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UAE rating based on strong economic fundamentals

ABU DHABI The United Arab Emirates' A2 country rating is based on strong economic and financial fundamentals, says Moody's Investors Service in its annual country report saying the war on Iraq will not have a significant impact, although it might lead to a slowdown in growth this coming year and might also have a dampening effect on the structural reform process and FDI flows.

Adel Satel, Moody's vice-president, senior analyst and co-author of the report said: "Concern about political cohesion has been allayed in recent years by the strengthening of federal institutions, and their political stability is under-pinned by the expectation of a smooth transition of power from the current President, Shaikh Zayed to his eldest son, Shaikh Khalifa."

However, the rating agency said, the analysis of fiscal policy is complicated by the fact that although the budgets of the individual emirates account for about two-thirds of total public expenditure, only the federal budget is published in detail.

"The federal budget reports to be nearly in balance, yet this is difficult to reconcile with the aggregate budget for the seven emirates showing a wide structural deficit," says Satel.

Proven oil reserves (90 per cent of which are held by Abu Dhabi) are equivalent to 100 years' production at current levels of output. The current account has been in surplus for many years, while reserves and foreign assets of the public sector are credibly reported to be extensive and of high quality, Moody's comments. In addition, Dubai has become a service-oriented economy providing significant diversification to the union's overall economy.

Higher oil prices in 2000 did improve the fiscal and current account balances substantially as well as boosting foreign exchange reserves considerably.

However, the decline in oil output in 2002 and the slower economic growth over the last two years have pushed the fiscal deficit back up to about 10 per cent of GDP as well as weakening the current account position, notes the rating agency.

Diversification attempts might be improved going forward, as Moody's expects that the government will lift restrictions on foreign majority ownership on non-strategic sectors.

As growth is expected to slow down again in 2004, the Central Bank will be under pressure to monitor the loan quality of the UAE's banks as regional and domestic growth slows.

Moody's cautions better regulation of the stock market -which has been booming in recent years -will also be necessary in times of contraction.

External security does not pose excessive risks, since the UAE's long-standing territorial dispute with Iran is balanced by historically close relations between that country and Dubai. The war on Iraq will not have a significant impact on the country, although it might lead to a slowdown in growth this coming year and might also have a dampening effect on the structural reform process and FDI flows. However, some of these factors might be mitigated by an expected increase in oil production, Moody's concludes.