Oil sector growth linked to global economic health

The difficult economic situation expected to prevail in 2009 will affect the oil sector the most, since the price of oil and global growth are inextricably linked, according to experts.

Speaking to Emirates Business, Ziyad Al Dabbas, a financial analyst, said the outlook for the oil sector was grim if the global economy performed as poorly as expected over the next couple of years. He attributed this to the link between economic growth and the global demand for oil. A growing economy is fuelled by oil, he said, and any shrinkage in economic growth would reduce the demand for petroleum products. This would bring down its price and affect countries such as the UAE where income from oil exports form a large part of the GDP.

However, with the UAE having good financial reserves and sovereign funds, he expected the global slowdown would not have too great an impact on the country.

"The UAE should raise its public expenditure and use part of its reserves to provide the necessary liquidity, especially with trends for the year ahead indicating a decline in investments and finance coming in from outside the country," Al Dabbas said.

Najib Abdullah Al Shamsi, Director of the Studies and Research Department at the General Secretariat of the GCC, said there was real fear that the economic crisis would hit the UAE's oil sector, especially with the shift in the oil market from a seller-driven to a buyer-driven one.

Decisions regarding oil prices were no longer in the hands of the producers, he said, but will henceforth – and for some time to come – be decided by the consumers. This would largely affect the UAE's revenues and, consequently, its budget and development plans.

However, Al Shamsi was confident about the resilience of the country's economy and its ability to weather such storms. Giving examples of the 1982-1986 oil price crash and the 1990 crisis following Iraq's invasion of Kuwait, he said the UAE has witnessed many hard economic times and has emerged stronger.

"Things came to such a pass in the middle of the 1982-1986 crisis that the UAE suffered major fiscal deficits, which led to the salaries of even civil servant being paid in the middle of the month after they were due," he said. "We are in a much stronger position this time around."

While reposing confidence in the country's economy to withstand external shocks, Al Shamsi said there was room for greater preparedness in facing crises. The government should be proactive rather than reactive, he emphasised, and reconsider its policy of waiting for a disaster to happen and get moving only thereafter, instead of taking preventive measures. He stressed the need for continuous policies and strategies that would define the roles of various economic sectors, public and private.

Since the UAE relies on foreign markets for much of its food needs, several basic sectors would be affected as a result of the recession expected in foreign trade. Add to this the effect on the country's sovereign wealth funds, primarily the Abu Dhabi Investment Fund, and the real estate sector will be affected as well, he said.

Al Shamsi said he expects corrections in real estate prices as well as in rents. He also expected shrinking of overall trade as a consequence of the drop in consumers' ability to buy.

"Solutions should not be temporary. The country's economic sector should be turned into a productive one. There is also a need for greater transparency in governance, especially in the banking sector, and in the Central Bank's monitoring of both local and foreign banks operating in the UAE," he said.

Economist Dr Ahmed Al Banna said there are three phases for any economy to enter into an "economic depression".

The first is the "slowdown phase", which, if not addressed, will enter into an "economic recession" lasting usually between six and 18 months. In case the "economic recession" was not tackled, the economy would enter into the next phase – "economic depression".

According to Al Banna, the "economic depression" phase lasts between five and 10 years. The last depression to take place in the world was in 1929, which was also caused by the collapse of the US financial system.

To determine sectors affected by the current financial crisis, Dr Al Banna divided the economy into the banking and financial services sector, the real economic sector –represented by industries, trade, import, export and re-export – and the services and social economic sector.

In the present crisis, after the international financial system collapsed, the banking sector was affected, with its consequential impact on the global financial markets. Then followed an international liquidity crisis and the singed banks refrained from providing credit facilities to various economic sectors and confidence among banking institutions disappeared. That affected the real economy and some sectors had to to cut staff to reduce costs. Consumer expenditure was affected, too, as people lost their jobs or their salaries were cut.

Al Banna said handling a depression is costly, especially if states have not tackled the problem at the slowdown or recession stage. He considered the UAE as safe from depression unlike the US or other Western countries, which have already entered the recession phase. If the US did not address the recession promptly and correctly, it might enter into depression and some other countries might follow.

He felt the UAE and GCC states were relatively fortified as they had used the record oil revenues of the past few years to diversify their economies and reduce their overwhelming dependence on oil. They have built up strong sovereign wealth funds and enjoy strong financial capabilities, he said.

However, as the UAE is part of the world economy – and an integrated part at that – the country will be at least partially affected by what happens in the wider world, Al Banna said. If oil prices stay where they are or fall further, it would mean a much lower income for the UAE, which would translate into fiscal austerities and a need to dig deep into reserves. The trickle effect would cause all sectors of the economy to slow down and would reduce real GDP as well.

The UAE's losses will be defined over the next two quarters as the world gets a fix on the mid-crisis oil price levels, he said, and all economic sectors in the country are expected to witness some degree of slowdown in 2009. He called for setting up a specialist committee to manage the crisis, determine losses and point out the most prominent affected sectors that needed injections of liquidity.

Al Banna expected the UAE would enter into an economic slowdown in the first quarter of 2009, which should be over by the end of the year depending on the extent and quality of government intervention, and follow-up actions. Dr Ahmed Al Janahi, Deputy CEO of Noor Islamic Bank, also said the UAE will be less affected by the slowdown than the rest of the world. He felt the retail, trade, luxury goods and real estate sectors would be the most affected by a depression. The UAE's economy is diversified and can weather all eventualities, he added.

Shaheen Ali Shaheen, Assistant Secretary General of the Federation of UAE Chambers of Commerce and Industry, admitted that some sectors had been affected as a result of economic slowdown, but added that these effects would be contained and the sectors concerned, especially real estate and the stock markets, would remain active.

"We, at the Federation, are confident the country's business sector is capable of overcoming the potential fallouts of the global financial crisis in 2009 as a result of the precautions and measures taken by the UAE government," he said, sounding a note of optimism.

"High growth rates will be maintained through increasing investments in the country's infrastructure projects such as roads, real estate and non-oil export projects, in a joint effort between the government and private sectors."

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