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January 2021

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A CHALLENGING MACRO ENVIRONMENT FOR UAE AMID COVID-19 SPILLOVERS, LOWER OIL PRICES AND DISRUPTION IN GLOBAL SUPPLY CHAINS

A tough year for the EmiratesThe past year has been a very challenging year for the UAE economy. Real GDP is projected to contract by 6.6% in 2020 mainly due to the fallout from COVID-19 and lower oil production following the revitalization of the OPEC+ agreement, lower oil prices, reduced global oil demand, and disruption in global supply chains. In the wake of COVID-19, UAE authorities aggressively implemented a containment strategy with strict lockdowns, postponed major events such as World Expo2020, imposed social distancing, and large-scale testing.

A challenging global trade environment exerting pressure on current account surplusAs a global logistics hub, disruptions in supply chains in 2020 due to the effects of the pandemic on global trade weighed heavily on UAE’s external sector, with an export-oriented service economy leaving the country more exposed to the global recession than its more closed Middle Eastern peers. In fact, goods export revenue were mainly impacted by global oil prices, export volumes and tourism receipts, as non-oil exports and re-exports fell sharply over the year, exerting more pressure on the country’s current account surplus, estimated at 3.6% of GDP in 2020 (from 8.4% of GDP in 2019), as per the IMF.

Fiscal balance swinging back into a large deficit over the first half of 2020Amid a temporary deterioration in UAE’s public finances in 2020, UAE’s consolidated fiscal balance is estimated to have posted a large deficit over the full-year, as revenues took a hit from significantly lower oil prices, and as other revenues declined due to weak economic activity since the onset of COVID-19, compounded with lower government fee collections.

Deflationary pressures persist amid extended monetary easing The year 2020 was marked in the UAE by extended deflationary pressures for the second consecutive year, a decent growth in monetary aggregates and contractions in the Central Bank’s gross international reserves, while key interest rates continued to follow the lead taken by the US Federal Reserve in loosening its monetary policy given the UAE dirham peg to the US dollar.

Challenging banking operating conditions but liquidity and capitalization remain adequateThe UAE banking sector has been witnessing difficult operating conditions over the course of the year 2020, as the ongoing COVID-19 pandemic left its imprints on the global and domestic economies and consequently on banks’ activity growth indicators. Measured by the aggregated assets of banks operating in the UAE, total sector activity rose by 5.1% in the first ten months of 2020 to reach the equivalent of US$ 882.6 billion at end-October 2020 according to the latest figures released by the sector regulator.

Mixed activity in UAE capital markets over the first eleven months of 2020 The UAE’s capital markets saw mixed price movements during the first eleven months of 2020. Activity in the UAE equity markets was mainly tilted to the downside, mainly weighed down by the combined global shock from the Coronavirus crisis and prolonged low oil prices, while the UAE fixed income market registered mostly upward price movements, tracking US Treasuries move as rising global growth concerns stoked demand for safe-haven assets.

Bank Audi sal - Group Research Department - Bank Audi Plaza - Bab Idriss - PO Box 11-2560 - Lebanon - Tel: 961 1 994 000 - email: [email protected]

TABLE OF CONTENTS

Executive Summary 1

Introduction 2

Economic Conditions 3

Real Sector 3

External Sector 7

Public Sector 8

Financial Sector 9

Concluding Remarks 17

CONTACTS

Research

Marwan Barakat(961-1) [email protected]

Jamil Naayem(961-1) [email protected]

Salma Saad Baba(961-1) [email protected]

Fadi Kanso(961-1) [email protected]

Farah N. Nahlawi(961-1) [email protected]

JANUARY 2021

UAEECONOMIC

REPORT

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ECONOMICSJANUARY 2021

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The past year has been a very challenging year for the UAE economy. Real GDP is projected to contract by 6.6% in 2020 mainly due to the fallout from COVID-19 and lower oil production following the revitalization of the OPEC+ agreement, lower oil prices, reduced global oil demand, and disruption in global supply chains. In the wake of COVID-19, UAE authorities aggressively implemented a containment strategy with strict lockdowns, postponed major events such as World Expo2020, imposed social distancing, and large-scale testing.

At the external level, non-oil exports and re-exports fell sharply in 2020 owing to the effects of the pandemic on global trade and supply chains, thus exerting pressure on the UAE’s current account balance. The latter is forecasted to report a surplus of 3.6% of GDP in 2020 (against 8.4% in 2019) due to lower oil prices, global trade slowdown, and weak tourism receipts. Having said that, the current account balance, while narrowing, remains in an acceptable surplus. The UAE remains the main regional destination of FDI inflows amid a friendly business environment, excellent infrastructure, and political stability.

At the fiscal level, the authorities announced AED 26.5 billion (US$ 7.2 billion or 1.8% of GDP) in combined fiscal measures. The federal government approved measures worth AED 16 billion (US$ 4.4 billion), Dubai launched an AED 1.5 billion (US$ 0.4 billion) stimulus package to support businesses by reducing costs and simplifying procedures, targeting tourism, retail, trade and logistics and Abu Dhabi approved an AED 9 billion package. The overall fiscal balance is forecasted by the IMF to have turned into deficit at 9.9% of GDP in 2020 (against a mere deficit of -0.8% in 2019), as revenues take a hit from the oil price slump and as other revenues decline due to weak economic activity; various emirates have announced fee cuts to support the private sector, which is one of the few discretionary quasi-tax instruments available. Spending also increased to mitigate the pandemic’s impact. The deficit is being financed through international debt, domestic financing and sovereign wealth withdrawals. As such, debt to GDP widened from 27.3% in 2019 to 36.9% in 2020.

At the monetary level, the continued decline in housing costs has been a major drag on inflation, with the IMF expecting the average CPI to decline by 1.5% in 2020. Real estate prices have been falling since late 2014 mainly due to oversupply, weaker consumer sentiment in the context of prolonged low oil prices, and recently COVID-19. Broad money supply grew by 5.2% by October of 2020, following a 2019 growth of 8.0%. In parallel, net international reserves fell from US$ 107.3 billion at end-2019 (the equivalent of 36.1% of domestic currency Money supply) to US$ 96.4 billion at end-October 2020 (the equivalent of 31.4% of domestic currency Money supply).

At the banking sector level, the year 2020 reported a positive growth in most banking aggregates, except for loans that reported a net contraction. In fact, figures available for October suggest that the year-to-date growth in assets stood at 5.1%, mainly driven by the 2.2% growth in customer deposits, while loans to the private sector reported a contraction of 1.5% over the 10-month period. It is worth mentioning that while banks’ funding profile continues to be dominated by stable core deposits, the banks’ asset quality is set to

EVOLUTION OF ECONOMIC PERFORMANCE

Sources: IMF, Bank Audi’s Group Research Department

(US$ billion)

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deteriorate in 2020, as pandemic-related containment actions, the global economic shock, low oil prices and preexisting economic challenges weigh on economic growth and borrowers’ repayment capacity.

With respect to capital markets, equity and bond market came under moderate pressure in 2020. The Abu Dhabi share price index reported a contraction of 2.2% over the first 11 months of the year, while the Dubai share price index dropped by 12.5% over the same period. In parallel, while Abu Dhabi’s 5-year CDS spread, a main reflection of the market perception of sovereign risks, maintained its low 37 basis point level throughout the past year, Dubai’s 5-year CDS spreads witnessed an expansion from 91 basis points at year-end 2019 to 118 basis points at November-end 2020.

The in-depth developments in the real sector, external sector, public sector and financial sector of the economy are detailed in the forthcoming sections. The concluding remarks are left to the outlook of the UAE economy looking ahead.

1. ECONOMIC CONDITIONS

1.1. REAL SECTOR

1.1.1. Hydrocarbons Sector

Contracting output amid OPEC+ consensus and COVID-19 spillovers on oil demand

The UAE hydrocarbons sector witnessed an adverse performance during the year 2020, due to the double blow of COVID-19 and low oil prices and the ensuing OPEC+ deal (i.e. OPEC and leading oil producer ally countries) to curb production levels to sustain prices in the global oil market amid dwindling demand for oil in light of the global economic recession.

Within this context, the recently released Central Bank of the UAE quarterly economic review for Q3 2020 revealed that authorities in the UAE project a contraction of real oil GDP in 2020. This echoes the views of the IMF, which in its latest regional economic outlook report, projected real oil GDP in the UAE to contract by 6.3% in 2020, from a growth of 3.4% in the previous year.

According to the UAE Central Bank, this contraction in real oil GDP corresponds to an average oil production of 2.8 million barrels per day for the year as a whole (also in line with the IMF forecasts). This compares to an actual average oil production of close to 3.1 million barrels per day in full year 2019. The UAE is likely to feel the spillovers of lower global oil demand owing to the global economic downturn, notably in the transportation sector and international travel. As a result, the UAE’s crude oil exports, the bulk of which

CRUDE OIL PRICES

Sources: Bloomberg, Bank Audi’s Group Research Department

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are destined to the Asian markets, are projected by the IMF to contract by 13.8% in 2020, from 2.47 million barrels per day to 2.13 million barrels per day.

Crude oil production, and hence exports, have been constrained by the implementation of OPEC-mandated caps on oil output, noting that the UAE agreed to cut production at the emergency OPEC+ meeting in April 2020. The latter moved from 3.2 million barrels per day in Q1 2020 to 2.9 million barrels per day in Q2 2020 and to around 2.6 million barrels per day in Q3 2020 (and respectively 2.4 and 2.5 million barrels per day in October and November), as per OPEC statistics.

As a matter of fact, the UAE is among the top 10 oil producers globally and a member of the OPEC and GECF (Gas Exporting Countries Forum). According to the Oil & Gas Journal estimates as of January 2020, the UAE holds the seventh largest proved oil reserves in the world at 98 billion barrels (around 6% of the world’s proved oil reserves), with most of the reserves located in Abu Dhabi with 96% of the UAE’s total.

While the UAE plans to raise crude oil production in the next few years, the limited prospects for major discoveries mean that output increases would almost exclusively be achieved by using enhanced oil recovery (EOR) techniques in existing oil fields.

Also, the UAE holds the seventh largest proved reserves of natural gas in the world at 215 trillion cubic feet, according to the US Energy Information Administration. Natural gas has actually become a key strategic priority, with the emirates planning a series of new investments to further develop its large sour gas resources and meet increasing domestic consumption, with major projects in the pipeline including the North West Area project.

Sour gas resources are higher cost and more technically challenging to develop, according to Fitch Solutions. Nonetheless, the UAE now has noticeable experience in producing sour reserves, and according to the same source it is less expensive for the country to develop its resources domestically rather than to continue relying on imports.

In conclusion, the latest COVID-19 related developments at the global level might call for oil production adjustments in subsequent OPEC meetings, and this will have spillovers on the UAE’s hydrocarbon sector output and exports, which yield a non-negligible chunk of revenues to the government. Meanwhile, the emirates are becoming one of the world’s prominent financial centers and an important regional trading hub. In this regard, authorities are planning and implementing large scale investments in non-hydrocarbon sectors to diversify further away from the volatility of oil markets and its repercussions on State cash flows.

1.1.2. Construction

Slow macroeconomic performance takes its toll on real estate market

The challenging macroeconomic conditions mainly due to the decline in oil prices and the slower global demand due to the spread of the COVID-19 pandemic weakened the real estate and construction sector in the UAE throughout 2020.

At the level of construction, the sector encountered a slump and delays in construction due to COVID-19 and retreated oil prices. The construction industry value is expected to decline by 3.9% year-on-year in 2020. In details, the residential sub-sector saw large investment over the past couple of years, mainly to take advantage of Dubai hosting Expo 2020, which developers expected to raise demand for housing units. However, the fall in house prices has caused property developers and Dubai authorities to temporarily stop building more properties to stabilize the real estate market, as per Fitch Solutions.

The residential sector in the UAE was impacted by the spread of the COVID-19 pandemic which weighed on the overall economic sentiment in the country. Both Abu Dhabi and Dubai’s residential markets reported softening. Residential rents and prices encountered decreases over the past year. In details, Dubai’s residential average sale prices declined by 9.0% year-on-year in the third quarter of 2020 while average rental rates declined by 12.0% year-on-year over the same period, as per Jones Lang Lasalle (JLL). In Abu Dhabi, residential average sale prices retreated by 3.0% year-on-year in the third quarter of 2020 and average rental rates dropped by 3.5% over the same period.

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The office market in Dubai is encountering a slowdown due to the subdued demand and increased supply. Demand for office spaces was negatively impacted by the pandemic, as working from home strategies reduced the need for office spaces. In Dubai, average Grade A CBD rents declined by a yearly 4.0% in Q3 2020, while average grade A rents in Abu Dhabi remained unchanged year-on-year over the same period, as per JLL.

At the level of the retail market, rents declined in Dubai, Abu Dhabi and Sharjah mainly due to the recession that resulted from the spread of the COVID-19 pandemic, which weighed on economic growth and private consumption. The development of the e-commerce sector did reduce the need for retail spaces, putting further pressure on retail rents. In this context, average rental rates across primary and secondary malls in Dubai and Abu Dhabi retreated by an annual 17.5% and 15% respectively over the third quarter of 2020. Furthermore, the retail market was impacted by the bans on travel and movement and the slowdown in tourism activity, hence the decline in spending.

The real estate market in the UAE emerged as tenant favorable over the past year as the decrease in demand and the large supply coupled with the deterioration in investor sentiment due to the spread of the pandemic put pressure on both rents and prices in the country. In this context, developers continue to give a range of incentives to attract new investors over the coming period.

1.1.3. Transport

COVID-19 poses short-term setback in the transport industry

The transport infrastructure was also well affected by the spread of COVID-19, as the impact of the pandemic on the economy created disruptions to ongoing construction works in the industry. As the country relaxes its strict lockdown measures, activity in the sector is resuming, but projects are being delayed.

It is worth noting that a drastic drop in transport infrastructure construction is seen, amid the stringent social distancing measures imposed across the UAE. However, material risks to the long-term demand for such infrastructure following the relaxation of social distancing measures currently under way are not major.

The country’s authorities are pursuing high-value projects aimed at improving the UAE’s role as a logistics and tourism hub. Developments in the sector having previously been focused on preparations for Dubai’s hosting of Expo 2020, are now expected in 2021.

As a result, the UAE’s ongoing transport infrastructure projects now account for around US$ 13 billion of its overall project pipeline value of more than US$ 75 billion, as per Fitch Solutions.

It is worth noting that several projects were announced in 2020. The Etihad Rail started construction of the second phase of the rail network from al Guwaifat, bordering Saudi Arabia. Contracts awarded for this phase were worth US$ 4.9 billion. In August 2020, the Roads and Transport Authority (RTA) in Dubai unveiled plans to construct pedestrian bridges across the city in UAE. It also awarded a contract for the modernization of Falcon Junction in the UAE, as per the same source.

At the level of airports, the pandemic did weigh heavily on the travel industry globally. This made investors cautious about investing in fresh airport infrastructure in the UAE.

The country’s authorities maintained their investment in port infrastructure to boost its role as a shipping and logistics hub - a central component to the country’s diversification plan away from oil revenue in the long term, with the impact of the collapse in oil prices in 2020 likely to support this. It is worth noting that expansion and upgrade plans aimed at increasing the capacity and improving the efficiency of the UAE’s port facilities will support the growth in the ports infrastructure segment in the coming years.

Despite the near-term disruption of COVID-19, which has significantly impacted ongoing construction works in the UAE, the long-term prospects for the country’s transport infrastructure remain positive. The country has built up on its geographically strategic position along major international maritime and air trade routes to become an important link in the regional and global supply chains.

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1.1.4. Tourism

Tourism industry crippled following spread of Coronavirus

In 2020, the tourism sector in the UAE like other countries globally received a hard hit due to the lockdowns and bans on travel, following the spread of the COVID-19 pandemic. The industry remains at the risk of different waves and variations of the virus in different regions.

In this context, the hospitality market mainly four and five star hotels in Abu Dhabi and Dubai encountered declines in their KPIs in the first nine months of 2020. In Dubai, occupancy rates declined by 35.6% year-on-year in the first nine months of 2020 to register 38%. Average daily rate declined by 12.6% to stand at US$ 186, consequently RevPAR retreated by 55% to stand at US$ 70, as per EY.

As for Abu Dhabi, the occupancy rate of four and five star hotels declined by 4.9% year-on-year in the first nine months of 2020 to stand at 71%. The average daily room rate retreated by 22.4% to stand at US$ 75. Hence, RevPAR declined by 27.4% to stand at US$ 53, as per EY.

As for Ras Al Khaimah, occupancy reported a yearly decline of 26.1% in the first nine months of 2020 to stand at 47%, while the average daily room rate increased by 19.7% over the corresponding period to stand at US$ 167 while RevPAR retreated by 23.2% year-on-year to stand at US$ 78, as per the same source.

It is worth noting that in Abu Dhabi the strict public health measures, domestic and international travel restrictions, closure of public venues and the suspension of all events came in support of combating the COVID-19 pandemic spread. The emirate implemented the “Go safe” certification program which along with the improved domestic tourism are stimulating tourism demand.

In Dubai, the strict measures adopted to curb the spread of COVID-19 pandemic such as the suspension of international flights and events and major tourist attractions contributed to softer hospitality sector performance during the year. The emirate adopted safety assurance through safe travels certification by the World Travel and Tourism Council. The sector is yet to restore traveler confidence in order to attract influx of visitors as before. It is worth noting that Dubai was expected to host the Expo 2020 which was supposed to boost the number of tourists in the country, however this did not materialize.

In sum, the Coronavirus shocks crippled tourism demand in the UAE in 2020 and weighed heavily on the industry.

COMPARATIVE HOTEL OCCUPANCY RATES* AVERAGE ROOM RATE IN US$

Sources: Ernst & Young, Bank Audi’s Group Research Department Sources: Ernst & Young, Bank Audi’s Group Research Department

* 9 Months 2020

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1.2. EXTERNAL SECTOR

A challenging global trade environment exerting pressure on current account surplus

As a global logistics hub, disruptions in supply chains in 2020 due to the effects of the pandemic on global trade weighed heavily on UAE’s external sector, with an export-oriented service economy leaving the country more exposed to the global recession than its more closed Middle Eastern peers. In fact, goods export revenue were mainly impacted by global oil prices, export volumes and tourism receipts, as non-oil exports and re-exports fell sharply over the year, exerting more pressure on the country’s current account surplus, estimated at 3.6% of GDP in 2020 (from 8.4% of GDP in 2019), as per the IMF.

Going further into details, Dubai recorded a non-oil foreign trade volume of AED 549.2 billion (or US$ 149.6 billion) in the first half of 2020, constituting a tangible drop of 18.8% year-on-year, as per Dubai Statistics Center. In fact, Dubai’s exports registered a relative stagnation to reach AED 77.3 billion, re-exports went down considerably by 27.4% to AED 152.1 billion amid a challenging global trade environment, while imports contracted by 18.1% to reach AED 319.8 billion. As such, Dubai’s non-oil trade deficit went down by 13.7%, moving from AED 104.6 billion over the first half of 2019 to AED 90.3 billion over the first half of 2020.

In parallel, the breakdown of non-oil direct imports of Dubai by commodity shows that the main imports over the first half of 2020 were pearls, precious stones and metals (36.6% of total non-oil direct imports), followed by machinery, sound recorders, TV and electrical equipment (17.8%), vehicles, aircraft and vessels (8.3%), products of chemical and allied industries (6.4%) and vegetable products (4.9%). The breakdown of non-oil direct exports and re-exports of Dubai by commodity shows that the main categories over the first half of 2020 were pearls, precious stones and metals (46.1% of total non-oil direct exports and re-exports), followed by machinery, sound recorders, TV and electrical equipment (11.7%), vehicles, aircraft and vessels (9.7%), base metals and articles of base metals (8.9%), and products of chemical and allied industries (3.9%).

On another hand, the value of non-oil foreign merchandise trade through Abu Dhabi decreased by 9.5% over the first five months of 2020 when compared to the first five months of 2019, from AED 88.6 billion to AED 80.2 billion (or US$ 21.8 billion) as per Abu Dhabi Statistics Center. This was the result of a 31.3% decrease in re-exports from AED 21.5 billion to AED 14.8 billion between the two periods, and a 7.2% decrease in non-oil exports from AED 25.0 billion to AED 23.2 billion, while the imports increased by 0.4% over the same period. As such, Abu Dhabi’s non-oil trade balance registered a shift from a deficit of AED 4.4 billion to a surplus of AED 4.2 billion between the two periods.

In parallel, the breakdown of non-oil imports of Abu Dhabi by commodity shows that the main imports over the first five months of 2020 were industrial supplies (39.7% of total imports, mainly boilers, machinery and mechanical appliances, articles of iron and steel, copper and copper articles), capital goods (except transport

CURRENT ACCOUNT BALANCE


(US$ billion)

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equipment) (23.3%), followed by transport equipment, and parts (22.6%), foods and beverages (7.0%) and consumer goods (6.8%). The breakdown of non-oil exports and re-exports of Abu Dhabi by commodity shows that the main exports over the first five months of the year were industrial supplies (52.3% of total exports), followed by transport equipment and parts (18.9%), foods and beverages (10.5%), consumer goods (10.2%) and capital goods (except transport equipment, with 7.6%) over the first five months of 2020.

1.3. PUBLIC SECTOR

Fiscal balance swinging back into a large deficit over the first half of 2020

Amid a temporary deterioration in UAE’s public finances in 2020, UAE’s consolidated fiscal balance is estimated to have posted a large deficit over the full-year, as revenues took a hit from significantly lower oil prices, and as other revenues declined due to weak economic activity since the onset of COVID-19, compounded with lower government fee collections.

Going further into details, government revenues have registered a yearly drop of 28.7%, from AED 250.0 billion (or US$ 68.0 billion) in the first half of 2019 to AED 178.1 billion (or US$ 48.5 billion) in the first half of 2020, as per the latest figures released by the Ministry of Finance. This was mainly due to the slump in oil prices and to the government’s stimulus measures, which included temporary reductions to business fees, VAT, excise receipts, municipality fees and Tourism dirham fees. Within this context, tax revenues contracted by 48.7% over the first half of 2020, registering AED 58.8 billion, compared to AED 114.7 billion over the first half of 2019. As such, annualized general government revenues reached 25.0% of GDP over the period, down from 32.3% of GDP over the same period of the previous year.

On the spending front, government expenditures registered a drop of 19.7%, from AED 200.4 billion (or US$ 54.6 billion) over the first half of 2019 to AED 190.0 billion (or US$ 43.8 billion) over the same period of 2020. In details, compensation of employees increased by 4.8% in the first half of 2020 to reach AED 57.0 billion, while expenditures on social benefits went down by 22.2% to AED 29.4 billion in the first half of 2020. On another hand, government spending on non-financial assets, of which expenditures on fixed assets, inventories, valuables and non-produced assets, went up by a strong 40.1% to reach AED 32.2 billion in the first half of 2020. It is worth mentioning that the authorities announced combined fiscal measures of AED 26.5 billion (or US$ 7.2 billion). The federal government approved measures worth AED 16 billion (or US$ 4.4 billion), Dubai launched an AED 1.5 billion (or US$ 0.4 billion) stimulus package to support businesses by reducing costs and simplifying procedures, targeting tourism, retail, trade and logistics and Abu Dhabi approved an AED 9 billion package.

SELECTED PUBLIC FINANCE INDICATORS

PUBLIC DEBT


Sources: Ministry of Finance, Bank Audi’s Group Research Department

US$ billion 2018 2019 H1-19 H1-20 H1/H1

Public revenues 130.1 129.7 68.0 48.5 -28.7%

Public revenues/GDP 30.8% 30.8% 32.3% 25.0% -7.2%

Public expenditures 105.7 104.3 54.6 43.8 -19.7%

Public expenditures/GDP 25.0% 24.8% 25.9% 22.6% -3.3%

Fiscal balance 16.1 10.8 7.2 -4.1 -

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Accordingly, as government revenues are dropping at a faster pace than government expenditures, the overall UAE government net lending/borrowing balance shifted from a surplus of AED 26.4 billion (or US$ 7.2 billion) during the first half of 2019 to a deficit of AED 15.2 billion (or US$ 4.1 billion) over the first half of 2020, whereas total government debt is expected to increase to 36.9% of GDP in 2020, from 27.3% in 2019, as per the IMF, in view of higher financing needs and the contraction in nominal GDP.

In the context of prolonged low oil prices, the UAE may need to pursue a gradual fiscal adjustment to balance the consolidated budget for the seven emirates and the federal government by the coming years. This could be achieved by mobilizing additional non-oil revenues, in the form of higher VAT, and cutting current spending, particularly public wages. Last but not least, UAE’s overall fiscal strength is deemed strong despite the temporary deterioration in public finances, with a budget structure remaining relatively rigid despite ongoing consolidation efforts and broadening of the tax base in tandem with the introduction of VAT.

1.4. FINANCIAL SECTOR

1.4.1. Monetary Situation

Deflationary pressures persist amid extended monetary easing

The year 2020 was marked in the UAE by extended deflationary pressures for the second consecutive year, a decent growth in monetary aggregates and contractions in the Central Bank’s gross international reserves, while key interest rates continued to follow the lead taken by the US Federal Reserve in loosening its monetary policy given the UAE dirham peg to the US dollar.

Consumer prices in the UAE fell into deflation for the second consecutive year in 2020, mainly weighed down by an oil price slump, Coronavirus-related lockdowns and continuous decline in housing costs in an oversupplied residential market. Consumer prices in the UAE contracted by 2.2% year-on-year in October 2020, with the Consumer Price Index dropping from 108.35 in October 2019 to 105.99, according to the UAE Federal Competitiveness and Statistics Authority.

The breakdown of the Consumer Price Index by sector shows that the recreation and culture sector, the worst-hit sector by Coronavirus restrictions, registered the largest yearly price contraction of 29.3%, followed by the transportation sector (-5.1%), the housing, water, electricity & gas sector (-3.4%), noting that it accounts for the largest weighting in the Consumer Price Index of 34.1%, the furniture and household goods sector (-2.4%) and the miscellaneous goods and services sector (-1.2%). Contributions to inflation have been positive from the tobacco sector (+6.0%), the food and beverages sector (+4.7%), the textiles, clothing and footwear sector (+3.1%), the restaurants and hotels sector (+2.1%), the education sector (+1.2%), the communications sector (+0.7%) and the medical care sector (+0.1%). Within this context, it is worth mentioning that the IMF expects consumer prices to contract by 1.5% on average in 2020 after contracting by 1.9% on average in 2019.

EXCHANGE MARKET INDICATORS BROAD MONEY AND INFLATION

Sources: Central Bank of UAE, Bank Audi’s Group Research Department

* IMF full-year forecast


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Monetary aggregates in the UAE registered decent expansions over the first ten months of 2020. The narrowest measure of money supply (M1), which consists of currency in circulation outside banks plus monetary deposits in local currency with banks, grew by 11.6% during the first ten months of 2020, moving from US$ 140.3 billion at end-2019 to US$ 156.5 billion at end-October 2020. This compares to a 4.1% expansion in M1 during the corresponding period of 2019. The broader money supply (M2), which consists of Money Supply (M1) plus quasi-monetary deposits, widened by 5.2%, moving up from US$ 384.8 billion at end-2019 to US$ 404.8 billion at end-October 2020, with net foreign assets at banks doubling, moving from US$ 24.8 billion at end-2019 to US$ 49.3 billion at end-October 2020, which resulted into a 10.2% surge in net international reserves. It was driven by a 17.4% surge in “claims on official entities” to reach US$ 10.6 billion at end-October 2020 amid various megaprojects. This compared to a 4.9% expansion in (M2) over the first ten months of 2019.

Given the UAE dirham/US dollar peg at AED 3.6725, the Central Bank of the UAE tracked two interest rate cuts by the US Federal Reserve over the year 2020 to near zero to ease the economic impact of the fast-spreading COVID-19, slashing the interest rates applied to the issuance of its Certificates of Deposits and the repo rate for borrowing short-term liquidity from the UAE Central Bank against Certificates of Deposits twice in March 2020 by a cumulative of 125 bps. This was followed by a minor cut in interest rates of 15 bps mid-July 2020. Accordingly, the repo rate moved from 2.0% at end-2019 to a current level of 0.60%.

Last but not least, the Central Bank’s gross international reserves contracted by 9.1% over the first ten months of 2020 or the equivalent of US$ 9.96 billion, moving from US$ 108.4 billion at end-December 2019 to US$ 98.5 billion at end-October 2020. This is mainly driven by a 12.5% fall in “current account balances & deposits with banks abroad” or the equivalent of US$ 12.5 billion, moving from US$ 99.6 billion at end-2019 to US$ 87.1 billion at end-October 2020. Accordingly, the Central Bank’s gross international reserves coverage ratio to money supply (M1) and dirham deposits reached 32.1% at end-October 2020, down from 36.5% at end-December 2019.

Looking forward, a weak aggregate demand, prolonged low oil prices and an oversupplied residential market would continue to hold down consumer price inflation, while monetary conditions are set to remain accommodative after the US Federal Reserve said in its latest FOMC meeting held in December 2020 that it expects to maintain an accommodative stance of monetary policy until labor market conditions have reached levels consistent with the Committee’s assessments of maximum employment and inflation has risen to 2% and is on track to moderately exceed 2% for some time.

UAE MONETARY FLOWS


Flows in US$ million 2018 2019 10M-20

Net international reserves 24,456 18,307 13,529

Central Bank (net) 3,626 9,741 -10,963

Gross international reserves 4,130 8,856 -9,858

Foreign Liabilities 504 -886 1,105

Banks (net) 20,830 8,565 24,492

Foreign Assets 27,409 24,900 37,507

Foreign Liabilities 6,578 16,335 13,015

Net Domestic Assets -15,663 10,212 6,458

Claims on private sector 12,006 1,977 -6,076

Net claims on public sector -19,683 19,101 11,677

Claims on financial institutions 184 -1,695 1,084

Capital & Reserves -5,176 -10,737 -707

Other Items (net) -2,993 1,565 480

Broad Money (M2) 8,793 28,518 19,988

Money Supply (M1) -1,815 7,995 16,207

Quasi-Money 10,608 20,523 3,781

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1.4.2. Banking Activity

Challenging operating conditions but liquidity and capitalization remain adequate

The UAE banking sector has been witnessing difficult operating conditions over the course of the year 2020, as the ongoing COVID-19 pandemic left its imprints on the global and domestic economies and consequently on banks’ activity growth indicators. Measured by the aggregated assets of banks operating in the UAE, total sector activity rose by 5.1% in the first ten months of 2020 to reach the equivalent of US$ 882.6 billion at end-October 2020 according to the latest figures released by the sector regulator.

On the funding side, deposits parked at banks operating in the UAE rose by a modest 2.2% in the first ten months of the year, to reach the equivalent of US$ 520.3 billion at end-October 2020 or close to 59% of banks’ total balance sheets, thus continuing to ensure the bulk of their funding needs.

In details, resident deposits, accounting for 89.7% of total deposits parked at banks operating in the UAE, rose by 3.9% over the covered period of 2020. However, the non-resident sector, accounting for a mere 10% of total deposits, saw an 11.0% retreat in their deposits so far in 2020 amid challenging economic conditions across the globe noting that this retreat was mostly attributed to lower corporate deposits.

Among resident deposits, the private sector proved to be the largest contributor to growth in the first ten months of 2020 volume wise, with a 3.0% overall growth over the covered period (they account for 64% of resident deposits). It was followed by the government-related entities sector in terms of volume increase, which deposits rose by 8.7%, then by the government sector (+4.9% increase in 10M2020).

Banks’ funding profiles thus benefit from a solid core customer deposit base, noting that the wealthy public sector and GREs provide more than 30% of the total deposit base. It is true that capital markets funding, term borrowings and foreign liabilities of banks operating in the UAE rose lately, but they altogether do not attain a quarter of their total balance sheets, leaving the bulk of funding at the hands of the depositor base. The banking sector has low external debt and maintains an overall net external asset position.

On the asset utilization front, two notable trends dominated banking sector activity. On the one hand, gross credit progressed by 2.8% in the first ten months of 2020 to reach the equivalent of US$ 492.0 billion at end-October. While foreign credit edged up by 16.6% over the covered period (yet covering a mere 11% of the total outstanding stock of gross credit), domestic credit accounted for the bulk of the volume increase in credit (+1.3% over 10M2020). This was driven by higher credit volumes to the GREs, while lending to the government and the private sector in both its retail and corporate components contracted.

On the other hand, total banks’ reserves at the Central Bank declined by 8.4% over the first ten months of 2020, mostly due to a decline in reserve requirements. But this is attributed to the reduction in the rate of required reserves from 14% to 7% on demand deposits according to the Targeted Economic Support Scheme (TESS) offered to banks by the Central Bank of the UAE in April 2020. The sector regulator actually said that banks’ liquidity increased as a result of the reduction in the required reserves ratio.

EVOLUTION OF BANKING AGGREGATES


US$ billion 2016 2017 2018 2019 Oct-20

Total assets 711.7 733.5 781.1 839.5 882.6

% YTD growth in assets 5.5% 3.1% 6.5% 7.5% 5.1%

Total deposits 425.6 443.1 478.1 509.2 520.3

% YTD growth in deposits 6.2% 4.1% 7.9% 6.5% 2.2%

Total bank loans to the private sector 292.9 295.8 307.7 308.9 304.3

% YTD growth in bank loans to the private sector 5.6% 1.0% 4.0% 0.4% -1.5%

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Measures under the AED 256 billion TESS, which was proposed in the wake of the COVID-19 pandemic earlier in 2020, comprise the reduction of the cash reserve ratio of AED 61 billion, a loan deferral program of AED 50 billion, a capital buffer relief of AED 50 billion and a liquidity buffer relief of AED 95 billion. Moreover, the sector regulator adopted a broader set of measures to provide relief to the UAE financial and economic system, including a reduction of down payment for first-time homebuyers and limits put on bank fees charged to SMEs.

Within such an environment, the eligible liquid assets ratio (ELAR), calculated as the ratio of total banks’ eligible liquid assets (consisting of cash at hand, liquid assets at the Central Bank and eligible bonds/Sukuks as prescribed by regulation 33/2015 & Basel Principles but excluding interbank positions) to total liabilities (balance sheet total assets minus sum of capital & reserves and all provisions and interest in suspense except staff benefit provisions and refinancing and subordinated borrowing/deposits) stood at 16.4% at end-October 2020. This follows the reduction of the required reserves ratio during 2020, and

BANK CREDIT TO RESIDENTS BREAKDOWN BY ECONOMIC ACTIVITY

ASSET COMPOSITION (% OF TOTAL ASSETS)



Sep-20

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compares to a slightly higher 18.1% at end-December 2019. Along the same lines, the Central Bank of the UAE also publishes another liquidity measure, which is the liquid assets to short-term liabilities ratio. The latter slightly retreated from 42.1% at end-Q4 2019 to a still decent 36.2% at end-Q3 2020 (latest figure available) in the same context.

Also, the lending to stable resources ratio dropped further in 2020, moving from 81.0% at end-December 2019 to a new low of 77.8% at end-October 2020. This ratio is calculated as the ratio of total advances (net lending + net financial guarantees and standby LC + interbank placements of more than three months) to the sum of net free capital funds and total other stable resources, thus shedding light on somewhat improved liquidity position of UAE banks.

Anyhow, supportive measures undertaken by UAE authorities are likely to mitigate the magnitude of pressures on banks’ asset quality metrics by preventing some borrowers’ liquidity issues induced by the COVID pandemic from turning into solvency issues. In this respect, the banking sector’s non-performing loans to gross loans ratio increased, moving from 6.5% at end-Q4 2019 to 7.7% at end-Q3 2020 as per the latest available data, as the rise in NPLs outstripped the contained rise in lending volumes. Provisions also increased, though not as much as NPLs did, leading NPLs net of provisions to attain 13.6% of banks’ capital, against 10.2% at end-2019.

Asset quality metrics are experiencing some pressures, as pandemic-related measures, the global economic downturn and low oil prices leave their imprints on economic activity and clients’ repayment cash flow generation capacity, but remain broadly satisfactory for the time being.

Even if asset quality comes to experience further stress, banks operating in the UAE retain comfortable capital to weather adverse pressures. The sector-wide regulatory capital to risk-weighted assets ratio reached 18.0% at end-Q3 2020, against 17.7% at end-Q4 2019. The bulk of banks’ equity consists of Tier 1 capital, noting that the Tier 1 ratio stands at 16.9% and that the Common Equity Tier 1 capital ratio is at 15.1% at end-Q3 2020.

The regulatory capital ratio remains above the 13% capital adequacy ratio, including the 2.5% Capital Conservation Buffer (CCB) requirement and the 8.5% Tier 1 ratio, prescribed by the Central Bank regulations in compliance with the Basel III guidelines, said the sector regulator in a recent report. While the CCB remains at 2.5%, banks are allowed to tap into it up to a maximum of 60% without supervisory consequences until end of 2021. The Domestic Systemically Important Banks’ buffer remains unchanged, but banks can use 100% of it without supervisory consequences until end-2021, in the wake of the COVID-19 pandemic.

Last but not least, banks’ profitability took a hit on the back of the domestic economic downturn during 2020. Interest margin shrank by 10.1% on a yearly basis up until end-Q3 2020 amid low interest rates and consequently gross income retreated by 14.6% over the same period on account of weaker business activity in the emirates. While the cost to income ratio reflects good efficiency and remains relatively low at 35.7%, upward pressure on provisions and weaker gross income contributed to a halving of profitability, with the return on assets ratio at 0.8% up until end-Q3 2020 (1.7% up until end-Q3 2019) and the return on equity at 5.8% (12.3% previously).

To sum things up, UAE banks have encountered challenging operating conditions throughout 2020, reflecting contained growth of traditional banking activity drivers (i.e. deposits and loans), and accrued pressures on asset quality. But their overall favorable financing standing at the start of the pandemic and authorities’ various support measures are helping them weather the shock, noting that they withhold sufficient capital buffers to face potential pressures on their capital base.

1.4.3. Equity and Bond Markets

Mixed activity in UAE capital markets over the first eleven months of 2020

The UAE’s capital markets saw mixed price movements during the first eleven months of 2020. Activity in the UAE equity markets was mainly tilted to the downside, mainly weighed down by the combined

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global shock from the Coronavirus crisis and prolonged low oil prices, while the UAE fixed income market registered mostly upward price movements, tracking US Treasuries move as rising global growth concerns stoked demand for safe-haven assets.

The UAE equity markets ended the first eleven months of 2020 on a negative note mainly pressured by a double blow of Coronavirus crisis and lower oil prices. This occurred despite strong price rebounds observed starting November 2020, mainly tracking global equity strength following upbeat COVID-19 vaccine news and driven by an oil price rally sparked by bets over a potential global oil demand recovery.

In details, the Dubai Financial Market plunged in the red during the first eleven months of 2020, as prospects of a deep contraction in the UAE real economy in 2020 amid Coronavirus-induced lockdowns and falling oil prices soured risk sentiment, and driven by unattractive market-pricing ratios and unfavourable corporate earnings. The DFM General Index contracted by 12.5% during the first eleven months of 2020, moving from 2,764.86 at end-2019 to 2,419.60 at end-November 2020, bearing in mind that the bourse started in November 2020 recouping losses, on increasing optimism that a rollout of Coronavirus vaccines and a new US stimulus agreement would lead to a sooner-than-expected global economic recovery and lift global oil demand. This was reflected by a 10.6% monthly increase in the DFM General Index in November 2020.

The breakdown of the DFM General Index by sector during the first eleven months of 2020 shows that the consumer staples and discretionary sector registered the highest index drop of 32.9%, followed by the banking sector with -16.3% (noting that the DFM banks index has the largest weight in the DFM general index of 47.2%), the real estate sector with -14.4% (the DFM real estate index, having a weight of 25.8% in the general index, posted a strong price rebound starting November 2020 mainly on Coronavirus vaccine hopes and as Emaar Properties confirmed early-December that it is temporarily halting new projects amid a property glut that has combined with the Coronavirus pandemic), the transportation sector (-7.2%) and the financial and investment services sector (-6.7%). In contrast, the insurance sector reported the highest index surge with +20.5%, followed by the services sector (+18.4%) and the telecommunications sector (+2.4%), while the industrial sector registered nil change in prices over the first eleven months of 2020.

ABU DHABI STOCK MARKET INDICATORS

DUBAI STOCK MARKET INDICATORS

Sources: Abu Dhabi Securities Exchange, Bank Audi’s Group Research Department

Sources: Dubai Financial Market, Bank Audi’s Group Research Department

2016 2017 2018 2019 Nov-20

Market capitalization (in US$ billion) 121.0 124.6 135.1 142.0 197.0

Trading value (in US$ billion) 12.3 11.9 9.4 11.7 15.3

Turnover ratio 10.2% 9.6% 7.0% 8.3% 8.5%

Trading volume (in millions) 24,683 24,224 12,382 11,603 16,321

Number of transactions 362,141 332,905 266,298 380,249 453,341

General share price index 4,546 4,398 4,915 5,076 4,965

% Change in share price index 5.6% -3.3% 11.7% 3.3% -2.2%

5-Year CDS spreads (bps) 61 63 67 36 37

2016 2017 2018 2019 Nov-20

Market capitalization (in US$ billion) 91.9 107.2 94.2 102.6 91.8

Trading value (in US$ billion) 36.3 31.1 16.1 14.5 16.3

Turnover ratio 39.4% 29.0% 17.1% 14.1% 19.4%

Trading volume (in millions) 106,387 80,581 44,625 40,045 60,053

Number of transactions 1,305,208 1,067,623 660,261 656,674 899,147

General share price index 3,531 3,370 2,530 2,765 2,420

% Change in share price index 12.1% -4.6% -24.9% 9.3% -12.5%

5-Year CDS spreads (bps) 150 128 129 91 118

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The Dubai Financial Market was marked by an increased activity over the first eleven months of 2020, as shown by a 22.6% yearly surge in the total turnover to reach US$ 16.3 billion. The total number of traded shares reached 60.1 billion shares over the first eleven months of 2020 against 36.9 billion shares during the same period of 2019, up by 62.8%, and the total number of trades reported 899,147 during the first eleven months of 2020 versus 608,799 during the same period of 2019. On the back of price drops, the market capitalization in the Dubai Financial Market fell from US$ 99.9 billion at end-November 2019 to US$ 91.8 billion at end-November 2020, down by 8.1%. Within this context, the turnover ratio, measured by the annualized trading value to market capitalization, rose from 14.5% over the first eleven months of 2019 to 19.4% over the corresponding period of 2020.

Also, the Abu Dhabi Securities Exchange ended the first eleven months of 2020 on a negative territory, despite price gains recorded starting November (+6.5% month-on-month) as progress in the Coronavirus vaccine bolstered investor appetite for riskier assets. This was reflected by a 2.2% decline in the Abu Dhabi general index, moving from 5,075.77 at end-2019 to 4,964.94 at end-November 2020. The breakdown of the Abu Dhabi general index by sector during the first eleven months of 2020 shows that the banking sector, which has a weight of 54.0% in the Abu Dhabi general index, was the only drag for the index. The ADX banks index dropped by 17.1% over the covered period. In contrast, the consumer staples sector posted the largest price surge with +121.1%, followed by the investment and financial services sector (+113.6%), the real estate sector (+38.1%), the industrial sector (+16.8%), the insurance sector (+15.1%), the telecommunications sector (+5.9%), the energy sector (+5.6%) and the services sector (+2.5%).

The total trading value rose by 41.7% year-on-year during the first eleven months of 2020 to reach US$ 15.3 billion. The total number of traded shares reached 16.3 billion shares over the first eleven months of 2020 against 10.7 billion shares during the same period of 2019 (up by 53.1%), and the total number of trades was quoted at 453,341 during the first eleven months of 2020 versus 354,865 during the same period of 2019. The number of listed companies rose from 70 companies at end-2019 to 71 companies at end-November 2020. The market capitalization rose from US$ 139.9 billion at end-November 2019 to US$ 197.0 billion at end-November 2020, up by 40.8%, mainly supported by additional listings. Within this context, the turnover ratio, measured by the annualized trading value to market capitalization, reached 8.5% during the first eleven months of 2020 as compared to 8.4% over the corresponding period of 2019.

In contrast, the UAE fixed income markets ended the first eleven months of 2020 on a positive note, mainly tracking US Treasuries move, as global growth concerns amid rising Coronavirus cases globally outweighed optimism about COVID-19 vaccine rollout and a second US stimulus package, while escalating geopolitical tensions continued to flock demand for safe-haven assets. Bond price gains over the covered period were also supported by an oil price rebound, with Brent prices returning gradually to pre-pandemic levels towards the end of the year.

In the Dubai credit space, sovereigns maturing in 2023, 2029 and 2043 registered price gains of 1.20 pt, 2.96 pts and 0.94 pt respectively during the first eleven months of 2020. Majid Al Futtaim’29 saw price improvements of 3.07 pts. DP World’23 and ’28 closed up by 2.36 pts and 4.15 pts respectively. Amongst financials, Dubai Islamic Bank’23 was up by 2.30 pts. Prices of Emirates NBD papers Perpetual (offering a coupon of 6.125%) increased by 0.37 pt. As to the cost of insuring debt, Dubai’s five-year CDS spreads reached 118 bps at end-November 2020, up from 91 bps at end-2019.

In the Abu Dhabi credit space, sovereigns maturing in 2024 and 2029 posted decent price rises of 5.07 pts and 8.15 pts respectively over the first eleven months of 2020. Taqa’24, ’26 and ’30 were up by 4.10 pts, 6.38 pts and 9.54 pts respectively. Mubadala papers maturing in 2024 registered price gains of 2.89 pts. Prices of ADNOC’29 expanded by 7.12 pts. Etisalat’24 closed up by 4.82 pts respectively. Amongst financials, prices of Al Hilal Bank’23 rose by 2.42 pts. ADCB’23 posted price gains of 2.19 pts. FGB’24 saw price increases of 2.86 pts. As to the cost of insuring debt, Abu Dhabi’s five-year CDS spreads reached 37 bps at end-November 2020 as compared to 36 bps at end-2019, which is the lowest in the MENA region.

The UAE fixed income markets saw several new bond issues over the year 2020 for a total of US$ 27 billion, as compared to US$ 26 billion in the previous year, as borrowers sought to tap international debt markets after COVID-19 funding squeeze. As to sovereigns, Dubai returned this year to global debt markets for the

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first time since 2014 through the issuance of a US$ 2.75 billion dual-tranche bond, as the Emirate seeks to cushion the blow of the COVID-19 on its services-oriented economy. Dubai sold a US$ 1.5 billion 10-year Sukuk at a coupon of 2.763% and US$ 1.25 billion 30-year conventional bonds at a coupon of 3.90%.

Also, the government of Abu Dhabi raised US$ 5 billion in September 2020 from the sale of a US dollar-denominated debt offering split into three tranches: US$ 2 billion 3-year bond at a yield of 65 bps over US Treasuries; US$ 1.5 billion 10-year bond at a yield of 105 bps over US Treasuries; and US$ 1.5 billion 50-year bond at a yield of 2.7%, which is the longest ever bond offered by Gulf Arab governments. This followed a US$ 10 billion bond issue launched in April 2020 to prop up the Emirate’s finances amid low oil prices and the Coronavirus crisis.

As to credit ratings, Fitch assigned for the first time in November 2020 the UAE a long-term foreign currency Issuer Default Rating of “AA-” with a “stable” outlook, as the federal government plans to start issuing debt soon, mainly for the purpose of building a yield curve and developing domestic financial markets. The “AA-” rating, which applies to the federal government of the UAE, reflects the UAE’s moderate consolidated public debt level, strong net external asset position and high GDP per capita, according to Fitch. It also reflects the likelihood of support from Abu Dhabi in the event of need.

In parallel, Standard and Poor’s affirmed in March 2020 its “AA/A-1+” long-term and short-term foreign and local currency sovereign credit ratings on Abu Dhabi, with a “stable” outlook. The “stable” outlook reflects S&P’s expectation that Abu Dhabi’s fiscal position would remain strong over the next two years, although structural and institutional weaknesses will likely persist.

In the coming period, the UAE debt markets may continue to benefit from investor demand for high quality debt amid concerns over a new Coronavirus strain that may derail an already fragile global economic recovery. As to plans for issues, the UAE’s Ministry of Finance announced recently plans to issue Federal bonds for the first time in 2021, as the country seeks to create a yield curve in the UAE dirham and fill the needs of the local bond market.

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The content of this publication is provided as general information only and should not be taken as an advice to invest or engage in any form of financial or commercial activity. Any action that you may take as a result of information in this publication remains your sole responsibility. None of the materials herein constitute offers or solicitations to purchase or sell securities, your investment decisions should not be made based upon the information herein. Although Bank Audi sal considers the content of this publication reliable, it shall have no liability for its content and makes no warranty, representation or guarantee as to its accuracy or completeness.

Bank Audi sal - Group Research Department - Bank Audi Plaza - Bab Idriss - PO Box 11-2560 - Lebanon - Tel: 961 1 994 000 - email: [email protected]

CONCLUSION

The UAE’s open economy has taken a major hit from the coronavirus. Although local restrictions have been largely lifted, subdued global oil demand has prompted sharp OPEC+ production cuts, which will be lifted only gradually in 2021-22 and will impair both oil-liquidity dependent sectors and investment by oil majors in the hydrocarbons sector. Weak oil prices will also constrain performance in other sectors, especially construction and real estate, despite monetary stimulus. The impact of the pandemic on major economies, and on global travel and logistics -which are important sectors in the UAE- will also hamper recovery. Authorities will seek to increase confidence, and therefore external demand in these sectors, by prioritizing vaccination rollout and other infection-control measures.

Tourism is not expected to begin a marked recovery until the second half of 2021. Private consumption growth will be depressed by ongoing global pandemic containment measures and fears about the spread of the virus, which will abate only gradually. Within this context, real GDP growth is forecasted at 1.3% for 2021 and at an average of 2.2% over the next five years as per most recent IMF forecasts.

At the external level, the goods export revenue will move largely in tandem with global oil prices and export volumes, and partly with re-exports from Dubai. Oil export revenue will pick up from 2021 as new oil production capacity is tapped and international oil prices rise. The development of new markets should help re-exports to recover in the longer term. Goods import spending will rise beyond 2021 as private and government consumption increases. UAE’s current account surplus is expected to recover to an average of 8% of GDP over the next couple of years.

At the monetary level, given the subdued nature of the economic recovery, the only cautious pick-up in private consumption and continued excess supply in the property sector, price pressures will remain low in the next couple of years, although the UAE is expected to move from deflation to low inflation in 2021. Excess liquidity from government stimulus and low interest rates, coupled with a partial revival in oil prices, will drive the return to inflation beyond 2021. The UAE dirham’s peg to the US dollar is expected to remain in place looking forward. The peg has provided stability for decades and, despite the lack of monetary flexibility, the authorities seem committed to it. Confidence in the durability of the peg is supported by this commitment and by the large pool of foreign assets available to protect it if required, despite volatility in global oil prices.

At the fiscal level, while the consolidated fiscal deficit is expected to slowly improve as oil prices rebound and the effects of the pandemic abate, balance sheet pressures in the broader public sector continue. An intensified focus on sustainability of GRE debt and strengthening GRE contribution to diversification has lead to steps towards corporate consolidation. Notable sectors with streamlining and strengthening around core competitiveness areas include ports, property and the financial sector.

When assessing the outlook of the UAE economy, it is important to address the key strengths and major weaknesses facing the economy. At the level of strengths, we mention the assumed full backing from the government of Abu Dhabi and its strong balance sheet, the high GDP per capita, the moderate consolidated public debt level, and the history of domestic political stability coupled with strong international relations. Among challenges, we mention the persistently significant dependence of revenues on hydrocarbons, the regional geopolitical tensions and the lack of data and policy transparency.

Finally, reinvigorating key sectors that were hit hard by the pandemic while maintaining commitment to infrastructure spending is the UAE’s immediate challenge as stated by the recent World Bank report on the UAE. While fiscal policy priority is to support growth in the short term, progress needs to be made in strengthening fiscal policy frameworks and coordination across the emirates avoiding procyclical spending and improve fiscal risk management, as well as structural reform to boost labor productivity at large.

new uae economic report 2019 · 2019. 7. 3. · the uae banking sector has had a more favorable...

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