which no payment Economic and financial assessments are key to sustainable is made). water resources management. Water supply options are often Confronting uncertainty in water-related projects selected without considering cheaper alternatives, leading to supply and sanitation networks. In Tunisia, the World Bank financially unsustainable and economically costly outcomes. has provided technical assistance and financial support for a Water resource planning needs to transparently account for range of water-related projects: renewal of water supply infra- economic and financial costs when comparing options. This structure, making better decisions relating to integrated water includes costing a range of supply-side and demand-side op- resources management, and providing environmentally safe tions, in particular for nonconventional supplies such as desali- recycling for wastewater. As a result, Tunisia has achieved one nation and wastewater reuse. Fully exploiting wastewater reuse of the highest rates of improvement in access to water supply means gaining a full picture of the costs and benefits, identify- and sanitation among middle-income countries and, more im- ing potential uses, and accounting for the benefits of improved portantly, has managed to maintain these achievements in the treatment in terms of water quality. face of growing demands. The World Bank has significant global experience in improving intersectoral coordination and In addition, institutional coordination is needed to develop supporting intersectoral reforms. In Morocco, the recently consensus and implement policies for sustainable water merged government-owned water and power utility has sought resources management. Global experience shows that, to to identify synergies and evaluate tradeoffs between energy achieve water management objectives, mechanisms to develop and water resource planning (see World Bank 2018f). In Chi- consensus across sectors and geographic jurisdictions need to na, in collaboration with the World Bank energy and water be in place. This is especially important when shifts in inter- teams, the National Energy Agency has incorporated potential sectoral water allocation are being planned, requiring an under- water constraints in their 5 -year energy plan (2016-2020). standing of the relationships between the objectives of the wa- ter sector and the priorities of the other sectors. A water sector strategy will be useful not only to provide details on water management actions, but more importantly Reflecting this, policy makers around the world have begun to to coordinate the actions and decisions of the government accord much greater priority to water resource management agencies that need to work together to achieve the water sec- and institutional coordination, through the preparation of com- tor’s objectives. For instance, achieving security of water sup- prehensive water sector strategies, as part of efforts to preserve ply requires a set of integrated, consistent decisions on water and better manage water resources. Key elements of these conservation, water pricing, agricultural policies, groundwater strategies have included improved coordination between insti- protection, use of treated sewage effluent, construction of new tutions tasked with delivering water services (water utilities, desalination plants, and development of strategic storage reser- irrigation authorities) and those tasked with managing and allo- voirs. Thus, coordination is needed to achieve water security and cating water resources (river basin authorities) and increased improve outcomes for the people, the economy, and the environ- integration with energy and agricultural policies. For instance, ment. The World Bank has supported Brazil’s National Water in Tunisia the government has adopted a water sector policy Agency and the Ministries of Environment, National Integration, aimed at rationalizing the use of water and modernizing water and Cities to develop a countrywide water sector strategy, which focused on water resource management planning, irrigation and on government subsidies and thus increasing their customer disaster risk management, water supply and sanitation, integrat- orientation. Global experience shows that it is possible to de- ed planning, and project management and evaluation. sign multitier tariffs that moderate the effects of price increases and allow for the gradual removal of subsidies to water service Water governance issues and incentives—in particular providers (Vagliasindi 2013). arrangements to manage water withdrawals and tools to influence intersectoral water allocations—are central ele- Achieving accountability and financial sustainability re- ments of sustainable water management. Understanding the quires understanding the options available for institutional policy and economic tools and incentives, such as quotas and reform, including moves toward stronger private sector– pricing, available for managing short -term adaptation and long led service delivery under effective public-sector oversight. -term shifts in water withdrawals in response to water availa- As a first step, this entails identifying the priority areas of ser- bility helps in managing water resources for long -term sus- vice delivery where government wishes to improve perfor- tainability. Alongside this understanding there is a need to mance. Second, the alternative institutional structures available develop governance arrangements for surface and groundwa- for service delivery should be considered alongside the ad- ter resources in terms of implicit and explicit rights and ex- vantages and disadvantages of different bundling and regulato- pectations for water withdrawals and collective management. ry options. Third, when a model for private sector involvement For example, in Morocco, the Om Er Rbia River Basin Agen- has been identified, there is a need to clearly define perfor- cy supports regulation of the management of overexploited mance targets (e.g., network reduction losses, improvement of aquifers by facilitating agreements among stakeholders on the service quality) and ascertain what is required from govern- use of groundwater. This has led to the development of a ment to maximize the value of private contracting. groundwater management framework contract to define and agree on roles for groundwater use, as well as improved Whereas considerable attention is being paid to the role of knowledge of climate-related risks, to be incorporated in fu- the private sector in supporting service delivery in the ture water resources development. GCC, the regulatory and oversight functions required to ensure successful private sector engagement have often Delivering better water services with accounta- been overlooked. Global experiences show that private sec- bility and financial sustainability tor involvement in service provision can improve utility per- formance and the level of service that users receive. Private In many GCC countries, how water supply and sanitation sector involvement depends on the existence of the right in- services are managed is changing. After decades of govern- centives and oversight to review and reward performance, ment-run utilities, institutional roles are realigning, and private and of a formal mechanism or regulatory body capable of actors are gradually engaging. To ensure better outcomes for setting standards and holding private service providers ac- users, this realignment needs to focus on accountability and countable for their performance. financial sustainability, as well as clearly define institutional roles and sector performance indicators. Whether institutional actors involved in service delivery are publicly or privately managed, performance bench- Accountability is the first element needed to deliver better marking is needed. Benchmarking in terms of financial and water services. Accountability is a condition whereby the quality-of-service indicators is key to identifying areas that functional roles and responsibilities are clearly defined along need improvement. This calls for performance indicators that the water supply chain (across the water loop from bulk water are well understood, measured, and evaluated, and for a perfor- supply, storage, conveyance, treatment, delivery to water users, mance assessment that is transparent and conducted by rele- wastewater collection, treatment, and recycling). When areas vant institutions. In Mexico, the National Water Commission of significant overlap or blurred responsibility exist, accounta- has developed and promoted the use of standardized perfor- bility may be diminished. This in turn worsens the customer mance indicators across the country that can be tracked and orientation of service providers, resulting in overall poor per- aggregated. This effort was aligned with the government’s formance and service experiences. vision of reducing water sector subsidies by improving the quality of existing services through management and efficiency The second element needed to improve service delivery is gains, and resulted in decreases in nonrevenue water and in- financial sustainability. Lack of cost recovery is a challenge in creases in the commercial efficiency of service providers. some GCC countries, where average service costs are much greater than average service fees. Cost recovery is essential to Partnering with the private sector offers opportunities for ensure the long-term sustainability of water services and appro- improvements in service delivery, but appropriate oversight priate levels of investment in the operation and maintenance of and regulatory arrangements are necessary to manage risks water delivery systems—not just in infrastructure but also in and ensure accountability. When countries decide to involve a training staff. Designing an effective tariff system helps to meet private company, an open and transparent selection process and social development goals by supporting the expansion of ser- appropriate oversight arrangements are necessary to manage the vices to underserved households. Effective tariff systems also private entity (Box 2). At the same time, regulatory frame- improve overall performance by reducing utilities’ dependence works need to be strengthened to ensure accountability and Leveraging the private sector with public-private partnerships to develop nonconventional water supplies manage risks. There is strong potential to replicate successful assistance to improve efficiencies of public utility offtakes management contracts in some GCC countries to improve the (leakage, collection rates), foster corporatization, and improve performance of water utilities. The challenge under this ap- the creditworthiness of public utilities will help gradually cre- proach will be to support governments in instituting, in paral- ate an environment in which new opportunities for PPP pro- lel, the necessary institutional reforms and policy changes, jects can arise. This will also entail increasing the capacity of including subsidy reduction and reform and changes in tariff governments and public utilities to understand PPPs in the wa- structure reflecting the costs of service provision. This would ter sector and how to properly design and manage contracts require overcoming the high political pressure to keep water with the private sector. tariffs below true cost, which makes investments in the water sector more challenging. Recently introduced performance - Alongside private sector involvement, fiscal reform pro- based contracts in Tunisia for sewerage services are a good grams can also play a role in improving service delivery. In illustration of the potential of this approach in situations where Jordan, the government has sought the World Bank’s support tariffs do not cover investment costs. In the broader context to improve financial viability and increase efficiency gains in and in situations in which governments may not be interested the water sector. These gains will offer public electricity and in the short term in putting PPP schemes into place, technical water services to Jordanians in a more sustainable manner.