November 26, 2007
1. The Qatari authorities greatly value the open and productive discussions held with staff during the Article IV Consultation and FSAP missions earlier this year. They also appreciate the constructive engagement of management and the Executive Board, and look forward to continued dialogue with the Fund on policy and reform priorities in the period ahead.
2. Supported by a favorable external environment and strong fundamentals, Qatar’s solid economic performance continued in 2006. Real GDP grew by about 10 percent, with GDP per capita increasing to US$63,000—one of the highest in the world. Equally important is the fact that growth was broad-based, driven by a strong expansion in the production of liquefied natural gas (LNG) as well as construction and financial services. These outcomes are consistent with the authorities’ diversification objectives and reflect the increasing role and dynamism of the private sector. Moreover, the fiscal and external accounts continued to register sizable surpluses, further reinforcing Qatar’s strong net external creditor position. At the same time, the banking sector’s prudential regulations remained strong, and the sector has successfully withstood the significant correction in stock market prices in 2006 and the recent global financial turbulence.
3. Naturally, however, with the sustained dynamism of the economy outpacing supply-side response, tightening capacity constraints have fueled inflationary pressures. The rise in inflation in 2006 was largely driven by escalating rents owing to housing shortages, in addition to high aggregate demand growth and increases in domestic fuel prices. Nevertheless, the authorities view this increase as temporary: with recent price pressures mainly driven by supply side factors, inflationary pressures are expected to ease in 2008 onwards, as the supply of housing catches up with demand and the country’s infrastructure needs, resulting from rapid GDP growth, are met.
Prospects and Policies
4. The authorities share staff’s assessment that the medium-term outlook remains very favorable, with continued robust growth expected to be driven by the hydrocarbon sector, increasing diversification into higher value-added petrochemicals and expanding financial and educational services. Strong revenue growth from sharply increasing hydrocarbon receipts will help maintain overall fiscal surpluses of 15 percent of GDP on average. More importantly, the nonhydrocarbon deficit relative to nonhydrocarbon GDP is expected to narrow to 14.6 percent in 2012—one third its level in 2006, helping to reduce inflationary pressures. The authorities are mindful, however, that inflation remains a main concern in the near term, especially if allowed to persist at its current rate, and have already initiated a number of measures to help mitigate price pressures. These include the introduction of a cap of 10 percent on annual rent increases for a two-year period and the launching of large infrastructure and housing projects to increase supply and expand domestic capacity. It is worth emphasizing that the cap on rent increases is only temporary and action is underway to address the factors underlying inflationary pressures.
5. Over the medium term, the authorities remain committed to sustaining strong growth, including by furthering the development of the nonhydrocarbon sector, while maintaining macroeconomic and financial stability. The authorities will also persevere with the cautious management of oil and gas revenues, thereby carefully balancing the objective of preserving comfortable fiscal surpluses with the need to accommodate large scale development projects to expand the economy’s absorptive capacity and further reinforce its fundamentals and resilience. Moreover, upgrading the infrastructure and regulation of the financial system to deepen financial markets and support the economic expansion remains at the center of the authorities’ agenda.
Fiscal Developments and Reforms
6. The fiscal position remained strong reflecting higher hydrocarbon revenue from rising oil prices. Notwithstanding the increase in salaries and outlays on goods and services, the overall fiscal surplus rose to above 9 percent of GDP in FY2006/07, aided by a reduction in development expenditures. These developments were underpinned by an improvement in the nonhydrocarbon revenue-to-nonhydrocarbon-GDP ratio that picked up by around 2 percentage points to about 15 percent. While they are mindful of the likely impact of the recent increase in public sector wages on prices, the authorities view the increase as a form of sharing the hydrocarbon wealth with the population at large, particularly given the current context of buoyant oil prices. For fiscal year 2007/08, preliminary estimates point to a higher overall surplus despite the projected increase in development expenditures. The authorities consider an increase in fiscal expenditure on infrastructure and housing as key to expand capacity and reduce inflation in the future, in addition to furthering economic diversification.
7. In view of the need to reduce the economy’s dependence on the hydrocarbon sector, the authorities remain determined to broaden the non-oil revenue base. To this end, they plan to decrease the corporate income tax rate for foreign companies, which coupled with policies aimed at improving the countries’ infrastructure, should help attract foreign investments in the nonhydrocrabon sector. The authorities are also considering the introduction of a corporate income tax rate for national companies at a lower rate, with a view to unifying these rates in the future. In addition, the planned introduction of the VAT in the context of a GCC-wide initiative, together with a hotel service tax, a municipality property tax, and a reduction of exemptions, should further broaden the revenue base and provide the authorities with more tools to implement fiscal policy.
Monetary and Exchange Rate Policies
8. Given complete capital mobility, monetary policy in Qatar is mainly aimed at steering short term interest rates to sustain the currency peg and to manage short-term liquidity. Growth in monetary aggregates remained robust in 2006 reflecting large increases in net foreign assets of the banking system and increased credit to finance private and high-return public investments. The authorities remain vigilant vis-à-vis these developments, particularly the recent increase in consumer and real estate lending. It is well to note, however, that the total size of loans continues to be consistent with the total assets of the banking sector and remains manageable relative to the size of the economy. Moreover, the increase in credit is facilitating financial deepening and accommodating the financing needs required to increase infrastructure investment over the medium term. Nonetheless, to help slow down credit growth, the Qatar Central Bank (QCB) has introduced restrictions on bank credit and personal loans. Furthermore, the Ministry of Finance intends to issue treasury securities to help the QCB absorb liquidity more effectively, which should also help support the development of a secondary market.
9. Taking advantage of the favorable external environment and the country’s strong economic prospects, financial institutions and large corporations have increased their foreign borrowing. External vulnerability associated with such borrowing is not a concern given that it is geared towards export related activities and in view of the increased use of secured debt instruments. Furthermore, external borrowing should be weighed against Qatar’s strong net external creditor position. Nevertheless, the authorities will continue to monitor developments in external borrowing very carefully.
10. The authorities remain committed to the U.S. dollar peg in the transition to the GCC monetary union in 2010. The peg has served the economy well by anchoring monetary conditions, and has been supportive of the needs of a small, open, and oil-dependent economy. The authorities are also of the view that the current exchange level is appropriate, and agree with staff’s assessment outlined in Box 2 of the report. It should be underscored, however, that the application of the 2007 Surveillance Decision to oil producing countries is inherently difficult owing to the high volatility of oil prices and the high dependence on oil exports. Consistent with the broader GCC strategy, the authorities remain open to discussing all options for the common exchange rate regime under the monetary union. In this context, they view the familiarity and credibility that would be provided by the pegged regime as important to investors.
Financial Sector Issues
11. The banking sector—which dominates the financial system—is benefiting from the rapid expansion in the economy, and as confirmed by the Financial Sector Stability Assessment, is enjoying comfortable levels of profits and capitalization. The system has weathered the substantial correction in stock market prices in early 2006. Moreover, the recent global credit crunch does not seem to have had an impact on the system, reflecting strong economic fundamentals, enhanced regulation, and limited exposure to the U.S. subprime market. Results from stress testing indicate that the system is robust and that banks as a whole could withstand severe shocks. The authorities have already started the implementation of the FSAP recommendations to upgrade the infrastructure of the financial system and align the legal framework with best international practices. Setting up the appropriate conditions for further developing and deepening the capital market is also a priority.
12. In order to rapidly develop the financial services industry to support the economic expansion, the authorities adopted a strategy for a single Qatari financial market with a unified financial services regulatory authority and have embarked on a multiyear plan to implement an effective integration strategy. In this connection, the authorities fully acknowledge the importance of designing a credible transition plan to implement their vision while maintaining confidence in a stable legal environment.
Economic Data and Other Issues
13. The authorities attach high priority to improving the quality of economic data and significant steps have been taken to upgrade the statistical database through Qatar’s participation in the GDDS and passage of the recent Statistics Law. The authorities recognize that there is still large scope for further improving the quality of economic data. They intend to request further technical assistance from the Statistics Department to help formulate a strategy to strengthen statistical capacity, including the compilation of external financial accounts and the development of early warning indicators.
14. Finally, we would like to underscore that the authorities attach high importance to the Fund’s advice and support and agree with staff’s recommendation that Qatar move to a 12-month Article IV consultation cycle for the very same reasons elaborated by staff in the report.