On the 28th of December, 2015, Saudi Arabia published its 2016 budget. The budget showed a decline in spending by 16% down from 2015 and amounting to $36 bn. When this reduction in government spending is added to their declared $98 bn deficit, we come to a realistic budget deficit of $134 bn which is not far off from the International Monetary Fund’s (IMF) projection of $140 bn or 20% of GDP. The budget shows just how much the global crude oil glut is affecting the finances of the OPEC kingpin. The new budget was based on an oil price of $50/barrel in 2016 but an OPEC study projected that oil prices could range from $30-$40/barrel.
The Saudi budget showed that the country’s earnings in 2016 are forecast at $137 bn, $25 bn down from 2015 against a spending of $224 bn. However, it is believed that the fall in government expenditure will be sharper than implied in the budget.
The budget suggests the Kingdom is not counting on a major recovery of oil prices any time soon but is instead preparing for a multi-year period of cheap oil. The IMF warned in October 2015 that Saudi Arabia would run out of money within five years if it did not tighten its belt.
The Damaging Impact of Dwindling Oil Prices on Saudi Arabia
Saudi Arabia faces an economic time bomb which, if not defused, will have severe and possibly irreversible effects both nationally and internationally. The collapse in oil prices since July 2014 has slashed the Kingdom’s main source of revenue which makes 90% of total income. For the last two years, the Saudi government has declared a huge deficit in its budgets and for the first time since 2007, the government has been forced to draw on its foreign reserves and issue bonds.
Moreover, domestic oil consumption is projected to reach some 8.2 mbd by 2030 according to Saudi Aramco’s estimate whilst several studies suggest that Saudi Arabia could cease to remain an oil exporter by 2032.
The Saudi 2016 budget comes amid unprecedented international and regional economic turmoil, namely steeply-declining crude oil prices. Even if prices rebound to $50/barrel in 2016, it may not hold for long in the absence of a major oil production cut of at least 2 mbd by Saudi-led OPEC. The allocation of $57 bn or 25% of the budget for defence clearly signifies growing regional tensions. In fact, Saudi defence budget could reach as much as $62 bn by 2020, in part due to Saudi military interventions in the region. It is worth noting that Saudi defence budget has been rising by 19% a year since the Arab Spring of 2011.
The Dwindling Financial Reserves
The rapid depletion of Saudi foreign exchange funds is rather alarming. During 2015 the Kingdom’s central bank reserves dropped from $732 bn to $623 bn in less than 12 months.
If this unsustainable financial decline continues at its present rate, the dollar exchange rate to the Saudi Riyal will be endangered and the government will not be able to keep the peg. This may have serious ramifications on the US dollar if other Gulf Cooperation Council (GCC) countries follow suit.
Dr. Khalid Al Sweilem, former Chief Counsellor and Director General of Investment at the Saudi Arabian Monetary Agency (SAMA) and a non-resident fellow at Harvard Kennedy School’s Belfer Centre for Science and International Affairs, said recently that the Saudi Riyal is currently under intense pressure because of the continued decline in the crude oil prices and the fast depletion of the Saudi financial reserves. He warned that there is a real possibility that the Riyal could be devalued and even floated because of a dangerous loss of confidence in it.
Dr Al Sweilem pointed out that the Saudi government has taken a huge gamble when it flooded the global oil market with crude oil to enhance its market share at the expense of rivals like, Iraq, Iran and Russia. He also described the policy of flooding the market with the intention of killing US shale oil production as an empty talk and that it will never succeed saying Saudi Arabia does not have very deep pockets to continue the oil war against others.
And in one of the biggest economic reforms led by deputy crown prince Mohammad bin Salman, the King’s son, the Saudi government decided to raise prices of fuels, water and electricity by 60% and increase taxes and reduce subsidies on more than twenty commodities in order to reduce the huge budget deficit of $134 bn which is projected to keep rising if oil prices continue to slide..
The Ticking Time Bomb
Sharp decline in oil prices, cost of subsidies estimated at $71 bn and military spending, including the war in Yemen and supporting rebels in Syria, are all factors that will continue impacting the Kingdom’s financial position.
However, the most serious problem facing the nation is the growing and endemic youth unemployment which continues to endanger Saudi Arabia’s national security.
Two-thirds of the Saudi population – of 30.8 million - are under the age of 30. According to official statistics, the unemployment rate for Saudis aged 15 to 24 is 30%. Saudi Arabia needs to create at least 3 million new jobs by 2020.
The success or failure of the 2016 budget plan will be key to maintaining the confidence of the financial markets in Riyadh. But in light of ongoing budget shortfalls, slow reform and current rates of spending, the Kingdom may have less than five years to deplete its foreign currency reserves according to the IMF.
Therefore, Saudi Arabia must act fast and smart by starting to gradually cut down further on their subsidies, reduce superfluous spending on defence and start privatizing selected state-owned entities to generate cash and crucially create employment opportunities for its youth which represents either the greatest threat or beneficiary of such budget plans and related policies.
Dr Mamdouh G. Salameh is an international oil economist, a consultant to the World Bank in Washington DC on oil & energy and a technical expert of the United Nations Industrial Development Organization (UNIDO) in Vienna. He is a member of both the International Institute for Strategic Studies in London and the Royal Institute of International Affairs. He is also a visiting professor of energy economics at the ESCP Europe Business School in London.