Gulf economic reforms struggle despite oil bonanza

The coffers of Gulf Arab states brim with petrodollars, but policymakers seem unable to take the political risk of bold reform to shake up their ailing economies.

Saudi Arabia, Kuwait, the United Arab Emirates, Qatar, Oman and Bahrain, which straddle nearly half the world's oil reserves, have been talking for years about overhauling their crude-dependent economies and boosting private sector growth.

Reforms often discussed include offloading state stakes in firms to boost the private sector, diversifying sources of income by levying income tax - now limited to a small religious tax - and slashing subsidies. Cutting red tape and legal reforms are also needed to encourage investment.

Yet analysts said what little progress made was inadequate as officials shy away from tough choices on the economy and attempt to shore up support in the political arena.

Half-hearted reform measures make it hard for conservative governments to deliver on promises of attracting foreign funds and creating jobs for increasingly frustrated young populations.

"If people in the Arab world don't develop expectations of improving their lot in life and of better chances in the future, it can lead to anything from lack of incentive to work to corruption to terrorism," said a Gulf-based economist who asked not to be named.

The social and political pressure is strongest in regional US allies Saudi Arabia and Kuwait, whose citizens are used to cradle-to-grave welfare systems and cushy government jobs.

But the bloated public sector can no longer absorb them. "Job creation is their biggest challenge and to achieve this they need economic reform," said Chief Economist Randa Azar-Khoury of National Bank of Kuwait.

"The reform process is inadequate. It has to be integrated and well thought out, or there will be gaps and will not achieve the desired measures."

The World Bank says public sector-driven and protected economies supported by oil can no longer generate sufficient growth or jobs and has called for trade and investment reform.

Unemployment rates average 15 per cent in the Arab world, a World Bank report said. In the Gulf, most private sector jobs are taken by foreigners who make up over 30 per cent of the region's 30 million population, economists say.

Some frustrated youth with no jobs and angry that oil wealth was in the hands of the elite join the ranks of Islamic zealots. Analysts say social, political and economic reforms are needed to address their grievances.

The International Monetary Fund has repeatedly urged oil-rich Gulf Arab states to levy income taxes and cut subsidies to diversify income revenues but governments have been hesitant to act on such measures, fearing domestic backlash.

"There's a lot of money but the government can't afford unpopular economic measures such as cutting state largesse," said Kuwaiti economist Jassem al-Saadoun.

In Kuwait where state spending on salaries and pensions swallow most of Kuwait's oil income, parliament - which has a powerful opposition - has blocked privatisation and tax laws and efforts to reduce government jobs and subsidised living.

Sagging oil prices hit Gulf states hard in 1997 and 1998, prodding them to act on reform. But they have made almost no progress in reducing reliance on oil, their economic backbone.

Saudi Arabia, the region's largest market and the world's biggest oil exporter, is on track for a 2003 oil income of $85 billion - the highest in 20 years - to turn a projected $10.40 billion budget deficit into a $6.3 billion surplus.

Oil revenue makes up 40 per cent of gross domestic product, so forecast GDP growth of 6.8 per cent, versus under one per cent in 2002, would not be able to create jobs for 17 million Saudis. The oil sector employs only 1.5 per cent of labour.

"There's a big lag between ideas, policy and implementation and this does not help realise gains set out long ago, such as reducing reliance on oil," said UAE-based economist Ali Sadek. "Reform has been more about generalities than firm and tangible needs."

Riyadh has allowed foreign ownership in some sectors, partly privatised its telecoms firm and passed a capital markets law.

But economists say laws alone would not lure funds to a region with small economies and markets and unequipped labour.

"There is a mentality of if you build it, they will come. But for that to happen, you need an enabling environment, tax reform, administrative reform, skilled labour and a host of other things," one economist said. "The process requires more than financial resources, it requires a political will."

For smaller Qatar, Oman and Dubai, reform has been easier. Qatar is set to top regional growth with GDP rising eight per cent, thanks to privatisation and tapping into gas reserves.

"Qatar probably in terms of reform, is moving faster... (But) Qatar's entire native population amounts to a few hundred thousand," said a Cairo-based Arab fund manager. "Dubai is easy to manage, is much smaller but is not free of problems."

In the UAE, Dubai has made up for dwindling oil reserves by becoming a trade, finance and tourism hub. But nationals are a minority due to the influx of foreign labour and the UAE still relies heavily on oil wealth from the capital Abu Dhabi.