A sharp rise in public spending in Gulf oil producers as part of counter-crisis fiscal expansion measures has stifled investment by the private sector which is already suffering from poor bank credit, recent regional reports showed.
While the surge in government expenditure has largely contributed to mitigating the downward economic impact of the 2008 global fiscal distress, it has created a misallocation of resources and needs to be scaled down, they said.
One report by NCB Capital, an affiliate of National Commercial Bank, Saudi Arabia’s largest bank, said the six-nation Gulf Cooperation Council (GCC) is in a very different position from the West and from many emerging markets as well.
“It is generally not vulnerable to the vagaries of the international bond markets, since most regional economies have not tapped them in significant ways. The region enjoys large surpluses and reserves which it has mobilised through government spending,” NCBC said in a two-page study.
“The principal risks in the GCC are two-fold. Firstly, government spending crowding out private investment, further amplified by a ratchet effect if government stimulus is not scaled back in a timely manner…..secondly, a misallocation of resources," the study said.
"While the Japanese bridges to nowhere are an extreme case, this tends to be a corollary of large-scale government spending everywhere….the risk in the GCC is made greater by the heavy reliance on government subsidies in key areas such as energy and water.”
GCC countries, sitting atop nearly 45 per cent of the world’s proven oil wealth, have sharply boosted public spending over the past two years within fiscal stimulus programmes designed to keep their economies on track and prevent them from sliding with other economies hit by the crisis.
Official figures showed the combined budgets of the six members swelled by nearly 14.4 per cent to a record high of $269.3 billion (Dh987 billion) in 2010 from a budgeted $235.4 billion (Dh862 billion) in 2009.
The fiscal expansion was aided by relatively high oil prices, which averaged just above $60 in 2009 and are projected to rise to nearly $70 this year. Both price levels are far higher than the $35-50 price range assumed by the GCC.
Analysts said the surge in government expenditure was also needed to offset a sharp slowdown in bank lending to the private sector as most banks have been forced by the crisis and regional debt defaults to squeeze their credit lines. Private sector establishments have also been reluctant to seek large loans.
“Lending momentum in the GCC continues its lacklustre track while large state spending programmes are unfolding. Small and medium-sized enterprises’ access to credit is structurally weak in the region, hampering recovery efforts,” said John Sfakianakis, chief economist at Banque Saudi Fransi.
“The private sector will have to rediscover itself away from the property sector and venture anew. Bond issuance expected to be less robust. Gulf businesses continue to face tough financing conditions," he wrote in a 40-page global economic report for the French Credit Agricole Bank.
"Annual credit growth among Gulf banking systems tumbled from double-digit levels of 20-60 per cent in 2008 to near-zero loan expansion last year – and the momentum in lending has been very slow to resume a modest recovery pace,” he added in the article.
In a recent study, a well-known US economist based in Saudi Arabia urged regional nations to curb spiraling spending in anticipation of lower oil prices.
Brad Bourland, Chief economist at the Riyadh-based Jadwa Investments, said higher government spending was needed to counter the crisis.
But he cautioned that oil prices are not expected to match the steady rise in expenditure and this could result in a painful fiscal situation in the region.
Bourland stressed that GCC governments need to keep spending at reasonable levels since public expenditure is vital for the creation of jobs and economic growth as the public sector still accounts for the bulk of the group’s economy.
“There are concerns about the steady increase in government spending in the GCC…oil prices are not expected to rise from their $70 level on a steady basis by $5 to $6 a barrel, which is much needed for the governments in this part of the world to balance their budgets,” Bourland said.
“As you know, governments in the GCC increase spending to ensure employment for their citizens and support growth…so I think this high spending will continue and continue because government expenditure is the main driver of growth in the countries of this region…I believe they should now be watchful because this excessive spending can not be supported by a similar increase in oil prices in the next four years…they should also be careful about any unexpected developments when the next crisis hits,” he added.