Large-scale destructions of infrastructure, emigration and continued (albeit somewhat subsiding) violence continue to weigh on Syria’s economic conditions. Although we expect a return to modest growth in 2019, we highlight that Syrian nominal GDP will remain far below pre-civil war levels for many years. Before 2011, the performance of the Syrian economy had been relatively robust, with real GDP growth averaging 4.6% in the decade between 2000 and 2010. A process of cautious economic liberalisation had been launched, increasing the levels of private investment and trade – although largely to the benefit of businesses and conglomerates connected with the ruling Assad family. In sectoral terms, agriculture remained a significant component of the economy, accounting for around 20% of GDP and employing a large proportion of the population. The country also had sizeable manufacturing and oil and gas industries, all of which have been severely hit by the conflict.

Private consumption was the main stream of the Syrian economy before the war, accounting for three-fifths of GDP. Gross fixed capital formation (GFCF) had been growing on the back of the government’s efforts to attract investment in industry, infrastructure, and natural gas as well as promote FDI inflows, and had reached 29.2% of GDP by 2011.

Government Consumption: The Damascus government’s ability to spend or implement a budget has been sharply eroded throughout the four years of the conflict: notably, the country’s extensive and decades-old system of subsidies was effectively dismantled in 2014. Moreover, the administrations set up by the various rebel groups do not have the capacities to provide services or salaries on a large scale. We now expect government consumption growth to stabilise, albeit from a low base, and we forecast real growth averaging 1.5% over 2018-2022.

Private Consumption: Private consumption will gradually stabilise over the coming years, as the reduction in the level of violence limits inflationary pressures seen in recent years. That said, the situation will remain dire for the vast majority of Syrian households.In particular, the agricultural sector has been substantially destroyed by the war and food prices have soared across the country, made worse by the curtailment of subsidies in government-held areas.

A 2015 report by the UN’s Food and Agriculture Organisation indicates that households spend 55% of their income on food, compared to 45% in 2011. Higher costs for rent and utilities (tariffs for phone calls and the internet were hiked in 2015) are putting additional pressure on purchasing power. We forecast consumption to contract by an average of 0.3% between 2018 and 2020 before returning to growth, although its share in the Syrian economy will stay largely constant.

Fixed Investment: Business activity and state investment will largely stay stagnant throughout the coming years, even in areas held by the regime. Many manufacturing firms closed their operations early on in the conflict, often moving to neighbouring countries such as Jordan and Turkey (indeed, in May 2015 the government banned Syrian manufacturers who relocated abroad from exporting

their products back to Syria). While industrial production has since stabilised in some regime-held strongholds such as Damascus and Homs, we see limited potential for growth. The government will lack the fiscal resources to support any new investment projects over the coming years, with any money available going towards the army or the public sector wage bill. As reconstruction supported by the regime’s main external backers – namely Russia and Iran – fixed capital formation will gradually stabilise over the coming years, before returning to growth.

Net Exports: Exports will shrink by a yearly average of 3.3% over 2018-2020, as a result of the collapse in manufacturing activity and agricultural production and oil output – which constituted more than one third of total exports before the beginning of the civil war. Regional trade routes and transportation infrastructure have also been seriously disrupted by the conflict and will take time

to rebuild. The Damascus government is particularly impacted: with most of Syria’s oil fields now destroyed or under the control of rebel groups, demand for gasoline, liquefied petroleum gas, and diesel has been met almost exclusively through imports. The government’s goods exports represented only USD1.4bn in 2013 (down from USD11.4bn in 2010), less than a quarter of the import bill.

The civil war in Syria has resulted in a sharp contraction of GDP compared to pre-war levels. Large-scale destruction of infrastructure and the depletion of human capital will affect growth prospects over the long term. Syria will become increasingly reliant on external assistance, especially from Iran and Russia, amid the depletion of government resources.

Large-scale destruction as a result of the ongoing civil war will continue to damage the Syrian economy over the coming decade, far beyond an eventual resolution. Under our core scenario, violence in the country will continue over the coming years, albeit with less intensity as the Syrian regime regain virtually full territorial control. We forecast the Syrian economy to contract by an average

of 0.4% annually over 2018-2020. By then, the economy will return to its early-1990s size. We project a return to modest growth in 2019, mostly reflecting low base effects and the influx of external funding, including humanitarian aid, and investment from Russia and Iran.

In addition to the destruction of production capabilities, the civil war will have long-term consequences on Syria’s human capital. Out of a pre-war population of 21.5mn, 5.5mn refugees are registered in the region (covering Turkey, Lebanon, Jordan, Iraq, Egypt and North Africa). In addition, the UN High Commissioner for Refugees (UNHCR) estimates that around 6.6mn Syrians have been internally displaced since the onset of the conflict. Combined with an estimated four million children out of school, the civil war will have devastating long-term consequences on the country’s human capital.

Sharp Regional Disparities Remain

Economic conditions rapidly deteriorated in government-held areas since mid-2015, with anecdotal evidence suggesting that the government’s taxation revenues have fallen to around 10% of their pre-crisis levels. The depreciation of the Syrian pound amid the depletion of foreign reserves has also hard hit households’ incomes. Despite disruptions, such as a nationwide electricity outage in March 2016, the government continues to provide basic public services in areas it controls and to pay regular salaries to public sector employees, members of the army and pensioners. With the level of violence having now subsided in government-held areas, we expect conditions to stabilise. Economic devastation is much worse in territories controlled by rebel groups. Since the beginning of Russian intervention in September 2015, frequent airstrikes have targeted rebel-held areas, resulting in large-scale destructions of infrastructure.

Increased Dependence On Foreign Aid And Investment

Throughout the next decade, Syria will remain heavily reliant on external support. The Assad regime has become increasingly dependent on financial support from its main allies, Russia and Iran. In addition to foreign aid, the Damascus government signed in 2016 a USD960mn agreement with Russia to rebuild the country’s infrastructure, focusing on power generation and oil production. We expect Russian and Iranian companies to increase their presence in Syria through similar contracts with the Syrian regime, amid limited domestic resources.

Should the conflict end with a negotiated settlement, perhaps under the aegis of the UN, massive inflows of foreign aid would enter the country, providing a boost particularly to fixed capital formation. The country would also benefit from the resumption of trade relations with its neighbours. Importantly, Turkey – which had once been a strategic economic partner – turned its back on Syria in light of the harsh crackdown on protesters by the country’s ruler Bashar al-Assad. Ankara had been instrumental in providing Syria with credit to boost the latter’s infrastructure, and Turkey had been deepening its trade and investment linkages with Syria until 2011. The free trade agreement between the two countries has been suspended, but its eventual restoration could provide a boost to Syria’s economy.

Under a scenario whereby the war ends – most likely towards the latter part of the decade – we do not expect the economy to expand at a dramatic pace, as risks to instability will remain elevated. Should an extended stalemate lead to a crystallisation of internal borders along sectarian lines, leading to a formal partition of the country, economic growth will remain subdued. Importantly, much of the newly formed statelets would not be recognised, and international aid would not reach much of the territory.

The ‘endgame’ of Syria’s seven-year civil war is likely to be protracted, with the biggest risk stemming from an eventual offensive by the Assad regime to recapture Idlib – the last major stronghold still held by rebel forces. Over the past two years, President Bashar al-Assad’s regime has recaptured most of the territory previously held by rebels or Islamist militants, thanks to strong military backing from Russia and Iran. Meanwhile, Islamic State (IS) has collapsed in Syria and Iraq, under massive assaults by US and Iraqi military forces. However, Syrian rebels retain control of the region of Idlib, which the Assad regime needs to recapture to declare overall victory. A Russian-backed regime offensive appeared imminent in September, but was postponed after Russia reached a deal with

Turkey to create a demilitarised zone in the region. Ankara had opposed the offensive on the grounds that it would have created large refugee flows into Turkey, which already hosts more than three million Syrian refugees. Certainly, Turkish President Recep Tayyip Erdogan is especially keen to avoid more refugee flows ahead of the country’s local elections, which are to be held in March 2019.

The future of the US-backed Kurdish YPG rebels remains a big unknown in Syria. The YPG (People’s Protection Units) operates in a large swathe of north-eastern Syria, along the border with Turkey, and has been the United States’ main ally on the ground in the Syrian civil war, against Islamic State. However, Turkey has consistently opposed the role and strength of the YPG, fearing that the territory it controls could serve as the basis for a future Kurdish state in Syria – one that, complementing the Kurdistan Regional Government in northern Iraq, could encourage Kurdish separatism in Turkey’s south-eastern regions, where the separatist Kurdistan Workers’ Party (PKK) has been active for decades. The US’s support for the YPG has previously led to stand-offs with the Turkish military, yet Washington is unlikely to abandon the YPG, as the group allows the US to exercise influence in Syria, providing a partial counterweight to strong Russian and Iranian influence. Overall, there is little that Turkey can do against the YPG without jeopardizing its already strained relations with the US. These strains also relate to Turkey’s deepening ties with Russia and China, and the previous detention of a US pastor in Turkey (who was freed in October 2018). Ankara can ill afford a break in relations with Washington, as this would further harm Turkey’s already fragile economy.

Overall, the military situation and ongoing international diplomatic process remain favourable to the Syrian regime. Negotiations have been taking place in Astana, Kazakhstan, since January 2017, involving Russia, Turkey, and Iran as the guarantors, with the Syrian regime and elements of the opposition as participants, and Jordan as an observer. Moscow and Tehran are very pro-Assad, giving him an advantage, while Assad’s military gains give him little incentive to grant concessions to the opposition. The last round of talks was the tenth so far and was held in mid-May 2018. A new round is scheduled for November 28-29. The Astana process is aimed at ensuring Syria’s territorial integrity and sovereignty, and purging the country of terrorist groups. However, this may take a few more years at least, given the significant domestic and international fault-lines in Syria. Indeed, a lasting peace agreement may also need the support of the US, which has troops on the ground in Syria.

Wild cards: The Assad regime could again face US airstrikes, if it is accused of carrying out another large-scale chemical weapons attack; the Trump administration bombed regime targets in April 2017 and April 2018 after accusing Damascus of using chemical weapons. We also see a possibility of further clashes or skirmishes between regional powers (including Israel), the most dangerous of which would be between the US and Russia. For example, in February 2018 reports emerged that US forces had killed dozens of Russian mercenary fighters in a battle in Syria. That incident was contained, but future such incidents could raise regional tensions dramatically.

Instability And Violence To Persist Beyond The War

President Assad’s Alawite-dominated regime is likely to remain in power following the eventual end of the civil war, given the shift in alliances in the conflict since 2015. In the post-war era, Syria would then become a pariah state if no peace deal is reached; be gradually reintegrated in the international community after a settlement; or suffer de facto fragmentation if a low-level insurgency continues. In any case, violence will continue for a number of years, while any settlement would take time to be reached.

The most likely outcome of the Syrian civil war is a victory by the Alawite regime of President Bashar al-Assad. Significant changes in alliances in the Syrian conflict since 2016 have resulted in a decisive shift in the balance of power in favour of the Damascus regime.

Russian intervention since September 2015, followed by the deployment of regular Iranian army forces in April 2016, have been turning points for the conflict, putting an end to territorial losses by Assad’s forces and enabling them to gradually retake territory from the opposition. This culminated in the regime retaking the city of Aleppo, a rebel stronghold since the early stages of the war, in December 2016. The regime now controls Syria’s more economically developed regions, that is to say the coastal region, the capital Damascus, and Aleppo, while the opposition has been pushed back to rural areas. Meanwhile, Islamic State (IS) has also lost significant ground, at the expense of the regime and of the Kurdish-dominated Syrian Democratic Forces (SDF), which are supported by the United States and which maintain a strong presence in the north of the country.

While we still believe that the security situation will take several more years to stabilise, in light of the fragmentation of the opposition, continued fighting on the ground, and the complexities of reaching a peace settlement, our core scenario is that the Damascus regime will survive the war, with President Bashar al-Assad likely to maintain the dominant role in the state apparatus. This could in turn result in different outcomes, including Syria becoming a pariah state under the rule of Assad, similar to Iraq’s situation in the 1990s after the 1991 Gulf War; the conclusion of a political settlement, allowing Syria’s return to the international stage; or the de facto break-up of Syria into various statelets.

Waning External Support For The Opposition A Decisive Factor

We had previously argued that a shift in external alliances could play a major role in shaping the outcome of the Syrian war. This view has played out over the past year, with Russia and Iran intensifying their support for the Assad regime, while the opposition has faced reduced backing from Turkey, the Gulf states, and Western countries. Turkey’s focus in Syria has shifted from helping the rebels in their bid to remove Assad from power to preventing the Kurds from the Democratic Union Party (PYD) from establishing a united region in northern Syria, after having already declared an autonomous federation in northern Syria.

Meanwhile, the US-led coalition has implemented a shift in strategy, re-focusing on ousting IS from Raqqa, its self-styled capital. This shift has been reflected in the US’s decision in July 2017 to end a CIA programme supporting the rebels, which had been introduced in 2013 to supply weapons and training to selected groups.

Conflict Resolution Will Take Several Years

Despite the clear shift in the balance of power seen since 2016, we remain pessimistic on the prospects for reaching a peace settlement over the coming years. Consequently, although the level of violence will subside compared with previous years, lower-intensity fighting will continue over the coming years. Despite the opposition being in a very weak position, the predominance of jihadi groups underpins our view that fighting will continue, even with the introduction of safe zones across the country. Given the fragmentation of rebel groups, and irreconcilable positions between the Damascus regime and the rebels, some low-level insurgency will likely continue, even if cease-fires continue to be implemented across the country. Below, we highlight key scenarios for the future of Syria.

Regime Survival (75%)

We believe that President Bashar al-Assad is likely to remain in power over the coming years, having consolidated the regime’s territorial gains throughout 2017 with the support of Russia and Iran (and other non-state actors). The decisive shift on the ground, combined with the dramatic weakening of the more moderate elements of the opposition, underpins our view that his regime will survive the war. Against this backdrop, there are three sub-scenarios:

Pariah State (35%): Under this scenario, regime forces continue to make territorial gains, notably retaking Idlib from the opposition, and completely annihilate the opposition, with support from Russia, Iran, and various Shi’a militias including Hizbullah. Given the continued weakening of moderate rebel groups, we believe that there will be limited international pressure to prevent a regime offensive on Idlib and other opposition strongholds controlled by jihadi groups. Remaining members of the opposition would flee to neighbouring countries. Meanwhile, the Assad regime would reach a deal with the Syrian Kurds of the PYD, granting them more autonomy in northern Syria. The brutality of the government’s actions would leave Syria deep in pariah status. One possible analogy is Iraq under Saddam Hussein between the 1991 Gulf War and the early 2000s. EU and US sanctions (among others) would continue to hurt the Syrian economy, and Syria would not get access to reconstruction funding from multilateral organisations, which would severely constrain the pace of recovery. Nonetheless, Syria would not be entirely isolated, as it would benefit from financial support from Russia and Iran, and, once the conflict abates, China. As the political situation stabilises over the following years, a plausible successor to Assad within the Alawite sect could emerge, which would result in a gradual improvement of relations with the West and Syria’s reintegration in the international community, but this would likely take many years.

Peace Settlement (25%): Following many years of negotiations and violence, the Assad regime could reach a peace agreement with a stretched opposition. Previously, Damascus would have made a deal with the Syrian Kurds to grant them additional autonomy within a Syrian state. Given the weak  bargaining position of the rebels, we believe that the conditions of an eventual peace settlement

would clearly benefit Assad, and therefore maintain him in power. In order to improve relations with the West, Russia could pressure Assad to grant some concessions to the opposition, such as a better distribution of power among ethnic groups, or some decentralisation measures.

This scenario would be more positive for the reconstruction of Syria. Reaching a peace agreement would enable a cautious reintegration of Syria in the international arena, allowing the country to access funding from multilateral agencies to rebuild the damaged infrastructure network.

De Facto Break-Up (15%): Under this scenario, some form of low-level insurgency would continue throughout Syria. With President Assad’s forces now in a position of strength, Russia and Iran would gradually reduce military support on the ground. With the Syrian army in a poor condition following more than seven years of conflict, and public finances in a dire state, the regime would be unable to retake the country entirely. Meanwhile, amid irreconcilable positions, the opposition would leave the negotiation table. Low-level insurgency would continue for many years, in a scenario potentially similar to the Lebanese civil war (1975-1990). The crystallization of internal borders would in turn result in the de facto creation of autonomous regions within Syria. The regime would maintain its grip on the coastal regions and the main cities. Reconstruction would gradually start once the level of violence abates. The regime would benefit from funding from Russia, Iran and China. The opposition strongholds could receive some humanitarian aid, although this would be limited given the expanding influence of jihadi movements. A peace settlement would be needed at some point to see reconstruction funding flowing in.

Political Transition Without Assad (13%)

Although President Assad is now in a much stronger position, and his removal has gone down in the list of priorities of Western countries and the UN, we could yet see Assad removed from power and replaced by a less controversial member of the Alawite sect. Russian intervention would be crucial under this scenario, given the country’s role in the war. Following the regime victories in Aleppo, and potentially Idlib in the coming months, Russia could become reassured that the Syrian state would not collapse.

Preventing regime collapse was Russia’s main objective when it decided to intervene in Syria. In an effort to improve relations with the West, Moscow could pressure Assad to leave the presidency, and replace him by another member of the Alawite sect.

The removal of Assad would make a settlement easier to reach, while ensuring the preservation of state institutions. A settlement would likely include some concessions towards the opposition, and would then enable reconstruction funding to flow into Syria.

Formal Break-Up (10%)

Prolonged fighting in Syria could result in the crystallisation of internal borders, but the failure to find a political settlement over the long term would result in a formal break-up of the country along sectarian lines. At a time of continued tensions between Iran and Saudi Arabia in the Middle East, Gulf states would renew their backing for the Sunni opposition, allowing it to create an independent state. However, infighting would continue among different rebel factions, resulting in high levels of violence and persisting refugee outflows. The Syrian Kurds, under the aegis of the PYD, could also break away from Syria, after having already declared an autonomous federation in 2016. However, we believe that the likelihood has declined following the chaos in the aftermath of the Kurdish referendum of September 2017 in Iraq.

We believe that under such scenario, the Damascus regime would be a pariah state, excluded from the international community. On the other hand, we would not expect official recognition of the newly formed states, at least in the first few years, given the stated objective of Russia and Iran to preserve the territorial integrity of Syria, and regional opposition to the creation of new states in the region in order to avoid setting a precedent.

Foreign Intervention (2%)

As previously mentioned, external support for the opposition has significantly weakened over the past year, owing to the radicalization of the opposition, and to shifting priorities of Turkey – now focused on containing territorial gains of the Kurds – and the West – focused on defeating IS. However, some high-impact events could result in Gulf states or the West stepping up efforts to oust Assad.

Saudi Intervention (1%): With tensions between Iran and Saudi Arabia having increased over the past several years, as the two regional powers compete for religious and geopolitical leadership, territorial gains of the Assad regime will embolden Iran and the Lebanese Shi’a militant group Hizbullah. This could encourage Saudi Arabia to engineer a direct intervention in Syria. Although it is not clear whether Saudi Arabia could tip the balance of power in favour of the opposition, especially given the weak results of the Saudi-led intervention in Yemen since 2015, we believe that it could plunge Syria back into many years of violence. Even if Saudi Arabia manages to shift the balance of power, the fragmentation of the opposition would remain a major issue.

Second Civil War?: A Hidden Risk

Whatever the outcome of the Syrian conflict, we expect sectarian and ethnic tensions to remain elevated in the country, which could lead to an eventual return to civil war, even if a settlement is reached or if Assad regains control of most of the country. If the Damascus regime survives or in the event of a political transition with a member of the Alawite sect taking charge, grievances would remain elevated among the Arab Sunni majority (around 60% of the population), while the Alawites (around 12% of the population) would continue to dominate. As such, sectarian tensions would raise the spectre of another episode of civil war in the medium- to long term.

While the severe territorial losses by IS over the past year or so supports our view that the radical Islamist group will be further diminished over the coming months, and move away from its model of quasi-state entity, we see no end in sight to the threat posed by jihadi groups. Elevated Sunni grievances, especially if the Alawite minority continues to dominate the political system, could result in the emergence of new IS-type groups in the future.