The United Arab Emirates’ sovereign ratings remain robust despite recent major spending on military procurements which, according to financial industry analysts, impacted on sovereign fund holdings.
Capital Intelligence (CI), the international credit rating agency, affirmed 17 July 2015 the UAE’s Long-Term Foreign and Local Currency Sovereign Ratings of ‘AA-’ and its Short-Term Foreign and Local Currency Sovereign Ratings of ‘A1+’. The Outlook for the ratings is ‘Stable’.
The UAE has extensive investments and holdings across Europe.
CI said the UAE’s ratings reflect the following factors: the overall strength of the country’s public and external finances and the resultant capacity to absorb economic shocks; moderate levels of public debt; and generally favourable macroeconomic performance. The ratings also take into account the vast hydrocarbon reserves and financial assets of the government of Abu Dhabi, and CI’s expectation that the emirate would be willing to support federal institutions in the unlikely event of financial distress.
Economic growth is expected to remain steady in the medium-term, averaging 3.2% in 2015-17, with growth in the services and trade sectors partially offsetting the impact of the prolonged period of low oil prices on the overall economy.
The consolidated budget surplus declined in 2014 to 2.2% (9.9% in 2013) due to the decrease in international oil prices. Assuming an average oil price of US $60 per barrel, the fiscal position is expected to weaken in 2015-16, with the budget posting a deficit of 8.6% and 7.5% in 2015 and 2016, respectively.
Consolidated government debt, of which only a small proportion relates to the federal government, is expected to edge up to 14.7% of GDP in 2015, from 12.1% of GDP in 2014. Public debt is higher at around 58% of GDP, and primarily reflects the borrowings of commercially-oriented government related entities (GREs) – most of which are not formally guaranteed by Emirati governments. However, most GREs are currently able to rollover or repay maturing debt obligations.
The consolidated government debt stock is almost fully matched by government deposits in the banking system and is probably dwarfed by public external financial assets. There is limited disclosure of the latter, but it is estimated that the Abu Dhabi Investment Authority, the largest of the UAE’s several wealth funds, manages assets of around 160% of GDP. While the consolidated net creditor position is not an indicator of the solvency risk of individual emirates, CI would expect Abu Dhabi, as the wealthiest emirate, to provide financial assistance to the federal government and the Central Bank if required.
The country’s external finances are expected to remain healthy in the short to intermediate term. The current account surplus is expected to narrow to 5.3% of GDP in 2015, from 12.1% of GDP in 2014, with robust growth in the non-oil sectors partly offsetting the impact of lower oil prices. Official foreign exchange reserves of about US $74.8 billion (18.0% of GDP in 2014) provide solid backing for the currency peg and an adequate buffer against external liquidity shocks, and are expected to remain at comfortable levels in the intermediate term.
Gross external debt remains manageable at an estimated 52% of GDP in 2015. About 92% of the debt stock represents the foreign liabilities of the private sector, especially the UAE’s large banking sector, and is comfortably exceeded by banks’ foreign assets. The rest of the debt represents various conventional and Islamic debt instruments issued to complete the restructuring of GREs.
The UAE’s sovereign ratings are principally constrained by weaknesses in the country’s economic structure and institutions, as well as by some structural fiscal shortcomings. Oil and gas still accounts for about 82% of consolidated government revenue, 32.5% of total exports, and (directly) 31.5% of GDP. Moreover, the government’s budget structure is relatively weak in view of the overreliance on oil, the limited tax base and high expenditure rigidities.
The quality of economic data is relatively weak, although it is slowly improving. Fiscal accounts are neither comprehensive nor, at the consolidated level, compiled in line with international standards. Information on government external financial assets is not disclosed, hindering assessments of balance sheet strength and flexibility.
The banking system is broadly sound with high levels of capitalisation. Although asset quality is improving, the share of non-performing loans in gross loans remains comparatively high, partly due to the problems of the real estate sector in the major emirates and the ongoing financial restructuring of loans owed by a few Dubai GREs. Liquidity ratios have improved in recent years and several banks have comfortably repaid the Tier 2 debt capital placed by the government in the early days of the financial crisis. Credit growth regained momentum in 2014, while the rules on credit concentrations introduced by the Central Bank have helped to cap the exposure of banks to the real estate market.
The Outlook for the ratings is ‘Stable’, meaning that the UAE’s sovereign ratings are likely to remain unchanged over the next 12 months, provided that key metrics evolve as envisioned in CI’s baseline scenario and no other credit quality concerns arise.
The ‘Stable’ Outlook balances the strength of the government’s fiscal and external positions against institutional weaknesses, reliance on hydrocarbon revenues, and susceptibility to exogenous shocks (including factors such as periods of subdued oil prices and geopolitical risk).