Despite Low Oil Prices, Saudi Arabia Stabilizing Economy

Thttp://oilprice.com/Energy/Energy-General/Despite-Low-Oil-Prices-Saudi-Arabia-Stabilizing-Economy.html

http://oilprice.com/Energy/Energy-General/Despite-Low-Oil-Prices-Saudi-Arabia-Stabilizing-Economy.html

Yves here. This post is more important than it might seem. The Saudi refusal to cut oil production is what kicked off the oil price plunge and their refusal to relent is a big contributor to the continued low prices. While Saudi Arabia has extremely low production costs, many observers argued it could keep its effort to discipline higher-cost producers going for only a year or two due to the fact the government depended on oil revenues for funding and required much higher prices (the number bandied out was $90 a barrel) to cover its spending. This article suggests that Riyadh has lowered its government burn rate, as well as its dependence on oil revenues generally which would allow it to keep the price pressure on longer.

Mind you, it’s not as if things look dramatically better for the Saudis, but even a modest improvement could have a meaningful long-term impact.

By Nick Cunningham, a Vermont-based writer on energy and environmental issues. You can follow him on Twitter. Originally published at OilPrice

The Saudi economy is stabilizing after the government implemented pivotal reforms in order to address a fiscal and economic crisis because of plunging oil prices.

Over the past two years, Saudi Arabia cut energy subsidies, slashed public spending, and started to look for new ways to raise revenue outside of the oil sector. The IMF forecasts the Saudi budget deficit to narrow from 13 percent of GDP in 2016 to 9.6 percent in 2017. That is a dramatic improvement from the 16 percent deficit the country posted last year.

The improved forecast earned praise from the IMF. “The fiscal adjustment is under way, the government is very serious in bringing about that fiscal adjustment,” Tim Callen, the IMF’s Saudi mission chief, told Bloomberg in an interview. “We’re happy with the progress that’s being made.”

Although Saudi Arabia is running a huge deficit, it does not appear to be an emergency. In countries without huge cash reserves, such a deficit would be a major problem. But Saudi Arabia has hundreds of billions of dollars in reserves, allowing it to coast for a while.

Saudi Arabia did see its credit rating downgraded earlier this year by Moody’s because of the collapse of oil prices. “A combination of lower growth, higher debt levels and smaller domestic and external buffers leave the Kingdom less well positioned to weather future shocks,” Moody’s wrote in May.

But with the deficit-to-GDP ratio falling, the IMF is not concerned. “We would be worried if the fiscal deficit were to remain at the levels it reached last year for another couple of years, because that would mean there will be large fiscal financing requirements,” he said. But the IMF’s Tim Callen said that balancing the budget by the end of the decade should be “doable.” Oil prices should rebound in the years ahead, which should put cash back into Saudi government coffers.

Still, Saudi Arabia is not exactly sitting pretty. GDP growth is still at a moribund 1.2 percent in 2016, with only a modest improvement to 2.25-2.5 percent over the medium-term. That won’t be enough to absorb the bulging population of young people in the country. For decades the government has employed legions of people in the public sector, but the ongoing “fiscal adjustment” – a euphemism for cutting the size of the state – will mean that young Saudis will no longer be able to fall back on cushy government positions.

That leaves the private sector to pick up the slack. But it may be a struggle to expand the relatively small private sector in a country that has long depended on the state for growth. The state will continue to play a very large role in the economy, and the high levels of social spending needed to keep its population happy means that Saudi Arabia has a rather highbreakeven oil price for its budget, even though it produces oil for only a few dollars per barrel. With its budget breaking even at $67 per barrel in 2016, Saudi Arabia cannot live indefinitely with oil prices where they are at today. If unrest hits Saudi Arabia, or even sweeps the region the way it did in 2011 during the Arab Spring, the government will be forced to step up social spending to maintain order. That will put further strain on the country’s fiscal positions.

The longer-term picture is more unclear. Saudi Arabia is in the early stages of a transformational economic plan, which intends to diversify the country away from crude oil as the sole source of revenue. That involves taking a small slice of state-owned Saudi Aramco public, and using the proceeds to invest in non-oil sectors of the economy. Last month the CEO of Saudi Aramco said that low oil prices won’t affect Aramco’s drilling plans or its decision to launch an IPO. But the IPO won’t happen for another year or so, and other investments will take a lot of time, so the country will remain entirely dependent on oil for years at least.

Meanwhile, the near-term strategy for Saudi Arabia boils down to continuing to fight for market share, producing at elevated levels and exporting as much as possible. Saudi Arabia continues to pump at near record levels at 10.5 million barrels per day. Earlier this week Saudi Arabia slashed its prices for oil heading to Asia, hoping to edge out competitors for sales in that region.