Qatar’s Achilles’ heel: The prospect of slow financial strangulation

Following the meeting of policymakers from Saudi Arabia, the UAE, Bahrain and Egypt in Cairo to determine the next steps in the standoff with Qatar over its alleged support of terrorism, it is worth keeping in mind the economic and financial cost of the affair.

So far, this has been limited, both for the Saudi-led allies and for Qatar, but it has the potential to escalate rapidly — with serious consequences especially for the economic and financial health of Doha.

The economic damage has been limited so far because, despite the tough rhetoric and uncompromising list of demands from Saudi Arabia, the UAE and their allies, the actual measures taken against Qatar have left plenty of room for maneuver.

Closure of the land border between Saudi Arabia and Qatar, denial of regional airspace and maritime trading links are headline-making moves. But really they are little more than inconveniences. They certainly do not amount to a blockade because they are comparatively easily circumvented, as Doha has shown.

Trade with Turkey, Oman and Iran has more or less compensated for the lost business between Doha and Saudi Arabia and other Gulf partners. Trade within the Gulf Cooperation Council (GCC) is not as significant as you might think: Only about 15 percent of total commerce in the Arabian Gulf region is between GCC member states, compared to about 60 percent in the EU, for example.

The other reason Qatar has found it comparatively easy to maintain its standard of living over the past month is that Saudi Arabia and its allies have, hitherto at least, stayed away from the jugular. Oil and gas tankers continue to load in Gulf ports with Saudi and Qatari products; the Dolphin energy pipeline continues to run with Qatari gas all the way along the UAE coast and into Oman; and the gas facilities in the Gulf jointly run by Qatar and Iran have been allowed to operate as normal.

Whether the next phase of escalation will affect these vital interests is a key issue. It will have to be weighed whether such a move would inflict significant damage on the economic well-being of Saudi Arabia, the UAE and their allies, as much as on the intended target in Doha.

But there is increasing speculation that the next round of measures against Qatar will be financial in nature. Capital Economics, the London consultancy, recently observed: “The one area of potential weakness is the (Qatari) banking sector,” and surely this fact would not have escaped the campaign planners at this week’s meeting in Cairo.

Despite its fabled energy wealth, Qatar has been increasingly reliant on the global wholesale financial markets in recent years to fund new lending. Even before the current crisis, the ratings agency Moody’s said it was worried about the country’s basic financial model.

This week, Moody’s acted decisively to downgrade Qatar’s rating to negative, previously stable, due to “the economic and financial risks arising from the ongoing dispute.”

Moody’s said that a quick resolution of the dispute looked unlikely, with a consequent negative impact on Qatar’s sovereign credit ratings.

In other words, Qatar could find access to international markets more difficult and more expensive the longer it holds out, with increased risk for its financial and banking systems.

This could turn out to be Qatar’s Achilles’ heel. Last month another big ratings agency, Standard & Poor’s (S&P), noted the country’s increased reliance on external debt, which it said made the country’s banks more vulnerable to the changed financial circumstance.

S&P calculated that at the end of last April, external debts stood at 24 percent of domestic loans, compared with 13 percent at the end of 2015. Qatar’s ongoing infrastructure program, including the cost of staging the FIFA World Cup in 2022, is being increasingly funded by borrowed foreign money.

Non-resident deposits — cash kept in Qatari banks by foreigners — amount to 42 percent of that external debt, while deposits by foreign banks amount to 47 percent.

By geographical origin, the amount that comes from other GCC countries is relatively small — at about 8 percent of the total. The biggest lenders to Qatar — apart from Qatar itself in the form of government and sovereign wealth fund deposits — are Europeans.

If all GCC countries (including Kuwait and Oman) withdrew their funds from Qatar, the effect would be containable, S&P calculated, with no need for support from outside the country. But in a different scenario, in which other international lenders from the West and Asia withdrew about a quarter of their current deposits, it would be much worse for the country. Qatari banks would probably have to liquidate securities portfolios to maintain deposits.

This is the danger for Qatar. It is possible that Saudi Arabia and the UAE (the two big financial powers in the region) could impose a financial blockade on the country, withdrawing all their deposits and closing Qatari banks in their countries.

That would amount to the first stage in a slow financial strangulation of Qatar and would be much harder to evade than the current economic and commercial blockade.