Bahrain's non-oil growth will remain resilient in 2018 and 2019, with GCC investments keeping infrastructure spending levels elevated. This will help offset oil sector weakness and keep overall growth close to a reasonable 3 per cent, a report said.
Inflation will rise to 2.5 per cent in 2018 on the planned VAT as well as firmer housing and food inflation. The VAT is expected to add some 2 per cent to the overall inflation rate, the NBK Economic Update said.
The budget deficit is forecast to gradually narrow, but remain high at 8-10 per cent of GDP. Public spending levels will stay elevated to support infrastructure projects.
Weaker foreign reserve levels are applying pressure on the currency peg to the US dollar. But it is expected that the government will remain committed to the peg, it said.
Growth will continue at a decent pace of around 3% in 2018 and 2019, as resilience in the non-oil economy continues to offset weakness in the oil sector. (Chart 1.)
Oil sector output is set to be flat in 2018 given Bahrain’s participation in the Opec/non-Opec oil production cut deal, now extended to the end of 2018. With an average compliance rate of only 54 per cent so far in 2017, Bahrain could potentially cut oil output further in 2018. However, given that its share of overall production cuts is very small, it may not be pressured to more fully comply with the deal. As a result, Bahrain is likely to keep oil output levels broadly steady.
In 2019, oil activity is expected to pick up and grow by 1.4 per cent as the production deal unwinds and on the back of a new 350,000 b/d offshore oil pipeline connecting to neighbouring Saudi Arabia, the report said.
The new pipeline is part of Bahrain’s plans to expand its refinery capacity. It will replace the 230,000 b/d pipeline, which the government-run Bahrain Petroleum Company was forced to temporarily close in November after an explosion the government claims was carried out by terrorists. Officials say production was restored within a couple of days.
Bahrain produces around 200,000 b/d of oil, most of which is from the Abu Safa field shared with Saudi Arabia. Bahrain is looking into expanding output from its domestic field by tapping into unconventional gas.
To expand its energy mix, the nation is building its first liquefied natural gas (LNG) terminal. It is expected to be completed in 2019 and will allow the import of up to 0.8 billion cubic feet of gas per day for domestic use. There is talk that Saudi Aramco could link up the terminal with other GCC countries. If so, this would in effect turn Bahrain into a hub for LNG imports for the region. Bahrain is also reportedly in talks with Kuwait’s PIC about setting up a petrochemicals plant, the NBK report said.
Non-oil sector growth, meanwhile, is projected to hold between a decent 3 and 3.5 per cent in 2018 and 2019, mainly on the back of elevated levels of infrastructure spending.
Over the past few quarters infrastructure spending has been bolstered by the allocation of funds under the Gulf Development Program – a pledge by Bahrain’s neighbours in 2011 to provide $10 billion in grants over 10 years to boost investment in infrastructure and housing. Data from Meed pointed to an impressive 20 per cent y/y increase in executed projects in October. Key areas of project activity include the aluminium sector, an airport expansion, social housing, utilities, roads, renewable energy and telecoms. There are also plans for a second causeway linking Bahrain and Saudi Arabia, connecting Bahrain to the GCC rail network.
Non-oil growth has also been supported by healthier gains in the financial services sector, which averaged at an impressive 6.4 per cent y/y over the first three quarters of 2017, much higher than the 3.6 per cent y/y average recorded during the same period in 2016. Similar trends are being witnessed across most other non-oil sub-sectors, including the transportation and communications and social and personal services sectors, which were up an average 7.7 per cent y/y and 11.6 per cent y/y, respectively, during the same period.
The pace of employment growth has been strong if volatile since 2H14, helped by solid economic growth including a pickup in activity in the construction sector. In 2Q17, employment grew by a robust 7 per cednt y/y, up from 6.6 per cent y/y in the previous quarter.
Inflation to rise in 2018
Consumer price inflation is expected to rise in 2018, mainly on the back of a planned value-added tax (VAT) as well as firmer housing and food inflation. Latest figures showed inflation gaining momentum, reaching an over one-year high of 2.4 per cent y/y in October. After falling sharply in 4Q16 as the initial impact of subsidy cuts petered out, food price inflation returned to positive territory in mid-2017 and is expected to rise further on the back of planned excise duties on tobacco and soft drinks.
At 5 per cent, the VAT – which we assume will be introduced in the second half of 2018 – is projected to add around 2 per cent to the overall inflation rate for one year. Inflation could rise from around 1 per cent in 2017 to 2.5 per cent in 2018, the report said. Inflation will remain at or around that rate in 2019, given the economy’s decent underlying growth performance.
Budget deficit to narrow
The budget deficit is expected to gradually narrow given ongoing fiscal consolidation efforts as well as some improvement in revenues. But the deficit will remain worryingly large at around 9.7 per cent and 8 peer cent of GDP in 2018 and 2019, respectively.
Fiscal reform has so far been centred on rationalising subsidies. In 2015, the government lifted subsidies on meat products and approved a new pricing system for fuel to reduce subsidy costs. In 2016, it approved the removal of subsidies on housing utilities. But unlike other GCC countries, government spending in Bahrain is virtually unchanged from 2014 levels, highlighting the challenges in cutting areas such as salaries and subsidies. The VAT should raise around $0.3 billion (approximately 1 per cent of GDP) in additional tax revenue per year.
Following a 4.4 per cent y/y estimated rise in public spending in 2017, the state budget pencils in a 2.9 per cent y/y decline for 2018, on the back of a drop in current expenditures. Capex growth is expected to be supported by GCC grants and come in at around 2-3 per cednt y/y in 2018 and 2019. With the cumulative sum of GCC grant allocations currently standing at less than $1.3 billion year-to-date, according to the Economic Development Board, active projects are projected to continue to grow at healthy rates. Major current projects include Alba’s $3 billion expansion project, a $1.1 billion airport expansion and a gas plant project worth $355 million.
With the budget deficit hovering at high levels, the government will continue to look to domestic and international bond markets to plug the shortfall. The latest issue came in late 2017 with a $3 billion three-tranche bond, at comparatively high premiums of 5-8 pwer cent and maturities ranging between 7-30 years. Assuming an average interest rate on government debt of around 5 per cent, this implies debt interest payments of around 2-3 per cent of GDP. Government debt now stands about 10 per cent points higher at around 90 per cent of 2017 GDP. This figure is expected to rise to above 100 per cent of GDP by 2019, the report said.
Growth in credit to businesses is expected to offset the continued weakness in personal loans growth, thanks to an ongoing pickup in lending activity in the construction sector. Growth in personal loans has been on a downward trend since early 2016 – albeit from a strong starting point – easing to 2.9 per cent y/y in September. However, credit to businesses – weak in recent years – has picked up of late, climbing above 6 per cent y/y in September for the first time since 2012, thanks in part to a continued recovery in credit to the construction sector.
Interest rates are expected to continue to rise, reflecting in part rises in official policy rates. The policy rate, currently at 1.75 per cent, is expected to increase by a further 50 bps in 2018 and in 2019, in tandem with hikes in the US federal funds rate. - TradeArabia News Service