Bahrain: Risk Assessment
Country Risk Rating
Business Climate Rating
- Relatively diversified and open economy (oil, gas, aluminum, petrochemicals, financial services, tourism)
- Presence of the main US naval base in the region (5th Fleet of the US Navy)
- Diminishing hydrocarbon reserves and exposed to fluctuations in hydrocarbon prices
- Acute socio-political tensions between the ruling Sunni minority and the majority
- Uncertain regional geopolitical environment Shiite population, fueled by tense regional context between Iran and the embargo on Qatar.
- Dependence on foreign labor
- Very high public debt
Renewed Slump in Growth in 2018
In 2017, Bahrain’s economy was resilient to the oil market apathy thanks to a counter-cyclical expansionary fiscal policy. The GCC’s commitment, given in 2011, to pay USD 10 billion in development aid over ten years, has enabled the government to limit spending while maintaining substantial investment, specifically, in the extension of Manama airport and the construction of a pipeline with Saudi Arabia, which should be operational in early 2018. But in 2018, demand will be dampened by new austerity measures. The drop in household and business confidence, due to the economic and political environment, will limit expansion of the private sector. However, significant private investment will continue to be attracted by the advantageous tax regime and will help modernize the aluminium industry (second leading export item after oil) and the tourism offer and stimulate the construction sector. The banking sector will maintain its vitality, contributing 16% of GDP. Adequate regulation and supervision of the sector have made it possible to ensure levels of capitalization and liquidity. While Bahrain is particularly vulnerable to low bauxite and oil prices (price per barrel needed to balance the budget will be above USD 100), and while production is down because of the OPEC agreements, the non-oil economy is ensuring growth of 2%. Although weak demand and a strong dollar slowed inflation in 2017, the introduction of VAT at 5% across the GCC countries, scheduled for early 2018, and pressure from food and property prices will drive it upwards in 2018.
Public Finances in a Critical Position
With oil revenues, representing almost 80% of state income, the economic situation is weakening Bahrain’s public accounts, which unlike the other Gulf countries, have shown a deficit since 2009. In 2018, the deficit will remain substantial despite efforts at budget discipline. The State has begun a program of privatizing some public services (water and electricity) and of selling its shares in some large corporations. In 2018, it will raise taxes and duties for public service users. Despite cuts, subsidies will continue to represent 20% of the budget. The unstable socio-political context limits options for a more structural fiscal adjustment like that observed in other GCC countries. The government is attempting to get foreign residents to bear the brunt of the austerity measures. Civil service wages, a large proportion of public spending, are, therefore, unlikely to be cut significantly and investment in the building of social housing will be maintained.
The challenge for the Kingdom is to re-balance its finances while preserving growth, which is largely stimulated by public spending. To enable the State to finance its deficit and relieve the downward pressure on its foreign exchange reserves, the Kingdom issued USD 3 million in sovereign bonds in September 2017 and requested financial support from Saudi Arabia, the United Arab Emirates and Kuwait. While the sovereign bond is categorized as speculative, the success of the issue relies on investor confidence in the other GCC members intervening to make the peg to the dollar and the public debt sustainable, with the public debt burden increasing in 2018.
Slight Decline in the Current Account Deficit
The current account deficit will fall in 2018 following the expected rise in oil prices, as, despite efforts to diversify, oil represents half of export income. The deepening of the current account deficit, begun in 2014, has resulted in the loss of foreign exchange reserves, which represented 1.2 months of imports in late 2017. At a time when the Kingdom has the lowest foreign exchange reserves among the oil exporters, higher US key rates are, moreover, expected to increase speculative pressure on the US dollar peg. The peg will be maintained in 2018, given the government’s affirmation and expected financial support from the GCC members. In addition, the country maintains an external debt/GDP ratio which is still very high and which will be about 130% of GDP in 2018.
Persistent Socio-Political Tensions in a Changing Regional Environment
The tensions, which pit the Shiite population against the governing Sunni elite, were sharpened following the suspension of two opposition societies, Al-Wefaq and then Wa’ad. Against a background of allegations of Iranian support for the Shiite majority, executions resumed in 2017 for the first time since 2010. The lack of a strong organised opposition means that the King can be expected to win the election of representatives for the lower chamber scheduled for November 2018. Weak public resources and austerity measures raise fears of political protests on top of the social protests. This situation adversely impacts the business climate, considered fairly favorable hitherto, because of the drive to improve local skills levels, stimulate the private sector, and attract more foreign investment.