Bucking the Trend

In a world facing multiple challenges, the current oil and gas price outlook and successful economic diversification is creating an ideal environment for governments in the GCC to proceed with ambitious reforms under favourable macroeconomic and financing conditions

The easing of pandemic restrictions and positive developments in the hydrocarbon market drove strong economic recoveries in 2021 and 2022 across the oil-rich Gulf region. A rally in oil prices and the race by European countries to find alternatives to gas from Russia will help GCC countries register strong twin surpluses this year and continue over the medium term.

The International Monetary Fund projected in October that higher oil and gas prices will increase the average current account surplus in the GCC region to 9.7% of gross domestic product (GDP) in 2022 leading to an additional surplus of $275 billion, up from 4.6% of GDP last year.

The current oil and gas price outlook is creating an ideal environment for governments in the region to proceed with ambitious reforms under favourable macroeconomic and financing conditions while putting debt on a firm downward path.

GCC countries are restructuring and opening up their economic activities, rethinking the role of foreign investors as well as the private sector as they play a leading role in the global transition to low-carbon economies.

The World Bank said that the implementation of a green growth strategy by GCC countries will help and accelerate their economic diversification, GDP could have the potential to grow to over $13 trillion by 2050.

Though Arabian Gulf countries are not immune to the deteriorating global economic backdrop, data shows that the region remains relatively insulated in most measures. It is worth noting that growth in GCC banking assets is linked to regional GDP, which moves largely in tandem with oil prices.

The banking sector is as solid as it was pre-pandemic and much healthier than when global central banks started hiking their interest rates in lockstep with the US Federal Reserve. Meanwhile, Gulf states hiked their key interest rates earlier in November after the Federal Reserve approved a fourth consecutive threequarter point interest rate increase.

Lower global liquidity has had a limited impact on GCC banks thanks to their strong net external asset positions or limited net external debt positions. Banks in the region were already at the forefront of innovation and digital transformation well before the outbreak of the pandemic and the trend will continue to dominate the industry driven by evolving customer needs and regulatory initiatives.

Overall, the significant groundwork which is being laid down in markets and legislation across the region is expected to drive sustainable growth going forward.

Banking sector

GCC banks are returning to form after a strong 2022 as earnings for most financial institutions almost reached pre-pandemic levels in Q3 2022 spurred by high oil prices, rising interest rates and new public-sector-backed projects that are supporting their creditworthiness.

S&P Global said in September that among the four largest GCC markets, Kuwaiti and Saudi banks showed the strongest performance in H1 2022 with that the fragmentation in the Middle East region banking system is greater compared to other emerging markets, with many banks resulting in intense competition and weak pricing power.

The mergers and acquisitions (M&A) market rebounded from a very tough 2020 to post impressive increases in deal volume and value in 2022—a trend that is expected to continue as banks position

HIGHER OIL AND GAS PRICES WILL INCREASE THE AVERAGE CURRENT ACCOUNT SURPLUS IN THE GULF REGION TO 9.7% OF GROSS DOMESTIC PRODUCT IN 2022 LEADING TO AN ADDITIONAL SURPLUS OF $275 BILLION, UP FROM 4.6% OF GDP LAST YEAR

– The IMF

earnings already almost reaching prepandemic levels while Qatari and UAE banks are taking a bit longer to recover.

Qatar National Bank (QNB), the Gulf’s largest lender by assets, reported a 20% increase in 9M 2022 net profits to $3.4 billion (QAR 12.3 billion), Saudi National Bank registered a 42.35% y-on-y increase to $3.7 billion (SAR 13.82 billion), First Abu Dhabi Bank’s (FAB) group net profit soared by 19% to nearly $3 billion (AED 10.9 billion) and the National Bank of Kuwait (NBK) saw it net profits in the nine months to the end of September jump by 46.9% y-on-y to $1.2 billion (KWD 374.2 million).

It remains to be seen if the strong momentum experienced this year will be enough to shield GCC banks from adverse developments in 2023.

The region’s banking system remains highly fragmented making competition intense, and the trend is likely to intensify due to the shrinking population in some countries after expatriates departed for their countries amid massive job losses in the past two years. Fitch Ratings said themselves for improved economic conditions. Kuwait Finance House (KFH) completed its acquisition of Bahrain’s Ahli United Bank (AUB) in October.

The rare cross-border tie-up which has been almost four years in the making created one of the biggest banks in the Gulf region with more than $118 billion in assets. Moody’s said that the deal will position KFH as a dominant bank in the GCC as the addition of AUB’s solid corporate banking franchise complements its large and strong domestic retail customer base.

Bahrain’s banking system is ripe for mergers and the authorities are reportedly supportive of consolidations, but sound profitability and a lack of common shareholders prevent obvious tie-ups. Al Salam Bank also acquired Ithmaar Bank’s consumer banking division and several other assets in March in a deal valued at $2.2 billion.

Meanwhile, SNB is poised to own a stake of 9.9% in Credit Suisse after it committed to invest as much as $1.51

billion (CHF 1.5 billion) as the Saudi lender looks to expand globally as part of Crown Prince Mohammed bin Salman’s Vision 2030 economic diversification initiative.

HSBC Bank Oman and local rival Sohar International Bank entered into a binding merger agreement in November. Sohar International is also linked with a potential merger with Omani Islamic lender Bank Nizwa. Both proposed mergers are subject to regulatory and shareholder approval.

Past mergers in the GCC have demonstrated the merits of tie-ups. The scale achieved from these tieups is leading to improved liquidity management, enhanced profitability and reduced inefficiencies with better cost-toincome ratios.

GCC banks are pro-innovative and industry experts expect them to continue to dominate the financial services industry as the sector goes more digital. Neobanks have had and will continue to have, a tremendous impact on consumer finance, the economy, and society at large. The leading neobanks in the GCC include YAP and Zand Bank in the UAE and Saudi Arabia’s D360 Bank and STC Bank.

The aforementioned challenger banks are battling it out with speedboats, independent, cost-effective and agile digital banking units of incumbent banks including Emirates NBD’s Liv., Bank ABC’s ila Bank and Boubyan Bank’s Nomo. The emergence of new technologies is offering the financial services sector a window to be more innovative and efficient in-service delivery.

Accelerating growth

Global benchmark Brent has mostly traded above the $100 mark for much of the year. The disruptions to oil trade and output that followed the war in Ukraine have driven up the cost of commodities while contributing to cost-of-living crises around the world. However, in the oil-rich Gulf countries, the oil boom has had the effect of pushing budgets into the black for the first time in years, helping bankroll spending and allowing some to repay debt early.

“Oil exporters should maximize the benefits of the oil windfall by building buffers and avoiding procyclical spending, keeping fiscal reform momentum, and progressing with their diversification plans,” Jihad Azour, the IMF’s director for the Middle East, North Africa and Central Asia said in October.

Saudi Arabia said that its net foreign assets rose to $448.8 billion (SAR 1.69 trillion) in September, the most in nearly two years as high crude prices boosted the Gulf state’s coffers. The kingdom plans to use the budget surplus to replenish reserves, make additional transfers to sovereign wealth funds and

potentially boost spending on economic diversification projects.

The World Bank forecasted that higher oil receipts will more than compensate for the larger imports bill resulting in a significant external balance surplus of 18.8% of GDP in 2022. Saudi Arabia’s preliminary budget which was published by the finance ministry in September expects a surplus of $2.4 billion (SAR 9 billion) in 2023 or 0.2% of GDP. Spending is projected at SAR 1.11 trillion with revenue of SAR 1.12 trillion.

The UAE, the Arab world’s most competitive economy, registered total revenues of $83.20 billion (AED 305.6 billion) in the first half of the year. The government approved the federal budget for the fiscal years 2023-2026 in October with a total expenditure of $68.69 billion (AED 252.3 billion. Total revenue over the period is estimated at AED 255.7 billion while revenue and spending will grow by an estimated 11% and 4%, respectively.

The UAE’s finance ministry said that the cabinet approved the budget for the fiscal year 2023, with a total estimated expenditure of AED 63.06 billion while total revenues are projected at AED 63.6 billion. “Higher oil export volumes coupled with a revival in non-oil demand will support strong economic growth in 2022,” the World Bank said in October while noting that growth will be supported by the country’s favorable business environment and world-class infrastructure.

Oil’s surge on the back of Russia’s war in Ukraine has pushed crude above the break-even level for almost all the Middle East’s producers including Oman and is projected to accelerate economic growth in 2022 to a pace not seen in a decade. Oman recorded a budget surplus of $2.9 billion (OMR 1.1 billion) in the nine months of the year and the Sultanate plans to spend the windfall from higher oil prices on developmental projects, measures to support economic recovery and reducing its debt.

Fitch Ratings upgraded Oman’s credit ranking for the first time in August, saying the upgrade reflects significant improvements in the country’s fiscal metrics, a lessening of external financing pressures and ongoing efforts to reform public finances.

OIL EXPORTERS SHOULD MAXIMIZE THE BENEFITS OF THE OIL WINDFALL BY BUILDING BUFFERS AND AVOIDING PROCYCLICAL SPENDING, KEEPING FISCAL REFORM MOMENTUM, AND PROGRESSING WITH THEIR DIVERSIFICATION PLANS

– Jihad Azour, the IMF Director for the Middle East, North Africa and Central Asia

Bahrain, the GCC region’s smallest economy, reported a mid-year budget surplus of $88 million, with revenues soaring by 52% compared to the same period last year. The smallest oil producer in the Gulf region said that it remains committed to executing its fiscal balance plan and adopting initiatives that serve its targets.

Qatar’s Emir said in October that initial indicators show GDP growth of 4.3% in the first half of 2022. The IMF projected earlier in August that the Gulf state’s budget surplus to grow 57.6% in 2023 to $19.3 billion (QAR 70.3 billion) compared to the $12.3 billion (QAR 44.6 billion) forecasted for 2022. Like other Gulf states, Qatar has benefited from soaring oil and gas prices caused by the COVID-19 recovery and the war in Ukraine.

The country is currently hosting the World Cup and it expects the influx of over 1.2 million visitors to add $17 billion to its economy. S&P Global raised Qatar’s long-term sovereign credit rating to “AA” from “AA-”, citing the improvement in the government’s fiscal position. “Qatar’s debt interest costs as a share of government revenue have fallen and we expect them to remain low because the government is repaying maturing debt,” said the rating agency.

Meanwhile, frequent political deadlock in Kuwait has for years led to cabinet reshuffles and dissolutions of parliament, hampering investment and reform including legislation to let the government return to global debt markets. The country’s newly appointed national assembly passed the state budget for the fiscal year that started April 1 last month. The budget, which is based on an oil price assumption of $80 a barrel, estimated spending of $76 billion (KWD 23.53 billion) in the 2022/23 fiscal year, while revenue is projected at $75.3 billion (KWD 23.40 billion).

Higher energy prices have sustained oil-producing nations with economic growth in Saudi Arabia, the largest world oil exporter, expected to hit 7.6% this year. GCC countries are benefitting from trade diversions caused by the war in Ukraine as some European countries look to replace their oil purchases from Russia.

GCC green growth

Though GCC countries are still reliant on oil and gas—which accounts for 80% of its total goods exports and total revenues— the governments are diversifying the economy with a strong focus on foreign investment, tourism, technology and the financial services sectors.

The 2021 UN Climate Change Conference (COP26) reaffirmed the need to take urgent action to combat climate change. Meanwhile, the hosting of COP27 by Egypt last month and COP28 in partnership with the Saudi Tadawul Group. The Riyadh-based firm will allow companies to buy credits on exchanges to offset some of the emissions they produce.

The global voluntary carbon market has grown rapidly in recent years as corporations attempt to reach net-zero emissions. Voluntary carbon markets allow carbon emitters to offset their unavoidable emissions by purchasing carbon credits emitted by projects targeted at removing or reducing GHG from the atmosphere.

“Carbon credits are certificates representing quantities of greenhouse gases that have been kept out of the air or removed from it,” McKinsey said

AMONG THE FOUR LARGEST GCC MARKETS, KUWAITI AND SAUDI BANKS SHOWED THE STRONGEST PERFORMANCE IN H1 2022 WITH EARNINGS ALREADY ALMOST REACHING PRE-PANDEMIC LEVELS WHILE QATARI AND UAE BANKS ARE TAKING A BIT LONGER TO RECOVER

– S&P Global

by the UAE in 2023 together with net zero pledges that were made by regional governments in 2021 are expected to translate into fiscal policies in the fight against climate change.

The IMF called on GCC governments to consider implementing fiscal reforms “geared towards economic diversification and inclusive growth while addressing intensifying vulnerabilities from climate change”. GCC countries should therefore ensure that this forms a significant part of their post-pandemic recovery plans.

Saudi Arabia launched the Middle East region’s first carbon offset auction, offering one million credits in October. The auction follows the establishment of the Regional Voluntary Carbon Market Company by the Public Investment Fund while highlighting that purchasing carbon credits is one way for a company to address emissions it is unable to eliminate. Abu Dhabi Global Market and AirCarbon Exchange are setting up another voluntary carbon market-based in the UAE and the exchange is set to be launched in the first quarter of 2023.

GCC countries are diversifying their economies away from heavy reliance on hydrocarbons by creating new sectors and revenues, including through a big push in renewable energy. Moving away from oil and gas towards renewable energy should not be seen as a threat but as a tremendous opportunity while the Gulf region’s outlook remains positive, thanks to the robust performance of both the oil and non-oil sectors.