In its brief on economic and financial developments in Qatar, International Bank of Qatar (IBQ) noted the country's impressive performance for a fourth consecutive year, even as it continued to face resource constraints exacerbated by the rapid pace of growth. Nominal gross domestic product (GDP) expanded by 24% in 2006, after averaging an impressive 30% per annum in the previous three years. Real growth remained high, supported by solid gains in hydrocarbon output and massive investment flows. Strong overall momentum in the non-oil sector was sustained with little discernible impact from the sharp correction in the Doha stock market in early 2006.
The country is enjoying the fruits of a development strategy set in the 1990s that combines economic openness with a clear economic diversification plan and institutional and democratic reforms. That strategy, together with favourable energy prices and high investment spending, is likely to see the pace of growth sustained at high levels over the next five years. The size of the economy could double again by 2012.
IBQ’s report, prepared in conjunction with the Economic Research team of its partner, National Bank of Kuwait, points out, however, that price pressures continued to mount, with consumer price inflation reaching 11.8% in 2006, fuelled by soaring rents. Expansionary fiscal policy and resource constraints contributed as well to the acceleration in inflation. There were also some seeds of a wage-price-inflation spiral. Unless structural adjustments in the housing market stabilise rents, the risk of accelerating inflation is not expected to abate. With monetary policy remaining largely accommodative, high inflation may well become entrenched in the economy with long-lasting negative repercussions on the real economy.
The government, led by Sheikh Hamad bin Khalifa Al Thani, is investing in its capacity to manage the pace of growth and to reduce inflationary pressures symptomatic of such a high pace. It is also increasing spending to address infrastructure bottlenecks and improve education and health care. In the next five years, the government is leading an investment program estimated at $130 billion to develop energy, infrastructure, industries, utilities and aviation. The fast pace at which Qatar is progressing naturally carries some costs, including testing the country's absorptive capacity and possibly incurring a higher bill. This is largely a timing issue given future flows anticipated from gas and, as long as this continues to be managed prudently, the prospects are positive.
Qatar's government is also committed to creating a vibrant and active private sector. This in turn is expected to create job opportunities for the national work force, which has historically been absorbed by the public sector. Efforts in this area include the government's push to position Qatar as a hub for major sports and energy events, thus laying the foundation for significant private sector investments in the tourism industry.
Investments to promote economic diversification have also been a strategic priority. The financial sector has been identified as key to attracting more private investments. A government initiative to set up the Qatar Financial Centre (QFC) was an important step in that direction, and the centre has evolved as an entity independent of Qatar's existing regulatory framework.
QFC's mandate was to attract world-class financial institutions, though was not restricted to offshore banking or to non-Qatari Riyal activity. As a result, Qatar now operates with its existing institutions and new ones from within the QFC able to access the non-retail market, overseen respectively by either the Qatar Central Bank or the Qatar Financial Regulatory Authority. At some stage, this supervisory structure could well be revised.
IBQ notes that there are many models to consider for re-organising the supervisory structure of a financial system. The UK's Financial Supervisory Authority (FSA) model is one that is often considered by countries aiming at setting up a regional financial centre. Under such a model, supervisory responsibilities are separated from a central bank's authorities, with the latter's focus being primarily monetary policy. There are, however, many challenges for any developing country adopting the FSA model including institutional capacity constraints and effective coordination with the central bank, whether to ensure proper oversight over credit and risk management practices, or the efficient conduct of monetary policy.
Qatar's wealth lies in its vast natural gas resources, equivalent to 15% of proved world reserves. Massive investments in the gas sector and a rapid expansion in gas exports have boosted the economy over the last five years. Qatar exported 25 million tons of LNG in 2006 double that of 2002, making it the fourth largest exporter of LNG in the world. Dry gas, which so far has mainly fed local industry, is also emerging as a new foreign exchange earner as the first shipments make their way to the UAE through the Dolphin pipeline. Gas production through the gas-to-liquids (GTL) process is also expected to take off this year, providing an option to convert gas into environment-friendly, high-value fuels at higher returns.
Meanwhile, crude oil remains the backbone of the economy, earning 60% of total export receipts. In 2006, oil and gas revenues continued to rise reaching above $20 billion, although tempered by slower growth in output and prices in the second half of the year.
IBQ's report highlights the extent to which the strength of hydrocarbon revenues supported marked improvements in the country's external and fiscal positions. By the end of 2006, net foreign assets held by Qatar Central Bank (QCB) had reached $5.4 billion, while accumulated surpluses in the current and fiscal accounts over the last five years are estimated to have surpassed $30 billion and $10 billion, respectively. This pool of savings is been used to reduce Qatar's reliance on energy revenues. Two years ago, the government set up the Qatar Investment Authority to manage the Emirate's massive funds in order to get better and more diversified returns through for example international acquisitions. Qatar is a late entrant to the global investment scene compared with its Gulf peers but it is making up for lost time, backed by the income from its huge gas resources. Unofficial estimates put the size of Qatar's foreign assets at $70 billion.
Meanwhile, the country's external debt has been dropping relative to GDP, from 58.3% in 2003 to 40.8% in 2006 according to World Bank estimates. The country's improved external position continues to enhance its international credibility. Moody's, the credit rating agency, upgraded the country's sovereign long-term rating to Aa3, and Standard & Poor's upgraded it to AA-.
Against this backdrop, however, the regional political environment remains challenging. Key concerns are the mounting tensions between Iran and the US/UN over the nuclear issue, the chaotic political situation in Iraq, the continued low-level threat posed by militancy across the region, and the apparent rise of sectarianism. Nevertheless, the evident improvement in the economic strength of Qatar has enhanced the government's resilience and ability to withstand both regional political and economic shocks.
Beyond geopolitical uncertainties, IBQ notes that downside risks exist from a sharp decline in oil prices. The economy remains highly reliant on hydrocarbon exports, although the fiscal and external current accounts are less sensitive to a downturn in energy prices than those of other hydrocarbon exporting countries, mainly due to the long-term nature of gas export contracts.
Another significant risk relates to the boom/bust cycles in asset markets. The stock market overshot in recent years following the surge in liquidity and rapid credit growth. The correction of early 2006 trimmed some 23% of the value of the Qatari market in the span of two months. Yet, the subsequent negative wealth effect was not significant enough to reverse trends in private consumption, as local equities make up a small proportion of private wealth in Qatar, and local investors enjoy one of the highest per capita income in the world. The correction's impact on private sector activity, including financial institutions, was also limited.
Recently, the stock market was able to switch gears and has recorded a growth of 8% so far this year, as measured by the MSCI Qatar Index, despite a weak start to 2007. Companies listed on the Doha Securities Market (DSM) posted a 28% increase in earnings for the first quarter of 2007, as compared with the same period in 2006. Many market watchers take this growth in earnings, coupled with the fact that the market is trading at a PE ratio of 15.1 times, as evidence of limited downside risk. What remains a concern for investors is that the DSM offers limited investment options and the market in general is very concentrated.
According to IBQ, a related risk is that of contagion from neighbouring countries. This is actually the result of increased financial linkages and integration within the Gulf Cooperation Council (GCC), evidenced by the rise of intra-regional investment flows. A surge in liquidity and reduced barriers facing GCC nationals in investing across the region have helped in enhancing such linkages. Liberalisation also played a role.
The planned GCC currency union, to be implemented by 2010, also aims to deepen Qatar's financial integration within the region. However, progress with preparations for the introduction of a single currency, which to date includes agreement on the convergence criteria and the pegging of all six GCC currencies to the U.S. dollar, has recently received a setback with Oman’s withdrawal from the project based upon concerns that it will not be ready by 2010. This has raised a lot of speculation that the union risks postponement. However, the official stance of Qatar remains to support the project, while denying speculations that it may revalue the Qatari riyal or change its exchange rate policy in light of the significant depreciation in the U.S. dollar against other major currencies.
The IBQ report concludes that Qatar has come a long way since 1995 when Sheikh Hamad bin Khalifa Al-Thani came to power. The country's timely boldness to raise debt to finance its diversification plan has started to pay off. Qatar today is the top-performing economy in the region and, with a per capita GDP of $63,000, is one of the richest countries in the world, relative to the size of its economy. With many analysts predicting that gas will soon replace oil as a source of power, Qatar is set to continue its impressive economic performance well into the future.
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© 2007 Al Bawaba (www.albawaba.com)
