By Nicolai Due-Gundersen
The Kingdom of Bahrain is a small island-nation in the Middle East, located in between the Persian Gulf and the Gulf of Bahrain. Bahrain’s closest neighbors include the dominant Kingdom of Saudi Arabia and the smaller nation of Qatar. Bahrain’s main investment sectors are characterized by booming financial and banking services. Hence, despite earlier hydrocarbon discovery than most Gulf States, it has attempted to minimize hydrocarbon dependence. In addition to the aforementioned sectors, Bahrain is also seeking to further diversify its economy through tourism.
BahrainTo that end, Bahrain has focused on hosting and further developing the Formula One World Championship events. In 2002, agreements were signed between the Kingdom of Bahrain and Bernie Ecclestone, current manager of F1, to host the 2004 round of the F1 Championships. Shortly after the contract was signed, Bahrain invested 150 million USD in the construction of the Bahrain Racing Circuit. The F1 investment quickly paid off, allowing Bahrain to enjoy the second highest growth in tourism within the Middle East by 2006.
However, the events of the Arab Spring spilled over into Bahrain, leading to widespread protests that were met with harsh responses from the Bahrain government in 2011. While protests became more fragmented in early 2012, in part due to King Hamad bin Isa Al Khalifa’s agreement to consider democratic reforms, violence returned less than a month later, in February 2012.
Overview of Investment Sectors
Despite a desire to diversify its economy, the hydrocarbon sector continues to be a persisting revenue source. Bahrain’s proven reserves are estimated to be at 125 million barrels, as of January 2011, with a 46,000 barrel per day output. In addition, Bahrain shares an offshore field, Abu Safah, with Saudi Arabia. With production shares equally divided between the two states, Bahrain’s Abu Safah output stands at 150,000 barrels a day. A key aspect of Bahrain’s hydrocarbon sector is its refining capacity. Unlike most (pan) Arab states, which export crude oil to Western and Asian markets, Bahrain refines its petroleum products prior to exportation to main clients, which also includes the Asian region, especially India. Refining capacities are an important indication of well-developed infrastructure, lowering required investments from foreign (oil) companies and also illustrating a country’s extent of overall advanced (technological) development. Such development factors can serve as indications of a country’s economic stability and hence the potential security of long-term investments.
In addition to its hydrocarbon sector, Bahrain has encouraged further growth of its banking and financial institutions through increasing economic reforms, with the aim of creating ever more liberal markets and diversified private investments. The Bahraini government has targeted five industries for expansion for the purpose of achieving overall stability. These areas include business and financial services, tourism, information technology, telecommunications and healthcare.
Bahrain’s strategy is to maintain and increase its image not simply as another Gulf (oil) State but as the business hub of the Arab world, attracting both international and regional firms. Bahrain’s economic reforms, along with simplifying the process of investment and business establishment within the country for outside firms, has attracted regional financial institutions such as Arab Chartered Legal Accountants, a global (but Arab-focused) auditing firm. In addition, the Kuwaiti-based intellectual copyright law firm, Talal Abu-Ghazaleh Organization, chose Bahrain as its headquarters location in 2010.
The recent expansion of such Arab-based firms into Bahrain, along with Bahrain’s already existent state-run Central Bank of Bahrain, may indicate that the Bahraini government has placed more emphasis on forming closer regional business ties and thus wishes to sell its financial sector to proximate Arab states. However, the establishment of the Abu-Ghazaleh Organization was closely followed by the opening of the Abu Ghazaleh Institute for Chinese Language and Culture in 2010. Furthermore, Bahrain and India signed a Memorandum of Understanding (MoU) as recently as early summer 2012. The agreement has the core goal of promoting economic and joint investment between the two states. The agreement will be further bolstered by the formation of the Bahraini-Indian Business Council, which will serve as a concrete structural platform for mutual, foreign direct investment.
India’s business rival, China has also been fostering closer relations with Bahrain. In 2011, China was the third largest non-Gulf export market for Bahraini trade, with China itself being the second largest importer of Bahraini goods. While some critics may argue that Sino-Bahraini trade is on the rise, it is important to consider how relations between China and Bahrain are structured and filtered. Unlike Bahraini-Indian relations, which are to be further developed through the platform of the Bahraini-Indian Business Council, Chinese business with Bahrain must go through the Gulf Cooperation Council, a regional organization that represents the collective economic and security interests of Bahrain, Kuwait, Oman, Qatar and Saudi Arabia. Though there has been discussion on the creation of a Bahrain-China Business Council since 2009, this has yet to materialize. Indeed, Bahrain appears to view itself as China’s gateway into the larger Gulf market, rather than a central target market itself. Bahrain’s relations with India, on the other hand, have seen a recent mutual investment surge. Furthermore, Bahraini-Indian relations span a history of close to 300 years, with up to 350,000 Indians currently residing in Bahrain.
Although Bahrain is known as an international business hub of the Arab world, it is clear that its main economic focus has prioritized its Arab neighbors and the Asian region, with a greater business emphasis on India. This emphasis is further bolstered by the fact that India serves as the main export market in Asia for Bahraini oil. Despite its Asian focus, Bahrain has attempted to create further incentive for more international investment. Such attempts have included providing economic privileges to corporate and small-scale investors, including no income tax and, significantly, total ownership of businesses established in Bahrain by foreigners.
Such incentives have recently earned Bahrain the title of ‘Host of Three of the World’s Top Twenty Economic Zones.’ This title, earned in 2012, earmarks Bahrain as a top twenty location for internal investment, economic development and global business expansion. Bahrain’s economic status has, of course, been further assisted by its location within the Gulf, which allows access to other Arab states, including the world’s largest oil producer, Saudi Arabia. The King Fahd causeway serves as a physical connection between the two states, which has encouraged closer relations between Bahrain and Saudi Arabia.
Access to Arab states has attracted certain Western firms to Bahrain, including American firms Citicorp and American Express. Despite Bahrain’s Asian focus, American ties remain strong, with the U.S. a close trading ally and military client; a significant portion of the US Navy’s Middle Eastern fleet has enjoyed Bahrain’s strategic location for around 50 years.
Formula One and Tourism
Bahrain’s winning bid to host the Formula One Championships came amid fierce competition from other Arab states, especially Egypt, Lebanon and the United Arab Emirates. By 2004, there was significant interest in Bahrain’s Grand Prix, and it is likely safe to say that ‘F1 tourism’ started with the interest of tourists from surrounding Gulf States. The F1 races, which Bahrain attempts to host on an annual basis, have played a significantly increasing role in tourist revenue. They have become the definitive event of the tourist sector, earning the state up to 600 million USD in revenues. Interestingly enough, the majority of F1 tourists continue to come from the Arab world, with less than a quarter of fans from the West, mainly the U.K. The significance of the F1 Championships expands into various subsectors of tourism and hospitality, especially for hotels, which often see total occupancy and are subsequently able to charge up to double their normal rates. In addition, the race generates up to 600 jobs, both directly and indirectly linked to the event, and often earns an additional 7.7 million USD in T.V. rights, sponsorship, catering and commissions, along with facility rental.
However, the success of Bahrain’s F1 events, along with its other investment sectors, has not been immune from the effects of the Arab Spring. Unrest in Bahrain began on February 14th, 2011. Influenced by protests in Egypt and Tunisia, protestors took to the streets of Manama, Bahrain’s capital. From February to June 2011, tensions increased and it became clear that a main source of conflict was the power of the ruling Sunni minority in a country of Shia majority Muslims. Although there have been moments of respite, including the King’s pledge to consider democratic reforms and granting Parliament greater powers of scrutiny, protests and violence increased from February 2012 onward. Worryingly, April 18th 2012 saw F1 drivers exposed to a petrol bomb attack during a practice run, although there are signs that F1 teams were not intended targets.
Although the 2011 F1 Championships were hosted in Australia, Bahrain was keen to welcome back F1 for 2012. Bahrain’s eagerness was no doubt due to the significant revenue losses for the tourist sector due to its cancellation of the 2011 event. While protests in Bahrain have somewhat mellowed, tension continues to exist, with allegations of Bahraini police and soldiers using excessive force on protestors. The alleged arrest and jailing of an 11-year old boy for protest involvement also re-sparked international and domestic outrage.
Economic Stagnation?
In addition to the loss of F1 prestige and tourism, many critics have pointed out that Bahrain’s economic growth stood at only 1.3% in the final quarter of 2011. In addition, many construction projects, which no doubt could contribute to tourist attraction, have been abandoned or halted due to lack of continuing investment. Another worrying trend has been the effects of popular unrest on the financial sector, Bahrain’s pearl in the Gulf, especially the bankruptcy of a major Bahraini bank. Indeed, the conspicuous lack of expatriates serves as an appropriate symbol for what some claim is the decreasing involvement of international firms and investors. Furthermore, the events of the protests have directly cost Bahrain up to 2 billion USD, including up to 200 million USD worth of damages to small and medium-size businesses. Such effects of the Arab Spring will no doubt further make potential external investors wary of establishing businesses within Bahrain or investing in its institutions and portfolios.
Despite such recent downturns, however, there are certain positive (or at least mitigating) indications. Bahrain recently increased its crude oil production and government spending, leading speculators to estimate Bahrain’s 2012 economic growth to be at 4-5 %. Furthermore, some economists have argued that the slowing down of construction growth can be at least partially attributed to recent oversupply of business properties, rather than a sign that businesses are abandoning interest in Bahrain’s strategic location and investment opportunities. While such arguments may be taken as positive signs of (re)development, it must be remembered that Bahrain’s oil sector is distinguished for its exportation of refined rather than crude oil. Hence, Bahrain should resume refined exportation as soon as possible in order to convince potential investors that its infrastructural stability and capacity has returned to acceptable levels. In turn, such resumption may be taken as a sign by non-hydrocarbon investors that stability has begun to return to the overall outlook of Bahrain’s economic performance, encouraging further investment in non-hydrocarbon sectors such as tourism and banking.
Bahrain’s Unrest Versus Saudi Arabian Potential
Bahrain’s strategic location serves as a gateway to the Gulf region. At the same time, Saudi Arabia boasts the status of number one global petroleum producer and exporter. Hence, there is much interest in Saudi Arabia from international oil firms. However, Saudi Arabia’s conservative culture, with its strict Muslim codes, which some Westerners may struggle to embrace, may curb the number of Westerners willing to be active in the country. Hence, Bahrain, with its already established links to Saudi Arabia, has the potential to serve as a more Western-friendly ‘safe-house’ for Western investors, business individuals and company representatives seeking to broker deals in the Saudi Arabian hydrocarbon sector.
However, the business potential of Saudi Arabian-Bahraini unity may be threatened by political considerations. Bahrain’s officially announced desire to share unity with Saudi Arabia and surrounding Gulf states (an Arab equivalent of the European Union) has been interpreted by most Bahrainis and outside critics as having the sole aim of strengthening the Bahraini government’s crackdown of protestors by gaining closer access to Saudi security forces. This suspicion is heightened by Bahrain’s earlier use of Saudi troops to quell uprisings. In addition, demonstrations in Tehran supporting the Bahraini people’s denouncement of such a union have heightened tensions between the Bahraini and Iranian governments.
One possible alternative to formal (political and federal) unity would be the creation of a Bahrain-Saudi Arabia Business Council. Such a platform could strengthen business cooperation between the two states and serve as a framework for Bahrain becoming Saudi Arabia’s ‘business stopover’ for Westerners. In order to dispel suspicion and the prospect of increasing tension, both internally and with Iran, it would be best if such a council were to feature minimal government involvement and instead be a council composed of private businesses. However, as the state is deeply involved in the hydrocarbon sector on both sides (with said sector defining Saudi Arabian economics), such minimization may prove difficult. Thus, state involvement may still be balanced by the participation of international firms. Furthermore, such participation may act as an additional bolster of confidence for potential external investors to return to Bahrain if it allows greater access to Saudi Arabia than via the Gulf Cooperation Council, which certain external investors such as China have had to go through in the past, including for dialogue with Bahrain itself.
Coon
Bahrain stands out from its fellow Gulf States due to its heretofore successful attempts to diversify its economy and minimize the status of being an oil state. Its diversification efforts have earned it the status of being a financial business hub within the Arab region, and the more recent success of the Formula One events has created a most profitable tourist sector. These two elements have rounded out Bahrain’s strategic location as an access point to other Gulf States.
Although the Arab Spring has not had the same sweeping effect in Bahrain as in other Arab nations such as Libya and Egypt, its influence on Bahrain’s investment sectors should not be ignored. Notably, the unrest in Bahrain has been strong enough to have led to the cancellation of the 2011 Formula One event, affecting Bahrain’s image amid government resistance to protestors and taking from the Kingdom a total potential revenue of up to 600 million USD in that year. In addition, the cancellation has had strong repercussions on the hotel and catering sector due to the decrease of tourists. The financial sector too appears to have been hit by a slowdown of economic growth in late 2011 and the withdrawal of expatriate workers and investors from certain industries.
However, Bahrain’s economy still retains promise. In addition to being the host of three of the world’s top twenty economic free zones, economic growth for 2012 was projected to enjoy a modest rebound. Bahrain continues to be ranked as the top business and economic hub of the Arab world, and the government’s recent increase in spending and focus on encouraging internal entrepreneurism is testimony to its determination in growing as an investment hub.
The return of international investment flows into Bahrain will likely hinge on the government’s treatment of ongoing protests. While such protests have lacked the perpetual motion of other Arab Spring movements, the government’s suppressive response to most protests has been met with harsh criticism and pressure, including from business allies such as the United States. Such pressure, in addition to long-made promises from King Al Khalifa, must give way to open dialogue for the first seeds of stability to be sown. Such dialogue can be assisted by diffusing suspicions of Bahraini-Saudi Arabian unity through the creation of a Bahrain-Saudi Arabia Business Council. Such a council can be established in lieu of a formal union between the two countries, with minimal state involvement and the open participation of Bahraini, Saudi Arabian and international businesses. Through business councils, other trading partners such as China can have a more direct link with Bahrain, allowing Bahrain to both defuse political suspicions and increase its status as a gateway to the rest of the Arab world.
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Nicolai Due-Gundersen is a contributor to Geopoliticalmonitor.com and is associated with the Arab Institute for Security Studies (ACSIS).
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