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ISSN 1474-5615
Vol 20 Issue 10 October 2010

Gulf
Business Monitor International’s monthly regional report on political risk and macroeconomic prospects

Iran THIS MONTH’S TOP STORIES

Internal Power Struggle UAE: Worst Of Debt Over, But Uphill

Struggle Ahead

Threatens Stability
BMI View: There is more to come in terms of quasi-private sec-
tor debt restructuring in Dubai, and the emirate will likely have
to issue again in H210 or 2011. But in terms of nasty surprises,
BMI View: Domestic politics in Iran is showing signs of strain. The root of the worst is probably over.
the crisis is the government’s misguided economic policies, which have spilled page 4
into an internal power struggle between the parliament and the president.
Coupled with high public discontent and the additional pressure of UN sanc- Iraq: Security Risks Could Delay US
tions, there are increasing risks to political stability in Iran.
Withdrawal Beyond 2011
We highlight key events and risks that judiciary chief Sadegh Larijani for a BMI View: Iraq faces growing risks of a security vacuum as the
raise questions about the long-term sta- decision the justice made in sentencing US proceeds with its troop withdrawals, and this could result in
bility of the government. These include: a political aide. Larijani described the more terror attacks and interethnic violence. Meanwhile, Iraq’s
unresolved issues lingering from last president’s outburst as ‘unjustifiable’. neighbours will seek to maximise their geopolitical influence in
year’s presidential election protests, Larijani’s brother Ali is chairman of the country as part of a broader regional power struggle.
the latest round of UN economic sanc- Iran’s parliament, and regularly criti- page 10
tions, a contested attempted assassina- cises the government’s economic poli-
tion of the president and projections cies. Both men’s disagreements with
for rising unemployment and inflation the president have become a subject of Kuwait: Jobs Still Core Focus
page 6
(contrary to government efforts to media interest recently, underlining a
hold the consumer price index down growing rift among parliament, presi-
to single digits). dent and various religious councils. Qatar: Government-Driven Asset Growth
A grenade was allegedly launched at page 8
President Falls Out With Parliament the president during a planned rally in
Iranian president Mahmoud Ahmadine- the city of Hamadan in Western Iran.
OIL MARKET OUTLOOK
jad used a recent speech to criticise ...continued on page 12

Saudi Arabia

Disappointment On
Mortgage Law
BMI View: There is huge potential for lending for Saudi banks in the long
term, but the central bank’s 85% limit on the loan-to-deposit ratio, along Source: BMI
with strong growth in deposits, will keep this from threatening healthy capi-
Front-month (October) Brent Crude weakened in August.
talisation levels. Our belief that H210 would herald the recovery of lending
Prices should remain correlated to equity markets in the com-
appetite appears to have been overoptimistic.
ing months and, on this basis, we expect largely sideways trade
Another quarter, another disappointing downside risks to our 2010 growth in the US$70-84/bbl range. The traditionally strong summer
performance from the Saudi banking numbers. Meanwhile, the most likely period for prices has thus far provided limited support – the US
sector. We have left our forecasts trigger for this comeback – the passage driving season has been lacklustre and the effect of hurricane
unchanged since the publication of of the mortgage law – has apparently season in the Gulf of Mexico has been modest. Therefore, we
our Q310 update, and as such see only been delayed. note downside risks to our average price forecasts of US$85.00/
a sluggish recovery, with possible ...continued on page 2 bbl in 2010 and US$87.00/bbl in 2011.

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 SAUDI ARABIA
RISK SUMMARY
POLITICAL RISK
Foreign Relations Improving
Saudi Arabia’s relations with neighbouring
states continue to improve after the coun-
try’s consistent support for flood-hit Paki-
stan. King Abdullah announced he will send
two field hospitals and a search and rescue
team to Pakistan to provide assistance. He
also ordered a nationwide campaign to raise
funds for flood victims, which has already
raised SR400mn (US$106.4mn). The Saudi
King also highlighted deep-rooted relations
between Saudi Arabia and Jordan during
a meeting with Jordanian King Abdallah.
The meeting focused on bilateral ties and
the latest developments in the Middle East,
particularly efforts to achieve peace in the
region. These developments highlight Saudi
Arabia’s increasing desire to act as the key
regional power in the Middle East.
...continued from bottom of front page ment that 2010 would be the year this
law finally came to fruition was based
However, in the long term, the financ- on the view that the government would
ing needs of infrastructure projects and the see the stagnation in banking activity and
generally underleveraged economy suggest paralysis of corporate finance, and act to
strong growth prospects. ease lending conditions accordingly. The
shelving of discussions suggests that no such
Slow Recovery urgency is in place, although we still expect
A small downturn in the 3-month interbank the law to pass before the end of 2011.
lending rate, which fell to a 5-month low
of 0.72% in mid-August, suggests a further Boom Years Over But Good Growth Ahead
Saudi Arabia – Commercial Banks’ Asset Growth (%)
downside to the Q309 lows of 0.66%. But
this is not a completely reliable indicator
of lending conditions; the three-month
interbank rate has been below 1.0% since
Q309, during which loan growth has totalled
a mediocre 3.8%, against consumer price
inflation of 4.9%.
The year-on-year (y-o-y) rate came in at
3.3%, basically unchanged since our most
recent update in May, when we expressed
hope that the tide was turning. This has not
been the case. Saudi banks are apparently Source: SAMA, BMI

Our short-term political risk rating is 70.4.

ECONOMIC RISK
Inflation At 17-Month High
We hold to our 5.0% consumer price infla-
tion forecast for end-2010, up from 4.3%
recorded last year. Saudi consumer price
inflation rose by 6.0% in July compared to
the same month in 2009. The trend of rising
prices is likely to continue in the short term
on the back of rising food prices during
the holy month of Ramadan. Fuel, rent and
water may add to the upside pressures on
consumer prices. Although property price
inflation is easing, the housing shortage
throughout the country will continue to hold
prices at elevated levels.
Our short-term economic risk rating is 72.1.
BUSINESS ENVIRONMENT
still traumatised by the difficulties of the
past two years, including the painful con-
sequences of investment in the real estate
sector – especially damaging in Dubai –
and loans to troubled Saudi corporates,
most notably the Saad and Gosaibi groups,
as well as private borrowers.
Recovery Elusive
Saudi Arabia – Commercial Banks’ Client Loans and Deposits
(% change y-o-y)
Source: SAMA
Although there is no cure-all for Saudi
Arabia’s banking sector woes, the mortgage
law could improve demand for bank loans.
Currently, banks are shy of lending, but
neither is there a queue of Saudis seeking to
borrow to invest. Opening up a previously
locked area of the banking sector should
release some pent-up demand, setting a
cycle of lending and profit-making in mo-
tion that should get the banking sector back
on its feet.
In the long term, there is tremendous
growth potential for the mortgage sector:
mortgage lending currently represents
only 2% of GDP, compared to 50% in
Germany and 30% in Malaysia. There is a
housing shortage and a relatively low rate
of home ownership, as well as a high GDP
per capita.

Government Openness I Walk The Line

Saudi Arabia – Commercial Banks’ Loan-Deposit Ratio (%)
Improving BE We expect the lending recovery to lead
As part of Saudi Arabia’s diversification
the overall consumer recovery, rather than
drive, Osama Kurdi, a member of the
vice versa, as companies continue to be
Shoura Council, highlighted the benefits of
restricted by lack of available finance. Ra-
privatizing commercial aviation. If carried
madan will likely keep lending activity to a
out, this would increase competition and
minimum through August and part of Sep-
the technological experience of companies
tember, and lending received another blow
and investors throughout the industry.
with disappointing news on the mortgage
Other sectors, such as manufacturing and
law in July 2010. The legislation looks less
education, will also be subject of reforms,
likely to happen this year after parliament
with the Saudi government keen to diver-
shelved discussions on the proposal until
sify industries and eventually decrease its
after the summer recess. Source: SAMA

reliance on oil.
Against this backdrop, our end-
Our business environment rating is 57.0.
year client loan growth figure of 6.0% The only restraint will be the 85%
looks somewhat optimistic. Our argu- loan-to-deposit ratio limit imposed by

2 2 GULF – OCTOBER 2010 www.meamonitor.com

the central bank. Banks exceeded this in
2008 and 2009 and could do so again,
although we think they will see the limit as
a reassurance and a benefit in terms of
perceptions of the Saudi banking sector.
I’m In The Money
Saudi Arabia – Central Bank Assets (SARmn)
Source: SAMA
This level seems too low for a coun-
try looking to encourage private sector
growth, and the authorities may have to ease
restrictions. Saudi Arabia’s banks hold client
loans of just US$8,662 per capita, compared
with US$60,036 in the United Arab Emir-
ates (UAE).
Lower levels of indebtedness are one of
the key reasons we prefer the macro story in
Saudi Arabia to the UAE, but there is room
to move toward a happy medium. We expect
loan growth to bounce back to 10% in 2011
against projected average inflation of 5.5%
before averaging 9.0% over 2011-14.
Creeping Back Up
Cost Of Living Index (% chg y-o-y)
Source: SAMA
Will This Mean Compromising Strong
Levels Of Capitalisation And Stability?
There is room to manoeuvre. Total capital
in the banking sector amounted to a healthy
12.7% of GDP in June 2010: although this
ratio has already started to fall, and the
rate of capital growth has slowed to the
single figures too, this is in line with the
outperformance of GDP growth (based
on the oil sector rebound) compared with
banking assets.
Taken as a percentage of overall bank-
ing liabilities, the rate is at a multi-year
high of 14.2%, which is encouraging. But
many individual banks are even stronger.
For example, the largest bank, al-Rajhi
Bank, had an overall capital adequacy ratio
of 19.7% in H110, with Tier 1 capital at
16.5%, compared with the base Basel II
requirement of 8%.
Moreover, banks are backed by one of the
most wealthy states in the world: the Saudi
Arabian Monetary Authority’s (SAMA)
official reserves came in at US$33bn, but
its non-cash assets (such as US Treasuries)
take the total to US$429bn. There is a strong
capacity to lend.
We also see a strong recovery for de-
posit growth as well over the coming years,
meaning the loan-to-deposit ratio is likely
to remain well below the 85% level. We
forecast average deposit growth of 10%
over 2011-14, compared with 9% growth
in lending, as a result of continued strong
oil inflows. We project the OPEC Basket
price to stabilise at US$90/bbl from 2012,
resulting in continued double-digit current
account surpluses for Saudi Arabia for the
entire forecast period. While some of this
cash will undoubtedly be reinvested abroad
via the Saudi Arabia’s sovereign wealth
funds, much of it will find its way back into
the banking sector, which is good news for
long-term asset growth.

DATA & FORECASTS

BMI View: We expect the Saudi economy and private consumption, which we forecast improve in the coming years, and pencil in
to grow by 2.6% in real terms this year, to grow by 6.0% and 4.0% respectively an average rate of expansion of 3.2% over
driven mainly by government expenditure in 2010. We expect growth to gradually our 2011-2014 forecast period.

  2007 2008 2009 2010f 2011f

Population, mn [1] 24.2 24.6 25.3e 26.0 26.5
Nominal GDP, US$bn [2] 385.2 475.7 369.7 461.2 491.4
GDP per capita, US$ [2] 15,945 19,303 14,601 17,745 18,531
Real GDP growth, % change y-o-y [2] 2.0 4.3 0.1 2.6 2.5
SAR nominal growth, % change y-o-y [2] 8.0 23.5 -22.3 24.8 6.6
 
Unemployment, % of labour force, eop [2] 5.6 5.0 5.4 6.0 7.0
Budget balance, SARbn [2] 176.6 580.9 73.2e 234.3 224.1
Budget balance, % of GDP [2] 12.2 32.6 5.3e 13.6 12.2
Consumer prices, % y-o-y, ave [2] 3.9 9.9 5.1 5.0 5.5
Consumer prices, % y-o-y, eop [2] 6.5 9.0 4.2 5.0 6.0
Exchange rate SAR/US$, ave [3] 3.75 3.75 3.75 3.75 3.75
Exchange rate SAR/US$, eop [3] 3.75 3.75 3.75 3.75 3.75
Exchange rate SAR/EUR, eop [3] 5.46 5.24 5.43 4.68 4.61
OPEC Basket price, US$/bbl, ave [3] 69.08 94.08 60.10 83.00 85.00
Oil production, ‘000 b/d [4] 10,449.0 10,846.0 9,713.0 9,825.0 9,930.0
 
Goods exports, US$bn [2] 233.1 313.4 189.6 252.1 257.5
Goods exports, % change y-o-y [2] 10.5 34.5 -39.5 33.0 2.1
Goods imports, US$bn [2] 81.5 100.6 81.6 88.2 97.0
Goods imports, % change y-o-y [2] 29.3 23.5 -18.9 8.0 10.0
Balance of trade in goods, US$bn [2] 151.6 212.7 108.0 163.9 160.5
Current account, US$bn [2] 93.3 132.3 26.5 79.6 71.1
Current account, % of GDP [2] 24.2 27.8 7.2 17.3 14.5
Foreign reserves ex gold, US$bn [2] 28.3 32.3 32.9 37.8 41.6
Import cover, months g&s [2] 2.4 2.2 2.6 2.8 2.8
Notes: e BMI estimates. f BMI forecasts. Sources: 1  World Bank/BMI calculation/BMI. 2  SAMA, BMI Forecasts; 3  BMI; 4  BP/BMI.

www.meamonitor.com OCTOBER 2010 – GULF 3

  UAE
RISK SUMMARY
POLITICAL RISK
Holding Ties With Iran,
Despite Sanctions
The UAE has been forced to defend its
trade relations with Iran, claiming that the
country’s bilateral trade ties are legitimate.
The trade volume between Iran and Dubai is
estimated at just US$10bn a year. The UAE’s
minister of state for foreign affairs, Anwar
Gargash, declared the trade connections
between the two countries comply with the
UN Security Council’s sanctions imposed on
Tehran. Yousef al-Otaiba, the UAE’s ambas-
sador to the US, announced the country will
focus on ensuring that legitimate businesses
are not harmed by the sanctions.
Our short-term political risk rating is 82.1.
ECONOMIC RISK
Inflation To Return To Low
Single-Digits
After seeing prices fall by 0.4% in 2009, con-
sumer price inflation has returned to positive
territory since the end of Q110. Prices in
H110 grew by 0.5% compared with the
same period in 2009 on the back of higher
food prices. The cost of food and bever-
ages rose 3.7% y-o-y in July, while the cost
of housing remained unchanged compared
with the previous month and grew by 0.9%
y-o-y. The downturn in the property mar-
ket continues to keep a lid on prices in the
rent and housing component of the Emirati
consumer price. Consumer price inflation is
likely to return to low single-digit territory
over the coming months, and we forecast
CPI coming in at 2.0% through end-2010.
Our short-term economic risk rating is 72.5.
BUSINESS ENVIRONMENT
Recuperating Business
Environment
According to BMI Business Environment
ratings, the UAE is ranked sixth out of 17
MENA countries. Nevertheless, the Emirates
scores third highest for infrastructure, with
Dubai International Airport a major transport
hub between Asia and the Middle East. The
UAE are ranked first under our government
intervention sub-component, suggesting
their openness to reforms and willingness
to attract foreign investment, increasing the
appeal of the country for investors.
Our business environment rating is 54.4.
4 4 GULF – OCTOBER 2010
Economic outlook
Debt: Worst Over, But
Uphill Struggle Ahead
BMI View: There is more to come in terms of quasi-private sector debt restructuring
in Dubai, and the emirate will likely have to issue again in H210 or 2011. It will continue
to rely heavily on Abu Dhabi for stability. However, in terms of nasty surprises, the
worst is probably over.
The true scale of Dubai’s non-government
debt burden remains unclear, and this lack
of clarity is at least partially to blame for
the continued high price of CDS insurance
(the Dubai 5-year contract is still trading at
around 467bps). We do not see a massive
recovery in local fiscal revenues for Dubai
over the forecast period, and expect it to have
to issue again as it covers some of the cor-
porate debt of government-related entities.
Detailed debt data remains hard to come by
in the UAE, but with IMF and central bank
data we can deduce ballpark figures, and
draw conclusions:
• Dubai continues to struggle under its debt
burden, although much of its quasi-private
sector obligations have been transferred to
the government balance sheet – both its
own and Abu Dhabi’s. Abu Dhabi’s oil
revenues will be sufficient to cover all of
this debt, and we see the pile remaining
broadly stable over the coming years.
• Abu Dhabi owes US$8bn in outstand-
ing bonds, and Dubai owes around
US$17.3bn. Most of this debt is held in-
ternally, with banks’ claims on the govern-
ment amounting to AED92bn (US$25bn)
as of April 2010.
• According to the IMF, foreign holdings of
UAE government debt amount to around
US$9bn, which takes us roughly to the
US$34bn (10.1% of GDP) total govern-
ment debt burden we estimate for 2010.
• Total external debt, on the other hand,
comes in at around US$183bn, of which
US$109bn is accounted for by Dubai Inc
(Dubai government and government-relat-
ed entities). The rest is foreign borrowings
by banks and corporates not covered by
the implicit government guarantee.
• The UAE remains a net creditor in terms
of its overall international investment po-
sition, but foreign assets have fallen from
a peak of US$63bn in 2006 to US$56bn
in 2009, according to the IMF. Excluding
assets held by SWFs and HNWIs takes the
position into negative territory, to the tune
of US$18bn in 2009.
Not Recovered Yet
Dubai – 5 Year CDS (bps)
Source: BMI
The overall UAE budget is in a solid posi-
tion: even in 2009, we estimate only a small
deficit of 0.2% of GDP, and oil prices and
production have shown significant signs of
recovery since then. We expect 31% growth
in UAE fiscal revenues in 2010, taking
the budget back into a surplus of about
AED27bn (2.6% of GDP). But the picture is
not so sanguine for Dubai, which will have
to rely heavily on bond markets and/or Abu
Dhabi to balance its books. The government
has begun to cut spending: Abdulrahman
Al Saleh, the head of Dubai’s Department
of Finance, told Al-Bayan his department is
planning to trim operating expenses by 15%
this year to reduce the budget gap. However,
he still anticipates a deficit of 2.0% of GDP
for the emirate, and even this figure could
prove optimistic.
Against this backdrop, we expect Dubai
to return to the debt markets in H210 or
2011. Although Saleh has said the emirate
was not under pressure to issue debt, but
was keeping its options open, it was at the
time of writing set to launch a ‘non-bond’
roadshow for fixed income investors in Asia
on August 26.
No More DW Moments…
In terms of nasty debt surprises, the worst
appears to be over. After the Dubai World
(DW) incident in November 2009, corporate
www.meamonitor.com
borrowers have been under severe scrutiny,
and little can surprise a wary market now.
A new-found dependence on bond markets
will make the UAE fiscally accountable,
which it has not always been in the past. Just
as European markets are being pressured
into fiscal austerity by the bond markets, the
UAE authorities know that their actions are
under scrutiny. We are already seeing better
and more timely data provision. Bond yields
are well down on their peaks, and the market
seems sanguine, if not ready to begin lending
again just yet.
If anything, developments on this front
have surprised on the upside, with trans-
parent dealings with Dubai World, its real
estate subsidiary Nakheel and more recently
the Dubai International Financial Centre
(DIFC), all suggesting the government is
keen to clean up balance sheets and pre-empt
another crisis. In August, Nakheel said it
had paid back AED2.5bn of the AED4.0bn
it owed to trade creditors, and that it did
not expect to have to sell assets or cancel
projects to remain solvent. It has also re-
cently announced plans to restart work on six
stalled projects by early October. While we
do not necessarily agree the Dubai property
market is in need of another supply increase,
this will go down well with the investors
who bought off plan, and demonstrates that
the company is once again solvent.
What’s Sukuking?
DIFC 2012 Sukuk Yield (%)
Source: BMI
We have long been bullish on DIFC’s
US$2012 sukuk, in spite of its financial trou-
bles, due to the combination of high yield –
which will attract the attention of international
investors seeking yield in a world of ultra-low
interest rates – and our belief that it is too
important an asset to the Dubai macro story
to be allowed to default. Now, there have been
further details on how this restructuring could
play out: an August report from Standard
& Poor’s (S&P) quotes a spokeswoman for
DIFC as saying that the centre has pledged
to reduce its debts by more than US$1bn by
the end of next year through restructuring of
liabilities and sales of non-core assets. S&P
downgraded the outlook on DIFC’s rating to
negative, but added that it was raising its as-
sumptions of government support from ‘low’
to ‘moderately high’.
Risks to Outlook
We are not sanguine about the outlook for
UAE debt. The 2.6% of GDP surplus we
see for the country in 2010 is not as com-
fortable a margin as many of its neighbours
are recording, and by our calculations, the
break-even oil price given current spending
plans is a worrying US$73/bbl in 2011.
Our core scenario sees an average price
of US$85/bbl. However, a lower price than
either is certainly not beyond the realms
of possibility, given the uncertainty of the
global economic recovery, and the potential
for a renewed slowdown in the US, Chinese
and eurozone economies. Several years of
consecutive lower oil prices and budget
deficits, with no real alternative means of
raising cash other than selling off assets,
could leave this debt pile looking substan-
tially less sustainable.

DATA & FORECASTS

BMI View: We expect the UAE’s budget a deficit of 0.2% of GDP last year. Accord- receive dividends from government invest-
to return to surplus this year and forecast ing to Younis Al Khoori, Director-General ments, alongside receipts from additional
a surplus of 2.6% of GDP, after dropping to of Ministry of the Finance, the budget will government ministries, and contributions

  2007 2008 2009 2010 2011

Population, mn [1] 4.4 4.5 4.6 4.7 4.8
Nominal GDP, US$bn [2] 204.3 251.9 258.8 287.5 308.3
GDP per capita, US$ [2] 46,827 56,156 56,301 61,075 64,157
Real GDP growth, % change y-o-y [2] 5.2 7.4 -2.9 4.8 3.6
AED nominal growth, % change y-o-y [2] 17.8 23.2 2.7 11.1 7.2
Budget balance, AEDbn [2] 69.0 121.9 5.5 34.1 40.2
Budget balance, % of GDP [2] 9.2 13.2 0.6 3.2 3.5
 
Consumer prices, % y-o-y, ave [3] 10.2 11.7 1.7 0.8 3.0
Consumer prices, % y-o-y, eop [3] 11.1 12.3 -0.4 2.0 4.0
Exchange rate AED/US$, ave [4] 3.67 3.67 3.67 3.67 3.67
Exchange rate AED/US$, eop [4] 3.67 3.67 3.67 3.67 3.67
Exchange rate AED/EUR, eop [4] 5.36 5.14 5.33 4.59 4.52
OPEC Basket price, US$/bbl, ave [4] 69.08 94.08 60.10 83.00 85.00
Oil production, ‘000 b/d [5] 2,925.0 2,980.0 2,650.0 2,665.0 2,725.0
 
Goods exports, US$bn [2] 183.0 239.2 180.8 212.5 231.4
Goods exports, % change y-o-y [2] 25.7 30.7 -24.4 17.5 8.9
Goods imports, US$bn [2] 132.1 176.3 149.8 157.3 169.9
Goods imports, % change y-o-y [2] 50.0 33.4 -15.0 5.0 8.0
Balance of trade in goods, US$bn [2] 50.9 62.9 31.0 55.2 61.5
Current account, US$bn [2] 24.0 22.3 -2.9 20.7 25.7
Current account, % of GDP [2] 11.8 8.8 -1.1 7.2 8.3
Foreign reserves ex gold, US$bn [6] 77.2 31.7 30.7 32.0 33.2
Import cover, months g&s [6] 7.0 2.2 2.5 2.4 2.4
 
Total external debt stock, US$mn [6] 144,031.5 170,809.8 173,300.7 183,676.1 197,448.5
Total external debt stock, % of GDP [6] 70.5 67.8 67.0 63.9 64.0
Total external debt stock % of XGS [6] 75.4 68.7 91.7 82.8 81.8
Notes: e BMI estimates. f BMI forecasts. Sources: 1  World Bank/BMI calculation/BMI. 2  UAE Central Bank/BMI; 3  UAE Central Bank; 4  BMI; 5  BP/BMI; 6  IMF/BMI.

www.meamonitor.com OCTOBER 2010 – GULF 5

  KUWAIT
RISK SUMMARY
POLITICAL RISK
Promoting Regional Stability
The Kuwaiti government is seeking to
strengthen its relations with Iran to se-
cure regional peace in the Gulf. Kuwait’s
immediate dialogue with Iran has prima-
rily focused on safety assurances about the
state of the regime’s nuclear reactor, chiefly
owing to the proximity between the two
countries. The Kuwaiti government has
also agreed to share its border oilfields with
Iraq in a bid to prevent future differences
over extraction. We believe that Kuwait’s
foreign policy is in the interests of both the
country itself and peace in the broader re-
gion, which, along with reasonable internal
stability, gives the country a high political
risk rating.
Our short-term political risk rating is 73.1.
ECONOMIC RISK
Budget Surplus To Remain In
Short Term
The Kuwaiti government is planning to
invest in infrastructure projects to develop
and modernise the economy – which we
believe will raise state outlays to 10.0% in
2010, making good use of the comfortable
budget surplus of 30.1% of GDP, before
falling to 5.0% growth in 2011. While
the surplus depends on Kuwait maintain-
ing high oil output and higher global oil
prices, we are optimistic that the govern-
ment’s capital investment plans are ultimately
achievable.
Our short-term economic risk rating is 74.4.
BUSINESS ENVIRONMENT
Gone With The Wind
Kuwait Airways is undergoing privatisa-
tion, with a 40% stake being sold to
public shareholders and 35% to private
investors with intended long term commit-
ments to the firm. The sale forms part of a
nationwide drive to increase privatisations
in addition to, creating a regional financial
centre. We also underline that the Kuwaiti
government is making initial headway on
diversifying its oil-led economy, which should
attract interest from foreign investors and
multinational firms eager to exploit potential
growth opportunities in other sectors of the
economy.
Our business environment rating is 56.6.
6 6 GULF – OCTOBER 2010
Economic outlook
Jobs Still Core Focus
BMI View: The economy will pick up in real terms in 2010, and accelerate in 2011.
However, even within this framework, the rate of job creation will be low, keeping
consumer confidence restrained.
The Kuwaiti economy is likely to be a
regional underperformer over 2010-11, but
with an upward revision from our oil and gas
team’s crude output forecasts, we forecast
2012 to be a bumper growth year.
Growth will continue to be driven by
oil exports and infrastructure, which are
capital intensive and not job-creating,
with consumption failing to reach its po-
tential and true diversification remaining a
distant goal.
If Kuwait is to encourage a dynamic
private sector, it will need to be seen to
take much more welcoming stance toward
potential foreign investors. We expect on-
going problems with the financial sector,
including further debt restructuring among
investment companies, and low lending
activity from banks, keeping private sector
activity subdued.
Better Times Ahead
Kuwait – Nominal And Real GDP Growth (%)
Source: Central Bank of Kuwait, BMI
Kuwait continues to produce a woeful
amount of data, with no confirmed real
GDP numbers even for 2008. However,
with latest nominal GDP data, we now
know that the economy declined by 21% in
nominal terms in 2009, compared with
growth of 22.7% in 2008. This 2009 result
was exactly in line with BMI’s forecast.
The breakdown was interesting in terms
of the impact of the global climate: we had
forecast a significant impact on private con-
sumption and exports, which was borne out
by the figures. Private consumption growth
fell from 12.3% to 5.3% (against inflation
of 4.0%), only slightly outperforming our
forecast of 4.4%.
On the export front, we expected a
catastrophic number, with our oil and gas
team anticipating the 39.5% decline in
the export sector almost exactly – we had
projected a reduction of 32.9%. Kuwaiti oil
production fell from 2.78mn b/d to 2.48mn
b/d in 2009, with exports falling by an even
greater rate as more crude was consumer
domestically.
Steady Recovery
Kuwait – Oil Production, Exports and Consumption
Source: BP Amoco, BMI
In terms of volume, the decline came
in at 14.5%, but in conjunction with the
price downside the OPEC Basket averaged
US$60.1/bbl in 2009. We expect a recovery,
and forecast output of 2.495mn b/d, and
exports of 2.072mn b/d, rising to 2.096mn
b/d in 2011.
On the import side, we forecast a small
contraction of 5%, but the actual downside
was considerably greater, at 14%. This
indicates poor domestic demand, and we
have seen little evidence of improvement.
Imports amounted to KWD981mn in
Q110, and although there was a small rise
to KWD1,030mn in Q210, this was still a
drop of 16.1% y-o-y. We predict the net
export recovery to be a key driver of growth
next year.
Perhaps the biggest surprise from the
2009 figures was the decline in gross fixed
capital formation (GFCF), which we had
expected to hold up better due to ongo-
ing momentum and government support.
Instead it contracted by a catastrophic 41%
in nominal terms in 2009, taking overall
GFCF GDP to mid-2006 levels. We an-
ticipate a recovery in investment in 2010 as
government investment and infrastructure
plans kick in, as demonstrated by several
www.meamonitor.com
recent projects:
• In February 2010, the government ap-
proved a US$108bn infrastructure invest-
ment package that has the potential, at
least in theory, to change the face of the
country in the years to come. The four-
year plan will cover power, water, urban
transport, housing, roads and healthcare
and offer upside risk to our growth
forecasts if efficient progress is made to
attract foreign investment and expertise.
These are not currently factored into our
predictions, as we remain cautious over
the business environment.
• Kuwait is also planning to construct
80,000 housing units over the next six
of the Mubarak Al-Kabeer port develop- project’s manager, Ghaleb Al-Shimmari,
ment project. The third stage is due to be in December 2009, the port complex will
launched in early 2011, which includes have as many as 60 docks once completed.
expansion of the water basin and the
naval channel as well as development Good Old Government
Kuwait – Nominal GDP Growth by Expenditure (%), 2009
of facilities for the port’s operation. The
project is expected to cost around KWD-
400mn (US$1.4bn). The port is intended
to be part of a wider development on the
island of Boubyan, in which the island –
situated at the northern tip of the Persian
Gulf – would become a free trade zone,
a storage area, an oil depot and a site for
recreational services. BMI believes this
port development will provide upside
potential to our current forecasts, which
already predict Kuwaiti trade to grow by Source: BMI

years as part of two new residential cities.
The Public Authority for Housing Welfare
(PAHW)’s ability to meet these ambitious
targets will be contingent on the level of
private sector involvement in the develop-
ments. BMI notes that the government’s
ability to partner with the private sector
on infrastructure issues has historically
left much to be desired, although recent
signs indicate the government is at last
opening up to the idea of greater private
sector involvement in social and physical
infrastructure projects.
• Kuwait’s Ministry of Public Works is
set to begin the third stage of phase one
an average of 3.34% year-on-year from
2010 to 2014.
• BMI believes that Kuwaiti plans to
develop Boubyan Island into a port and
economic free zone will provide the Gulf
state with the means to capitalise on the
huge potential rewards to be found in
Iraq and Iran. The development will
be carried out in four phases and is
expected to cost around US$3.47bn in total.
Fadhel Safar, minister of public works, un-
derlined Kuwait’s ambition for the country
to become a key regional economic trade
hub ahead of the signing of a contract.
According to a statement made by the
All Consuming Employment Problem
We retain concerns about the ability of these
projects to feed through into job creation
among Kuwaitis and a consumer recovery.
Much of the work will be done by foreign
workers employed by foreign companies.
The Boubyan plant deal is a joint venture
between Kuwait’s Kharafi Group and
South Korea’s Hyundai, and most of the
labour will be conducted by non-Kuwaitis,
many of whose wages will be repatriated
in the form of remittances. Remittances
amounted to KWD2.853bn in 2009, up from
KWD2.775bn in 2008.

DATA & FORECASTS

  2007 2008e 2009e 2010f 2011f

Population, mn [5] 2.7 2.7 2.8 2.9 2.9
Nominal GDP, US$bn [6] 111.8 145.9 109.4 137.4 145.0
GDP per capita, US$ [6] 41,980 53,478 39,133 48,001 49,538
Real GDP growth, % change y-o-y [1,6] 4.4 7.7 -4.2 2.0 2.3
KWD nominal growth, % change y-o-y [6] 10.8 22.7 -21.2 24.7 4.2
Budget balance, KWDbn [2,6] 9.3 2.7 8.2 11.7 12.4
Budget balance, % of GDP [2,6] 28.6 6.9 25.9 29.8 30.2
 
Consumer prices, % y-o-y, ave [6] 5.5 10.6 4.0 2.5 3.5
Consumer prices, % y-o-y, eop [6] 7.5 9.0 2.1 3.0 4.0 BMI View: We project real GDP growth
Lending rate, %, eop [7] 4.8 0.5 0.5 1.5 3.5
Real lending rate, %, eop [3,8] -2.8 -8.5 -1.6 -1.5 -0.5 of 2.0% in 2010, although this will largely
Exchange rate KWD/US$, ave [9] 0.29 0.27 0.29 0.29 0.28 come on the back of oil export perform-
Exchange rate KWD/US$, eop [9] 0.27 0.28 0.29 0.29 0.28 ance and government spending on de-
Exchange rate KWD/EUR, eop [9] 0.40 0.39 0.42 0.36 0.34
OPEC Basket price, US$/bbl, ave [9] 69.08 94.08 60.10 83.00 85.00 velopment projects. By 2011, real GDP
Oil production, ‘000 b/d [10] 2,636.0 2,782.0 2,481.0 2,495.0 2,525.0 growth will pick up to 2.3% in line with
 
Goods exports, US$bn [6] 62.1 81.3 52.6 66.2 67.9 our rising oil price forecast and an increase
Goods exports, % change y-o-y [6] 6.6 30.9 -35.3 26.0 2.5 in private consumption.
Goods imports, US$bn [6] 20.1 23.3 23.6 22.1 23.3
Goods imports, % change y-o-y [6] 41.2 15.7 1.6 -6.7 5.7
Balance of trade in goods, US$bn [6] 42.0 58.0 28.9 44.2 44.6
Current account, US$bn [6] 46.3 56.2 31.1 45.7 44.6
Current account, % of GDP [6] 41.4 38.5 28.4 33.3 30.7
Foreign reserves ex gold, US$bn [4,6] 16.2 16.6 17.6 17.6 19.4
Import cover, months g&s [4,11] 5.9 5.1 5.4 5.7 6.0
Notes: e BMI estimates. f BMI forecasts. 1  At Constant 2000 Prices; 2  2008 refers to FY08/09 (beginning March 2008);
3  Real rate strips out the effects of inflation; 4  Most of Kuwait’s reserve assets are held in external funds, and are not
included here.; Sources: 5  World Bank/BMI calculation/BMI. 6  Central Bank of Kuwait, BMI Forecasts; 7  IMF; 8  IMF/BMI;
9  BMI; 10  BP Amoco, BMI Forecasts; 11  Central Bank of Kuwait, BMI Calculation.

www.meamonitor.com OCTOBER 2010 – GULF 7

  QATAR
RISK SUMMARY
POLITICAL RISK
Fast Growth Can Be Trouble
Domestic political pressures are limited in
Qatar, thanks to the high levels of income
and the general wealth of the country. Sheikh
Hamad remains in full control of the political
agenda, while Qatar continues to develop
and improve relations with neighbouring
states, especially Saudi Arabia and other
GCC states. One key challenge for the gov-
ernment will be to deal with the impressive
pace of growth of its economy, on the back
of the massive liquefied natural gas export
boom. Foreigners now outnumber Qatari
nationals, creating disequilibrium on the
labour market and giving locals grounds to
complain that they are being paid less than
some non-Qataris.
Our short-term political rating is 85.8.
ECONOMIC RISK
Inflationary Pressures
Subdued
Consumer prices have fallen by 2.3% in 2010
y-o-y, after we revised our forecast down
from -0.7% due to the ongoing supply-driven
real estate crisis. Qatari consumer prices fell
in May, continuing the previous four months
of y-o-y deflation. Despite the latest release
from the State Statistical Office showing a
0.1% month-on-month (m-o-m) rise in June
headline inflation, the y-o-y figures show
continuing deflation through H110. None-
theless we see the Qatari consumer price
index picking up over the medium term,
closing 2010 at 1.2% and 2011 at 3.0%.
Our short-term economic rating is 76.9.
BUSINESS ENVIRONMENT
Increasingly Attractive
Conditions
The Qatari business environment is flourish-
ing due to strong liquidity provided by oil and
gas revenues, with all sectors being improved
through new investment. The H110 results
show 41 out of 42 listed companies on the
Doha Stock Market making profit in the first
six months of the year. Given the wealth of
the country and the government’s openness
to reforms, Qatar provides an attractive
business environment, ranking 4th among
its Gulf counterparts, according to BMI’s
Business Environment ratings.
Our business environment rating is 56.4.
8 8 GULF – OCTOBER 2010
economic outlook
Government-Driven Asset
Growth
BMI View: On the back of solid growth in loans and encouraged by the surge in oil
prices, we continue to believe the Qatari banking sector will outperform in the Gulf
region. We have revised up our 2010 loan growth forecast to 20.0% with an average
rate of 14.0% through the rest of our forecast period to 2014. While public sector loans
are surpassing those directed to the private sector, we expect the proportion to rebal-
ance, with a recovery in private demand and a pickup in real estate sector from 2011.
Compared to its GCC counterparts, Qatar recovery in private demand and also a poor
has recorded impressive asset growth since performance in the real estate sector.
the beginning of 2010. Here it diverges from
the regional trend – in which overall com- Public Sector Driving Loan Growth
Public And Private Sector Loans, % chg y-o-y
mercial banks’ asset growth has dropped
to lower than 7.1% y-o-y – by shooting
up past 20.0%, where it has stayed ever
since. The Qatari banking sector appeared
less vulnerable to the Dubai World crisis and
less responsive to the general uncertainty
about loan quality, averaging a loan growth
rate of 22.8% in H110, compared to the
UAE’s 2.6% and Saudi’s 1.8% (January to
April data only).
Leading The Gulf Source: BMI
GCC Countries, Asset Growth, % chg y-o-y
On the other hand, private sector lend-
ing has been suffering, growing by only
6.8% y-o-y in the first six months of 2010,
on the back of a sluggish recovery in
private demand as well as a poor perform-
ance in the real estate sector.
Despite a good general outlook for Qatari
economy, which is set to grow by 15.2% in
real terms this year, and a relatively bright
picture revealed by the Doha Securities
Source: BMI Market, the real estate sector has failed to
recover. Due to a sluggish pickup in demand,
The main driver of loan growth for lending to the real estate sector slowed dra-
Qatari banks in H110 was lending to the matically to average 3.4% y-o-y growth in
public sector, which has more than doubled Q210, compared to 43.1% in 2009. In line
over the course of the last 12 months, aver- with the government’s regulatory limit, the
aging a 114.3% y-o-y growth rate. This is banks have reduced their exposure to the real
due to continuous reforms and investment estate sector, with loans in that direction ac-
plans that the government is undertaking, counting for 14.0% of the total in June, just
combined with lending to the government below the 15.0% imposed boundary.
through the latter’s bond issuances - the We also expect strong deposit growth,
most recent, in May, was worth QAR10bn. forecasting 18.0% expansion in deposits in
With a US$160bn capital expenditure for the 2010 and stabilizing to around 11.0% over
next five years announced by Qatar, further the 2011-2014 forecast period. Nevertheless,
sector-specific bonds could be issued in the despite the positive outlook on deposits,
coming quarters. On the other hand, lend- the expansion of loans will outpace it and
ing to the private sector has been suffering, bring the loan-to-deposit ratio up to 111.4%
growing by only 6.8% y-o-y in the first six by end-2010, increasing further to average
months of 2010, on the back of a sluggish 120.2% to 2014.
www.meamonitor.com
Economic outlook

Low Single-Digit Inflation in Qatar. Its demanding investment plans

for the coming years will require large
volumes of capital goods to be imported.

For 2010 With most of the country’s food require-

ments being imported, further inflationary
risks for Qatar consumer prices stem from
BMI View: We see consumer prices falling by 2.3% in 2010, compared to the previous
exchange rate weakness. Although our core
year, having revised down our forecast from -0.7%, due to the ongoing over supply-
view does not include a prolonged weak-
driven real estate crisis. Nonetheless we see the Qatari consumer price index picking
ness of the dollar, in the short term we see
up over the medium term, closing 2010 at 1.2% and 2011 at 3.0%.
the eurozone single currency strengthening
Qatari consumer price inflation fell in June, In H110, the rent, fuel and power compo- further from its current US$1.30/EUR to
continuing the previous five months’ trend nent which weighed 32.0% of the Qatari US$1.38/EUR.
of y-o-y decrease. Despite the latest release consumer price basket fell by 14.7% y-o-y,
from the State Statistical Office showing a mainly driven by rent. Food prices, on the Loosening Monetary Policy
0.1% m-o-m rise in June headline inflation, other hand, increased by 1.3% y-o-y over Against the backdrop of ongoing consumer
compared to -0.1% in February, the y-o-y the same period. price deflation, on August 11 the Central
figures reveal a continuing deflationary We see Qatari inflation closing the year Bank of Qatar cut the overnight deposit rate
picture throughout H110. Headline infla- at 1.2% y-o-y, pushing the average growth by 50bps, to 1.5%, for the first time since
tion came in at -3.8% in the first six months of the consumer price index over 2010 to 2008. We do not see the central bank taking
of 2010, compared to the same period last -1.5%. In the longer term, with a recovery in any further action for the rest of the year,
year. Due to the impact of the global credit domestic demand, we expect consumer price and have revised down our forecast for 1.5%
crunch, consumer prices fell 4.9% in 2009 inflation in Qatar to settle at a 4.0% y-o-y by the end of 2010. Although the Qatari
for the first time since 2003. through our 2011-2014 forecast period, once economy is projected to grow by 15.2% in
The main driver of Qatari deflation is the global macroeconomic picture stabilises real terms this year, the government is also
the real estate sector, with an over-supply and risk appetite starts to pick up. focusing on growth of the non-oil sector,
of properties and relatively high prices which we believe is the main reason for
coming onstream just as demand was hit Imports Contributing To Inflation the monetary policy decision. The repo rate
by the effects of the global financial crisis The weakening US dollar could boost stayed unchanged 5.55%, in line with our
and contagion from the downturn in Dubai. import prices across the Gulf, particularly end of year forecast.

DATA & FORECASTS

  2007 2008 2009e 2010f 2011f

Population, mn [4] 1.1 1.3 1.4 1.5 1.5
Nominal GDP, US$bn [5] 80.8 110.7 98.3 140.9 153.8
GDP per capita, US$ [5] 70,986 86,436 70,479 93,370 100,258
Real GDP growth, % change y-o-y [5] 26.8 25.4 8.6 15.1 10.3
QAR nominal growth, % change y-o-y [5] 33.5 37.1 -11.2 43.3 9.2
Unemployment, % of labour force, eop [6] 3.0 3.0 3.0 3.0 3.0
Budget balance, QARbn [1,5] 33.0 38.9 36.2 64.8 64.5
Budget balance, % of GDP [1,5] 11.2 9.6 10.1 12.6 11.5
Consumer prices, % y-o-y, ave [5] 13.6 15.2 -4.9 -0.7 3.0
Consumer prices, % y-o-y, eop [5] 13.7 13.2 -10.0 3.0 3.0
Lending rate, %, eop [7] 7.6 6.2 7.0 7.0 7.5 BMI View: We continue to see Qatar as the
Real lending rate, %, eop [2,7] -6.2 -7.0 16.9 4.0 4.5
Exchange rate QAR/US$, ave [8] 3.64 3.64 3.64 3.64 3.64 strongest growth story in the Gulf Region,
Exchange rate QAR/US$, eop [8] 3.64 3.64 3.64 3.64 3.64 on the back of massive gas exporting activi-
Exchange rate QAR/EUR, eop [8] 5.31 5.10 5.28 4.59 4.48
OPEC Basket price, US$/bbl, ave [8] 69.08 94.08 60.10 83.00 85.00 ties and openness to reforms. As such, we
Oil production, ‘000 b/d [9] 1,197.0 1,378.0 1,508.0 1,688.0 1,738.0 expect its economy to grow by an impressive
Goods exports, US$bn [5] 42.0 54.9 54.2 84.1 90.1 15.2% in real terms this year and to average
Goods exports, % change y-o-y [5] 23.4 30.7 -1.3 55.2 7.2
Goods imports, US$bn [5] 19.8 25.1 25.1 27.6 31.0 a strong 6.5% over the 2011-2014 period.
Goods imports, % change y-o-y [5] 33.9 26.8 0.0 10.0 12.0
Balance of trade in goods, US$bn [5] 22.2 29.8 29.0 56.5 59.1
Current account, US$bn [5] 10.4 14.2 13.4 35.3 36.3
Current account, % of GDP [5] 12.9 12.8 13.6 25.0 23.6
Foreign reserves ex gold, US$bn [3,7] 9.4 9.5 17.1 18.8 20.7
Import cover, months g&s [3,7] 5.7 4.5 8.2 8.2 8.0
Total external debt stock, US$mn [7] 53,618.0 69,704.0 79,463.0 83,436.0 87,608.0
Total external debt stock, % of GDP [7] 66.4 63.0 80.8 59.2 57.0
Total external debt stock % of XGS [7] 117.5 119.5 138.4 95.3 93.5
Notes: e BMI estimates. f BMI forecasts. 1  Fiscal Year begins April 1; 2  Real rate strips out the effects of inflation; 3  Not
inclusive of Qatar Investment Authority; Sources: 4  World Bank/BMI calculation/BMI. 5  QCB/BMI; 6  ILO; 7  IMF/BMI;
8  BMI; 9  BP/BMI.

www.meamonitor.com OCTOBER 2010 – GULF 9

  IRAQ
RISK SUMMARY
POLITICAL RISK
Troops Leave On Shaky
Ground
As the US army gradually exits Iraq, with the
latest figures at the time of writing leaving
around 50,000 troops in the country, we
believe there is an elevated risk that Iraq is
not yet ready to effectively govern. Indeed,
sporadic episodes of violence still occur
across the country and the Iraqi parliament
has not yet confirmed a leader following
March’s parliamentary elections.The reduc-
tion of foreign military presence may lead
to a rise in militant-led violence, exploiting
the lack of firm security and governance to
prolong instability and further their own
interests, and this is reflected in our low
political risk rating.
Our short-term political risk rating is 42.9
ECONOMIC RISK
Still Tentative
Iraq’s budget balance will remain in surplus
this year, at 0.3% of GDP, and fall into
deficit by 2011 to 1.5% of GDP. Although
at first glance this seems to bode ill for
the economy, we believe the sheer scale
of reconstructive efforts within the public
sector will require ongoing government
investment, and the deficit will be a short-
term issue as oil revenues begin to rise.
However, we note that the economy will
remain dependent on the oil sector in the
short term, and is therefore vulnerable to
oil price fluctuation.
Our short-term economic risk rating is 49.0
BUSINESS ENVIRONMENT
Moving Up A Gear
The Iraqi Industry Ministry has reached an
agreement with a Chinese automaker to pro-
duce 10,000 cars in the country. The ministry
is also in talks with Renault to manufacture
trucks in the country. Notably, the talks focus
on manufacturing operations being established
in the country to both develop the economy
and meet domestic demand at lower cost
than imports. This interest from France and
China underlines the potential for growth
in the country as widespread infrastructure
projects begin to take hold, and the demand
for automobiles accordingly.
Our business environment rating is 30.0
10 10 GULF – OCTOBER 2010
Political outlook
Security Risks Could Delay
US Withdrawal Beyond 2011
BMI View: Iraq faces growing risks of a security vacuum, as the US proceeds with its
troop withdrawals, and this could result in more terror attacks and interethnic violence.
Consequently, the US may find it difficult to carry out a full withdrawal in 2011. Mean-
while, Iraq’s neighbours – principally Iran and Saudi Arabia – will seek to maximise their
geopolitical influence in the country as part of a broader regional power struggle.
Iraq faces growing risks of a security
vacuum, as the US proceeds with withdraw-
ing its troops from the country. The US is
scheduled to reduce its military presence to
50,000 soldiers by September 1 2010, from
around 65,000 in August. After September
1, the US military will formally assume an
advisory, as opposed to combat, role, training
and supporting Iraq’s army and police. These
50,000 troops are scheduled to be completely
withdrawn by the end of 2011.
While the departure of the US military
has long been favoured by Washington and
Baghdad, there are growing concerns in both
capitals that Iraqi security forces are not strong
enough to maintain order. Calls to extend the
US military presence have come from op-
posite ends of Iraq’s political spectrum. On
August 11, Iraqi armed forces chief of staff
Lt-Gen Babakar Zebari stated that the military
would not be prepared to ensure security
until at least 2020 and real problems would
begin after 2011, when Iraq would be devoid
of US troops. Zebari’s views are believed to
be shared by Iraqi and American generals.
A week earlier, Tareq Aziz, who served as
deputy prime minister to former president
Saddam Hussein, gave a rare newspaper inter-
view from prison warning that the US pull-out
would ‘leave Iraq to the wolves’.
The Iraqi Military’s Main Challenges
The US military dissolved the Iraqi army
in April 2003 after ousting Saddam Hus-
sein. Many security experts now believe
that decision was a major mistake, as many
well-trained military personnel ended up
joining the insurgency. The US has been re-
constructed and re-equipped the Iraqi armed
forces, which now number 220,000 soldiers
and 440,000 police. Yet the army is still far
smaller than the 375,000+ troops on the eve
of the US invasion of Iraq in 2003. There are
concerns about the Iraqi forces’ readiness,
and the US has provided considerable logisti-
cal assistance in operations such as combat
raids. As long as it is backed by 50,000 US
troops, the Iraqi military will have a greater
aura of strength. But the real test for Iraqi
forces will come in 2012.
Internal Security Challenges
Ongoing Insurgency: The main internal
security challenge is tackling the ongoing
insurgency. Although the insurgency declined
considerably after the US troop surge, which
was accompanied by a deal to bring Sunni
militants into the political process, violence
increased this year. On August 1, the Iraqi
government said a total of 396 civilians were
killed by attacks in July, compared with 204
in June and 275 in May. We have real con-
cerns that the US troop withdrawal, combined
with an ongoing impasse in Baghdad after
March’s inconclusive parliamentary elec-
tions, will lead to a security vacuum that will
be exploited by insurgents.
Inter-ethnic Violence: This vacuum could
also lead to increased inter-ethnic violence.
Since the fall of Saddam Hussein, Iraq’s
hitherto repressed Shi’a majority has asserted
itself, bringing it into conflict with the previ-
ously politically dominant Sunni minority.
As Iraq appeared to be on the brink of civil
war at several points in the early phase of the
US occupation, renewed inter-ethnic violence
is highly plausible, particularly if the post-
election deadlock fails to be resolved to the
satisfaction of all parties. Any violence would
probably be precipitated by the Sunnis, since
the Shi’a are now entrenched in authority.
External Security Challenges
Border Security: Iraq shares borders with
six countries: Iran, Kuwait, Saudi Arabia,
Jordan, Syria, and Turkey. Of these, at least
three borders are a concern. Iraq and Iran have
long disputed their borders, waging a brutal
war from 1980-1988. In December 2009,
Iranian troops briefly seized a disputed oil
field on their joint border in an apparent test
of Iraqi resolve.
Iraq and Saudi Arabia both fear cross-
www.meamonitor.com
border terrorism, and Saudi Arabia has built
a security fence along their shared border.
Iraq’s border with Syria has been a concern
in the past, amid fears that Damascus was
allowing terrorists to infiltrate Iraq, although
this fear has since diminished. Iraq’s border
with Turkey has seen the most visible viola-
tions.The Turkish army frequently carries out
incursions into northern Iraq to attack Turkish
separatist rebels and their bases. As Iraq’s
neighbours have more powerful militaries
than itself, it will be some time before Bagh-
dad’s security forces can defend its borders
from foreign incursions.
Regional Power Dynamics: Iraq’s central
position in the Middle East gives it tremen-
dous geopolitical importance. In the 1980s,
Iraq received solid backing from the West,
Saudi Arabia, and other Gulf states as a
bulwark against radical Iranian Shi’a funda-
mentalism. However, after Saddam turned
against the West by invading Kuwait in 1990,
fears grew that Iraq would threaten Saudi
Arabia. After the 1991 Gulf War, the West
switched to dual containment of Iraq and Iran,
and Baghdad’s relative strength served as a
restraint on Tehran’s regional ambitions. But
for the foreseeable future, Iraq will be unable
and unwilling to play its traditional role as a
counterweight to Iran. Iran will seek to max-
imise its influence in Iraq as part of its bid for
regional hegemony.
US May Be Forced To Stay Beyond 2011
In light of Iraq’s internal and external se-
curity challenges, the US may be forced to
keep its military in the country well beyond
2011. It would be politically desirable for US
President Barack Obama to remove American
troops by the start of 2012, as he will seek
re-election in November of that year, but
this must be balanced with the situation on
the ground. We see three scenarios emerging.
1: Successful Withdrawal In 2011: The US
withdraws all troops in 2011 as scheduled, and
the Iraqi authorities keep the country stable
without external assistance. The departure of
US forces removes a key justification for the
insurgency. There will still be terrorism, but
this will constitute the ‘last throw of the dice’
by insurgents. Meanwhile, interethnic vio-
lence is contained by a coalition in Baghdad
and a high degree of autonomy for the prov-
inces. We deem this scenario unrealistic, given
the domestic challenges facing the Iraqi polity.
2: US Withdraws... But Violence Flares
Up In 2012: The US withdraws all troops
in 2011. Armed groups refrain from causing
trouble during the American pull-out, since
they do not wish to see the US presence pro-
longed. Once the US military has gone, an
upsurge in terrorism and unrest strike Iraq,
which the authorities are unable to contain.
We believe this is a reasonably likely sce-
nario. Obama would have to decide whether
to redeploy tens of thousands of troops to Iraq,
although this would be highly controversial
once they have left.
3: US Postpones Withdrawal, Citing Vio-
lence. As the US prepares for full withdrawal
in 2011, violence resurges. The Iraqi gov-
ernment, hitherto keen to see the US leave,
asks Washington for a renegotiation of the
agreement that stipulates that the US must
leave by end-2011. Any renegotiation would
be unpopular among Iraqis and US votes, but
could be portrayed as a political necessity. The
US decides it will need many more years to
fully train and equip the Iraqi army, and retains
tens of thousands of support troops in Iraq for
the long haul – at least 10 more years, but po-
tentially even decades, as is the case with the
American military presence in post-war South
Korea, Japan, and Germany. This US presence
would support Iraq’s armed forces,and deter
Iran from geopolitical shenanigans.
We believe the retention of a significant
US military presence in Iraq and renewed
unrest constitute the most probable scenario.

DATA & FORECASTS

  2007 2008 2009e 2010f 2011f

Population, mn [4] 29.9 30.7 31.5 32.3 33.1
Nominal GDP, US$bn [5] 86.0 131.0 112.7 139.5 151.6
GDP per capita, US$ [5] 2,871 4,266 3,578 4,320 4,581
Real GDP growth, % change y-o-y [6] 0.4 10.8 4.9 3.4 4.7
IQD nominal growth, % change y-o-y [7] 12.8 44.3 -15.3 23.8 8.6
Unemployment, % of labour force, eop [8] 18.0 18.0 18.0 18.0 18.0
Budget balance, IQDbn [7] 15,568.0 20,849.0 -11,001.0 416.0 -2,706.0
Budget balance, % of GDP [7] 14.4 13.4 -8.3 0.3 -1.5
Consumer prices, % y-o-y, ave [7] 32.6 2.8 -2.8 4.0 5.0
Consumer prices, % y-o-y, eop [7] 4.7 6.8 -4.4 5.0 5.0
Lending rate, %, eop [1,9] 21.8 17.7 14.4 13.0 12.0 BMI View: Real GDP growth in Iraq will de-
Real lending rate, %, eop [2,6] 17.1 10.9 18.8 8.0 7.0 pend heavily on the oil and gas sector, which
Exchange rate IQD/US$, ave [10] 1,254.00 1,188.00 1,170.00 1,170.00 1,170.00
Exchange rate IQD/US$, eop [10] 1,217.00 1,172.00 1,170.00 1,170.00 1,170.00 is still in the early days of recovery. Deals and
Exchange rate IQD/EUR, eop [10] 1,775.00 1,641.00 1,697.00 14,63.00 1,439.00 contracts are being awarded, albeit slowly as
OPEC Basket price, US$/bbl, ave [10] 69.08 94.08 60.10 83.00 85.00
a result the country’s inefficient bureaucracy.
Oil production, ‘000 b/d [11] 2,144.0 2,423.0 2,482.0 2475.0 2,525.0
Goods exports, US$bn [12] 39.6 63.7 - - 56.3 We believe real GDP growth will be 3.4%
Goods exports, % change y-o-y [12] 29.7 61.0 - - - in 2010, rising to 4.7% by 2011 on the back
Goods imports, US$bn [12] 16.6 30.2 34.7 39.9 44.7
Goods imports, % change y-o-y [12] -11.1 81.5 15.0 15.0 12.0 of higher oil prices and output.
Balance of trade in goods, US$bn [12] 23.0 33.6 - - 11.6
Current account, US$bn [12] 19.6 32.3 - - 7.7
Current account, % of GDP [12] 22.8 24.7 - - 5.1
Foreign reserves ex gold, US$bn [3,7] 31.4 50.2 42.6 - -
Import cover, months g&s [3,7] 17.5 16.1 12.0 - -
Total external debt stock, US$mn [6] 101,900.0 94,900.0 95,700.0 40,900.0 40,000.0
Total external debt stock, % of GDP [6] 118.5 72.4 84.9 29.3 26.4
Total external debt stock % of XGS [6] 251.9 144.5 - - 67.5
Notes: e BMI estimates. f BMI forecasts. 1  Short-and medium-term bank rate to private sector; 2  Real rate strips out the
effects of inflation; 3  Net Foreign Assets used as proxy for Foreign Reserves; Sources: 4  World Bank/BMI calculation/BMI.
5  OPEC/CBI/BMI; 6  IMF/BMI; 7  CBI/BMI; 8  COSIT/UN; 9  IMF; 10  BMI; 11  BP/BMI; 12  IMF/CBI/BMI.

www.meamonitor.com OCTOBER 2010 – GULF 11

 IRAN
...continued from top of front page peach the president if he continues to ignore
RISK SUMMARY and reject the allocation of funds, fuelling
Conflicting accounts paint it as either an out- animosity between the Larijani brothers and
POLITICAL RISK right assassination attempt, or a celebratory Ahmadinejad.
Rushing In firecracker. If it was indeed an assassination More significantly, repeatedly counter-
Russia and China are defending their ties with
attempt, it is evidence of escalating dissatis- ing parliament gives the impression that the
Iran as both face rising pressure from the US
faction against the regime, and the president president is unwilling to yield power – an
to impose further economic sanctions. One
in particular. image detrimental to the structure of the
of Iran’s nuclear power plants is on schedule regime, since it undermines the position held
to begin producing electricity by the end
Simmering Tensions by Supreme Leader Ayatollah Khomeini and
of 2010. It is due to receive a shipment of
The Iranian theocracy, dominated by high- invites criticism from opposition groups and
nuclear fuel from Russia in August to activate
profile religious leaders, has a longstanding hardliners alike.
the reactor. The deal underlines that political
history of competing figures and networks of It is possible that Khomeini could replace
relations with Russia are still good, and sup-
patronage. The media’s publicising the de- Ahmadinejad before the next scheduled elec-
port Iran’s claims that its nuclear ambitions
bacle concerning the Larijani brothers could tions to reduce infighting and stabilise his
are not aimed at making weapons. Beijing has
give momentum to drive political change. own power. This possibility is backed up by
also defended its ties with Iran, reiterating
The urge toward political reform stems the fact that various publications circulating
that its business deals are legitimate and do
from the government’s tight grip on eco- in Iran, including the more conservative-
not support nuclear enrichment.
nomic policies and its inability to pass leaning papers, are using increasingly strong
Our short-term political rating is 47.3.
or carry out unpopular measures, as seen language to imply that the current regime is
when Tehran bazaaris went on strike after looking more unstable and that Ahmadinejad
ECONOMIC RISK a tax hike in July 2010. Further evidence of is becoming too powerful. At present, the
a power struggle came when the president president has limited strategic support from
Trade Ties Strengthening refused to pass various laws and funding a religious ultra-conservative group but
Iran and Syria are planning to raise the value measures approved by parliament to develop recently its influential daily paper Keyhan
of bilateral trade from US$400mn to US$2bn the economy. This led to Ali Larijani stating adopted a highly critical tone regarding the
in 2010, including the possible establishment that parliament could use its power to im- president’s attitude to power.
of a free trade agreement. Iran’s move to
strengthen its export market is no surprise, DATA & FORECASTS
with the latest US and EU sanctions taking a
BMI View: Our GDP projection for Iran has been revised down in light of the most recent
toll on economic growth. Iran’s exports are
economic sanctions – chiefly the energy sector-specific conditions imposed by the US, the EU
dominated by oil and gas, but the govern-
and a select few other countries. We forecast real GDP growth for 2010/2011 to be 1.2%, rising
ment is belatedly attempting to diversify the
marginally to 1.6% the following year. The government’s misdirected public sector spending is
economy and secure lucrative deals with its
also stifling growth, prolonging unemployment and low consumer spending.
trade partners. Syria, a political ally under-
going rapid economic reform which should
  2008 2009e Latest Period 2010f 2011f
filter into high demand for foreign goods, is
Population, mn [4] 72.0 72.9 - - 73.9 74.8
an attractive choice. Nominal GDP, US$bn [1,5] 361.9 372.4 - - 417.6 453.6
Our short-term economic rating is 51.3. GDP per capita, US$ [1,5] 5029 5107 - - 5654 6062
Real GDP growth, % change y-o-y [1,5] 1.0 1.6 - - 1.2 1.6
IRR nominal growth, % change y-o-y [1,5] 20.1 7.3 - - 15.5 14.1
BUSINESS ENVIRONMENT Unemployment, % of labour force, eop [1,6] 12.5 14.0 - - 13.5 13.0
Budget balance, % of GDP [1,5] -5.3 -4.5 - - -4.9 -5.0
Sold Out? Consumer prices, % y-o-y, eop [1,5] 17.8 10.4 10.3 Apr-10 18.0 16.0
The Iranian government has been busy sell- Lending rate, %, eop [1,7] 12.0 10.0 12.0 Apr-10 10.0 12.0
Real lending rate, %, eop [2,7] -5.8 -0.4 1.7 Apr-10 -8.0 -4.0
ing off partial stakes in various state-owned
Exchange rate IRR/US$, eop [8] 9,825.00 9,895.00 9,970.00 27-May10,390.0010,909.00
enterprises to raise revenues. At the same Oil production, ‘000 b/d [9] 4325.0 4185.0 - - 4180.0 4250.0
time, the Tehran Stock Exchange has intro- Goods exports, US$bn [1,5] 100.6 76.3 23.0 Q409 93.7 100.6
Goods imports, US$bn [1,5] 68.5 58.3 17.8 Q409 67.0 73.7
duced new tradable products with further Balance of trade in goods, US$bn [1,5] 32.0 18.1 5.2 Q409 26.7 27.0
hopes of enticing investors. Japan’s Toyota Current account, US$bn [1,5] 24.0 10.0 3.3 Q409 17.6 16.5
has suspended its car exports to Iran under Current account, % of GDP [1,5] 6.6 2.7 - - 4.2 3.6
Foreign reserves ex gold, US$bn [3,7] 79.6 74.6 - - 86.3 97.4
increasing pressure from the West, underlin- Import cover, months g&s [7] 10.8 11.8 - - 12.0 12.3
ing the deteriorating business environment Total external debt stock, US$mn [1,5] 21,499.0 22,574.0 22.1 Dec-09 23,703.0 24,651.0
Total external debt stock, % of GDP [1,5] 5.9 6.1 - - 5.7 5.4
that has been factored into our low rating Total external debt stock % of XGS [1,5] 19.3 26.4 - - 22.9 22.2
for Iran. Short term debt as a % of International reserves [1,10] 8.3 9.1 - - 8.2 7.6
Our short-term composite rating is 43.543.5. Our Short term foreign debt, % of total [1,5] 30.7 30.0 36.9 Dec-09 30.0 30.0
business environment rating is 30.7. Notes: e BMI estimates. f BMI forecasts. 1  Year Begins in March (Iranian calendar); 2  Real rate strips out the effects of
inflation; 3  Year Begins in March (Iranian calendar); includes OSF; Sources: 4  World Bank/BMI calculation/BMI. 5  CBI/BMI;
6  Statistical Centre of Iran; 7  IMF/BMI; 8  BMI; 9  BP/BMI; 10  CBI/BMI/IMF.

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