There is talk of a Japanese contagion in global capital markets. Investors and bankers are referring to the low and slow growth that has characterized the Japanese economy for over two decades. Low to flat, or even negative interest rates, have made borrowing cheap, but low growth rates mean that few businesses take advantage of the opportunity to borrow and expand. Likewise, inflation is low; the effect is stagnation.

In global markets, there is concern that bond yields are near zero. That is, the cost of raising capital with repayment over the long term, especially for governments, is very low. Investors expect that inflation will remain very low, but also that economic growth rates will remain very flat, or worse. When economies are sluggish, central banks are unlikely to raise interest rates. If investors predict that central banks will keep interest rates low, the yield curves on bonds slump.

Europe could be headed for recession, while growth rates in the United States are lackluster at best. Interest rates are at their lowest level in U.S. history, and there is not much indication that the U.S. central bank, the Federal Reserve, intends to raise them soon.

Capital is Accessible for Gulf States

What this means for the Gulf states is good for the short term, but more foreboding for the longer term, especially if oil prices stay in their current range. The good news for Gulf states (in a time of sharply diminished fiscal revenue from oil exports) is that capital is accessible. And Gulf governments (and their related corporate entities) have been very busy issuing bonds and borrowing from international lenders in 2016. Total issuance by Gulf Cooperation Council states could reach $35 billion this year. The fiscal deficits that have followed in all of the GCC states since the fall of oil prices in late 2014 have found some remedy in external finance.

In early June, Oman issued debt in the form of a $2.5 billion bond – its first debt issue in nearly 20 years. In late June, state-owned Petroleum Development Oman obtained $4 billion in loans from international banks.

Saudi Arabia issued more than $9 billion (34.5 billion Saudi Arabian rials) in bond issues in the first three months of 2016. There are plans to raise another $10 billion through a syndicated loan by early September.

In May, Abu Dhabi issued its first bond since 2009, in the amount of $5 billion, with oversubscribed interest from investors.

On May 25, Qatar sold a $9 billion bond (in three maturities: five, 10, and 30 years), surprising markets with the amount of investor interest. The Gulf “jumbo” bond was a bellwether of market appetite for GCC debt, but also an indication of the very few opportunities globally for investors seeking higher returns on sovereign, investment-grade debt.

The relatively low debt to gross domestic product ratios of the GCC states (with some exception, e.g. Bahrain) mean that these are states that can attract investors, including pension funds and institutional investors that would be wary of other so-called emerging market debt that is of lower credit rating.

For Bahrain and Oman, which have seen their ratings with international agencies downgraded in 2016 to “junk” status, issuing debt is still possible, though proving slightly more difficult. In February, Bahrain canceled plans for a $750 million bond issue after a ratings downgrade, only to successfully reopen the sale a week later to a slightly lower $600 million. In May, Bahrain issued an Islamic bond or sukuk, raising another $435 million.

GCC Government Debt as Percent of GDP

Easy Money Now, Repayment Could be Tough Later

Too few opportunities globally for bond investors (with near zero interest rates and even negative rates) mean GCC states and state-related corporates can access capital fairly easily. The longer-term challenge is that they will have to repay dollar-denominated debt with currencies tied to the U.S. dollar and economies that are, at least for now, very sluggish. Economic growth expectations across the GCC are low.

Standard Chartered has lowered growth predictions for Saudi Arabia at a precarious moment in the kingdom’s economic reform agenda. In a July report, Standard Chartered found Saudi Arabia’s GDP expanded 1.5 percent year on year in the first quarter of 2016, with non-oil sectors contracting by 0.7 percent. This was the slowest GDP growth rate in three years. The bank has lowered its 2016 GDP growth forecast in the kingdom to 0.7 percent.

The dollar is appreciating, meaning that these debts are going to be more expensive to repay, especially as the GCC states have very few non-oil exports and all exports are essentially priced in dollars. If oil prices continue to stay low, even for the next three years, there will be pressure to generate revenue to service these new debts. Oil revenue remains an important part of GDP across the Gulf states. As it decreases, Gulf states are pressured to find alternative sources of economic growth. Government revenue generation is essential, so a number of fiscal policy alternatives to the receipt of oil revenue become very attractive including taxes, levies, fees, and ways of monetizing state-owned assets.

Oil Revenue as a Percent of GDP

Debt management offices have been formed across the region ostensibly to think about repayment, but their main job is to find cheap money. This debt cycle could have the effect of deepening oil dependency, as oil and gas remain the most effective cash-generating exports for Gulf states. Structural economic reforms that target revenue generation for the state, either in the form of privatization or public-private partnerships, will be essential, especially in non-oil exports. Easy money now could mean more difficult repayment days ahead. Stimulating diversification efforts, especially in the private sector, should have top priority for Gulf governments.