Wednesday 12, April 2017 by Jessica Combes

Arab Monetary Fund releases Arab Economic Outlook report

The Arab Monetary Fund (AMF) released the April edition of the Arab Economic Outlook report which includes projections for the macroeconomic performance of the Arab countries in 2017 and 2018.

According to the report the global economy recorded its lowest growth rate in 2016 after the global financial crisis that started in early 2008, despite the improvement in economic performance and labour markets in some advanced countries during the second half of 2016. On the other hand, the developing countries still impacted by the low prices of basic commodities, tight financial conditions and increasing debt burden which affects investment spending particularly public investments.

The world economy is facing a number of challenges that inhibit a strong recovery of the global economic activities. In this context, the weakness of investment levels and the slow growth of total factor productivity have impacted the recovery of the economic growth in the developed economies and leading to the decline in the potential output. In addition, the policy space has become more limited in many of these countries in light of the increasing public debt and the overdependence on monetary policy. As for developing countries and emerging markets economies, the weak international trade growth still has been weighing on their ability to stimulate output and employment. Furthermore, the global economy is facing new challenges in 2017 and 2018 due to the increasing levels of uncertainty related to economic policies in advanced economies and the upward tendency towards nationalist policies and trade protectionism which restrain the global economic recovery.

The report indicated that oil markets are expected to witness a partial recovery in 2017 and 2018 in light of the OPEC agreement to adjust oil production by 1.2 million barrel/day, and the non-OPEC oil production countries to adjust their output by 0.6 million barrel/day in the first half of 2017. The commitment to this agreement will help to bring the oil market balance in 2017. In the meantime, oil demand is expected to increase by 1.2 million barrel a day this year according to OPEC estimates. These developments will support oil prices to increase in 2017 and 2018 compared to levels recorded in 2016 which reached $40.8/barrel for the OPEC price basket. However, the expected increase in shale oil production due to the price gains will limit the upward trend of oil prices during 2017 and 2018.

Regarding the economic growth in the Arab region, the report mentioned that the unfavourable global economic developments have impacted the macroeconomic performance of the Arab countries in light of the continuation of the sluggish recovery of the global economy, the outward of capital flows from developing and emerging markets economies, and the declining trend of oil prices. In addition, some Arab countries have been affected by internal conditions. On the domestic level, the economic conditions required most of the Arab countries to adopt fiscal adjustment measures to ensure fiscal consolidation in Arab oil-exporting countries and to contain the increasing budget deficit and public debt levels in Arab oil-importing countries.

The global, regional and domestic developments have weighed on aggregate demand levels in Arab countries in 2016 and led to the decline in the economic growth of the region to 2.1 per cent in 2016 compared to around 3.1 per cent in 2015. This came as a result of the decline in the growth of Arab oil-exporting countries from three per cent in 2015 to 2.3 per cent in 2016, and the slowdown in economic activity in oil-importing countries, which recorded growth of 3.3 per cent in 2016, compared to 3.6 per cent in 2015.

In light of the above-mentioned developments, there has been a marked shift in the policy approaches and economic reforms in the Arab region. In Arab oil-exporting countries, there has been a clear tendency towards focusing more on giving a strong impetus to economic diversification policies by adopting future national visions, strategies, and plans include quantitative objectives and operational programmes designed to achieve tangible achievements in terms of economic diversification. Attention was also placed on availing the necessary financial resources to implement the diversification plans, whether through withdrawal from reserves, privatisation, or encouraging private sector participation in the implementation of important investment projects.

On the other hand and in order to overcome internal and external imbalances, some other Arab countries, mostly Arab oil-importing countries, adopted economic reforms within the context of medium-term economic reform programmes supported by extended facilities programmes provided by the IMF with a total funding reached about $21 billion. These programmes support national economic reform plans which include several monetary, fiscal, and exchange rate regimes reforms to ensure economic stability. These reforms would contribute positively to containing economic imbalances and creating the necessary fiscal space required to support economic growth and job creation.

As for economic growth expectations for 2017, the report expects that the Arab economies will grow by 2.3 per cent in 2017 as a result of the decline in the growth rate of the Arab oil-exporting countries to 1.8 per cent in light of the decline of oil production reflecting the commitment of these countries to the OPEC agreement to adjust production quantities to balance the world oil markets. Additionally, the fiscal corrective measures and the anticipated increase in interest rates in a number of these countries will continue to affect the growth levels in non-oil sectors. Within this group the growth rate of the GCC countries is expected to reach 1.7 per cent in 2017 compared to 1.9 per cent in 2016, while the economies of the other Arab oil-exporting countries are expected to grow by 1.1 per cent compared to 1.6 per cent last year.

On the contrary, the expected improvement in the economic activities in the Arab oil-importing countries will partially offset the decline in the expected growth of Arab oil-exporting countries. The former group of countries is expected to achieve a relatively higher growth rate estimated at 3.9 per cent this year amid expectations of improved external demand due to the growth of the world economy and international trade. In addition, Arab oil-importing countries will also benefit from the positive impact of economic reforms adopted to support economic growth, the improved internal conditions and the emergence of some of these countries as a regional hub for trade and investments flows.

With regard to the growth forecast for 2018, the pace of economic activity in the Arab countries is expected to rise to 2.7 per cent due to a number of positive factors driving growth. In oil-exporting countries, the growth rate is expected to rise to 2.3 per cent in the light of the return of oil production to previous tracks and the anticipated increase in the global oil prices, albeit at a lower rate than expected this year. These countries will also benefit from the gradual fading of the impact of fiscal corrective measures on the aggregated demand levels. In addition, the growth in some countries within this group of countries will be supported by the relative improvement in the internal conditions. The expected improvement in the economic performance of this group of countries will include both the GCC and other Arab oil-exporting countries, whose growth rate is expected to increase to 2.2 per cent and three per cent, respectively.

On the other hand, economic activities in Arab oil-importing countries will continue to improve, bringing the anticipated group's growth rate to 4.1 per cent next year due to the expected increase in external demand resulted from the gradual recovery of global economic activity, which will support export and investment levels. Economic growth rates in a number of these countries will be supported by the positive results of the economic reform policies being implemented to overcome the existing economic imbalances as mentioned before.

Concerning inflation forecasts, the AMF report pointed out that the year 2016 witnessed the rise in the inflation rate in the Arab countries as a group to about 8.4 per cent, compared with about 6.6 per cent recorded during 2015. This increase reflected the effect of reforms adopted to rationalise subsidy systems especially, for fuel and energy products in most of Arab countries, as well as the impact of measures that have been taken by some countries to rationalise imports of luxury goods as a result of pressures on the exchange rates. The inflation rate in 2016 was also affected by the internal conditions in some countries and their impact on the supply of goods and services.

On Inflation Expectations for 2017 and 2018, the report mentioned that inflation rates in Arab countries will be affected by some internal and external factors. Internally, the general price level will be impacted in some Arab countries by the continuation of reforms aiming at rationalising subsidy systems, the adoption of the value added taxes as well as the tendency towards imposing taxes on harmful goods. On the other hand the expected improvement in the agricultural production will mitigate part of the inflationary pressures in some Arab countries. On the external factors, the inflation rates will be influenced by the expected increase in international oil prices in parallel with the agreement between the main oil exporting countries to adjust production and the expected increase in the value of the dollar against the other major currencies which will reduce the value of imports in Arab countries adopting fixed exchange rate regimes against the dollar. Based on what has been mentioned, inflation rate in Arab countries in expected to reach 9.8 per cent and 9.6 per cent in 2017 and 2018 respectively.

On the monetary policy, the monetary conditions in the Arab countries faced pressures during 2016 due to the growing needs to finance the increasing budget deficits, while the growth rate of deposits has decreased in some Arab countries due to the declining trend of oil prices and the sluggish economic activity. These developments impacted the domestic liquidity and led to pressures on interest rates, particularly in the interbank markets. Therefore, the last year witnessed a limited growth in domestic liquidity by around 4.7 per cent for the second year in a row compared to 5.1 per cent in 2015, and half the level recorded in 2014 that marked the beginning of the downward trend in oil prices.

Although several Arab countries adopting fixed exchange rate regimes pegged to the US dollar, the official interest rate in some of these countries did not reflect the Federal Reserve's decisions during 2016 due to the different economic cycle in those countries compared to the USA, and the keenness of some Arab countries that adopt fixed exchange rate regimes against the dollar on keeping interest rates at relatively low levels to stimulate credit facilities to support economic activity.

As a response to liquidity pressures in some Arab countries, central banks have been active in undertaking all the required measures to alleviate liquidity strains. Furthermore, the coordination between the monetary and fiscal policy was very clear during the last year. Some Arab countries tended to external borrowing to finance part of the budget deficits to avoid crowding out private sector credit.

On the other hand, some Arab central banks, especially in the Arab oil-importing countries, continued their efforts to adopt more flexible exchange rates, either in the light of the pressures resulted from the shortage in the supply of foreign exchange or as a move to strengthen the ability of the exchange rates regimes to absorb external shocks. This shifting requires continuous efforts to improve monetary policy frameworks, enhance coordination between fiscal and monetary policies, especially with regard to the containment of deficits in the public budgets, and develop local capital markets.

In 2017 and 2018, liquidity pressures in the Arab oil-exporting countries are expected to ease in light of the anticipated rise in oil prices, which will support the level of deposits and provide an opportunity to channel greater credit to non-oil sectors to increase output and economic diversification levels. This trend will partially offset the contractionary impact resulted from the tightening of monetary policy in some Arab countries that adopt a fixed exchange rate regime against the dollar.

In the oil-importing Arab countries it is expected that some of these countries will continue to be affected by the tight conditions of domestic and external financing, especially in the light of the expected increase in US interest rates and the relatively high interest rates levels in some of these countries. The improvement in monetary conditions in this group of countries will continue to depend on the increase in external demand levels, which will support net foreign assets, help to provide domestic credit and reduce interest rates, as well as containing pressures on the foreign exchange markets.

On public finance, the report referred to the acceleration of the implementation of many fiscal reforms in Arab countries in 2016. These reforms did not cover the public revenues and expenditures only but also extended to public debt and public finance management to ensure fiscal sustainability in both Arab oil-exporting and importing countries. In the light of the increase in the budget deficit levels, coordination between both fiscal and monetary policy was very obvious. A number of Arab countries have worked to adopt an optimal mix of financing options that ensure financing public budget deficits without crowding out private sector credit in one hand and developing local currency debt markets on the other hand. Some fiscal policy interventions have also targeted prioritising private sector disbursements to ease domestic liquidity pressures in Arab countries that have been affected by the decline in oil prices.

Public revenues reforms included policies to diversify the sources of public revenues in Arab oil-exporting countries particularly GCC countries through a number of interventions including:  adopting the value added tax, privatisation of some public sector entities, and raising fees for government services. On the other hand, the Arab oil-importing countries have focused on tax and custom tariffs reforms in order to increase tax efficiency and ensure fair taxation.

On the expenditures side, the reforms have focused on containing current expenditure particularly spending on public wages. Some Arab countries enforced a ceiling on public expenditure, while others tended to decrease current expenditure or linked the increase in public wages with either the growth in productivity or achieving higher growth rates. Most Arab countries were very keen in 2016 to continue their efforts aiming at rationalising the subsidy systems while strengthening the social safety nets. On the public capital expenditure, the fiscal policy prioritised the spending on the economic projects that are very relevant to stimulating economic growth and increasing economic diversification levels. Also, there was a move towards more involvement of private sector in the implementation of some projects to ease the financial burden on the public finance and to keep investments at levels supportive to economic growth. Additionally, fiscal policy has focused on encouraging the small and medium enterprises, incentivizing the involvement of informal sector within the formal economy, achieving the regionally-balanced development and enabling lower and middle-income segments to own appropriate housing units.

As for public budget management and public debt reforms, the Arab countries have exerted efforts to improve the efficiency of public budget planning with a view to linking it with the macroeconomic objectives in the medium term. In this context, a number of Arab countries are working to shift gradually towards “performance budget” to assure the effectiveness and efficiency of public spending through directing budget resources to achieve objectives included in economic and developmental plans.  Moreover, macro-fiscal units have been established in some Arab countries to build a macro-model for fiscal policy includes expected revenues, expenses and the public budget balance linked to the macroeconomic objectives in the medium term. In light of the increase in budget deficits, public debt units have also been established in many Arab ministries of finance to identify the optimal financing alternatives and provide policy advice on the required measures to ensure debt sustainability.   

According to the previous economic developments, the public revenues have declined by only three per cent in 2016 as the significant increase in non-oil revenues in some oil-exporting countries especially GCC countries and the increase in public revenues in Arab oil-importing countries have partially mitigated the effect of the decrease in oil revenues during the last year.  On the other hand, public spending continued to decline by six per cent compared to nine per cent for the decline recorded in 2015 reflecting the continuation of the fiscal discipline reforms efforts. The increase in public spending in other Arab oil-exporting countries has limited the declining trend of public spending at the level of Arab countries as a group. As a result, the consolidated budget deficit of Arab countries as a group declined to 10.3 per cent of the GDP compared to 11.4 per cent of the GDP in 2015.

In light of the expected recovery of oil prices, the anticipated improvement in economic conditions in many Arab countries and the continuation of the gradual implementation of fiscal reforms in 2017 and 2018, the consolidated budget deficit of Arab countries as a group is expected to decline to 6.3 per cent in 2017 and 5.1 per cent in 2018.

As for the external sector, the report expects that during the year 2017, the deficit in the current account of Arab countries as a group will shrink to about $63 billion, representing 2.5 per cent of GDP. This is due to the expected improvement in international oil prices, commodities and minerals. In addition to the expected increase in tourism proceeds in light of the improved internal conditions and efforts exerted in some Arab countries to encourage tourism sector. With regard to 2018, it is expected that in light of the continued gradual improvement of international oil prices, the deficit in the Arab countries' current account as a group will be about $27.6 billion, representing about one per cent of GDP.



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