While the massive amount of government spending by Gulf countries helped to limit the impact of the global downturn on their economies, the International Monetary Fund (IMF) believes a plan to withdraw fiscal support is needed, and should be implemented once the time is right. Economic growth in the six Gulf countries is strengthening but a major risk to the outlook is if oil prices remain low for a protracted period, the International Monetary Fund (IMF) said on Wednesday. In an updated report on the Gulf Cooperation Council (GCC) member states, which include Saudi Arabia and the United Arab Emirates, the IMF said they should start preparing an exit strategy from the current high spending levels but only implement it once conditions allow. In a report, the IMF said the challenges faced by the financial sectors of GCC nations will restrain growth in that region for the short-term, but is not expected to have long-term implications. The report counseled that given the constraints of the dollar-peg on monetary policy and the sensitivity of liquidity conditions to the oil cycle, macroprudential policies should be used effectively to protect financial stability and manage liquidity conditions. “Fiscal stimulus has been successful in dampening the impact of the global crisis on non-oil growth,” it said, “but countries should prepare an exit strategy from current high spending levels, to ensure long-term fiscal sustainability, which would be implemented once conditions allow.” The IMF forecast that economic growth among GCC countries will strengthen in 2010, supported by strong fiscal spending and the global recovery. US crude oil for September delivery fell $1.02, or 1.31 percent, to settle at $76.56 a barrel, trading from $76.20 to $78.57. London ICE Brent crude futures fell 85 cents to settle at $75.37 a barrel. Moreover, non-oil growth is expected to strengthen to about 4.3 percent, supported by fiscal stimulus in Saudi Arabia and the UAE and, more recently, Kuwait. Oil output is projected to rebound by approximately 4.8 percent in 2010 in line with global recovery. “This, along with projected higher oil prices, should improve fiscal and external balances,” the report said. It goes on to project that a rebound in imported food prices is likely to boost inflation to 4 percent in 2010. The main risk to the outlook is a sharp decline in oil prices, the report warned. In the short-term, the IMF said challenges in the financial sector may restrain growth, but that they remain manageable and should not undermine long-term prospects. “The impact of spillovers from financial developments in Dubai and Greece (if the fallout remains contained) should continue to have a limited effect on the GCC countries,” according to the report, “and substantial foreign assets are available to mitigate the impact of new shocks.” With negotiations on the Dubai World debt restructuring proceeding well and the economy beginning to recover, the IMF said focus must shift to successfully completing the debt restructuring, determining the full breadth of potential debt problems in other government-related enterprises, and maintaining the stability of the banking system. Central banks across the GCC have already strengthened their oversight of the banking sector, it noted, with many conducting stress tests to identify vulnerabilities. The capital adequacy of banks has also been enhanced in most countries through the injection of public funds or private capital. Still, bank deposit and credit growth remained “anemic” during the first half of 2010, the report said, as banks struggled to attract private sector deposits and continued to receive significant liquidity support from their respective governments. “Uncertainties surrounding the economic recovery, the default of two Saudi large conglomerates, problems in the Kuwaiti financial sector, and the DW debt problem have all contributed to an increase in risk aversion on the part of banks and borrowers,” the report said. The decline in credit may also reflect a reconsideration by banks of their lending practices, it opined, after relying in the past on the borrower's reputation - known as “name lending” - rather than credit analysis. Corporate governance and transparency in the GCC needs to be enhanced, the report said, adding that in order to maintain and enhance access of private sector companies to domestic and external financing, the incentive structure to improve disclosure and governance should be strengthened. At the same time, it continued, countries should improve the governance of state-related enterprises, with greater attention given to transparency and management of leverage and balance sheet risks. On the non-financial sector, the report said listed non-financial corporates in the GCC appear to have adequate buffers to service their debt, with corporate financial positions are strengthened by large cash buffers. But it does see potential weaknesses in certain sectors - petrochemicals and multi-investment in Saudi Arabia, services and industry in Oman, real estate and industry in Kuwait, and services in Qatar -- based on stress tests involving a 300-basis-point increase in interest rates or a 25 percent income shock. Banks' capital adequacy ratios remain strong, the report said, and there are positive indications on profitability. It said data for Q1 2010 indicate only a small year-on-year decline in profitability (4 percent) and a more than doubling of profits over Q4 2009. However, while provisioning requirements were lowest compared to the last three quarters in 2009, they remain high compared to pre-crisis levels. The report said Kuwaiti banks continued to fare the worst in the region, with profits year-on-year declining by 9 percent. Non-performing loans in GCC banks are expected to increase further in 2010, although potentially at lower rates than those experienced in 2009. The short-term priority remains the “buttressing” of the financial sector without unduly constraining the availability of credit, the report said. “This requires a continued forward-looking approach to monitoring bank capital adequacy through periodic reviews of bank asset quality and regular stress testing, including against tail risk,” the report said. In order to encourage banks to address emerging problems expeditiously, IMF said GCC authorities should ensure that a prompt corrective-action framework with well-specified criteria for intervention is in place. The IMF urged Gulf states to lend further support to financial firms, shut down unworkable companies and boost transparency as they emerge from the global economic crisis. The organization's latest recommendations come as Dubai works itself out from more than $100 billion in debt amassed by its Dubai World conglomerate and a web of other state-linked companies, whose credit woes cast a shadow on economies across the region. Financial troubles among once seemingly solid companies in the Gulf have spooked both lenders and borrowers, making risk-averse banks reluctant to lend even as they struggle to attract new deposits, according to the IMF.
