GCC countries also implemented a number of measures aimed at boosting the attractiveness of their investment environments. The measures included: reduction in corporate tax rates -including tax holidays-; expediting the issuance of visas; creating a one-stop shop to reduce time needed to approve and register investments; marketing available investment opportunities, and eliminating or reducing minimum capital requirements.

On the downside, Gulf countries still lags behind most countries in the Middle East in terms of privatization. National labor support laws in GCC countries may have also hindered FDI inflows into the region.

While the UNCTAD projected in its latest report on FDI inflows issued this past September that inflows to the region would rise further in 2008, the rapid deterioration in financial and economic conditions over the past two months clouds the outlook for 2009.

Since 2005, the GCC region has seen a marked increase in FDI inflows, reflecting the region's strong economic prospects, reduction of barriers, and improved policy and regulatory environment that's more attractive to foreign investors. Despite such increase, FDI inflows remain small when compared to the size of the GCC economies or to flows to other emerging markets. GCC countries still have a way to go to encourage investments, whether foreign or domestic, and greater progress is still needed on the reforms front at all levels: economic, structural, and regulatory.

GCC governments need to increase opportunities available to private investors through privatization and liberalization, while improving the incentive structure that would improve the viability of investments. Access to resources, including land, is vital, as is an institutional environment that is attractive for investors.

The 2008 World Investment Report, released last September by the United Nations Conference on Trade and Developments (UNCTAD), shows FDI inflows to GCC countries at $43 billion in 2007, up $7 billion from the year before. FDI inflows over the last two years were 33% higher than their total figure in the previous 15 years. Among member countries, Saudi Arabia was the preferred destination for FDI inflows in 2007, attracting $24 billion, or more than half of the total, followed by the UAE with $13 billion. Way down the list was Kuwait with a very small share of $123 million.

From an international perspective, however, FDI inflows into the GCC remain modest, accounting for 2.3% of total world inflows in 2007 compared to 2.6% in 2006. This small share suggests that the GCC still has a way to go in improving its relative attractiveness compared to other emerging markets. For example, a relatively small country like Hong Kong, with a gross domestic product (GDP) equivalent to 25% of the total GDP all GCC countries combined, attracted $60 billion in FDI in 2007, 40% more than the GCC level.

GCC FDI inflows by country
($ million)
2003 2004 2005 2006 2007
Kuwait 67 20 234 122 123
Bahrain 517 865 1,049 2,915 1,756
Oman 528 1 8 1,688 1,623 2,377
Qatar 625 679 1,298 159 1,138
UAE 30 840 10,900 12,806 13,253
Saudi Arabia 778 1,867 12,097 18,293 24,318
Source: World Investment Report of UNCTAD.

Although the rise in FDI inflows has been a global phenomenon in recent years, we attribute the surge in inflows to the region to a fundamental shift in attitude towards such kind of investments, and measures taken by Gulf countries to improve the attractiveness of the investment environment. A significant portion of these inflows has come from within the region as recent years have witnessed a jump in the number of GCC companies and banks expanding into other member countries. For example, the 2007 report on the Investment Climate in Arab Countries issued by the Arab investment and Export Credit Guarantee Corporation shows FDI inflows into Saudi Arabia from other GCC countries in 2007 reaching $5.5 billion, more than a fifth of total inflows to the country.

The UNCTAD report projects FDI inflows to the region to rise further in 2008, even though total global FDI is expected to decline in light of the ongoing turmoil in world financial markets and the deceleration of world economic growth. This view was based on the limited impact of the global financial crisis on countries in the region observed so far and the significant size of intra-regional investment projects in the pipeline. However, it is worth noting that the global crisis has escalated dramatically since the release of the UNCTAD report last September. The fallout on the Gulf region has also intensified, not the least in terms of tightening liquidity and credit conditions, as well as plummeting oil prices. This should undoubtedly have a negative impact on FDI inflows in 2009.

On the other hand, it is worth mentioning that GCC countries launched a common market in January 2008, which allows for the free movement of labor and capital, offering GCC nationals equal rights in all economic affairs. Such a development is expected to positively impact the volume of intra-regional FDI in 2008 and beyond. In contrast, if the planned GCC monetary union is launched on shedule (2010), then intra-regional direct investments could be counted as domestic investments. In other words, direct investments from outside the GCC countries may only be classified as foreign investments.

The sizable disparities in FDI inflows to GCC countries, however, shrink considerably when these inflows are looked at in relation to the size of a country's economy or gross fixed capital formation. For example, such inflows in 2007 represented 10% of Bahrain's GDP and 38% of gross fixed capital formation, while the corresponding numbers in Saudi Arabia were 6.4% and 30%, respectively.

Factors behind the surge in FDI
Aside from geopolitical risk considerations, the economic fundamentals and attractiveness of the business environment remain the key determinants of success in attracting FDI. In this note, we will try to shed some light on the major developments that took place in the GCC economic and business environments, which may explain the latest rise in FDI inflows to the region.

Economic developments
The GCC economies have achieved impressive economic performance since 2002 on the back of higher oil prices. The combined size of GCC economies as well as per capita income more than doubled in the last five years, boosted by a combination of record high crude oil prices, expansionary monetary and fiscal policies, and strong capital investment. Furthermore, GCC countries have become a major player in international capital markets in the light of the huge surpluses materializing in government budgets and current accounts.

Gulf countries are estimated to have amassed more than $2 trillion in foreign assets, primarily held in sovereign wealth funds. This is more than double the combined size of the regional economies. The economic outlook is no less impressive as GCC countries are set to continue their solid economic performance in the medium term, though at a slower pace than in the past five years, despite the recent sharp drop in oil prices. These developments, among others, have supported recent upgrades in the sovereign ratings of GCC governments.

GCC sovereign ratings
2002 2008
Kuwait A2 Aa2
Bahrain Baa3 Aa3
Oman Baa2 Aa3
Qatar Baa2 Aa2
UAE A2 Aa2
Saudi Arabia Baa2 Aa3
Source: Moody's.

Similarly, a March 2008 International Country Risk Guide issued by PRS Group assigned Saudi Arabia, UAE, Kuwait, Oman, and Bahrain a "very low" political, financial and economic risk rating, while Qatar's rating was set at "low".

GCC countries have individually adopted long-term visions defining their ultimate economic objectives. The main criterion for meeting such aspirations relies on the diversification of the sources of income away from oil. Oman, for example, aims to reduce the oil sector's share of GDP to 9% in 2020 (it was 45% in 2007 vs. 34% in 1995). All GCC countries have explicitly stated the need to foster FDI inflows to achieve their targets.

World ranking by competitiveness index
2006-07 2007-08 2008-09
Saudi Arabia n.a. n.a. 27
Bahrain 48 43 37
Qatar n.a. 42 38
UAE 37 37 31
Kuwait 30 30 35
Oman n.a. 42 38

Source: World Economic Forum/World Competitiveness Report.

Indeed, the Saudi Arabia General Investment Authority (SAGIA)Saudi Arabia General Investment Authority (SAGIA) has an ambitious plan "to position Saudi Arabia among the top ten most competitive nations by 2010 through the creation of a pro-business environment and a knowledge-based society whilst putting forth its best effort to make Saudi Arabia a favorable investment destination in the region and the world".

Less restrictive investment environments
GCC countries implemented a number of strong measures in order to boost the attractiveness of their investment environments. Most notably, they reduced the number of sectors closed to foreign investors, and allowed for a higher degree of foreign ownership in certain sectors. In recent years, 100% foreign owned projects in certain sectors have been allowed across GCC countries, and all sectors are now open to foreign participation except for a number of sectors classified as sensitive.

The number of sectors and sub-sectors not open to foreign ownership has also been in decline, especially in Saudi Arabia and Qatar. For example, Qatar removed banking and insurance activities from its negative list in 2004. In light of its commitment to the WTO, Saudi Arabia has opened a wide number of its services sector to foreign investment, including among others: financial and banking services, wholesale, retail and franchise distribution services, telecom services, and investment in the computer and related services sector. Currently, the sectors off limits in Saudi Arabia include only 3 industrial sectors (oil sector, manufacturing of military equipment and civilian explosives) and 13 services sectors.

Sectors open for full foreign ownership
Qatar Agriculture, industry, tourism, education health, development and exploitation o natural resources.

Oman Privatization projects

Saudi Arabia Economic cities and select sectors outside economic cities

Kuwait Infrastructure, communications, insurance, tourism, IT, hospitals, freight, and housing projects

Bahrain Technology, tourism, healthcare, education, business and industrial services

UAE Free zones

Source: Official GCC sources
Furthermore, GCC countries, except Kuwait, allow 100% foreign ownership in select residential property and other real estate markets, but subject to varying sets of conditions.

Major regulations concerning foreign real estate ownership in the GCC

Qatar 2004:
100% ownership in three designated projects, and acquire rights to won surface for no more than 99 years in investment areas

Oman 2006:
100% ownership in integrated tourism complexes

Saudi Arabia 2000:
Non-Saudi residents allowed to own real estate for their private residence; foreign ownership to conduct business activities and for accommodation of their employees (does not apply to the holy cities of Madinah and Makkah.

Kuwait Not open to foreigners, except for some GCC nationals based on reciprocal treatment

Bahrain 2003:
100% ownership in specified residential and commercial zones UAE 100% ownership of surface property (not land) for 99 years

Source: Official GCC sources

Corporate taxes
A reduction in corporate tax rates has also played a role in attracting investment to certain countries in the region, as well as the tax holidays granted to what's considered to be strategic investment by all countries. Saudi Arabia has reduced the corporate tax rate imposed on foreign investments from a maximum of 45% in 2004 to a flat rate of 20% since then. Bahrain imposes no corporate tax, except the 46% tax imposed on oil, gas, and petroleum companies. UAE also has no federal-level corporate tax, but some emirates impose their own corporate tax which ranges between 20% and 55%. The maximum corporate tax levied in Qatar and Oman is 35% and 30%, respectively. In early 2008, Kuwait reduced its corporate tax imposed on foreign investments from a maximum of 55% to a single rate of 15%. However, under FDI rules and regulations, foreign investors in targeted sectors may be granted a tax holiday of up to 10 years.

GCC members also adopted a number of measures in order to facilitate the foreign investment process, including expediting the issuance of visas, creating the one-stop shop to reduce time needed to approve and register investments, marketing available investment opportunities, and eliminating or reducing minimum capital requirements. Undoutedly, these measures resulted in lifting the ranking of some GCC countries in terms of the competiveness of their business environment. According to the World Bank's Ease of Doing Business reports, the ranking of Saudi Arabia and the UAE has been improving consistently over the last three years (especially in the area of business start-ups), while that of Kuwait and Oman has deteriorated this year in most categories. This deterioration is relative concept, reflecting the fact that fewer measures have been taken compared to the other countries surveyed. The World Bank included Qatar and Bahrain for the first time in this year's report.

World ranking by ease of doing business
2008 2009
Saudi Arabia 23 16
Bahrain n.a. 18
Qatar n.a. 37
UAE 68 46
Kuwait 40 52
Oman 49 57

Source: World Bank, Doing Business 2009 Report.What keeps FDI inflows below potential?

On the downside, GCC countries are still lagging behind most countries in the Middle East region in terms of their privatization programs, which usually attract foreign participation. These programs are best described as extremely cautious, with Saudi Arabia possibly being the only exception in the last three years. The oil windfall may be blamed for slow progress in this respect, as well as social and political pressures.

National labor support laws in GCC countries may have also hindered FDI inflows into the region.

Anecdotal evidence reflects a shortage of talent and expertise among GCC nationals which are needed by foreign investors, especially outside the services and real estate sectors. There are a number of other non-tax barriers to foreign investment still in existence to varying degrees among GCC countries, including the limited availability of land and heavy governmental bureaucracy. GCC countries scored the lowest in the areas of enforcing contracts and the availability of credit.

In summary, it would appear from the experience of GCC countries that attracting FDI requires considerable effort and extensive reforms. Unlike many countries around the world, GCC countries are capital rich, and their major objective in attracting FDI is to diversify their income sources, generate employment opportunities for nationals, and technology diffusion.

By Mohammed Zaher

© Arab Times 2008

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