Emerging Market Investing: Eye On MENAP

It seems as though geopolitical risk is all around. More so in particular regions around the world. Investors have taken more notice of late–from domestic and regional politics to lingering threats to global trade. One region not to be overlooked is the Middle East North Africa and Pakistan (MENAP) area. In an edited interview with Philippe Dauba-Pantanacce, senior economist and global geopolitical strategist with Standard Chartered and Bilal Khan, senior economist for the MENAP area, we examine the geopolitical uncertainties in the MENAP region that investors need to be aware of, in particular geopolitical and economic developments around the region.

Qatar Embargo: The Implications

Philippe: The spat among the Gulf Cooperation Council (GCC) countries is certainly the most important geopolitical development in the region right now. The economic blockade imposed by a quartet of countries – UAE, Saudi Arabia, Bahrain and Egypt – on Qatar in June, on the grounds that it allegedly supports terrorism, is unprecedented among the Gulf countries and has put its traditional allies (Western countries in particular) in an impossible situation since they have economic, military and strategic interests on both sides.

One of the most important ramifications is the radical change of perception it has triggered in the eyes of offshore investors. The GCC has traditionally been seen as an oasis of business stability in a politically volatile region, but the ongoing crisis has confounded this view.

The longer the GCC spat lasts, the more it could lead to structural changes in trade corridors and financial flows, but also a possible redrawing of strategic alliances in the region, with a further fragmentation of the Sunni countries bloc.

Eye On Iraq

Philippe: There is concern that the September independence referendum in Iraqi Kurdistan could further destabilize Iraq and even the region at large, as it could trigger a cascade of reactions from regional powers hostile to the idea of an independent Iraqi Kurdistan.

But we think that at this stage, Iraqi Kurdistan has no willingness (and/or ability) to secede from Iraq. In our view, the decision to hold a referendum is partly a reflection of internal political tensions within the Kurdistan Regional Government. Without third-party recognition of independence, any declaration of such would be rendered meaningless and legally impractical.

Political Impact

Philippe: A mix of factors – from US foreign policy to the ramifications of the so-called ‘Arab Spring’ – have led certain countries to become much more assertive actors in regional foreign policy, mostly the UAE and Saudi Arabia. This is a substantial change for a region that had traditionally exerted its foreign policy behind closed doors and in coordination with the US in particular. Today, the UAE and Saudi are both vocal about their strategic vision for the region, and have engaged in actions that are sometimes at odds with the US point of view, which is changing regional dynamics.

MENAP’s Macro Outlook

Philippe: Middle East geopolitics used to have a big influence on oil price variations, but this seems to have been turned upside down. Questioning public subsidies on energy, utilities and certain other staple items – as well as pushing for the introduction of VAT – was thought unfathomable just a few months back.

Bilal: The MENAP economies are going through a cyclical and structural adjustment. While oil exporters in the region are adjusting to a prolonged period of weak global oil prices, including through debt issuance, oil importers (for example, Egypt and Jordan) are implementing fiscal cuts to reduce their high public debt burdens under IMF-supported reform programmes.

Regional Outlook

Bilal: Growth in oil exporters is likely to slow in 2017 as they cut oil production to comply with the OPEC/non-OPEC agreement to reduce output by 1.8 million barrels per day until March 2018. In some cases, such as Kuwait and Saudi Arabia, we’re forecasting a small contraction for 2017, but we expect growth to recover somewhat in 2018.

For the importers, the outlook will be shaped largely by their IMF programs. In Egypt, for instance, we expect the focus to be on gradually eliminating energy subsidies with tackling high inflation. In Jordan, while growth is likely to remain subdued, we highlight upside from the potential reopening of the trade-route with Iraq. In Pakistan, we expect the policy focus to be on speedy implementation of China-Pakistan Economic Corridor (CPEC) projects, a flagship part of China’s ‘Belt and Road’ initiative.

Underlying Risks To Watch

Bilal: In the GCC, interest rates are likely to rise further as policymakers follow the US Federal Reserve’s hikes to support their currency pegs against the US dollar. So even though they are at different stages in the economic cycle versus the US, this monetary tightening would come even as growth in their economies is weak.

For importers the challenges are more varied. Investment in Egypt’s local currency debt markets has been a top 2017 trade for investors following a liberalization of the exchange rate and interest-rate hikes. Looking ahead, we think policymakers will have to carefully manage the socio-political impacts of reforms – particularly domestic inflation running at around 35 per cent. In others economies, for example Pakistan, still-rigid exchange rates and declining foreign reserves will require timely policy action to preserve stability.

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