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Can Saudi or the GCC save Bahrain?

Recently, Reuters reported Bahrain’s Minister of Foreign Affairs Sheikh Khalid Bin Ahmed Al-Khalifa as saying that unless Qatar changed its security policies, it (Bahrain) would not attend the upcoming GCC conference, and he proposed freezing Qatar’s membership in the group.

Were Bahrain’s comments aimed at laying the groundwork for the country to mobilize support from anti-Qatar GCC members so that it overcomes the serious financial situation that it is facing right now?

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Well, it could be. However, unless Bahrain’s low foreign reserves are replenished, the GCC as a whole could feel the repercussions of a currency devaluation, which no one can afford.

So what’s the problem with Bahrain finances?

Dwindling foreign reserves

Bahrain has asked GCC members for financial assistance in replenishing its foreign-exchange reserves and averting a currency devaluation that could reverberate across the region, Bloomberg reported.

It’s the second time this year that the alarm bells are sounded. Bahrain foreign assets were down by 71 per cent from their peak in November 2014, after foreign-currency reserves tumbled 11 per cent in February, fuelling speculation that the country would issue bonds on international or seek financial support from other Gulf Arab monarchies.

Bloomberg’s Alaa Shahine said that Bahrain’s foreign reserves at the Central Bank have dipped to $1.4bn at end August, and that the IMF expected that by year’s end, the country would have just enough to cover approximately 1 month worth of imports, which are at dangerously low levels. This is despite the country tapping global bond markets as recently as September, when it raised $3bn.

“You don’t see that danger reflected in Bahraini assets because of a sense of expectations that a Saudi bailout will materialise to avoid a potential currency devaluation.”

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As for the ripple effects on the region, he said, though Bahrain is a small economy, the entire region is under pressure.

“You have some people predicting a contagious risk, where investors start looking from one market to the next to see who is the next risky country, and today Oman is very volatile, for example,” Shahine said.

Speaking anonymously to Bloomberg, people close to the Bahrain-GCC talks said that Saudi Arabia, the UAE and Kuwait were the first countries approached and that the response was that the island kingdom should do more to bring its finances under control in return for the money.

This was an unusual request, especially that the IMF reported that Bahrain was doing just that; reforming!

Jihad Azour, Director of the Middle East and Central Asia Department at the IMF, said late October 2017 that Bahrain started to adjust to the low oil prices with certain number of fiscal reforms to reduce the level of deficit.

“Bahrain is continuing and is committed to pursue their structural reforms as well as also reduce a level of deficit by implementing the same reforms, introducing the value added tax, and progressively listing the subsidies on some of the fuel and related products. The level of buffers in Bahrain would lead for greater adjustment for them in order to reach a level of fiscal sustainability over the medium term,” Azour said.

So shouldn’t we be surprised by this GCC response?

To each his own

The GCC has been questioning its long-standing peg with a weakening Dollar and as the oil price slump continues in the $50-$60 range, half its peak values prior to 2014 crisis.

Saudi, as part of its vision 2030 is already shelling billions on new non-oil projects, like the $500bn NEOM city by the Red Sea, while committing billions others to infrastructure works around the kingdom such as Tabuk, Riyadh, Mecca and others, with the world questioning where the money will come from.

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Nonetheless, GCC nations may be forced to contribute.

“Most people are fully expecting the other Gulf countries to come to Bahrain’s aid,” Jason Tuvey, a London-based economist at Capital Economics, told Bloomberg. “If Bahrain was forced to devalue its currency it would probably start to raise questions about other currency pegs.”

Moody’s October research said that pressure was building on the currency pegs of the states of Bahrain and Oman, with Bahrain having low foreign exchange reserves, while Oman has a large current account deficit.

“Saudi Arabia also faces some of these pressures, but Moody’s believes it can rely on low debt and large forex reserves of 82 per cent of gross domestic product – though they have fallen by almost $200bn since end-2014 to $526bn at the end of 2016,” it said.

Moody’s expects that GCC states will refuse to abandon their dollar pegs and that Bahrain, which has raised its external debt levels to around 147 per cent of GDP, might make it difficult for the country to access markets and raises the question of whether stronger GCC countries would step in through deposits or soft loans.

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Status of Bahrain’s finances

The International Monetary Fund (IMF) expects Bahrain’s budget deficit to be the highest in the GCC this year even as it narrows.

Before the September bond sale, Bahrain’s reserves were equivalent to just one month of imports and barely covered currency in circulation, according to BofA Merrill Lynch’s economist Jean-Michel Saliba, said Bloomberg.

“And even if the kingdom doesn’t spend any of the $3 billion to finance its 2017 needs, the proceeds are only enough to cover part of next year’s deficit, which is expected to reach $4.2 billion,” said Ziad Daoud, an economist at Bloomberg Economics.

The rest will have to be financed through additional borrowing or “using the government’s reserves,” he said.

The IMF scenario

The IMF estimates that Bahrain needs oil prices at $99 a barrel to balance its budget this year, compared with $73.1 a barrel for Saudi Arabia, which is overhauling its economy.

On June 5, 2017, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with the Kingdom of Bahrain.

“Bahrain’s fiscal and external vulnerabilities have increased in the wake of the oil price decline. Overall GDP grew three percent in 2016, supported by strong growth of 3.7 percent in the non-oil sector aided by the implementation of GCC-funded projects. Bank deposit and private sector credit growth slowed. lower oil prices meant that the overall fiscal deficit reached nearly 18 per cent of GDP and government debt rose to 82 per cent of GDP. International reserves have declined,” it said.

The IMF expected Bahrains’ real GDP growth to slow to 2.3 and 1.6 percent in 2017 and 2018.