The largest GCC economies have started 2017 on a relatively firm footing, with both Saudi Arabia’s and the UAE’s purchasing managers’ indices showing faster than expected expansion in the non-oil private sector.
The Emirates NBD/Markit Saudi Arabia Purchasing Managers’ Index (PMI) rose to 57.0 in February from 56.7 in January, the highest reading since August 2015, whilst in the UAE the PMI rose to 56.0 in February from 55.3 in January, a level last seen in September 2015. This tallies with the pick-up in growth seen around the world at the start of the year, with activity readings for many other developed and emerging market economies on the rise.
In the UAE and Saudi Arabia, the main drivers of the improvement were output and new orders, with improving external demand and new projects both being cited as the key factors behind them. In the UAE’s case it appears as if the projects related to Dubai’s Expo 2020 are beginning to kick in, and in Saudi Arabia business optimism is likely to have benefitted from the settlement of arrears by the government, easing liquidity in the banking sector and the relative stability of oil prices.
The oil price impact is best seen on a year-on-year basis, with today’s levels contrasting with the period a year ago when oil fell below $30 per barrel, which saw corresponding softness in PMI readings.
It may be counterintuitive that the non-oil sector appears to do well when the oil market perks up, but the reality is that regional sentiment is very closely tied to the price of oil. Moreover, much of the region’s non-oil activity depends to a varying extent on the price of oil, such as the petrochemical sector, construction and manufacturing.
Nevertheless, 2017 is likely to remain a challenging year, with oil markets recently showing us that they could remain quite volatile, especially ahead of the next OPEC meeting in May. Domestically too households in Saudi Arabia are expected to face further cuts in subsidies and relatively low wage growth. These vulnerabilities are also revealed in the PMI data which show that even as output and new orders rise, the benefit is still not feeding through into job creation. In the UAE the employment component eased to 51.3 in February from 51.9 in January, while in Saudi Arabia the employment index remained close to the neutral level at 50.3.
More encouragingly, however, there appears to be some nascent stirrings of inflation. Even as input costs have firmed recently, companies have generally been reluctant to pass these on to consumers, with output prices remaining unchanged overall, causing profit margins to be squeezed. However, this might be about to change as selling prices in Saudi Arabia rose in February at their fastest rate since August, while UAE selling prices rose above the 50 mark for the first time since October 2015.
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The readings for output prices remained low compared to the other headline indices in the PMI data, but the fact that they both pushed up at all bears out the evidence from some other national inflation data that pricing power may be beginning to return.
In the UAE, for instance, inflation jumped 0.7 percent month-on-month (m/m) in January on the back of sharply higher transport costs (0.8 percent m/m) as petrol prices were increased. This caused the annual inflation rate to rise to 2.3 percent from 1.2 percent in the year to December.
This increase was not replicated in Saudi Arabia, however, which saw annual inflation falling in January, illustrating that its recovery path is more difficult.
Of course the energy dynamic is the dominant factor in most of the inflationary trends discernible across the MENA region, and as we have seen in recent weeks these can change quickly. Exchange rates are also playing a part. Egypt’s situation is reflecting all of these factors with the reform of subsidies, the introduction of new excise duties and the sharp devaluation of the Egyptian pound all contributing to inflation.
The headline consumer price index in Egypt hit 28.2 percent year-on-year in January, up from 23.3 percent in December and 10.1 percent in January 2016.
Still there are also the beginnings of some of the positive effects of that devaluation, with the Egypt PMI pulling back significantly in February from the sharp contraction seen towards the end of 2016. The PMI continued to show an overall contraction last month with a reading of 46.7, but the pace of decline was noticeably much softer than in January when it stood at 43.3, and it was the highest reading in six months.
Most encouragingly, the new exports index also improved to its strongest levels since August 2015, suggesting that the devaluation is already having a positive effect on external demand. Egypt is by no means out of the woods yet, but there are promising signs that the worst may be over, especially as it ties in with other evidence that the region is starting to see some green shoots.
Tim Fox, chief economist and head of research at Emirates NBD.