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Bahrain’s Balancing Act
The current oil price outlook has created a conducive environment for Bahrain to proceed with ambitious reforms under favourable macroeconomic and financing conditions that can put debt on a firm downward path
Bahrain’s economy is still in bailout territory although the authorities are optimistic that a rally in oil prices and an economic rebound from pandemicinduced recession will help replenish government coffers. Global benchmark Brent has mostly traded above the $100 mark since February, following Russia’s invasion of Ukraine.
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The current oil price outlook has also created an ideal environment for the Gulf state to proceed with ambitious reforms under favourable macroeconomic and financing conditions and to put debt on a firm downward path. The International Monetary Fund (IMF) projected in April that the oil revenues in the Middle East and Central Asia this year will reach $818 billion, an increase of $320 billion from the Washington-based lender’s assessment last October.
Bahrain has a relatively diversified economy, a beautifully regulated financial sector, a well-educated workforce and a low-cost environment. It also has some very useful friends. The Gulf state, which outlined plans to balance its budget by 2022, as part of a financial aid package from its oil-rich neighbours was forced to push back that target due to the unprecedented impact of the pandemic.
The kingdom is also implementing several austerity measures that were introduced over the last two years including a doubling of value-added tax (VAT) to 10% to maintain the country’s access to the international debt markets.
Bahrain’s banking system remains relatively resilient with regulations broadly in line with regional peers. Earlier this year, S&P Global said that the Gulf state’s banking sector is poised to benefit from expected interest rate hikes, assuming the sector adopts a pragmatic approach by not reflecting the rate increase systematically where it could cause borrowers to default.
Pinning hopes on oil
The almighty Brent benchmark has mostly traded above $100 a barrel since February when Russia invaded Ukraine, pushing crude above the break-even level for most of the Middle East’s producers. Oil’s surge is raising the prospect of significant budget surpluses for even the weakest economies including Bahrain— which requires prices above $106 a barrel.
Goldman Sachs projected earlier in June that it expects Brent crude to average $140 a barrel between July and September 2022. Bahrain said in April that it will resume making payments to the country’s reserve fund, doubling the amount it contributes at oil prices over $80 a barrel, in a bid to build up savings that were tapped to mitigate the fallout from the pandemic.
The Gulf state will put $2 into the Future Generations Reserve Fund (FGRF) for each barrel of oil sold at over $80, $1 when oil is over $40 and pay $3 if it exceeds $120. “Growth is projected to accelerate to 3.4% in 2022, with non-oil GDP increasing by 4% driven by stronger manufacturing and the full reopening of the economy,” said the IMF.
Bahrain projected total revenues of $6.5 billion (BHD 2.5 billion) in 2022 and the government is on track to reduce its annual budget expenditure to $9.5 billion (BHD 3.6 billion). The country has struggled to keep its finances in check in recent years. Although the Gulf state has accumulated a large pile of debt since the 2014-2015 oil price shock, its public debt dropped slightly to 129% of GDP last year from 130% in 2020, according to the IMF.
Last October, the ministry of finance and national economy unveiled a strategic projects plan that would catalyse over $30 billion of investments and a regulatory reform package aimed at supporting $2.5 billion of foreign direct investment by 2023.
The economic recovery plan is also aimed at bolstering domestic employment and attracting investments in strategic non-oil sectors including tourism, housing as well as transport and logistics and energy. The projects include the building of five offshore cities, the country’s metro train and the expansion of Bapco’s oil refining capacity.
Bahrain, which halted payments into its reserve fund in 2020 and drew down $450 million, plans to balance its budget by 2024. It secured a $10.2 billion financial lifeline from its rich Gulf neighbours, the UAE, Saudi Arabia and Kuwait in 2018 to help cope with high debt levels and budget deficits. “We estimate Bahrain received $8.2 billion over 2018-2021, with an additional $1.4 billion and $650 million to be disbursed in 2022 and 2023, respectively,” said S&P Global.
The relationships between Bahrain and its GCC neighbors remain strong. The kingdom is likely to receive full disbursements under the GCC Support Package and there remains room for additional financial support beyond the program’s expiration in 2023.
Bahrain is still exploring options to refinance upcoming redemptions, which could include additional external or domestic market issuances or private placements. S&P Global said Bahrain faces external redemptions of about $2 billion (5% of GDP) annually from a combination of Eurobond and Sukuk issuances, including a $1.5 billion Eurobond maturing in July 2022 and a $500 million Eurobond maturing in August 2022. The Gulf state also has a $1.3 billion (BHD 500 million) government development bond due in July 2022.
The favourable oil markets have improved Bahrain’s fiscal and external positions for now, while the implementation of budgetary consolidation measures has helped moderate the government’s accumulation of debt.
– The World Bank
– S&P Global
Structural reforms
Bahrain has been implementing a series of reforms as the Gulf state seeks ways to bolster public finances and non-oil growth, balance its budget and stem government debt, including hiking VAT, offering permanent residence to some foreigners and privatising some government assets.
The government doubled VAT to 10% in January, but the country is still under a one-year transition period that will end on December 31, 2022. Saudi Arabia tripled its VAT rate to 15% in 2020 while the UAE and Oman impose a 5% VAT under a common 2018 framework by the GCC. The passing of the VAT law in the country represents a positive shift to a more balanced fiscal consolidation plan. S&P Global expects the recent increase in tax to contribute receipts of about 3.3%
of GDP over the medium term, up from about 1.6% in 2021.
The country introduced a new permanent residency visa in February 2022 to attract talent and investment, part of a growing trend in the GCC region as states are offering more flexible and longer-duration visas. The Golden Residency Visa will be renewed indefinitely and gives the holder the right to work in Bahrain, unlimited entry and exit and residency for close family members.
Bahrain is also pushing plans to sell stakes in government-related entities including Nogaholding, which owns the country’s oil and gas assets, as the government opens up once-closed industries to foreign investors. The Gulf state’s strategy mirrors initiatives in its neighbors Saudi Arabia and the UAE. Saudi Arabia divested a stake in Aramco in a public offering in 2019. Aramco followed the listing by selling lease-and-lease-back rights in its pipeline assets to investors raising billions of dollars just like Abu Dhabi National Oil Company (ADNOC).
Financial metrics
Bahrain’s financial services sector is another dependable performer. The Central Bank of Bahrain (CBB) raised its key policy rate on its one-week deposit facility, by 75 basis points (bps) to 2.5% from 1.75% after the US Federal Reserve (Fed) raised its interest rate by 75 bps earlier in June—the most aggressive hike since 1994. CBB also hiked its overnight deposit rate and lending rates to 2.25% and 3.75% respectively, and its four-week deposit rate was raised to 3.25%
S&P Global projected at least three back-to-back 50 bps hikes for the remainder of 2022 and four to five hikes in 2023 as inflationary pressures have soared to record highs with the US registering a fresh 40-year high of 8.6% in May. The increase in inflation will likely force the Fed to extend an aggressive series of interest-rate hikes which will push the CBB to take similar actions given that the Bahraini dinar is pegged to the dollar.
“Inflation is expected to increase to 2.5% in 2022, fueled by the doubling of VAT to 10% and continued recovery in domestic demand,” said the World Bank. However, Bahrain’s central has introduced several initiatives over the past two years to ease financial conditions in the country including liquidity injections, loan payment deferral and relaxing macroprudential requirements on capital buffers and liquidity ratios.
Banks in the region have been consolidating to improve economies of scale, reduce operating and funding costs as well as boost profitability and efficiency. Bahrain’s Bank ABC tripled its market share and balance sheet in Egypt last August after the lender completed the acquisition of a 99.5% stake in the local unit of Lebanon’s BLOM Bank for $425 million.
Ahli United Bank’s (AUB) Bahraini unit agreed to acquire Citigroup’s consumer banking operations in the country in April and the transaction is expected to close by the second half of the year. The deal includes the Wall Street bank’s retail banking, credit card and unsecured lending businesses.
Bahrain is pro-innovative and the outbreak of the pandemic in 2020 presented an opportunity for the country’s financial system to accelerate and strengthen digitalisation. “Continued support of fintech and digitalisation could provide a source of growth that needs to be balanced against possible risks,” said the IMF. The improvement in the Gulf state’s economy and corporate activity is expected to prevent further deterioration of banks’ asset-quality indicators.
While Bahrain has a friendly investment climate, the authorities perhaps need to be a little kinder with long-term reforms that will turbocharge the private sector rather than shortterm measures that will appease the Government’s creditors. The hosting of this year’s football World Cup by neighbouring Qatar is a boon for Bahrain’s tourism sector, which registered a 161% growth in 2021 revenues, due to the lack of affordable accommodation as 1.5 million fans are expected to descend upon the tiny Gulf state.
– The International Monetary Fun
– S&P Global
