S&P affirms Emirate of Abu Dhabi ‘AA/A-1+’ Ratings; Outlook Stable
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On Aug. 7, 2015, Standard & Poor’s Ratings Services affirmed its ‘AA’

long-term and ‘A-1+’ short-term foreign and local currency sovereign credit

ratings on the Emirate of Abu Dhabi, a member of the United Arab Emirates

(UAE). The outlook is stable.

 

RATIONALE

 

The ratings on Abu Dhabi are supported by its strong fiscal and external

positions, which afford it fiscal policy flexibility. The exceptional strength

of its net asset position also provides a buffer to counter the negative

impact of oil price declines on economic growth and government revenues, as

well as on the external account, notwithstanding our expectation of a

deterioration in the government’s fiscal balance.

 

The ratings are constrained by our assessment that the emirate has

less-developed political institutions than nonregional peers in the same

rating category. Limited monetary policy flexibility (given the UAE dirham’s

peg to the U.S. dollar), gaps and delays in the provision of economic and

fiscal data, and the underdeveloped local currency domestic bond market also

weigh on the ratings.

 

We assume an average Brent oil price of US$55 per barrel (/bbl) in 2015, US$65

in 2016, and US$75/bbl in 2017 and beyond. Abu Dhabi derives about 55% of its

GDP and 90% of government revenues from the hydrocarbons sector (oil taxes and

royalties, plus dividends from Abu Dhabi National Oil Co. [ADNOC]). We see Abu

Dhabi’s economy as undiversified, despite government policy to encourage

non-oil private sector growth.

 

Rates of real and nominal GDP growth have been robust. This has been supported

by an estimated cumulative jump in the population of 60% between 2008 and

  1. However, long-term real GDP per capita has contracted by about 4%

annually, largely due to the high immigration. Real GDP per capita growth is

well below that of peers in the same GDP-per-capita category. We estimate GDP

per capita atUS$62,000 in 2015, one of the highest among rated sovereigns.

 

There is only limited external trade, balance of payments, and international

investment position data available for Abu Dhabi. In line with our criteria,

we therefore base our assessment of Abu Dhabi’s external position on that of

its federation, the UAE. That is, we define the UAE as the “host country” and

use our estimates of the UAE’s external position as a starting point. We then

adjust the initial assessment downward due to data gaps, which, in our view,

reduce the visibility of external risks. That said, our estimates of Abu

Dhabi’s significant external assets, held by the Abu Dhabi Investment

Authority (ADIA), and including our estimate of ADIA investment income, lead

us to assess the overall external position as a strength. Using our narrow net

external debt metric, we expect the UAE’s external creditor position will

average about 118% of current account receipts (CARs) in 2015-2018, albeit on

a declining trend over the period. We estimate the UAE’s gross external

financing needs at about 107% of usable reserves of the UAE central bank and

CARs on average over the same period.

 

Our estimate of the government’s fiscal balance does not include our estimate

of ADIA investment income. We understand these funds are held and re-invested

by ADIA. However, we estimate the general government balance including ADNOC

dividends. We base our estimate of ADNOC dividends extrapolating from

historical data up to 2012. On this basis, we project the fiscal balance will

turn to deficit of about 1.5% of GDP on average in 2015-2018. We previously

expected a surplus of 2% of GDP over the same period. We expect government

spending to fall by about 28%, with the lion’s share coming from cuts to Abu

Dhabi’s contribution to the federal government (33% of government spending in

2014, falling to 30% in 2015), and aid payments and grants (19% of government

spending in 2014, falling to 10% in 2015). We expect development spending will

support economic growth and increase to about 10% of total expenditures in

2015 from 6% in 2014. Nevertheless, we project consolidated government

revenues to fall by about 29% in 2015, resulting in an overall deficit.

 

The Abu Dhabi government has made some progress with subsidy reform, which we

expect to support the fiscal balance. It cut utility subsidies from the

beginning of this year. We estimate that electricity and water subsidies could

be reduced by about 0.5% of GDP in 2015 as a result.

 

On July 21, 2015, the UAE federal government announced a change to the policy

of fixed fuel prices, which will affect Abu Dhabi and the other emirates. From

Aug. 1, petrol prices are set in accordance with global oil price benchmarks

(after adding transportation, operation, and distribution costs). This has

resulted in a 24% increase in standard petrol prices (Super 98) to UAE dirham

(AED) 2.14 (US$ 0.58) from AED1.72. Diesel prices, which were artificially

high to help pay for the petrol subsidy, fell to AED2.05 (US$0.56), a 29% drop

from AED2.9. We expect some modest inflationary impact from the new policy. It

remains to be seen how much of any future oil price rises will be passed on to

consumers. We understand that these subsidies were covered by losses at the

distribution company level, and largely met by ADNOC, the state-owned oil

producer, refiner and distributor. We therefore expect only an indirect impact

on the Abu Dhabi budget through higher dividends paid to the Abu Dhabi

government by ADNOC than would otherwise have been the case.

 

We expect the emirate will maintain its net fiscal asset position, which we

project at about 270% of GDP over 2015-2018. This is the second-highest net

government asset ratio among the sovereigns Standard & Poor’s rates, surpassed

only by Kuwait’s. The government has strengthened its oversight of

public-sector debt, aiming for sustainability and the prevention of financial

stress at its government-related entities (GREs). We estimate the debt of Abu

Dhabi’s GREs at about 25% of GDP in 2015, including parent-level debt at

Mubadala Development Co., International Petroleum Investment Co., Tourism

Development and Investment Co., and Abu Dhabi National Energy Co. These

entities are backed by the government’s statement of support to the effect

that their creditworthiness should not be differentiated from that of the

government.

 

The government has made some progress in strengthening its economic

institutions. It has established a debt management office, undertaken a public

expenditure review, and set up a medium-term budget framework. However, in our

view, there are substantial shortcomings and material gaps in the

dissemination of macroeconomic data, including relatively weak transparency

and reporting delays. Disclosure related to the government’s external assets

is limited compared with that of similarly rated peers. Moreover, we believe

political institutions in the UAE are at a nascent stage of development

compared with those of nonregional peers. The decision-making process remains

highly centralized, with checks and balances between institutions largely

absent.

 

Through its regional and international alliances, the UAE government strives

to maintain a balanced foreign policy to safeguard both its strategic and

commercial interests. We believe trade and investment between Abu Dhabi and

Iran could benefit from a lifting of sanctions on Iran. These benefits could

begin as early as the first half of 2016, conditional on the International

Atomic Energy Agency verifying that Iran has shrunk its nuclear program, is

cooperating with regard to past weaponization studies, and facilitating access

to nuclear sites. In its energy and foreign policy, Abu Dhabi has been

proactively mitigating its exposure to geopolitical risks as well as securing

its oil supply to strategic end users. To this end, the government completed

the Abu Dhabi Oil Pipeline in 2012, which now has the capacity to deliver just

over 65% of Abu Dhabi’s oil exports directly to the Fujairah terminal on the

Indian Ocean, bypassing the Strait of Hormuz. We do not expect material

spillover effects on Abu Dhabi from the conflict in Syria.

 

OUTLOOK

 

The stable outlook on Abu Dhabi reflects our view of balanced risks to the

ratings over the next two years. We believe that Abu Dhabi’s economy will

remain resilient and its fiscal policy will remain prudent, but we also

anticipate continued structural and institutional weaknesses.

 

We could consider raising the ratings if we observed pronounced improvements

in data transparency, including on fiscal assets and external data, alongside

further progress in institutional reforms. What’s more, measures to improve

the effectiveness of monetary policy, such as developing domestic capital

markets, could be positive for the ratings over time.

 

We might consider a negative rating action if we expected a deterioration in

Abu Dhabi’s currently very strong fiscal balance sheet and net external asset

position. Should fiscal deficits or the materialization of contingent

liabilities lead to a drop in liquid assets to below 100% of GDP, downward

pressure on the ratings would mount. A negative rating action could also be

possible if domestic or regional events compromised political and economic

stability.

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