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GCC Govts Urged to Wake Up

DUBAI - The UAE and other GCC governments should wake up and initiate decisive action including a significant boost to public spending to tackle the financial downturn that will take two to three years to turn around, said the chief investment officer of Merrill Lynch.

“Governments should increase public spending to spur growth but should strike a delicate balance between promoting growth through public spending and resorting to excessive borrowing,” said Gary Dugan, the author of Merrill Lynch’s “Year Ahead 2009.”

“In addition to interest rate cuts and government spending, consumers will need to feel their jobs are safe in order to feel confident about spending money,” he said.

“Governments should prepare for the worst. For the UAE, and in particular Dubai, the immediate task must be to rebuild confidence in the banking sector to stimulate liquidity. In a scenario of non-availability of external credit, Dubai’s recovery will hinge on the extent of support it can muster from Abu Dhabi sovereign wealth funds,” he said.

The policy response of governments globally to the crisis could prove decisive in determining the length and severity of the downturn, Dugan said.

He said UAE’s GDP growth would slow down to 3.5 per cent this year from 6.8 per cent in 2008. “However, it is expected to further slow down in 2010 to two per cent.”

“It’s going to be a decisive year for the world economy,” said Dugan. “Government intervention will play a critical role in determining whether we experience a relatively short and sharp downturn — which could draw to a close within the next 12 months — or a long and lingering recession such as that experienced in Japan in the 1990s.”

Dugan said GCC governments have to provide more stimulus packages to shore up liquidity. “Governments across the globe may have to consider significant fiscal packages worth between two and five per cent of GDP to help kick-start their economies and boost flagging consumer and business confidence.”

He said oil prices would not rebound in early 2009 with demand vanishing. For 2009, the average oil price forecast is around $50/bbl. Supply will decline sharply if crude oil price drops below $30 per barrel.

He said policy makers would have to offer effective fiscal packages to stimulate their economies. “The seeds of recovery could be sown in 2009 but if they fail to germinate we could face a multi-year recession.”

Low risk assets could offer private investors the best prospects of attractive returns in 2009 as the world’s leading industrialised nations face recession, according to Dugan.

With governments around the world striving to tackle the economic crisis, private investors could find value in a cautious approach towards asset allocation. Options include high-grade corporate bonds and high-quality, high-yielding equities in defensive industries. In addition to a continued unwinding of high levels of borrowing and further profit warnings, deflation could emerge as a major theme in 2009.

“The risk of deflation is greater than many people expected. We think there is a low probability of persistent deflation but it would have a major detrimental impact. Monetary policy will need to remain aggressive and innovative to counter the threat,” he said.

“Equities could outperform as an asset class in 2009 unless there is a serious deflation risk,” said Dugan. “Our view is that deflation will be avoided.”

“Government action to stimulate economic growth and central bank interest rate cuts could fuel a rally on global equity markets in the first half of 2009. Investors should remain cautious. They need to be prepared to take profits. We think any such rally would run out of steam by the second half of the year.”

He said while commodity markets could also bounce back in the first half of the year, a rebound is likely to be short-lived in the absence of strong US consumer demand. Precious metals, led by gold, could enjoy a more sustained rally with gold benefiting from a weakening of the dollar in the second half of the year.

While the dollar has returned to fair value, sterling is expected to remain under pressure against the dollar in the first half of 2009 amid fears of a protracted recession in the UK, Dugan said. “But sterling could stage a recovery by the second half of the year.”

· issacjohn@khaleejtimes.com