Opec cuts to weigh on GCC economic growth, but UAE is better prepared

Opec's decision to extend production cuts agreed in November last year through to the end of March 2018 will have a significant effect on headline growth in the GCC. Despite efforts to diversify economies away from oil in recent years, the oil and gas sector still account for a substantial chunk of economic activity in the GCC.

In the UAE, the most diversified economy in the region after Bahrain, the oil and gas sector accounts for just under a third of the economy, while in Kuwait, it accounts for more than half of its real GDP. So the decision to cut oil production for another nine months will weigh heavily on economic growth, and in some cases outweigh expansion in the non-oil sectors.

As a result, estimates for growth across the region this year have been downgraded. Saudi Arabia, which has cut oil production by more than it committed to in the first half of this year, is now likely to see economic growth of just 0.5 per cent in 2017 rather than over 1.5 per cent as had been expected at the start of the year. In the UAE, we now expect growth of 2 per cent for 2017, down from 3.4 per cent forecast previously. In Kuwait, compliance with Opec's target would mean a 5 per cent contraction in the hydrocarbons sector, which could technically push the economy into recession even though we expect the non-oil sector to grow 4 per cent this year.

However, these headline growth downgrades mask the improvements seen in the non-oil sectors of the larger GCC economies so far this year. Monthly purchasing mangers' index (PMI) survey of around 400 businesses in the non-oil private sectors of the UAE and Saudi Arabia show that output and new orders have been increasing (sharply) every month. However, that is not to say that businesses are not facing challenges. Increased competition and a stronger US dollar in recent years have meant that businesses have had to offer promotions and discounted selling prices to secure new work and boost their activity. At the same time, they are facing increased costs for inputs.

This squeeze on margins has meant that many firms are reluctant to increase hiring even though their order books are growing, choosing instead to meet their output commitments with existing resources. They appear to be becoming leaner and more efficient. Over the long-term, this is a positive structural change, but in the short term, the lack of job growth means that households are likely to be more conservative when it comes to spending.

On a more positive note, the UAE is relatively well placed to weather the current somewhat challenging economic conditions. Unlike other GCC governments that have had to curb spending and investment in the face of lower oil revenues, we expect the UAE to increase spending (albeit modestly) this year, which should support activity in the non-oil private sector. In particular, Dubai has allocated additional funds for infrastructure investment in 2017 and this is likely to remain high ahead of Expo 2020.

The Dubai Economy Tracker surveys (which are conducted in a similar way to the country PMIs) show that firms in the construction sector have seen a strong growth in their output as well as their pipeline of work compared to last year. Many businesses have attributed this to new projects. Encouragingly, firms in the construction sector are also more optimistic about the next 12 months than they were in the first half of 2016.

Overall, the economic outlook for the GCC remains constructive despite our recent growth downgrades, which have been almost entirely due to the region’s commitments to Opec to lower oil production this year.

Khatija Haque is the head of Mena Research at Emirates NBD