About mid-way through 2012, Hassan Jarrar, the Bahrain chief executive of the UK’s Standard Chartered, took a large chunk of capital from the bank’s local balance sheet and put it aside under the expectation that bad loans in the country would rise. A few months later he put it back.

“Last year was much better than we expected in terms of loan impairments,” says Jarrar.

The picture has been mirrored across the broader economy. Many feared the worst when a political uprising brought the country to a standstill in March 2011 and was followed by a brutal security crackdown and the sackings of thousands of workers who had joined the protests.

Economic rebound

Instead, after a slow period in 2011 when banks did have to restructure some loans and economic activity dropped, the situation has started to recover. Growth in 2012 is expected to be around 3.9 per cent, according to the Economic Development Board (EDB), a government body set up to promote foreign investment in Bahrain, although that is partly reflective of the slow previous year. It would have been higher were it not for the drop in oil production due to maintenance at Bahrain’s main oil field, Abu Saafa.

Growth is not what it used to be because of a range of local, regional and global factors. But we are still growing

Kamal Ahmed, Transport minister

“What we have seen is a much more broad-based and sustainable recovery than many people gave Bahrain credit for,” says Jarmo Kotilaine, chief economist at the EDB. “And it definitely wasn’t all down to oil because of the production disruption and I think even government spending played a less central role than people had expected.”

This year growth should be even higher as production at Abu Saafa comes back onstream and the non-oil sector benefits from government stimulus spending. The EDB forecasts growth of about 6.2 per cent in 2013, although Kotilaine says “that is largely because of the rebound in the oil sector”.

There are also several good signs for 2013. Credit growth is picking up, indicating that businesses and consumers are feeling more confident and banks are happier to lend. The government budget for 2013, which is still being finalised, envisages spending to be BD3.45bn ($9.15bn), a slight decline on the BD3.55bn expenditure in 2012.

That should be topped up by the arrival this year of a $7.5bn aid package provided by the UAE, Saudi Arabia, and Kuwait, with a further $2.5bn still under negotiation with Qatar. The funds will total $1bn a year and be directed towards specific projects, mostly housing and associated infrastructure.

The funds are expected to be managed outside Manama’s budget, so they will not show up in the government’s revenue or expenditure figures.

Wider problems

All this will be positive for Bahrain’s economy, but does little for Manama’s broader economic problems. Yawning deficits and shaky confidence are a bigger threat to the country. The Washington-based IMF estimates that the breakeven oil price for 2013 is $111 a barrel. In the budget for 2013, Manama is forecasting a deficit of BD662m ($1.76bn), rising to BD753m in 2014.

Bahrain’s debt-to-GDP ratio is currently around 35 per cent. The Finance Ministry has a plan to ensure it does not go much higher. Government subsidies are roughly equal to the deficit forecast for 2013. Oil income is 86 per cent of government revenues, despite the government’s success at diversifying the economy.

In the past, Manama has funded the deficit by regularly tapping the international capital markets. The prospects for future issuance were improved at the end of January when US ratings agency Standard & Poor’s upgraded the outlook on its BBB rating to stable from negative.

“Politically, the crisis moment has passed and the bigger risks are on the fiscal side,” says Elliot Hentov, sovereign analyst at S&P.

Prior to 2011, the EDB was acting as a vehicle for promoting economic reform, setting key performance indicators for ministries, and championing a strategic direction under the Vision 2030 masterplan it produced. This included improving the efficiency of government service provision and reducing the role of the state, while allowing a more vibrant private sector to develop.

New team

The EDB has been politically weakened since then because of its associations with Crown Prince Salman bin Hamad bin Isa al-Khalifa, after he led a failed attempt at negotiating an end to the protests in 2011.

Since then, the management of the economy has passed to a new finance and economy committee. This is headed by Finance Minister Sheikh Ahmed bin Mohammed al-Khalifa (who is also now in charge of the oil and gas ministry), and includes Transport Minister Kamal Ahmed (now also head of the EDB), Industry & Commerce Minister Hassan Fakhro, Labour Minister Jamil bin Mohammed Ali Humaidan, Electricity & Water Minister Abdul-Hussein Ali Mirza, and governor of the Central Bank of Bahrain, Rasheed al-Maraj.

Although Ahmed says the committee is trying to drive through some of the reforms previously promoted by the EDB, observers are not impressed. “I would be surprised how much that committee could realistically get done,” says one Western diplomat. Growth is now forecast to be 3-5 per cent in the medium term, says Hentov. “Growth is not what it used to be because of a range of local, regional and global factors,” says Ahmed. “We used to have 6-7 per cent growth. But we are still growing and that is because I believe after a decade of reform, Bahrain has laid good economic foundations to ensure ongoing and sustainable expansion.”

Political stability

Restoring growth will help boost investor confidence, but in the short term, this will be linked to government spending, not the private sector. Securing renewed private investment will require political stability. Although there has not been any significant exodus from Bahrain over the past two years, it has lost momentum while rival business and logistics hubs in Dubai, Abu Dhabi, Doha and Saudi Arabia have continued to grow.

The past two years may not have been as bad as some had feared, but without a broad political settlement Bahrain will continue to be overshadowed by its neighbours.

Key fact

Growth in 2012 is expected to be around 3.9 per cent

Source: Economic Development Board