Mamlakat

13 June 2010

Mamlakat-al-Bahrayn  or the ‘Kingdom of the Two Seas’, better known as Bahrain, is a 36-island archipelago in the Middle Eastern Gulf, sandwiched between Saudi Arabia to the West and Qatar to the East.  The ‘Two Seas’ moniker is a romantic reference to the combination of salt water and fresh water springs that surround the island.  Most of the archipelago consists of flat desert, with less than 5% arable land yielding date crops and horticulture. 

Brief History

Though small in size at 655km sq, (slightly bigger than the Isle of Man) Bahrain has always been the largest centre of trade in the Gulf region given its strategic location and easy access to Iran, India and Saudi Arabia.    Bahrain has endured similar multiple changes in rulerdom that many of its Middle Eastern neighbours have over the centuries.  At one stage in the 1500s it fell to the Portugese for a brief period, but no other Western European power held influence over the tiny state until the British in the nineteenth century.  Bahrain signed a treaty with Britain in 1830 to gain the navy’s protection from sea and land attacks as well as bolstering support for the precariously powerful Al Khalifa royal family, whilst agreeing not to divest any territory unless to Britain, and not to enter into any agreement with another country without Britain’s consent.  Bahrain gave up a considerable degree of sovereignty in becoming a British protectorate, but gained the foundations of the modern liberalised state that exists today.  

The 20^th century

During the first half of the twentieth century a programme of social reform led by British advisor to the Sheikh Charles Belgrave included the foundation of schools for girls as well as boys, hospitals, the abolition of slavery and the boosting of the pearl diving industry.  Vociferous conservative elements were overthrown and in many cases repatriated into Saudi Arabia to the west.  The multi-racial aspect of Bahraini society was proliferated through influx of Indian, Iranian and other Middle Eastern merchants, lured to the small state by the prospect of free and prosperous trade.   

Swelling the coffers

Bahrain’s fortunes soared upon the discovery of oil in 1932 in the Awali oil field and the building of its only refinery at Sitra south of the capital Manama in 1936. There are also untapped oil reserves within Bahrain’s sea territories.  Awali was the first oil field to be explored in the Gulf and has proven reserves of 125 million barrels.  Today Bahrain also co-owns the Abu Safa oil field with Saudi Arabia.  It is estimated that the oil at Awali will last for the next 10-15 years.  Natural gas reserves associated with the Awali field have up until recently fulfilled all consumer needs in the state and will last for the next 50 years, although demand is rising domestically.  Bahrain’s association with Britain continued until the early 1970s.  A tense period in 1970 witnessed Iran laying claim to the island, but this was dropped, and Bahrain obtained independence from Britain on 16 December 1971 which enabled the state to become a member of the Arab League, and the Co-operation council for the Arab states of the Gulf.  The country became a kingdom in 2002, 3 years after the current King came to power. Whilst other Middle Eastern countries struggled with their own internal or border disputes, Bahrain remained relatively stable, and became an unwitting benefactor of the Lebanese civil war when the Beiruti hub of Middle Eastern finance moved to Manama.

Economic Situation

When looking for confirmation of Bahrain’s economic indicators, one is struck by how much the figures vary depending on where you look.  Whilst many independent agencies such as the Economist can provide data, it is striking that Bahrain’s own central bank does not publicise a complete set of data from 2007-2009.  Somewhat oddly, the state chooses to prepare fiscal forecasts for a 2-year period which often means that the reality of the finances is out of synch with predictions.   However, the fact is that the economic situation is quite a good story up until 2008.  Bahrain is ranked number 16 on the global list of economic freedom world rankings scoring 74.8 (Ireland scored 82.2) and is the first of the 17 Middle Eastern States on the list.  With no income or corporation tax on anything other than oil, where a 46% tax on profits generated in Bahrain is levied, it is an attractive location to do business and is open to global trade.  It is the second largest global hub for Islamic banking after Malaysia, and was the first Gulf State to sign a free trade agreement with the US in 2006.  Between 2006 and 2008 GDP increased at a rate of 6% to $27bn, with exports increasing at a rate of 20% to $17bn. Imports also increased by an average of 18% to $14bn.  The current account balance was a respectable $1.6bn and internal reserves excluding gold totted up to almost $4bn.  Things were looking good up until 2008, when the global financial crises makes its mark. 

2009 forecasts show a decrease in GDP of -4% to $22bn, with exports decreasing massively by 50% to just $9bn.  Imports are forecast to show a corresponding -44% decrease to $8bn, leaving a current account balance of $0.2bn.  External debt will remain static at $10bn and overall fiscal balance will deteriorate to -6.2% of GDP.  Small recovery is forecast for 2010, but Bahrain has taken a backward step.   A number of factors are at play here. 

Since 2001, the Bahraini dirham has been pegged to the US Dollar at a rate of 1BHD to $2.65.  As the dollar has struggled in the world financial markets during the credit crunch, this has impacted those economies who have implemented the fixed-pegging in order to stabilise their own indigenous currency.  As the dollar declines, inflation increases, and, obliged to follow the lead of the Fed, the Bahraini central bank is powerless to address this by the usual methods – depreciating the currency, increasing money growth and lowering interest rates.  Fundamentally, as Bahrain’s economy grows, it is linked to a declining currency – one of the reasons why it, along with other Gulf countries with dollar pegs, is exploring the option of pegging to a basket of currencies instead . 

Bahrain exports $19bn of petroleum products, aluminium and textiles per annum to Saudi Arabia (3.5%), the US (2.5%) and the UAE (2.5%), and imports $15bn worth of chemicals, crude oil and machinery from Saudi Arabia (38%), Japan (7%), US (6%). 

The two main contributors to Bahrain’s GDP are the oil industry (20%) and the financial services industry (25%).  Petroleum production and refinement accounts for 60% of overall exports.  The sharp decline in crude oil prices at the end of 2008 has obviously had a big impact on the export market.  With over 14,000 people employed in 150 banks in the country, the credit crunch has precipitated a major fall in the value of financial assets, and Moody’s downgraded Bahrain’s sovereign credit rating from ‘stable’ to ‘negative’ early in 2009.  The Gulf International Bank laid off 59 people in May, sparking protests.  Bahrain is also one of the world’s leading aluminium producers, home to the world’s largest smelter outside of Eastern Europe.  The domino effect of the credit crunch has impacted industries that utilise the aluminium product – the auto industry and construction.    According to the FT[1], the Bahrain Stock Exchange has declined by 17% during this summer – the worst performance of any Gulf state – largely due to minimal trading volumes.  The value of the companies in the MSCI Bahrain index has dropped over 70% - unsurprising as the exchange is weighted in favour of banks, investment companies and Gulf bourses where financial entities are the main components.  In common with many of the Gulf states, its financial regulation is uncoordinated.  So to summarise, we don’t have to look too far past the obvious to explain the downturn in fortune during 2009.  However, it’s not all bad news.  So far only one financial institution based in Bahrain has defaulted on its debt since the start of the financial crisis – International Banking Corp – a small Saudi-owned wholesale bank.  Fitch has assigned a country rating of A+ to Bahrain, long term foreign currency issuer default rating – A and long term local currency – A+.  Bahrain’s forthcoming $500m 5yr sovereign sukkuk issue has been given a rating of A.

Social Context

Bahrain is undoubtedly one of the Gulf’s success stories.  In comparison to its neighbours, Saudi Arabia and Qatar, society is increasingly liberalised.  Home to a diverse range of religious affiliations, the population is 80% Muslim (25% Sunni, 75% Shia), 10% Christian and 10% other faiths – religious freedom is a recognised human right.  Women were given the right to vote in 2002, and parliamentary elections were introduced in 2002.  The first female cabinet member was appointed Minister of Health in 2004 and in 2006 when Bahrain was elected Head of the UN General Assembly Haya bin Rashid Al Khalifa was appointed President – a female lawyer and human rights advocate.  Literacy is  high at 89.1% (1^st in the Gulf States and 50^th in the world) and Bahrain is a prolific book publisher – 132 books were published in 2005 compared to the average in the Arab world of 7 to one million of population.  Bahrain is the first state in the Middle East to offer unemployment benefit.   Prostitution is legal.  Freedom of the press is encouraged and in August 2009 a law was enacted that prevents sponsors of guest workers from blocking their right to move to another employer (abolishing Kafala).    In common with its fellow Gulf state, Dubai, tourism plays a large part in the economic health of the country, welcoming over 8 million visitors per annum to its balmy shores, Formula 1 racetrack and V8 supercar events. 

An advanced education system ensures that Bahrainis are roughly five times more productive than other Gulf States.  In the finance sector 75% of workers are Bahraini.  The usual scenario in the Gulf States is that expatriates hold the bulk of the financial services roles.   Emphasis is placed on upskilling for the private sector, with 60 international schools and other graduate/post graduate entities offering courses that are affiliated to top schools in the West.  The ‘Tamkeen’ – (a labour fund) will spend $100mm over the next 4 years to provide sector specific skills to over 18,000 Bahraini nationals.   There is a high retention rate amongst Bahrainis although international firms can staff up the senior management on the ground in Bahrain from their own people.

Sounds like a state built on the fundament of tolerance – but is this really true?

The Al Khalifa royal family is Sunni Muslim which we have noted is in the minority in Bahrain.  Their rule at the time of the British arrangement was unstable, and the penultimate King was a hardliner who punished dissent emanating from the Shia Muslim population with exile, or worse, disposal.  Today his son, King Hamad ibn Isa Al Khalifa , is known as a reformer.  Since he took power in 1999, many of the circumstances noted above have been enabled by his tolerant and democratic modus operandi.  Yet some consider his pace of reform to be too slow.  

The truth is that although there is a democratically elected parliament, 80% of the incumbents are members of the Royal Family and the parliament’s power is nominal.  Parliament can propose (not draft) legislation and can amend or reject the budget.  The elected house has equal voting rights with the appointed house (royal family) which isn’t quite democratic.  The first parliamentary elections in 2002 suffered boycott by opposition parties because of this.  The King is playing a coy game in attempting to appease all sides in a notoriously emotional situation.

Dr Haffadh, the female minister of health and a Shia Muslim, was removed from office in 2007 in an effort to quieten critics in the parliament.  Clerics have significant influence over the governing of the country.   The gulf between the wealthy ruling Sunni and the increasingly restless Shia is widening, not helped by unemployment – at 15% and rising.   Unemployment benefit is funded through a 1% matching scheme between workers and employers.   The government recognises that there is no way of guaranteeing employment once the oil runs out and has started to face the inevitable and place caps on the number of expatriates who can be hired.

There are other inequalities, including the inexplicable sudden increase in the Sunni population  - the population jumped a massive 47% between 2007 and 2008, fuelling a growth in citizenship of 15% prompting speculation that a passport scam was afoot in an effort to bolster the number of Sunnis in the population.  (The previous growth rate was 2.4%).  The majority Shia population is one of the reasons that Iran has, in the past, laid claim to Bahraini territory, though in truth, the Bahraini Shias have no interest in being allied to the Iranian Shias.  Interestingly though,  in 2007 the parliament passed a non-binding resolution to ban the use of Bahraini territory for any attack to Iran.  A brave gesture, considering the close relationship Bahrain has with the US – hosting the US Naval Forces’ central command, the US 5^th fleet and 1500 US naval personnel and the fact that the US is assisting Bahrain in developing peaceful  nuclear technology.   Recently the Akhbar al Khaleej newspaper was closed following publication of an article criticising the Ayatollah and the Iranian elections, so the government is concerned about the potential for Shia unrest.

In addition to the problem of unemployment and inter-Muslim strife, it is extremely difficult to get a mortgage  and the cost of land is rocketing, despite many land-reclamation projects.  The cost of reclaimed land is prohibitive for the average Bahraini – a reality made harsher when we consider that the public has free access to less than 3% of the actual coastline.

In conclusion, the problems facing Bahrain are more social than economic.    As the new Bahrain Centre for Dispute Resolution – arbitration and mediation – opens its doors, one hopes the state will benefit from a taste of its own medicine.

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