In 2016, the report expects inflation rate for Arab countries as a group to rise to 7.4 percent in 2016, reflecting the inflationary pressures resulted from the ongoing governments’ efforts to reform subsidy systems. In addition to the expectations of increased inflation rates augmented by demand pull factors, due to the expected rise in wages and salaries in some Arab countries. On the other hand, the shortage in the supply side for goods and services in some Arab countries that witness internal developments will be reflected on the domestic price level in these countries. Furthermore, some Arab countries will witness inflationary pressures due to the depreciation of their local currencies. These circumstances could increase the pass through effect of local currencies depreciation to the domestic prices. On the contrary, the decline in oil prices combined with the reduction in investment expenditure would lessen inflationary pressures in a number of Arab countries this year. In 2017, inflation rate in the Arab countries as a group is expected to rise to about 8.1 percent in light of the anticipated relative increase in the global prices of oil and basic commodities, due to the expected improvement in global economic performance.
On the monetary policy front, most Arab countries with fixed exchange rate regimes increased their overnight deposit rates by 25 bps in response to the US interest rate hike. Oil exporting Arab countries face the challenge of decreasing oil prices with the possibility of increasing their interest rates to follow the expected increases in rates in the United States throughout 2016 and 2017. While in oil importing Arab countries, decreasing commodity prices help dampen headline inflation, especially for those countries which have fully liberated energy prices. Yet the challenge for some of those countries is the continuous depreciation in their currencies which adds inflationary pressures on their economies.
As for banking developments, lower oil prices and an economic slowdown in oil exporting countries are expected to negatively affect the growth rate of deposits, especially considering the size of their financial systems. Yet, the main challenge in the coming years is to maintain a low level of non-performing loans, highlighting the importance of sustaining government expenditure levels to boost domestic demand without jeopardizing fiscal sustainability.
In terms of public finance, the declining trend of oil prices has influenced public finance situation in Arab countries in diverse ways. The Arab oil-exporting countries have been affected negatively by the lower international oil prices which significantly lowered oil revenues (the major source of Arab consolidated public revenues) by 42 percent in 2015. On the other hand, lower oil prices eased pressures on public finance in Arab oil-importing countries, especially in light of the rising cost of energy subsidies. As a result, the estimated consolidated budget deficit for the Arab countries as a group is estimated to increase to 11.4 percent in 2015 compared to 2.8 percent of GDP in 2014. In this context, it is very obvious the tendency of many Arab countries to implement wide and diversified range of fiscal reforms aiming at rationalizing public spending, enhancing public revenues to ensure budget consolidation and fiscal sustainability, particularly in the light of the challenges facing fiscal policy in these countries.
Tax reform came at top of these reforms, as several reforms have been implemented in a number of Arab countries to enhance tax revenues and ensure equitable and efficient tax system through revising income and corporate tax systems, adoption or reforming value added tax, and directing taxation to support small and medium-sized enterprises and promising regions. On the other hand, several policies have been implemented to lower public spending mainly through rationalizing current expenditures via containing increases in payroll expenses and reforming subsidy systems, in addition to measures to increase the efficiency of capital expenditures. Arab governments also, paid great attention to achieve higher levels of efficiency and transparency of public finance and debt management.
Consolidated budget deficit of Arab countries as a group is expected to rise slightly in 2016, to 11.6 percent of GDP, as oil revenues will continue to decrease, while tax revenues are expected to be affected by sluggish growth at the international and regional levels. Nevertheless, public spending is projected to decrease by 6 percent this year as a result of fiscal discipline policies, which will help reduce pressures on consolidated public budget of Arab countries as a group. In 2017, public finance is expected to see a significant improvement, amid expectations of higher revenue as a result of expected increase of oil prices by 15 percent next year. Furthermore, tax revenues are expected to rise owing to the anticipated expansion of economic activity in the Arab countries and their major trading partners. Moreover, the consolidated public budget will positively benefit from fiscal reforms implemented in Arab countries within time frame extending to 2020. As a result, public budget deficit for the Arab countries as a group is forecasted to decline to 7.8 percent as percentage of GDP in 2017.
Concerning external sector, the declining trend of oil prices will continue its impact on the performance of current account of the Arab countries as group during 2016. However, the relative recovery of the Euro zone would affect positively the performance of non-oil exports of Arab countries. In addition, the US dollar interest rate hike will reflect positively on the proceeds of the investment income for Arab countries. As a result the report expects that the current account deficit for Arab countries as a group will reach USD 137.8 billion dollars (representing 5.5 percent of GDP) in 2016 compared with USD 105.7 billion dollars for the deficit recorded in 2015. Concerning 2017, the report expects that the current account deficit for Arab countries as a group to decline to USD 97 billion dollars (representing 3.6 percent of GDP), amid expectation of relatively higher international oil prices next year.