North Africa, West Asia

Assessing Bahrain’s fiscal stance

The key to fiscal policy reform lies in ending the political stalemate through democratisation and public participation in policy making.

Abdulla Abdulaal
30 September 2014

As monetary policy is ineffective in Bahrain due to the US dollar peg, fiscal policy becomes a crucial and powerful tool for the government to promote economic development, redistribute wealth, and sway macroeconomic variables. However, final accounts for the state budget recently published by the Ministry of Finance reflect deep-rooted structural fissures in the nature of the political economy.

Revenues are heavily reliant on natural resources, leaving the state budget exposed to volatile international commodity markets and susceptible to domestic production capabilities. Oil and gas income represented 88 percent of government revenues in 2013, three-quarters of which came from the shared offshore field Abu Saafa, which is controlled by Saudi Arabia’s Aramco.

Production in the Bahrain field has been in decline since its peak in 1970, but modest upsurges have been attained since the inception of Tatweer. The refinery continues to play a centrifugal force in the economy but approximately 80 percent of its input is imported at market price from Saudi Arabia. Data on Abu Saafa’s production is unavailable but its costs are miniscule relative to the Bahrain field and refinery, which explains why it signifies two-thirds of total revenue.

Taxes and fees made up a mere eight percent of income in 2013, of which trade generated one-half. However, the GCC customs union and free trade agreements are hacking away at customs duties, and the proposed substitute of value-added tax is far from implementation. Concurrently, the wave of privatisation during the past decade of liberalisation dwindled revenues from government goods and services, as its contribution to state income was two percent.

On the expenditure front, manpower consumed the largest share of spending at 39 percent in 2013. The bloated public sector provides employment to Bahraini nationals with lucrative wages, attractive working conditions, and generous benefits. Labour market segmentation is deepening on several axes, as job creation and wage growth in the private sector have been weak, while the public sector continues to expand in retaliation to political unrest.

Transfers represented twenty one percent of expenditure, more than services, consumables, assets, and maintenance put together. One-half of transfers went to subsidise the Electricity and Water Authority, even though it was privatised in 2009 and generates no earnings to the state. The other half was directed at food subsidies, social safety nets, support to low-income families, and other populist policies that encourage conspicuous consumption.

What is more alarming is expenditure on national security, which has reached unprecedented levels. The ministries of Defence, Interior, National Security Agency, and National Guard mounted to 26 percent of total spending. This is on par with the ministries of Education, Health, Works, and Housing combined. Moreover, public sector employment in the security sector highlights the sectarian and ethnic channels of rent distribution, as tribal Sunni Arabs and mercenaries are disproportionately represented in numbers and ranks.

When Bahrain first struck oil in 1932, it was agreed that revenues would be split evenly between recurrent expenditure, project spending, and the royal family. Fast forward to 2013, one finds that 86 percent of expenditure was committed to recurrent spending, which is politically difficult to roll back, while only fourteen percent went to growth-promoting development projects. Royal family expenses remains an ambiguous and contentious issue, perhaps linked with revenues from the Abu Saafa oil field.

With a deficit of 3.3 percent of GDP in 2013, public debt surpassed BD5 billion to reach 44 percent of GDP. The growth in expenditure surpassed revenues, as the government is increasingly borrowing on international markets with higher premiums. The International Monetary Fund estimates a breakeven oil price of USD120, while credit rating agencies question the sustainability of the current model.

Downward pressure on oil prices due to the shale gas revolution, prospects of lifting sanctions on Iran, and sluggish growth in emerging markets leaves Bahrain’s fiscal stance in a precarious situation. Taxes are administratively challenging to implement, while public sector employment and subsidies are politically sensitive to restructure.

As elections are approaching in November, the challenge to the new parliament will be to voice such concerns and pressure the government for fiscal reform. If previous MPs are any gauge however, prospects seem bleak – as they were more concerned with detrimental policies such as terrorism laws, banning alcohol, and raising public sector wages (including their own).

The key to fiscal policy reform lies first and foremost in ending the political stalemate through democratisation and public participation in policy making. Only then will funds be diverted from wasteful consumption on security and subsidies, to productivity-enhancing investments in education, health, and infrastructure. 

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