Our new model and the impact of higher foreign investment on Qatar

  • We have developed a detailed economic model for Qatar and also for the whole of the GCC that can answer questions such as the impact of different policies, higher foreign investment, soaring energy prices or rising global interest rates
  • As Qatar opens up its economy to foreign investors in an effort to diversify, the critical question is: what will be the impact of higher foreign investment on the non-hydrocarbon sector of the economy?
  • We find that recent efforts to encourage FDI are a step in the right direction but further improvements to the business environment, particularly efforts to reduce the cost of labour, are needed to generate a transformation of the economy
  • Using our model, we have simulated a one-time permanent 100% increase in the level of net direct investment
  • To arrive at this scale of increase in FDI we have looked at Dubai’s experience in 2002-12 when it opened up its economy and we, therefore, view it as a reasonable expectation should Qatar enact a number of proposed measures to promote investment
  • Under this scenario, we find that the non-hydrocarbon sector of the economy would be 1.0% larger in 3 years as a result of the increase in direct investment
  • Our model suggests that the growth would be achieved as the increased foreign investment leads to stronger:
    1. Domestic investment
    2. Employment and wages, which would boost domestic demand
    3. Productivity
    4. Non-hydrocarbon exports and improved self-sustainability
    5. Portfolio inflows
    6. Credit impulse as portfolio inflows improve liquidity
  • Read on for more details below…

PDF report available here: 20181001 – MENA Advisors – Our model and the impact of higher FDI on Qatar’s economy

Our model

We have developed a structural vector autoregression model (SVAR) for Qatar and the GCC as a whole. In essence, the model draws on the historic inter-relationships between variables related to the performance of the Qatar economy to analyse how changes in future assumptions would be likely to play out in the economy. The model uses a range of variables from commodity prices and exchange rates to population and PMI data to gauge different possible future economic scenarios. It can help shed light on issues such as:

  • The long-term GDP growth outlook in Qatar & the GCC under different assumptions
  • The impact of different policies on the economy
  • How global factors (FDI, energy prices, interest rates etc) impact Qatar or the GCC
  • Economic consequences of a more sophisticated financial sector or larger tourism sector

 

Qatar’s critical question

As Qatar opens up its economy to foreign investors in an effort to diversify, the critical question is: what will be the impact of higher foreign investment on the non-hydrocarbon sector of the economy?

 

What does the model tell us about foreign investment and Qatar?

Using our model, we have simulated the impact of a one-time permanent 100% increase in the level of net direct investment on Qatar’s non-hydrocarbon GDP.

Such an increase in FDI is plausible given that a new draft law, permitting 100% foreign ownership in most of the economy, is due to be enacted soon. Alongside this major development are a number of other important measures to enhance the business environment and liberalise the labour market. We have looked at the historical precedents in Dubai and Asia as comparators. In Dubai, during 2002-12, the economy was opened up to foreign investment as ownership restrictions were relaxed (albeit limited to freezones) and the business environment was improved in a number of other ways. Over this period net direct investment increased by average of 173% per year from 2002-12 in the UAE as a whole. FDI in Dubai was focused on infrastructure development, a phase of development which Qatar has largely completed and self-financed. Similarly, emerging Asia, before the 1998 Asian Financial Crisis, experienced a much larger increase in FDI of around 400%. However, these countries went from closed to open capital accounts while in Qatar, the capital account is already open, it is just ownership laws and the business environment that discourage foreign investors.

In the scenario that Qatar receives a 100% increase in FDI over 3 years, we find that the non-hydrocarbon sector of the economy would be $1.5bn larger as a result. The impact would become progressively greater over the first two years after the initial increase in FDI and then broadly stabilise in year 3.

fdi & gdp chart

We describe in more detail below how the increase in FDI would filter through the economy.

First, the model shows that higher FDI is closely associated with higher domestic investment, which would lead to a direct increase in non-hydrocarbon GDP.

Second, higher FDI also usually leads to an increase in employment as more workers are brought in to absorb the increase in productive capacity. As a result, employment and wages rise, leading to higher domestic demand and higher non-hydrocarbon GDP.

Third, inflows of foreign investment tend to enhance productivity in the recipient country as technology and know-how are passed on from the foreign investors to domestic companies.

Fourth, and less intuitively, the model suggests that higher FDI flows are usually associated with an increase in export activity. As investment comes in from overseas, firms tend to become increasingly focused on foreign markets, leading to higher exports, higher growth and greater self-sustainability.

Fifth, higher net direct investment flows (direct investment is taking a large stake in a company) are strongly associated with higher portfolio flows (smaller stakes in equity/ bond markets, lending and other forms of foreign flows). The 100% increase in FDI would lead to an increase in portfolio flows by 7%-15% over three years, which contributes around 0.05% of the increase in growth.

Finally, and now we get really interesting, higher portfolio flows tend to improve liquidity in the domestic economy, leading to a stronger credit impulse in the economy, more lending and more growth.

However, despite all these positive impacts, the impact of the increased FDI that can be expected from a change to the ownership laws remains relatively small at only around 1% of the non-hydrocarbon economy. The level of FDI is likely to remain restricted by the business environment and, particularly, the high cost of labour in Qatar, which reduces the competitiveness of the economy. This effect is incorporated in the model. A factor that is not accounted for in the model is the risk that the government restricts the access of foreign companies to large parts of the non-hydrocarbon economy. If policies of openness to foreign investment are not rigorously implemented, the benefits of foreign investment are unlikely to be realised.

The model puts all these factors together, and more, and quantifies them in order to arrive at an estimate for the impact of higher foreign investment on growth.