Bahrain’sDeficit & Economical Growth

Impact, Causes and recommendations

Group Members:
Abdulla AlMehaiza – 201500357
Najla Alarrayedh - 201501620
Zainab – 201501650
Majeda Taher - 201401267
Executive Summary:
As a result of the current falling in international oil prices, Bahrain’s budget
for the upcoming few years is facing shortages. Therefore, Bahrain is required to
boost its fiscal state and bring back stakeholders’ assurance in the economy. Bahrain
has to make numerous improvements in terms of taxation, public payments and
subsidies cut.

This report discusses three main existing and predictable issues facing Bahrain’s
economy, that are GDP, Inflation and Unemployment, and the effect of these issues
on the budget deficit and sustainable growth. The GDP is described and each
component is explained comprehensively. The two forms of GDP are defined,
Nominal and Real GDP, providing Bahrain’s recent and future predicted GDP
retrieved from theBahrain Economic Development Board. The Inflation theory is
also explained and linked to Bahrain’s Inflation rate and the causes of inflation.
Unemployment is similarly described and related to its effect on sustainable growth
and budget deficit. Then, solutions and recommendations are suggested in terms of
fiscal policies, monetary policies and international trade policies.
Introduction

Bahrain is experiencing great fiscal deficit each passing year. Thus, the
government amount overdue level is growing at a fast and shocking rate. Numerous
reasons including will be deliberated and solutions will be suggested in order to
manage the current situation.
Bahrain has by now engaged a few measures to decrease the budget deficits by
increasing prices of oil in the country by nearly 60 percent. Though, Bahrain has
local political issues as wellwhich are keeping away the foreign investments from
Bahrain. (Schulz, 2016).

Bahrain’s government has done some extreme procedures to cut the social
expenditure with the aim of securing the budget deficits.The energy prices are
thought to rise increasingly till year 2019 to cover the costs of production. Bahrain
is similarly arranging, along with the other GCC countries, to impose 5% value
added tax (VAT) and additional alteration in the social expenditure in the upcoming
future. (Azimi, 2016) Thereport will discuss the micro and macroeconomic theories
that are affecting the economy.
GDP

GDP (Gross Domestic Product) is used to calculate the health of an economy. It

is done by adding up the total market value of output produced over a period of time.
Resources used in the production are owned by local population or foreign investments
within the country’s borders.

There are two ways to calculate GDP: Expenditure Approach and Income
Approach The expenditure method is the most used way to evaluate GDP. It calculates
everything under the private segment, as well as consumers and private businesses,
and government expenses within the borders the country. These components must add
up to the total value of all finished goods and services produced over a period of time.
Consumption is the price of goods and services used by people. It is usually a major
GDP component. Many individuals judge the country’s economy mostly depending on
the level of consumption. Investment contains business purchases that are made to
produce consumer goods. But then, not all purchases are added. If it is a purchase of a
used or intermediate product, then it does not add to the GDP and is not calculated.
Government spending: It is basically the government spending on goods and services. It
consists of the purchase of intermediate goods, wages and moneys paid by the
government. Net Export: It is the difference between local expenses on foreign goods
and foreign expenses on local goods. Therefore, the difference between Exports and
Imports of a country is called Net Exports. (McEachern, 2006)

As to the causes and impacts, Bahrain’s necessity on limited sources of revenue

which is the oil, and economic sectors siding the Aluminum in non-oil along with
production, tourism and buildings, Bahrain has developed some complications in the
economy that are affecting the GDP. GDP also effects the fiscal and monetary policies
of the country.Sustainable growth is linked to a number of advantages that increase the
economic welfare. One of the advantages is that a rise in real income will lead to a rise
in wages and profits, which will increase the GDP per capita. Another advantage is that
when the economy is growing, the government receives more tax income, which in
return distributes more resources to the public like hospitals, schools and roads. On the
other hand, as production and consumption rise, they leave a negative impact on the
society like pollution, overcrowding and reduction of non-renewable resources, which
reduces the economic welfare. Also, growth can expand the distribution of revenue,
which means some people may get advantage much more than others.

Every economy in each country has an issue that is supporting and is affecting the
Gross Domestic Product (GDP). Specifically, the finished goods and services monetary
costs, that are produced within the country’s borders in a specific time period.
(Investopedia, n.d.) The GDP is studied through the consumer expenditure of the
population, investments, government spending and net export. GDP is used as an
indicator measuring the health of the country’s economy; it shows the price of all the
goods and services in a specific period and can be also used to indicate the size of the
economy. These GDP values also affects the fiscal and monetary policies of the
country.There are two kinds of GDP measurements, Real GDP and Nominal GDP where
Real GDP is adjusted for inflation or price changes, while nominal GDP is measured
using the current prices in the market. (Investopedia, n.d.) Bahrain’s real GDP over 2016
ended with an increase of 3.0% and has decreased to 2.5% throughout 2017. Real GDP
is expected to fall even more in 2018 to 2.4%. Whereas, the nominal GDP ended 2016
with a reduction of 2.4% but remarkably increased to 6.8% in 2017. It is predicted to fall
by 6.0% in 2018 (Bahrain Economic Development Board, 2017).

Unemployment

Unemployment is the process in which an individual that is eligible to work is

looking for a job and not being able to find a vacancy. Unemployment is measured by a
percentage in which the unemployment rate is calculated by dividing unemployed
individuals by those who are actively employed. (Unemployment, 2017).

The economy encounters three different types of unemployment:

Cyclical unemployment is affected by economical cycles, when recession hits the

economy, companies first card is to cut cost therefore employees are laid off. However,
when the recession starts to fade and the economy up rises, there would be new jobs
offered, where people seeking for jobs then get easily employed. (Nash, nd)
Fictional unemployment defines the act of people leaving their jobs to find other jobs for
various reasons. Structural unemployment is centered on employers who are seeking
certain characteristics and skills, which are not found amongst the population of job
seekers.

The factor of unemployment can directly affect the sustainable growth of a country, as
the number of individuals is the productivity behind the working force where they are
classified and looked at through education, experience and motivation towards working.
The increase in labour productivity allows firm to encounter advanced production
developments to become efficient. (Pettinger, Factors affecting economic growth, 2017)
Not only would the sustainable growth of the country get effected, the budget deficit is
directly impacted with unemployment rates as expenditures overcome revenues due to
lack of jobs and opportunities.

The unemployment rates in Bahrain were sitting around 3.5% in the last couple
years and yet have increased to 4% as evaluations were done this December 2017
according to the Ministry of Labour and Social Development. (Bahrain Unemployment
Rate, 2017)
The economic growth of a country has a direct impact towards unemployment, however
this impact is slow and takes time to be hazardous, negatively intersecting the concept
of economic growth, effecting future generations and the oncoming economy levels. The
effect measured in time depends thoroughly on how advanced and long a recession or
unemployment rate is at or would last. (Desnoyers, 2011)

The problem Bahrain is facing with unemployment is due to the population size, as
stated through the World Masters records, Bahrain’s population has increased from
1.270,000 in 2010 to
1.492,584 of this current year (Worldmasters, 2017). This increase in Bahrain’s
population has managed to negatively boost the unemployment rates as the number of
job seekers increased; jobs offered get overtaken by the demand. This directly effects
future generations as the population will always increase and so will the demand for jobs
causing a threat to an unstable economy and a hard mission to find a job for the future
individuals.

Unemployment affects the budget deficit as the country’s expenditures exceed

the revenues due to payments and reduction in the budget deficit due to a slow growth in
income that causes slower tax revenues and an increase on unemployed spending’s.
Which is found in Bahrain’s recent system (UIS), this system entitles unemployed
individuals seeking for jobs to get financial aids up to six months.
The second threat of unemployment would be the reduction in the GDP. The stats of
2015 for Bahrain’s unemployment rate gradually increased, however the budget deficit,
which is exposed as a percentage of GDP; was decreasing from 33.39% in 2014 to
31.10 in 2015. The connection is clear as low demand that is caused by an increase in
unemployment rates decreases the GDP

Inflation

Inflation is a continuous and sustained up rise in prices, for products and services over a
certain period of time in an economy.(Amadeo, Inflation and Deflation: Definition,
Causes, Effects , 2017)

Inflation could be caused by various factors, the two most common theories to justify
inflation are cost push inflation and demand-pull inflation. Cost-push inflation is the
increases in the market prices due to an increase in expenses whereas demand-pull
inflation is when demand surpasses supply. Where companies tend to increase their
prices to keep the companies’ profit margin preserved.(Pettinger, Different types of
inflation, 2016)

Bahrain’s annual inflation rates started to rapidly grow in the previous years as the
governments removed subsidies that shocked Bahrain’s economy and inflation rates.
(Bahrain: Inflation rate from 2012 to 2022, 2017)

According to the Bahrain Economic Developments Board, inflation marked itself at 1.8%
in 2015, where it then gradually increased to a 3.8% in 2016 and is expected to end with
a 1.79% rate by the end of this year. This inflation is not necessarily a complete
negative on the economy of Bahrain, as this does suggest that demand is live. The
spark in inflation was caused by the subsidies being removed from a direct
announcement from the ministry of industry and commerce, as Bahrain was unable to
afford subsidizing the products therefore within the global rise in oil prices, Bahrain oil
revenues dropped.

Inflation is associated directly with the sustainable growth of an economy as low inflation
can be linked to an increase in economic growth over the long term; this is due to low
inflation is known to stimulate control, promotes the factor of confidence and
reassurance which directly attracts investments. These investments aid the long-term
economic growth of a country. As to high inflation that was recognized in the earlier
years in Bahrain where the rise in oil prices forced the government to remove subsidies
where firms increased their costs and reduced the income which contributes to lower
growth rates and high inflation. This was caused in Bahrain mainly due to the global oil
production prices issue and the rising tax

Policies:

Trade policy describes values, aims, guidelines and principles that affect trade
between countries. These policies are different for each country and are framed by its
public officers. The goal of this trade policy is to enhance the countries’ international
trade. International trade policy consists of taxes forced on import and export,
examination rules, and tariffs. (Trade Policy, 2010)

Tariffs should be used to limit imports by raising the price of goods and services
bought from abroad and making them not as attractive to buyers. Governments could
impose tariffs to increase income or to guard local businesses from foreign competition.
By making over-seas manufactured goods pricier, tariffs can make local produced goods
more demanded and wanted. (Tariff)
Bahrain should impose trade restriction to avoid unemployment. Through the period of
recession or poor trading circumstances, unemployment increases if imports are
allowed in to the amount that they terminate local businesses. It is in such conditions
that companies with a low performance rate perform better under free trade convince
the government to enforce boundaries on imports. (Phiri, 2013)

Fiscal policy the main tool used by governments that implies taxation and
spending’s to manipulate the markets situation. This policy aims to control inflation
rates, minimize unemployment rates and also maintain a positive economic growth rate.
The governmental decision towards the Fiscal policy has a direct effect on the economy
as it involves all factors. As the Bahrain has set an increase to be active on certain
products by the end of this year, the increase in VAT would directly increase revenues
for the country. The fiscal deficit could be managed by having sending’s focused more
on the social welfare. The increase in taxes will definitely raise revenues which effects
the GDP positively yet this could effect inflation and unemployment rates therefore
focusing on Corporate taxes rather than income taxes is a better approach as there are
numerous National companies that operate without being taxed, the reason behind this
is due to the slow economical growth rate which is effects imposing taxes on individuals
as this limits their disposable income causing a decrease in spending’s. Along which the
government should focus on Tourism, allowing this to happen would attract people and
raise the GDP as Tourism is accounted as one of the main sources of income for an
economy.
 Monetary policy the tool used by the CBB. The CBB is no different from the
Government when it comes to restoring and improving a countries economy. The CBB
issues governmental bonds nationally and internationally to limit the deficit, yet the
Gov. should be able to trade amongst the bonds with the individuals of Bahrain allowing
investments to increase and the money earned would be reinforcedin the economy of
Bahrain unlike global spending.
CBB must consider increasing the money supply, as the country is facing a
recession as this increase occurs, demand for goods and services can increase with
respect to the Inflation rate.If the economic condition o the country improves within the
coming years then individuals will bebale to close their debts and loans and increase
their investments, which stimulates demand and raises the GDP, this also controls
unemployment as new jobs and opportunities are vacant.

PART B:

Microeconomics is the study of the individuals’ actions and choices, and how
these choices affect the distribution of scarce resources. Microeconomics is used to
explain and predict what is expected to occur in the market depending on certain
changes, rather than what should happen. For example, it can help investors predict the
reason for a fall in stock prices of a certain company, if consumers bought less of the
product. (Microeconomics)

Law of supply
The law of supply specifies that with other influences being constant, price and
quantity supplied are directly linked, which means that when the price of goods
increase, the quantity supplied for that good is increased as well. Business owners could
use this to determine when to increase the quantity supplied depending on the increase
in price. This will help business owners in gaining profit because of the higher prices. The
graph below (Figure 1) shows the relationship between price and quantity supplied.
(Law Of Supply)

Figure 1 (Law Of Supply, n.d.)

Change in Quantity Supplied Verses Change in Supply

Change in quantity supplied is different from change in supply. Change in quantity
supplied is simply the movement along the curve of supply graph, which is caused by a
change in the selling price of the product. On the other hand, change in supply is the
movement of the entire curve to the right or to the left. (Pohnpei) The graph below
(Figure 2) shows the difference between change in quantity supplied and change in
supply.
Figure 2 (Obispo, 2016)

Change in supply is caused by changes in cost and how much the seller is willing to
produce at a specific price. (Pohnpei) There are different factors that causes the
producer to be able and willing to produce more or less, which leads to a change in
supply or a “shift in the supply curve”. Below are some of the factors.

Factors that Cause a Shift in the Supply Curve

Input prices
Businesses produce various categories of goods and services using different quantities
of input. Prices of these inputs can change, if may increase and cause high production
cost. Thus, producing these pricy goods and services turns out to be less profitable and
businesses will cut on supply. This causes the supply curve shifting to the left.
Conversely, input prices being low decreases production costs, hence shifting the supply
curve to the right. For example, a coffee shop needs different ingredients to make
coffee: milk, coffee beans, whipped cream, caramel, chocolate, and so on. If the price of
the coffee beans increases, this leads to higher cost for every cup of coffee they
produce. If the price of the cup of coffee remained the same, the coffee shop will make
less profit. Therefore, businesses should find a substitute good for that good, or increase
the price of the final goods or services. (Factors that Cause a Shift in the Supply Curve,
2017)

Technology
The usage of innovative technology in the manufacturing procedure increases
productivity, which in return increases profit as it makes it easier to produce the goods
and services. This shifts the supply curve to the right. Technology only causes increase in
supply not decrease, because if the technology does not benefit the production
procedure, it should not be used. (Factors that Cause a Shift in the Supply Curve, 2017)
Number of sellers
The number of suppliers in a market has an important influence on the supply curve.
When more businesses enter the market to sell a particular good or service, the supply
increases and supply curve shifts to the right. So, the more sellers in the market, the
more quantity is supplied. For instance, one burger restaurant can make a maximum of
100 burgers, so the total supply is that economy is 100 burgers. When another burger
restaurant is opened and also has a maximum of 100 burgers, the total supply now in
this economy becomes 200 burgers, which is the total burgers from both restaurants.
(Factors that Cause a Shift in the Supply Curve, 2017)
Expectations
Producers future expectations has an important effect on the supply curve. Sellers may
expect prices to increase in the future, so the suppliers keep some of the outputs back
or decrease the existing supply to increase the supply in the coming period when it
becomes more gainful. For example, a supermarket knew that the prices of cigarettes
will increase next week, therefore the seller kept some of the cigarettes in store to sell
them the next week to gain more profit from them. (Factors that Cause a Shift in the
Supply Curve, 2017)
Government policies
Cost of production and the supply curve can be affected by the government policies.
Government policies can be through taxes and subsides. Business treat taxes as costs,
and these high costs reduces supply. On the other hand, subsides are the opposite.
Subsides is when the government pays businesses to decrease the taxes that they have.
Taxes cause a shift in the supply curve to the left, as it reduces the quantity supplied,
and subsides causes a shift in the supply curve to the right as it increases the quantity
supplied. (What factors change supply?, 2015)
Demand
Demand is explained by the willingness and ability of the consumers to buy the
product being offered in the market. Demand concept is fairly simple; when the price of
the product is high, consumers will not demand that many of those goods because not
all people in the population are actually able to buy. However, when the prices are
reduced, people can buy these products and services and consume them more. As a
general idea, more people can afford to buy that product. For example, when iPhone X
is launched at first in Bahrain, the price of the product charged to the first customers
was more than 500BD. At that time, very few people bought the product. However,
when the price of the product is coming down more people are able to buy it. From this
we can explain that in order for demand of a product to be present, people should be
willing as well as able to buy the product. Demand curve is downward sloping as shown
in the picture below:

In the above chart, it can be seen that when the chocolates are $5 each, only 5
chocolates are demanded in the market; however when the price is reduced to $3, more
chocolates could be bought in the same budget. Movement along the demand curve is
shown above and only happens when the price of the product is changed while other
factors remain constant.
Shifts in Demand Curve

On the other hand, a shift in the demand curve occurs when anything else changes
other than the price of the product itself. Following factors might cause a shift in the
demand curve:

Income effect on normal goods and inferior goods:

Normal goods are those goods which are perceived as normal mid-priced goods of
normal and good quality; while inferior goods are of lower quality. When the income
changes for the individuals; their spending pattern also changes. For example, when an
individual has more disposable income, he can consume more of the goods at the same
price. This will lead to a rightward shift in the demand curve. However, when the
income decreases, consumers will not able to buy the same quantity at a given price and
the curve will shift to the left. (Khan Academy, n.d.)
On the other hand, inferior goods are negatively proportional to the income. When the
income increases, the demand for low quality goods decreases as consumers now
demand better quality products in order to raise their standard of living. Therefore, the
curve shifts to the left. At the same time, if disposable income decreases, people tend to
switch to low cost and quality products in order to make maximum from their income.
This will cause the curve to shift to the left. (Khan Academy, n.d.)

Prices of Substitutes and Complementary goods:

Substitute goods are those which can be used in place of the product a company is
selling. For example margarine is a substitute for butter. If the price of butter is
increased, people will move to next best alternative which is margarine. This will
increase the demand of the margarine. From this it can be seen that there is a positive
impact on the quantity demanded as a result of increase in a substitute good. it can
happen the other way around as well. (Khan Academy, n.d.)
On the other hand, complementary goods are those goods which are consumed
together with other good. For example, petrol and car, video game CD and Console,
cereal and milk etc. these types of goods have also impact over the demand on the
product given a change in the price of other complement. For example, if the price of
cars will rise people will buy fewer cars, causing a leftward shift in the demand of petrol.
Therefore, quantity demanded of petrol will fall along with it. At the same time it will
have opposite effect as well. (Khan Academy, n.d.)

Changes in population

As the size of the population increases, so does the quantity demanded of the products.
For example, if a new area infrastructure is developed, and people start to move there.
They will demand many different products to feed themselves. Therefore, increase in
the size of population creates demand directly. This will shift the curve to the right.
However, if the number of people is reducing, this will shift the demand to the left
causing the quantity demanded to decrease at the same level of prices. (Khan Academy,
n.d.)

Changes in other factors

Consumers’ preference might put a lot of pressure on the demand of the product. For
example, if the weather changes demand for warm clothes will increase, while thin
clothes will fall and vice versa. Moreover, consumers buying behavior, tastes and
fashion might change causing shifts in the demand of the product. People follow
celebrities and current fashion. This might have positive or negative impact on the
product demand. (Khan Academy, n.d.)

MARKET STRUCTURE
Market structure defines how a market is functioning in the economy. It depends
on many factors how a market is shaped within an economy. For example, how many
suppliers are willing to operate? What kind of demand is present for the product? How
big is the market of the product? With such questions kept in mind, market is shaped
into different categories, which are as follows:

Perfect Competition:
This market is usually big and the products available are in abundance to fulfill the
demand of the product. Market has too many buyers and too many suppliers, because
of which no one has the power to dictate the prices in the market. Everyone has sound
knowledge of the prices and the products being sold are identical for example wheat.
The market is open for all, and it is very easy to set up the business and start supplying
the product within the market. (Investopedia, 2014)
 Monopolistic Competition:
In this type of market, there are many buyers and sellers with a little bit of
differentiated products. However, the structured is defined with a span of short term
and long term. In the short-run, there are limited suppliers with limited buyers, so the
companies can earn a lot of economic profit. This is seen by other investors who in turn
set up their businesses and enter the markets due to non-existent barriers. When the
number of suppliers increase in the market, the profit of the current suppliers is reduced
and they earn normal profits altogether. Therefore, in the long-run, due to the increased
number of suppliers, the market becomes as close to as perfect competition.
(Investopedia, 2014)

Monopoly:
A monopoly structure is one, in which one supplier is big enough to fulfill the demand of
the economy. There are very strong barriers to entry due to the size of supplier. For
example, few years back in Bahrain, Batelco had monopoly over telecommunications
services. It was the sole provider of such services and was able to charge whatever
prices possible. In this structure, one company dictates the market. This is because of
factors such as intensive capital investment required to set up the business; achieve
economies of scale in production and charge possible pries to survive in the beginning.
The monopoly firm may reduce the prices to the least possible value so that due to non-
existent profits, investors will be discouraged to invest in that sector. (Investopedia,
2014)
 Conclusion:

To conclude, the fiscal deficit in Bahrain will gradually increase if the Gov. and if
the CBB does not take firm action towards the situation. Time is the main component o
implying and accepting policies and changes in consumer behaviors. The Oil prices have
market a stable growth rate, yet the main focus should not be of that sector only but
also include and expect other sectors to aid the economy as a main component. New
ways of taxation should be imposed. Government spending’s on subsidies and social
payments need to be reconsidered and watched carefully to limit the deficit and
maintain a sustained growth rate. The fiscal policy needs t be adjusted and improved to
attract and better investments and tourism. As to the CBB should also actively work with
the government to be bale to take advantage from the benefits of the monetary policy
to therefore support the Fiscal and Trade policies, which are linked together and are
dependent on each other.
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