-6 Mar-6 May-6-6 Sep-6 Nov-6-7 Mar-7 May-7-7 Sep-7 Nov-7-8 Mar-8 May-8-8 Sep-8 Nov-8-9 Mar-9 Monthly Bulletin GCC single currency delayed 11 1.5 1 99.5 99 98.5 Revaluation pressure has abated (GCC currencies; uary 1, 26 = 1) Saudi riyal UAE dirham Qatari riyal For comments and queries please contact: Brad Bourland, CFA Chief Economist jadwaresearch@jadwa.com Head office: Phone +966 1 279-1111 Fax +966 1 279-1571 P.O. Box 6677, Riyadh 11555 Kingdom of Saudi Arabia www.jadwa.com Recent comments by officials of the Gulf Cooperation Council (GCC) and regional central bank governors indicate that the introduction of a single currency for the region, planned for 21, will be delayed. There has not been sufficient progress in putting the institutional arrangements in place for a functioning single currency to be launched next year and the political will to push the project through appears to be waning. With unprecedented tension among countries using the euro and GCC members adopting differing monetary policies to deal with global financial crisis, delaying the project appears sensible. Toward the end of March a senior GCC official said that the region s single currency would not be physically introduced in 21. This view was supported by comments from regional central bank governors at a meeting on April 6. These comments illustrate what has been highly likely for some time, that the launch of the single currency will be delayed. It is possible that a revised timetable will be unveiled at a GCC heads of state summit in May. Oman s decision at the end of 26 not to join the single currency by the 21 deadline and the floating of the Kuwaiti dinar six months later (all other GCC currencies are pegged to the US dollar) have long raised questions over the introduction of the single currency. In addition, this year is likely to see a greater divergence in economic performance across the region, which will prevent some countries from attaining the economic convergence criteria (though these are guidelines, rather than preconditions to entry). Notably, some countries will record budget deficits greater than the threshold of 3 percent of GDP. Progress in forming the necessary institutions for monetary union has continued. In December, GCC heads of state signed an agreement for the creation of a monetary council to manage the transition to single currency and eventually evolve into regional central bank. However, there are still many important issues that need to be resolved. Regulations, payment and settlement systems and economic data need to be harmonized across the region, which requires improved transparency. Agreement is required on how the assets of the central bank, including its reserves, are managed, the name of the new currency and the location of the central bank. Most importantly, exchange rate policy (whether the new currency is pegged to the dollar) and the rates at which the currencies are fixed to one another (whether any country wants to make a one-time adjustment to its peg prior to entry) need to be addressed. It has been argued that the global financial crisis and ensuing recession should increase the urgency of introducing the single currency. We do not think this is the case. Since the crisis began 1
countries across the GCC have taken different approaches to interest rate policy. For example, Saudi Arabia has aggressively cut interest rates to encourage greater bank lending. In contrast, concerns about inflation mean that Qatar has kept interest rates unchanged and instead taken other steps to support its banking sector. Under a single currency and central bank this approach would not be possible. Furthermore, the global recession is causing by most serious tension in the eurozone since the single currency was launched (the euro is the model for the GCC single currency). Trouble in the eurozone The stalling of the GCC currency union come at a time at which the currency union in the EU is looking at its most fragile. Euro accession not only brought currency stability, it also lowered the cost of borrowing for many countries by reducing the risk premium investors charge for lending. This triggered a large increase in private sector borrowing and consumption, resulting in house price bubbles and large external deficits. Prior to the advent of the euro, the affected countries had the option to devalue their currencies to restore economic health. Now the adjustment has to take place through recession and unemployment. This has raised the specter of countries quitting the eurozone in order to avoid painful adjustment (though we do not think any country would leave, as doing so would immediately trigger a currency crisis and greatly aggravate problems in the local banking sector). However, the necessary reforms to enhance economic flexibility and suitable fiscal policies were not enacted. Instead, countries built up debt to finance their current account deficits. Now that the cost of borrowing has shot up, the house price bubble has burst and the region is being hit by the global recession, concerns have been mounting about the ability of some governments to honor their debt repayments. As all but one of the region s currencies are already fixed to one another, many of the gains that the eurozone experienced from the removal of exchange rate volatility are not applicable to the GCC. Furthermore, most non-oil exports produced in the region are similar products such as petrochemicals and so gains in intra-regional trade are unlikely to be significant in the near term. Nonetheless, in addition to removing any lingering exchange rate uncertainty, a single currency should reduce transaction costs, smooth accounting procedures and generate competition and gains for consumers by allowing complete transparency in pricing across the region. While the gains are less pronounced than for the EU, the current system of long-term exchange rate pegs also means that the losses through the permanent fixing of exchange rates are limited, as countries in the region have already effectively ceded the bulk of their monetary policy autonomy to the US. Ultimately, and as with the EU, the decision to enter into monetary union is a political one. 2
($ million) 25 Mar May Sep Nov 26 Mar May Sep Nov 27 Mar May Sep Nov 28 Mar May Sep Nov 29 ($ billion) (percent) (percent) In brief: Economy 5 3 2 1-1 -2 Monthly private sector credit growth 25 26 27 28 29 In an encouraging sign that confidence may be returning to the economy, bank lending to the private sector rose for the first time in three months in February. While the rise was only small, at.2 percent, it suggests that private companies are becoming more comfortable with the economic environment (it is likely that corporations accounted for all of the growth in borrowing). It may also reflect a greater willingness among banks to lend, though this is not yet indicated by the premiums over interbank rates that they are charging for corporate borrowers. The bulk of the new lending was for less than one year, indicating that it was probably trade financing. Trends in bank lending are an important gauge of the confidence of the private sector and the financing environment. 2 16 12 8 - Inflation May Sep May Sep May Sep May Sep 25 26 27 28 29 Food prices Rent Overall inflation Inflation has continued to slow. Year-on-year inflation dropped to 6.9 percent in February and has fallen in each of the last five months after hitting 1.9 percent in October. This is primarily because of lower food prices. Food price inflation fell to.6 percent in February from 15.2 percent in October because of plunging international commodity prices and the strengthening of the exchange rate. Rents remain the main source of inflation. Although rental inflation slowed in each of the seven months to February, it remains high, at 17 percent. Most other domestically generated sources of inflation in the Kingdom have also only eased slightly. SAMA net foreign assets 5 5 35 3 25 2 15 1 5 Bank deposits Foreign securities SAMA foreign assets fell by $8.6 billion in February to $25.8 billion, bringing the decline to $2.7 billion over the three months to end- February. We think the fall is because SAMA has sold some of its foreign investment portfolio to finance local spending. Oil revenues are around $9.5 billion per month at present, compared to an average of $26. billion per month over 28, but with the government increasing spending, the plunge in oil revenues means it is now drawing down rather than adding to its foreign reserves. The value of SAMA s investments in foreign securities changed little over the past six months despite the collapse in prices of many asset markets, which is consistent with our view that foreign government debt comprises the bulk of SAMA assets and other assets are valued at purchase price. 12 1 8 6 2 26 Non-oil exports May Sep May Sep May Sep 27 28 29 Petrochemicals Plastics Other Non-oil exports were slightly higher in uary than December at $3.9 billion, but were nearly 18 percent below their level in uary 28. The main reason for the rise in uary was that non-oil exports were affected by the Eid al-adha holiday in December, when they hit a two-year low. Public holidays do not affect production of petrochemicals and plastics (which account for around half of non-oil exports) as they require minimal human input, nonetheless exports of both have fallen sharply in value terms over the last few months reflecting much lower international prices. Combined, the value of petrochemicals and plastics exports in uary was 2 percent lower than its average for 28. Petrochemical product prices are currently around their uary levels; plastics prices are slightly lower. 3
-7 Mar-7 May-7-7 Sep-7 Nov-7-8 Mar-8 May-8-8 Sep-8 Nov-8-9 Mar-9 (WTI, $/b) -3 May-3 Sep-3 - May- Sep- -5 May-5 Sep-5-6 May-6 Sep-6-7 May-7 Sep-7-8 May-8 Sep-8-9 (thousand barrels per day) 1, 9,5 Saudi oil production Oil market watch Opec keeps production quotas unchanged Opec decided to keep its production target unchanged at its meeting in Vienna on March 15. While oil prices are below a level that producers feel comfortable with (the Saudi oil minister called $7-75 per barrel a reasonable price for oil at the meeting) concerns about the health of the global economy and insufficient compliance with previously agreed production cuts appear to have driven Opec s decision. 9, 8,5 8, 7,5 In February, adherence with the production cuts agreed in December was only around 8 percent. Saudi Arabia, along with other GCC members and Algeria, had cut output in line with the agreed level (Saudi Arabia has indicated that production was lower than its agreed target in March). In contrast, Iran, Venezuela and Angola were producing well above their targets. Opec s latest decision suggests that it is unlikely to implement any further cuts until there is much fuller compliance with those previously agreed. 15 1 13 12 11 1 9 8 7 6 5 3 Oil price Although Opec producers would benefit from high prices, they would be unwelcome for oil importing countries and could potentially hinder the prospects of a global economic recovery. Any Opec action that could undermine an already fragile world economy would not be viewed well internationally, particularly by the new Obama administration in the US. With Saudi Arabia also a member of the G2 (the group of leading global economies), which was discussing measures to revive global economic growth the day before the Opec meeting, it would be particularly difficult for the Kingdom to justify a cutback in oil production. Furthermore, given the state of the global economy, higher oil prices could well reduce consumption and therefore not yield any more revenue while potentially prolonging the recession. Oil prices climbed by just over 2 percent the day after Opec s decision and continued rising for most of the subsequent week. Recent oil price movements have in general reflected sentiment on health of the global economy (and ultimately its impact on demand for oil) rather than a vote of confidence in Opec. As confidence improved slightly owing to various economic and financial policy initiatives and better than expected economic data, oil prices (WTI) moved above $5 per barrel for the first time since the end of November in mid-march. Prices have fluctuated around $5 per barrel since the end of March. Opec members agreed to meet again on May 28. We do not think that oil market fundamentals will have changed appreciably by that point. Even if compliance with the agreed output cuts has improved, the outlook for demand over the remainder of this year is bleak. Opec s decision not to adjust its production quotas was in line with our expectations. Our forecasts that WTI will average $5 per barrel this year and production will average 8.1 million barrels per day are based on the assumption that there will be no further output cuts in 29. The combination of lower oil production and prices means that both budget and current account deficits are likely this year, but this should not derail the government s commitment to increase spending.
(million barrels per day) -3 May-3 Sep-3 - May- Sep- -5 May-5 Sep-5-6 May-6 Sep-6-7 May-7 Sep-7-8 May-8 Sep-8-9 (million barrels) (thousand barrels per day) (thousand barrels per day) In brief: Oil market 3 2 1-1 -2-3 Oil demand growth 23 2 25 26 27 28 29 Projections for oil global demand continue to be revised down. The International Energy Agency (IEA) has cut its demand forecast again for 29 and expects total oil demand to fall by 2. million barrels per day (b/d) this year, compared with a forecast annual decline of around 1.3 million b/d in March. This would be the sharpest fall in demand since the early 198s and would knock oil demand to its lowest annual average since 2. The IEA revisions are in line with worsening assumptions about global economic performance. The IMF now expects global economy to shrink by between.5 and 1 percent this year, the first economic contraction for 6 years. 12 1 8 6 2-2 Non-Opec oil supply growth Projections for non-opec supply are also being cut back. The higher cost and reduced availability of finance and much lower oil prices are causing some projects to be put on hold even though engineering, procurement and construction costs have fallen notably. In December, the IEA was projecting non-opec supply growth of 5, b/d; it is now assuming a decline of 3, b/d. The former Soviet Union accounts for the bulk of the decline. Many production facilities in that region are old and government policy has worsened the investment climate in some countries in recent years. - 23 2 25 26 27 28 29 37 35 33 31 29 27 25 US crude oil stocks The fall in oil production have not kept pace with the decline in demand, resulting in rising stocks. According to the US Energy Information Administration, in the first week in April stocks in the US were at their highest level since mid-1993. Stocks are likely to rise further owing to the seasonal slowdown in demand over second quarter because of the end to the northern hemisphere winter. With consumption falling, stocks are rising rapidly in relation to demand. According to the IEA, commercial stocks in days of future demand were also at a 16-year high at the end of February. Global spare oil production capacity 6 5 3 2 1 199 1992 199 1996 1998 2 22 2 26 28 At the Opec meeting the Saudi oil minister announced that two new oil fields have come on stream. Shaybah has the potential to produce 25, b/d of Arab extra light and Huayyim can produce 1, b/d of Arab super light. Light crudes are attractive as they are relatively cheap and easy to refine. Nonetheless, exceptionally weak demand meant that there were so far no customers for this additional supply. The oil minister also said that the Khurais field was on schedule to come on stream in June. Production capacity at Khurais is targeted at 1.2 million b/d of Arab light. Once it is operational, the Kingdom s spare production capacity will reach.5 million b/d, well beyond the historical policy goal of 1.5-2 million b/d. Lack of spare capacity across the world contributed to the surge in oil prices that lasted until the middle of last year. 5
(million shares) In brief: Stock market TASI 12 11 1 9 8 7 6 5-8 Mar-8 May-8-8 Sep-8 Nov-8-9 Mar-9 Share prices have picked up in recent weeks after hitting a 6-month low in the first half of March. This is largely the result of improvements in global markets and rising oil prices, as investors have responded favorably to various government stimulus packages and signs that the pace of economic decline may be slowing. Since hitting low of,13 on March 9, the TASI has risen in 16 of the subsequent 22 trading sessions and broke through 5, on April 5. By April 8, it was 22 percent above its recent low. Stock market rallies are common during recessions and often not sustainable. Market reaction to first quarter results, now starting to be released, should give a reasonable guide as to whether the lows for the year have been seen. TASI and the US S&P 5 9 8 7 6 5 3 9/1/28 11/1/28 1/1/29 3/1/29 TASI US S&P 5 - RHS 13 12 11 1 9 8 7 6 The TASI has continued to move broadly in line with other global markets. Owing to restrictions on foreign investment, the Saudi market historically had little correlation with global markets, but since the collapse of Lehman Brothers in September the TASI and the US S&P 5 have moved virtually in lockstep. This reflects the uncertainty of local investors about the economic outlook. While some sectors (notably, petrochemicals) are heavily influenced by global developments, many others are more closely related to local fundamentals, which are far better than those of the global economy. Greater confidence in the Kingdom s economic health should lead to a loosening of the correlation with global markets. In China, where strong domestic dynamics and government economic stimulus means that the economic outlook is reasonable, the stock market has outperformed the S&P 5 by over percent so far this year. 1 12 1 8 6 2 Total stock market transactions Despite the rise in the TASI, activity remains low. Total transactions were almost 3.2 million in March, which on a daily basis was only 138,, very close to the four-year low of 13, set in December 28. This was despite the first new listing since September, that of Atheeb Telecom. Many investors have lost heavily following crashes in 26 and 28 and are likely to stay away from the market for some time even though the medium- and long-term outlook is good. Lower volumes are impacting on the financial performance of brokers and will dent bank earnings. 2 25 26 27 28 29 Breakdown of transactions by value Saudi individuals 91% Saudi corporates 3% Saudi mutual funds 2% GCC citizens 2% Resident Arabs 2% Other foreigners % Swap agreements % For the first time, Tadawul has published the value and volume of swap transactions carried out by foreign investors. In March, there were 22 trades made by foreign investors through swap agreements, with a total value of SR619 million. While the number of trades was insignificant (there were nearly 3.2 million trades in total in March), the average transaction size was very large, at SR2.8 million, versus SR6, for Saudi mutual funds and SR27, for Saudi individual investors. Foreigners trading through swap contracts were net buyers in March, with purchases exceeding sales by SR9 million. Saudi mutual funds and corporations were also large net buyers in March (at SR95 million and SR1.3 billion, respectively). This may reflect our view that the market is attractively valued for long term investors (though it will also have been influenced by purchases of Atheeb Telecom). 6
Key data 22 23 2 25 26 27 28E 29F 21F Nominal GDP (SR billion) 77.1 8.6 938.8 1182.5 137.5 13.5 1753. 1226.9 171.9 ($ billion) 188.6 21.6 25.3 315.3 38.7 381.5 67.5 327.2 392.5 (% change) 3. 13.8 16.7 26. 1.6 9. 22.5-29.7 2. Real GDP (% change) Oil -7.5 17.2 6.7 6.2 -.8.5 5. -9.5 6. Non-oil private sector.1 3.9 5.3 5.8 6.1 5.8.3.1.7 Government 2.9 3.1 3.1. 3.1 2.7 2. 3. 2.6 Total.1 7.7 5.3 5.6 3.2 3..2.2.7 Oil indicators (average) WTI ($/b) 26.2 31.1 1.5 56.6 66.1 72.3 99.7 5. 7. Saudi ($/b) 23.7 26.9 3.7 9.5 6.5 68.1 93. 7. 6.8 Production (million b/d) 7.5 8.8 9. 9.5 9.2 8.7 9.2 8.1 8.5 Budgetary indicators (SR billion) Government revenue 213 293 392 56 679 63 11 66 632 Government expenditure 23 257 285 36 398 66 51 536 57 Budget balance -21 36 17 218 28 177 59-69 62 (% GDP) -2.9.5 11. 18. 21. 12.3 33.7-5.6.2 Domestic debt 66 66 61 75 366 267 237 237 22 (% GDP) 93.3 82. 65..2 28. 18.7 13.5 19.3 1.9 Monetary indicators (average) Inflation (% change).2.6.3.7 2.3.1 7. 6.2. SAMA base lending rate (%, year 2. 1.75 2.5.75 5.2 5.5 2.5 3..5 External trade indicators ($ billion) Oil export revenues 63.6 82. 11. 161.1 187.7 25.5 28. 92.8 129.9 Total export revenues 72.3 93. 125.7 18.1 21.5 233. 311.1 12.5 159.8 Imports 29.6 33.9 1.1 5.6 63.8 82.5 92. 97.1 1.3 Trade balance 2.6 59.1 8.6 125.5 16.6 15.8 218.7 23. 55. Current account balance 11.9 28. 51.9 9. 98.9 95. 15.6-33.5 3.5 (% GDP) 6.3 13.1 2.7 28.5 28. 2.9 32.2-1.2.9 Official foreign assets 73.3 97.1 127.9 195.5 273. 359.8 56.3 8.1 88.9 Social and demographic Population (million) 21.5 22. 22.5 23.1 23.7 2.2 25. 25.8 26.6 Unemployment (male, 15+, %) 7.6 8.2 8.5 8.8 9.1 9. 8.8 8.5 8.2 GDP per capita ($) 8773 975 11112 136 1725 15736 18665 1266 1736 Sources: Jadwa forecasts for 28 to 21. Saudi Arabian Monetary Agency for GDP, monetary and external trade indicators. Ministry of Finance for budgetary indicators. Central Department of Statistics and Jadwa estimates for oil, social and demographic indicators. 7
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