Laying the foundations for long-term Gulf prosperity
The agreements to control oil production that were concluded by key producers at the end of last year triggered a major rally in oil prices. However, subject to conflicting forces, prices continue to manifest volatility, and few people expect a rebound to the levels of early 2014 any time soon. Rather, price volatility in a significantly lower range than that seen in 2012-14 is now expected to remain the norm for the foreseeable future.
This view has prompted all the Gulf Cooperation Council (GCC) governments to embark on, and persist with comprehensive fiscal reforms. These efforts are ultimately designed to substantially curb the vulnerability of government revenues and broader economic activity to oil price volatility. Beyond this, the focus of policymakers is increasingly shifting toward more ambitious initiatives to re-engineer their economic models in order to achieve sustainable economic growth that is led by the private sector regardless of the oil market dynamics. Saudi Arabia’s Vision 2030 is the latest addition to the region’s ambitious reform blueprints that put a clear emphasis on delivering economic diversification and productivity-led growth.
Diversification is not new
The magnitude of the task at hand is great, but it is important to realize that the region is not starting from scratch or seeking to navigate altogether uncharted waters. All regional economies in the Gulf have pursued diversification strategies for years and in some cases, these efforts have already had a transformative impact on the structure of the economy.
Bahrain has been a pioneer of many such policies with some key initiatives going back nearly half a century. If anything, the pace of change has accelerated since the turn of the century. The non-oil economy in the Kingdom has grown from just over half — 56 percent — of real gross domestic product (GDP) in the year 2000 to more than 80 percent at present. One of the benefits of this transformation has been the resilience of growth even in the current, challenging economic environment. Growth in Bahrain is firmly led by the non-oil sector which grew by an annual 4.7 percent in the third quarter of 2016, an increase from 3.6 percent in the second quarter. This leaves the year-on-year rate of increase during the first three quarters of 2016 at 3.7 percent. This was in fact marginally ahead of the 3.6 percent rate achieved during 2015 as a whole.
This encouraging growth performance in Bahrain is largely attributable to the value proposition of the economy that relies above all on human capital, regulation, and connectivity as the sources of competitiveness and growth. Bahrain has an educated national labor force, which is overwhelmingly employed in the private sector. It has also established a thriving entrepreneurial culture with a remarkable 70 percent of young Bahrainis interested in starting their own company. Bahrain’s regulatory framework is both mature and liberal. For instance, 100 percent foreign ownership is the norm in nearly all sectors of the economy.
Bahrain’s open economy
As a small, open economy, Bahrain has always recognized the importance of connectivity for its prosperity and several efforts to boost this further are underway. Bahrain has a natural logistics cluster with the shortest transfer time in the GCC between its logistics processing zones and its transportation hubs. Goods can enter and exit the country in a matter of hours, and be delivered by sea, land or air, through state-of-the-art infrastructure into the hands of customers across the region. This was further enhanced with the GCC Customs Union integration to build on trade between the six countries.
Several endeavors are improving Bahrain’s ability to service the broader region. Last October, the World Bank’s Doing Business report highlighted the considerable progress made at accelerating processing times at the King Fahd Causeway and included Bahrain among the 10 top improvers globally in terms of regulations. The airport modernization program will increase passenger capacity from 9 to 14 million and allow for far larger volumes of cargo to be processed. A comprehensive feasibility study has just been completed for a regional rail network that will link the major commercial, administrative and cultural centers in the region. And a second causeway connecting Bahrain and Saudi Arabia is in the advanced planning stages.
Pipeline of projects
More generally, infrastructure investment has a critical role to play as a growth driver in the economy at a time of volatile oil prices and fiscal consolidation. Bahrain has over $32 billion worth of strategically significant priority projects in the pipeline across a range of sectors. The value of this pipeline is comparable to the country’s GDP.
Important ongoing or upcoming investments in Bahrain include ALBA’s Line 6 Expansion Project, which will make the company the largest single-site smelter and support the development of the region’s downstream aluminum industry. The new $90 million Mondelez factory marks a major expansion of the manufacturing giant’s existing facilities in the Kingdom. Other projects include a range of real estate, tourism, manufacturing, and transportation investments.
While this ambitious mobilization of capital can help support growth at a time of fiscal consolidation, the ultimate impact of the fiscal re-engineering of growth is likely to be, if anything, even more positive. For one thing, a strong commitment to fiscal stability is good for confidence and credibility.
Beyond this, the new operating environment for companies in the region will create a powerful impetus for greater dynamism. Global experience has shown over and over again that companies that do not face predictable input prices are more likely to organize themselves more efficiently and to innovate in various ways.
Sustainable value
Even the more established companies in the region face new opportunities and incentives to seek growth through greater value chain capture and innovation. As an example, important new initiatives are underway in the downstream oil sector. They have the potential to create more value and jobs, to diversify exports, and to ensure that a key natural resource can be used to generate sustainable value whatever the oil price environment. For a region where growth has for years been almost entirely extensive, achieved through increases in inputs, this paradigm shift is both important and encouraging. For at the end of the day, it is only by increasing productivity that we can deliver sustained increases in living standards.
Market-based input pricing is also needed for a more efficient allocation of resources. Goods that are served below market prices are more likely to be wasted. Given that the GCC is a world leader in per-capita water use, not to mention being highly energy intensive, this is an important consideration. More generally, fiscal interventions can be used to combat negative externalities, for instance, the consumption of goods that damage public health.
Significant economic paradigm shifts create new ways of addressing current challenges and can drive growth and sustainability. By tackling its fiscal challenges in earnest, the region is addressing a short-term problem but also, and much more important, laying the foundations for long-term prosperity.
• Dr. Jarmo Kotilaine is chief economic advisor at the Bahrain Economic Development Board.
