Will higher oil prices help GCC economies surge into the post-Covid era?

The positive trend for oil prices since the final quarter of last year has continued with Brent crude rising above US$75pb this week and gaining around 50 per cent since end-2020. Currently, oil prices are being driven up by OPEC+ production discipline and an improving global economic outlook linked with the rapid rollout of vaccines, which is expected to facilitate the return to normalcy and significant fiscal stimulus, notably from the US.

Despite a fall in oil production as part of the OPEC+ agreement, even in Saudi Arabia, the rise in oil price has boosted government revenues of GCC producers, which derive 40-90 per cent of total fiscal income from oil. This higher oil revenue gives governments more scope to support post-pandemic recoveries without undermining efforts aimed at improving medium-term fiscal sustainability. This also presents an opportunity for governments in the region to ready economies for the post-Covid era.

Additionally, higher budget spending could potentially result in faster expansion in GCC non-oil activity this year than the 3 per cent Oxford Economics currently expects. It would also be consistent with medium-term policies, such as Saudi Vision 2030, geared towards increasing the share of non-oil revenue in regional budgets and lowering susceptibility of economic growth to fluctuations in the oil price. The two countries currently seeming to embrace the opportunity the most are the UAE and Saudi Arabia.

In the UAE, the government has announced ambitions to double GDP over the next decade. This has been supported by policies to attract foreign investment and talent, as well as development plans such as Operation Dhs300bn to boost the manufacturing sector, and announcements by the Dubai and Abu Dhabi governments to significantly increase contribution from the creative industries. This spending, as well as the impact of the delayed Expo 2020, should result in non-oil GDP growth in the UAE being around 4 per cent this year and next.

For Saudi Arabia, non-oil GDP has already regained its pre-pandemic level and will continue to rebound amid the gradual lifting of restrictions and aggressive investment strategy that is unfettered from constraints of low oil prices. Domestic investment spending aimed at advancing the realisation of Vision 2030, the ambitious reform plan to transform the Saudi economy, will be a key driver of non-oil growth recovery this year and beyond.

In the face of weak inflows of foreign direct investment, the authorities have unveiled a broad investment programme (Shareek) valued at SAR12 trillion ($3.1bn) by 2030. The programme will be led by domestic entities including the Public Investment Fund, which is set to inject $40bn annually in 2021-22 to foster private-sector growth, oil company Aramco and petrochemical firm SABIC. We expect the share of non-oil GDP to rise from 58.8 per cent in 2019 to 62.2 per cent by 2030, in line with the official ambition.

However, the picture of the role of government in supporting the economy is mixed across the GCC. Budget constraints are weighing on the growth environment in Bahrain and Oman. The government budget in Kuwait is also a constraint but more for reasons of its own making.

A political stalemate between the government and the elected parliament in Kuwait continues to block progress on both reform and short-term solutions covering the budget deficit, with delays in fiscal adjustment adding to financing needs and leading to rapid depletion of the General Reserve Fund (GRF). This is likely to continue to hamper reform to current laws, including tax reform, such as the VAT, and weigh on capex spending. As a result, Kuwait risks being left behind in the race to diversify.

The recovery in oil prices presents an opportunity for the economies of the Gulf to accelerate the recovery from the pandemic and strengthen diversification as we move into the post-Covid era. The UAE and Qatar have made strong progress and had already begun implementing reforms to sustain non-oil GDP growth, even before 2020. Saudi Arabia, on the other hand, is catching up fast and we expect the economy to undergo significant transformation over the next decade.

Bahrain and Oman are already faced with declining oil production, but the scope to develop the non-oil sector is clouded by weak fiscal positions. And while Kuwait has the financial means to support economic transformation, it is unclear whether they will implement sufficient reforms with enough urgency.

Scott Livermore is an ICAEW economic advisor and chief economist at Oxford Economics