2010 should be a year of improvement for the Middle East as a sluggish global recovery gains momentum and investor confidence rebuilds, Moody's Investors Service forecast in its first annual “Middle East Sovereign Outlook” report. Indeed, Moody's only sovereign rating actions in the region so far this year have been positive: the upgrade of Saudi Arabia's government bond ratings to Aa3 from A1 and Oman's to A1 from A2 based on the strong state of their government finances. Moody's new report identifies and analyzes six key themes that will drive developments in sovereign ratings in the Middle East in 2010, namely: q Oil price and production levels - there is a wide variation in the fiscal breakeven oil price among oil exporters in the region q The degree of fiscal stimulus that respective governments can afford to maintain q The lending stance of banks - particularly in those countries that have experienced the sharpest corrections in credit growth q Remittance and investment flows from oil exporters to oil importers - Jordan, Lebanon, and Egypt are all reliant on these (to varying degrees) for balance-of-payments support q Import demand in the US and Europe, key markets for the region's non-oil exports q Political and geopolitical event risks to stability, including Iran's nuclear program, are the potential wild card given the region's comparative turbulence but they should be assessed soberly. “The Middle East had a relatively “mild crisis” in that it suffered less damage as a result of the global economic and financial turmoil of the past two years than some other regions. This stands it in good stead as the world economy recuperates,” said Tristan Cooper, a vice president and senior credit officer in Moody's Sovereign Risk Group. Of course there were exceptions: Dubai, with its high debt and open economy, was the main regional casualty (although Moody's does not rate the Dubai government). Also, the private sectors of some other Gulf countries were bruised as their credit bubbles popped. “Overall, the Middle East sovereigns did not experience anything like the deterioration in credit metrics that we saw in some other regions in 2009 - most notably the advanced industrialized countries and Eastern Europe,” Cooper said. This was mainly due to (1) light reliance on international capital markets for deficit financing, (2) the quick recovery in oil prices, and (3) limited external exposure of financial sectors in most countries. Financial sectors in the region were not heavily exposed to “toxic” assets or failed western financial institutions during 2008 and 2009. This was partly because of conservative central bank regulation in many countries and partly because the banking sectors of some countries such as Egypt are still rather under-developed and so had limited foreign exposure. However, some financial sectors did require direct government support, namely those in the UAE (especially Dubai), Qatar and Kuwait. These countries experienced exuberant run-ups in credit during the boom years, partly financed by non-resident deposits that were subsequently withdrawn. A substantial amount of this credit was channeled to the now struggling real estate and equity markets. It was nevertheless reassuring that bank capitalization ratios generally remained robust across the region, Moody's said. A key driver of private sector activity in the region in 2010 will be the appetite of banks to lend. Bank credit to the private sector slowed sharply in 2009 in all rated countries in the Middle East. The most dramatic corrections were in the Gulf oil-exporting countries which had experienced booms in private sector credit during the years up to 2008. But oil importers have also experienced credit shocks. Private sector credit growth was negative in both Egypt and Jordan during the first ten months of 2009. In Saudi Arabia, lending to the private sector was flat in the year through December 2009, Moody's reported. Lebanon was an exception in the region, with credit growth exceeding 10 percent over the first 10 months of last year. Although capitalization ratios in general remain healthy across the region, banks are still cautious about lending to local consumers and businesses. Some banks, especially those in Qatar, Kuwait and Dubai, have been exposed to quite severe real estate price reversals which have affected asset quality. Loan-to-deposit ratios remain high in these countries, and this constrains banks' ability and willingness to extend credit despite government support. Swelled by the accumulation of oil-driven fiscal surpluses over the past decade, sovereign wealth funds can be drawn down to finance potential fiscal deficits without jeopardizing planned investment expenditure. The economic performance of oil-importing countries (Jordan, Lebanon, and Egypt) will be influenced by developments in their key export markets. For Egypt, the most important export markets are the EU and the US; for Jordan, the US and Iraq are the single biggest export markets; while Lebanon exports mainly to the oil-rich Arab countries and Europe. We expect the US and European recoveries to gather some steam over the course of 2010, with the more dynamic US economy likely to perform somewhat more vigorously. However, growth is likely to be anemic in both markets compared to pre-crisis levels. The pick-up in the import appetite of oil-exporting Gulf states should be stronger given their scope for continued fiscal stimulus. In the case of Jordan, it is notable that India was the third-largest individual export market over the first 11 months of 2009. This indicates the potential for Middle East oil importers to cultivate faster-growing emerging export markets. There is a wide variation in trade openness among oil-importing Middle Eastern countries. For example, Egypt's exports account for less than 15 percent of GDP whereas in Jordan they account for almost 40 percent of GDP. However, Moody's noted that there are risks to its cautiously optimistic outlook. These include the risk of a deterioration in the regional political environment (with Iran a particular concern), a sustained collapse in oil prices, and a double dip global recession.
