On February 25 the Cabinet approved a draft budget for the next two years, outlining spending of BD3.25bn ($8.6bn) for this year and BD3.28bn ($8.7bn) for 2020, and foreseeing revenue shortfalls of BD708m ($1.9bn) and BD613m ($1.6bn), respectively.

This represents a significant reduction on last year’s fiscal deficit of BD1.2bn ($3.2bn), as outlined in the 2018 draft budget, which was made up of projected revenue of BD2.3bn ($6.1bn) and outlays of BD3.5bn ($9.3bn).

According to IMF data issued in March, Bahrain narrowed its budget deficit from 14.2% of GDP in 2017 to 11.7% last year.

One area of spending that was maintained over the two-year budgetary cycle was outlays for investment projects, designed to support economic growth, with allocations set at $1.8bn for both 2019 and 2020.

The ability to maintain this spending will be supported by the new 5% value-added tax (VAT), which came into effect on January 1.

Regional fund and spending cuts support fiscal outlook

Efforts to close the budgetary gap have been boosted by neighbours Saudi Arabia, Kuwait and the UAE, which in October pledged a $10bn fund to support Bahraini spending.

In return for the funding, Bahrain committed to a Fiscal Balance Programme (FBP), which aims to save some BD800m ($2.1bn) annually through a variety of initiatives, including tightening public spending, streamlining subsidies and implementing a voluntary retirement scheme for state employees.

Following the ratification of the draft budget, Rasheed Mohammed Al Maraj, the governor of the central bank, said significant progress had been made in curbing the deficit, and that efforts to address debt and the revenue gap would continue.

“I think we have come a long way now with the FBP,” he said. “It has put out a clear plan to the market about how we are going to deal with our budget deficit and public debt.”

The IMF also referenced continued progress in reducing the deficit in a report issued on March 5.

The fund said the FBP, underpinned by the 2019 and 2020 budgets, had provided a framework to halt the decline in fiscal and external buffers that have worsened since 2014.

While the measures under the FBP are expected to further reduce the fiscal deficit over the medium term, the IMF also sounded a note of caution, warning that already high public debt levels – which increased from 87% of GDP in June last year to 93% at year’s end – are expected to rise further.

As a result, additional reform efforts, anchored in a more transparent medium-term agenda, will be needed to ensure fiscal sustainability, the report said.

Ratings agencies foresee stable outlook

Ratings agency Fitch noted that much of Bahrain’s progress in scaling back its deficit was the result of higher oil prices across the first three quarters of 2018, which the agency says accounted for 75% of last year’s budget deficit reduction.

In a statement issued on February 28, Fitch said the country was making progress in reforming its economy and closing the budget deficit, with the gap forecast to narrow to 6.1% of GDP this year and 5.3% next.

The agency affirmed Bahrain’s “BB-” credit rating while maintaining its outlook as stable. Despite this, the kingdom’s sovereign rating is below investment-grade, and both Moody’s and Standard & Poor’s take a similar position.

The Fitch assessment said that while increased savings, further gains from the voluntary retirement scheme and revenue from the newly introduced VAT would contribute to narrowing the deficit, Bahrain’s continued success will depend in part on a favourable oil pricing environment moving forward.

How energy prices could affect recovery

A fall in energy prices or output, as occurred last year, could renew pressure on Bahrain’s budget and slow the progress of the FBP, potentially pushing back the 2022 target for delivering a surplus.

By contrast, continued success in reining in the deficit and sustaining fiscal reforms should support investor confidence in the economy.

On February 19 Al Maraj said the support fund established by Gulf states last year had led to an improvement in investor sentiment towards Bahrain, helping to bring down borrowing costs.

“The FBP has had a tremendous impact on the level of confidence and it has sent a very positive signal to the markets,” he told local media. “Our bond prices [have] tightened 50 to 60 basis points.”

© Oxford Business Group 2019