PwC latest Middle East Economy Watch previews the regional outlook for 2019 as well as the economic impact of the VAT roll out in the UAE and Saudi Arabia. With some caveats, the early data suggests that the inflationary impact of the tax has been contained, the impact on growth is limited and in Saudi Arabia it has raised more revenue than was initially expected.
Impact of OPEC cuts
Oil market developments are likely to be the dominant economic driver for the region once again in 2019, says PwC.
Following the sharp decline in prices in the final months of 2018, OPEC and its allies agreed in November to cut 1.2 barrels/day, compared with October output levels.
Whether the new cuts are adhered to and persist beyond June will significantly shape real growth prospects.
Loosening compliance with the earlier quotas had contributed to the sharpest price crash since 2014, down from a four-year high $86 at the start of October to a December low of $50.
However, in early January there was a modest rebound as Saudi Arabia cut output even more deeply than it had pledged.
Most leading forecasts for Brent crude are $55-62, below the $71 average for 2017.
Weaker oil would put pressure on expenditure in countries with higher break-even prices. This includes Saudi Arabia, whose 2019 budget envisages a 20% increase in CAPEX and a 7% overall increase compared with the 2018 outturn.
“It appears to have a breakeven price in the mid-$80s, well above the IMF’s projection of $73 in its latest Regional Economic Outlook. However, Saudi Arabia’s low debt level (about 19% of GDP) means it can finance a larger deficit if needed, although it is still aiming to balance its budget by 2023.
IMF (October 2018)
Corporate transactions abound
2019 is likely to be an active year for corporate transactions. This includes major M&A and IPO activity. The landmark deal could be Aramco’s acquisition of a 70% stake in SABIC from the Public Investment Fund.
If it does then it will likely be partly funded with debt and would provide PIF with the financing to expand its local projects.
Banking sector mergers are under discussion in several countries. The region is widely recognised as being overbanked and has begun to consolidate over the past few years. As banks scale up through mergers, this should boost the sector’s capacity to finance projects and businesses, supporting growth.
It is a year since Saudi Arabia and the UAE became the first Gulf states to implement VAT. Initial data suggests that the new tax policy has been relatively successful in diversifying government revenue without producing excessive inflation.
Prices rise in January
The bulk of the impact of VAT was visible in the month-on-month (mom) price increases in January 2018. The overall consumer price index (CPI) jump was 3.9% mom in Saudi and 2.7% in UAE.
The main reason for the higher inflation in Saudi was a sharp cut in fuel subsidies, which was implemented alongside the VAT and caused transport prices to shoot up by 12.7% mom.
There was a notable difference in the health sector, which is subject to VAT in Saudi Arabia (up 3.9%) but not UAE (flat).
Pressure eases during the year
Following the implementation of VAT’s introduction, prices in many sectors declined on average during the rest of the year until November (the most recently available month).
There is also little indication that the VAT has caused a significant drag on growth. In Saudi Arabia, the non-oil private sector grew by 1.7% in real terms in the first three quarters of 2018, up from 1.0% for the same period of 2017.
Saudi Arabia’s preliminary fiscal outturn data, released alongside the budget in December, estimates that VAT raised $12.2bn in 2018. This is nearly a third more than it had expected and is equivalent to about 1.6% of GDP. This suggests a relatively high efficiency of collection in relation to private consumption by international standards. The VAT brought in more funds than the expat levy and excise taxes combined, and triple the amount from taxes on income and capital gains.
No data is available on the UAE yet, but it is likely to be higher in relative terms than in Saudi Arabia because private consumption makes up a larger share of the economy. 70% of the revenues will be distributed to Emirate level governments, potentially providing a substantial boost for some emirates.