GCC support to cool pressure on Bahrain’s public finances

Dubai: The GCC official statement of support to Bahrain last week has come as a big relief to government finances and cool markets turmoil according to economists and analysts.

Bahrain’s Minister of Finance Shaikh Ahmad Bin Mohammad Al Khalifa announced that the Kingdom, in coordination with Saudi Arabia, Kuwait and the UAE, would soon unveil a new programme designed to strengthen Bahrain’s financial stability.

Credit rating agencies, economists and analysts said, although the announcement has cooled the markets, going forward the GCC support is likely to become more specific and conditional in nature.

“GCC support is likely to become explicit and conditional going forward. The timing of the finalisation of such programme was likely impacted by the legislative recess over the second half of 2018 in Bahrain due to the summer and parliamentary elections in October-November,” said Jean-Michel Saliba, Mena Economist of Bank of America Merrill Lynch.

The pledge of GCC support follows a significant deterioration in market sentiment in recent weeks, and in particular on 25 June, which saw Bahrain’s sovereign credits spreads rise to levels not seen since the global financial crisis.

“The sharp sell-off in Bahraini government bonds and the rise in credit default swap (CDS) spreads, which triggered GCC announcement, indicate that Bahrain has likely lost its access to international capital markets at affordable costs — at least temporarily,” said Alexander Perjessy, an analyst at Moody’s.

Analysts said prompt and sizeable financial support would support Bahrain’s credit profile. Conversely, delays or lack of clarity on the form and modality of financial support by the GCC would put negative pressure on the sovereign’s creditworthiness.

Credit profile

Economists said Bahrain’s policy response to lower oil prices since 2014 has been slow and largely insufficient to stabilise public debt dynamics and to halt the erosion of foreign exchange reserves. Double-digit fiscal deficits over the past three years drove government debt to nearly 90 per cent of GDP at the end of last year from 44 per cent at the end of 2014.

“During the same period, central bank reserves dropped to $2.3 billion (equivalent to only 1.1 months of imports), from $5.8 billion (3.1 months of imports). Large government bond issuances financed the fiscal and current account deficits of $2.4 billion in 2016 and $2.8 billion in 2017 ($3.8 billion including bond issued by the investment arm of the government-owned National Oil and Gas Authority) prevented an even sharper erosion of foreign exchange reserves,” Moody’s said in a recent report.

The country’s unsettled domestic political situation has made it particularly challenging for policymakers to pass fiscal reforms. “With no significant policy change in sight, we expect that Bahrain will continue to run budget deficits and its government debt will rise further towards 100 per cent of GDP by the end of the decade. Deficits will combine with debt repayments to add to significant borrowing needs for the government,” said Thaddeus Best, an Analyst at Moody’s.

For the economy as a whole, current account deficits combined with external debt repayments are likely continue to put pressure on foreign exchange reserves, unless external financing is secured. The joint statement from the three GCC countries suggested ongoing talks with Bahraini authorities on the details of funding programme. Economists say, the programme details will be key to judge the sustainability of debt dynamics and support conditionality.

Timing is key

Analysts said the market pressure on Bahraini assets brought urgent need for GCC financial support, but the delay in the terms of support is likely to increase uncertainty.

“Our view has been that the timing of explicit, conditional support from GCC countries remains uncertain and may be pushed back to 2019 due to the legislative recess and late-year parliamentary elections delaying adoption of fiscal reforms. The unofficial support Bahrain benefited from in April suggests GCC backstop, but also continued pressure to incentivise economic reforms against a backdrop of capital outflows,” said Saliba.

These dynamics left Bahrain vulnerable to market pressure. Bahrain’s dinar fell to a 17-year low against the dollar in the spot market on Tuesday, June 26, as investors sold the currency in the forward market citing concerns over the country’s ability to repay its rising public debt. The sell-off therefore provides further pressure on authorities to conclude negotiations with GCC on backstop support quickly. However analyst said there is no imminent threat to currency’s stability.

“Abandoning the peg or devaluing the currency are unlikely as long as financial support is provided by Saudi Arabia and other neighbours. GCC countries see support to Bahrain as an investment in the region’s economic and political stability,” said Boban Markovic, Senior Analyst at Institute of International Finance (IIF).

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