ECONOMY: Inflation mars rosy outlook

16 May 1997

The dearth of up-to-date economic data cannot hide the fact that the UAE economy prospered in 1996. A 20 per cent increase in the price of crude oil saw export revenues surge by 15 per cent and reach their highest level for five years. The oil windfall swelled government coffers and transformed budgeted deficits into healthy surpluses.

So far, only one government body, the Emirates Industrial Bank (EIB), has issued its annual economic assessment. In its January newsletter, EIB said gross domestic product (GDP) rose to AED 157,000 million from AED 144,000 million in 1995, giving a nominal growth rate of 9 per cent.

EIB is not alone in presenting year-on-year growth on a nominal basis. Both the Central Bank of the UAE and the Planning Ministry do likewise in their own annual reports. Factoring in inflation to arrive at a figure for real growth is a tricky task.

Officially, annual inflation has been running at 4-5 per cent over the past three years. Some analysts say this estimate could be too conservative. 'From our calculations, the figure is at least 7 per cent and could be even higher,' says one Dubai banker. The view appeared to be supported by central bank governor Sultan Nasser al-Suwaidi, when he presented his own economic update at a Jebel Ali business gathering last October. 'As I am sure you are aware, the UAE economy grew by approximately 1 per cent in real terms last year (1995),' he said. 'I believe that we may experience a similar, to slightly lower, rate of real growth during 1996 and 1997.'

Government action suggests that combating inflation is a priority. On 6 January, a high-level committee was formed with the specific purpose to counter mounting price rises on basic foodstuffs and fuel. Comprising both private and public sector members, the committee's formation had an immediate impact with Abu Dhabi National Oil Company (ADNOC) backtracking on a 20 per cent increase in the price of cylinder gas.

At the time, government officials pinned the blame for the foodstuff price increases on traders. They were accused of seeking to capitalise on the 15-30 per cent pay increases awarded to government employees on 1 December to mark the start of celebrations for the federation's silver jubilee and the 30th anniversary of Sheikh Zayed's accession as ruler of Abu Dhabi.

Even before the generous salary increases, inflationary pressures were evident in the economy. Traditionally, two factors have had a large bearing on UAE inflation. The linkage of the dirham to the dollar has left the economy susceptible to imported inflation.

Over the past decade, the dollar's decline in real value has pushed up the cost of imports from major suppliers such as Japan and Germany. 'We are importing the same amount of goods, but we are paying more for them,' one local official says. The other main contributor has been rising rents. Although the real estate market has stabilised in the last two years as more supply has come onto the market, rents are still reckoned to be increasing by at least 5 per cent a year.

Last year saw some exceptional factors, too. The price of diesel shot up by 40 per cent. Fuel retailers justified the increases by pointing to higher diesel prices in the region brought about by strong market demand and tight supplies from Gulf refiners. The economy also had to withstand the loss of 167,000 illegal immigrants, who left the country under last autumn's amnesty. Their departure led to a temporary rise in labour costs.

Inflation aside, the oil price rise was the most striking feature in last year's economic performance. According to EIB, strong international crude demand resulted in the oil sector's contribution to GDP rising to AED 56,500 million as against AED 49,200 million in 1995. Overall, the oil sector share of GDP rose to 36 per cent from 34 per cent. In contrast, the non-oil sector saw growth in line with 1995, rising by 6.3 per cent to AED 101,000 million. Non-oil sectors that performed particularly well included banking, where higher liquidity led to an average rise in profits of 6 per cent. The six major container ports reported brisk business: total throughput went up by 10 per cent to 3.7 million 20-foot equivalent units (TEUs), primarily as the result of strong re-export demand.

Despite non-oil activity accounting for 64 per cent of GDP, the oil price continues to dictate the health of the economy and government finances. The pivotal role it still plays has been underlined by recent figures issued by the central bank for the 1996 federal budget. Spending and revenue data up to the end of September indicate that the actual budget surplus had reached AED 3,600 million as against a budgeted deficit for the whole 12 months of AED 858 million. The performance was almost entirely due to the improvement in world oil prices. By the end of September, total revenues had reached AED 17,400 million, 3 per cent above the total budgeted for the year.

On the federal level, higher revenues are unlikely to lead to a spending spree, however. The government is intent on maintaining a tight grip on expenditure. The new budget, approved on 7 April, provides for an 8.8 per cent rise in spending to AED 19,860 million, with much of the increase being allocated for the salary increases announced last December. Revenues are also set to grow by 8.4 per cent to AED 18,870 million, resulting in a 16 per cent increase in the budgeted deficit to AED 990 million.

Federal spending accounts for an estimated 20 per cent of all public expenditure. The rest is largely made up by government departments in the three richest emirates of Abu Dhabi, Dubai and Sharjah. All keep their accounts a closely guarded secret. Nevertheless, anecdotal evidence tends to support the view that like the federal government, local finance officials are not planning to loosen the purse strings. Rather, they will maintain a conservative spending policy and use last year's higher-than-expected oil receipts to build up reserves.

In light of recent events in the oil market, the stance makes sense. In the first four months of the year, the price of Dubai benchmark crude fell by 25 per cent to $16.50 a barrel, as oil demand failed to keep pace with supply. If the price level was to be maintained throughout the year, then the UAE would be in danger of recording its first economic downturn since 1993.

Over the past four years, the UAE economy has been a model of stability. While others in the region have had to grapple with recession, lengthy payment delays and a sharp reduction in public expenditure, the federation has had few such worries. Inflation is the one real concern. But with the state's oil wealth and active trading and business sectors, it remains an isolated dark spot on an otherwise bright picture.

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