Saudi Arabia: Staff Report for the 2016 Article IV Consultation
Author: International Monetary Fund. Middle East and Central Asia Dept.
Publication Date:
13 Oct 2016
eISBN:
9781475539523
Language:
English
Keywords:
ISCR; CR; private sector; deficit; revenue reform; SDR Department; totaling SDR; oil price; current account; gross revenue; labor market; excess supply; foreign currency
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Saudi Arabia has begun a fundamental policy shift to respond to low oil prices. The government has introduced a series of reforms over the past year and has recently set out plans for a bold and ambitious transformation of the Saudi Arabian economy in Vision 2030 and the National Transformation Program. Diversifying the economy, creating jobs for nationals in the private sector, and implementing a gradual, but sizable and sustained fiscal consolidation are key policy priorities.

Abstract

Saudi Arabia has begun a fundamental policy shift to respond to low oil prices. The government has introduced a series of reforms over the past year and has recently set out plans for a bold and ambitious transformation of the Saudi Arabian economy in Vision 2030 and the National Transformation Program. Diversifying the economy, creating jobs for nationals in the private sector, and implementing a gradual, but sizable and sustained fiscal consolidation are key policy priorities.

Context

1. Saudi Arabia has begun a fundamental policy shift to respond to low oil prices. The government has introduced a series of reforms over the past year and has recently set out plans for a bold and ambitious transformation of the Saudi Arabian economy in Vision 2030. The policies that will help achieve the goals of Vision 2030 are to be set out in a series of policy plans. The first—the National Transformation Program (NTP)—was released in early June. It lays out 178 strategic objectives with over 340 targets and benchmarks for 24 ministries and government entities to be achieved by 2020. The cabinet has recently been reshuffled and a number of Ministries have been merged or restructured to support the reforms.

2. Meeting the aspirations of a young and growing population is a significant challenge. With fiscal consolidation affecting growth, the challenges of generating jobs and ensuring sufficient housing and resource (water, power) availability will rise. About 1.6-1.8 million Saudi nationals are expected to enter the labor force over the next 5 years given demographic trends and an expected increase in labor force participation rates. Saudi nationals have been traditionally largely employed in the public sector, where job creation is expected to slow in the coming years. Creating sufficient jobs for nationals in the private sector will be key.

3. Saudi Arabia has strong policy buffers that have been built over the past decade. At end-2015, government deposits at SAMA stood at about $280 billion, SAMA net reserves at $609 billion (32 months of imports), and government debt was around 5 percent of GDP. The government also has large shareholding in domestic companies. These policy buffers are being used to smooth the adjustment process.

4. A gradual increase in oil prices is expected in the next few years, but prices are not expected to recover to the levels seen in the first half of 2014. Investment in the global oil industry is falling and together with demand growth this should support firmer prices going forward, although stocks are high and will take some time to clear. Noting that Saudi Arabia is one of the world’s most efficient oil producers, the authorities are continuing to meet the demand for oil from their customers. Production remained at around 10.2 mb/d in the first five months of 2016.

5. Regional tensions continue. The ongoing conflicts in Iraq, Syria, and Yemen are creating a difficult security environment.

Macro-Financial Developments, Outlook, and Risks

A. Recent Macroeconomic Developments

6. Real GDP growth was broadly unchanged in 2015 at 3.5 percent. Non-oil growth slowed to 3.1 percent in 2015 from 4.8 percent in 2014—non-oil public sector GDP contracted by close to 9 percent (y/y) in 2015Q4—but was offset by stronger oil sector growth of 4 percent in 2015 compared to 2.1 percent in 2014 (Table 1, Figures 1 and 2). Monthly indicators suggest that non-oil private sector activity weakened in early 2016. Corporate profitability and the stock market have fallen over past year, although corporate balance sheets generally remain healthy (Appendix I).

Table 1.

Selected Economic Indicators, 2012–21

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Sources: Saudi Arabian authorities; and IMF staff estimates and projections.

Includes production from the Neutral Zone.

Includes refined products.

Next 12 months.

For 2016, data is latest available.

Figure 1.
Figure 1.

Real Sector Developments

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Country authorities; Haver; Markit; World Steel Association; and IMF staff calculations.
Figure 2.
Figure 2.

Oil Market Developments

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Jonit Oil Data Initiative (JODI); Bloomberg; International Energy Agency (IEA); Baker Hughes; Energy consensus forecast; and IMF staff calculations.1/ Time T correponds to the month of oil price peak in each episodes.2/ Derived from prices of futures options on May 31, 2016.
uA01fig01

Real GDP Growth, 2011–15

(y-o-y percent change)

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Country authorities; and IMF staff calculations.

7. The fiscal deficit widened significantly in 2015 despite a sizable reduction in spending. It increased to 15.9 percent of GDP from 3.4 percent of GDP in 2014 (Figure 3, Tables 2 and 3). This was driven mainly by the drop in oil revenue (51 percent between 2014 and 2015). On the expenditure side, wage and other bonuses payments boosted spending in early 2015, but spending was curtailed significantly in the second half of the year (although some 2.5 percent of GDP of spending was deferred to 2016 by delaying the 13th month wage payment and some payments to contractors). The government financed the fiscal deficit through a rundown of its deposits and domestic borrowing.

Figure 3.
Figure 3.

Fiscal Developments

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Country authorities; and IMF staff calculations.1 Real expenditures are deflated by the CPI.2 Structural revenues are estimated by assuming that the long-term oil price is the average oil price from past five years. Long-term oil output is computed as a three year moving average including the current year. The structural balance is then computed as structural revenues less total expenditures.3 The sustainable level of fiscal spending from the oil wealth is defined as an annuity constant in real per capita terms. The shaded area represents the sustainable level of fiscal spending conditional on oil prices remaining
Table 2.

Budgetary Central Government Operations, 2014–21

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Sources: Ministry of Finance; and IMF staff projections.

Including the extra month salary according to Hijri calendar in 2012, 2016 and 2018 and 2021.

Reallocation of SAR 70 bn in 2013 and 2014 and SAR 44 bn in 2015 from purchases of goods and services to capital expenditures, reflecting the capital expenditures on Mecca and Medina expansion projects.

Includes subsidies for social and sports clubs, private education, private hospitals, and other agricultural subsidies.

Zakat charity transfers, social welfare payments and Hafiz Job-seekers allowance.

Capital expenditures financed by earmarked funds in previous years in the Budget Surplus Fund.

The structural balance is calculated using a 5-year backward oil price rule and a 3-year average of oil export volume.

Table 3.

Fiscal Operations of the General Government, 2010–15

(Percent of GDP)

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PIF data is unavailable for 2015 as the accounts have not been completed due to the ongoing move from cash to accruals accounting. GOSI data has not been received.

Sources: Ministry of Finance; PPA; GOSI; PIF; and IMF staff estimates.

8. The external position has weakened. The current account moved into a deficit of 8.3 percent of GDP in 2015 as the value of oil exports fell (Table 4, Figure 4). Financial outflows continued as banks and a large pension fund increased their foreign assets. SAMA’s NFA have fallen by $154 billion since December 2014. There has been some pressure on the riyal in the forward market, which has prompted the SAMA Governor to reiterate the authorities’ commitment to the peg and the central bank to ban local banks from selling option contracts on FX forwards.

Table 4.

Balance of Payments, 2012–21

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Sources: Saudi Arabian Monetary Agency; and IMF staff estimates and projections.

Represents the return on NFA of SAMA, AGIs, and private sector.

Imports of goods and services over the next 12 months excluding imports for transit trade.

The average price of all oil exports, including refined products.

Figure 4.
Figure 4.

External Sector Developments

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Haver; ICIS; and IMF staff calculations.
uA01fig02

Current Account and Financial Account Balance

(In percent of GDP)

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Country authorities; and IMF staff calculations.

9. Bank deposits have declined, but growth of credit to the private sector has remained strong (Table 5, Figure 5). Deposit growth declined by 2 percent (y/y) in April 2016 as households and businesses reduced their holdings of demand deposits, with deposits of government entities remaining broadly unchanged. Private sector credit grew by 10 percent, due in part to a surge in credit to the construction sector (27 percent (y/y) in 2016Q1), which was at least partly due to contractors accessing credit lines in the face of payment delays from the government. Over the past year, Banks have reduced holdings of SAMA bills, excess deposits at SAMA, and foreign assets to meet credit demand and to purchase government bonds, while SAMA also relaxed the loan-to-deposit ratio in February. SIBOR has moved substantially higher and the spread to U.S rates has widened. SAMA increased its reverse repo rate by 25bp to 0.5 percent in December. Major credit rating agencies have downgraded Saudi Arabia’s credit rating (Fitch (AA-), S&P (A-), and Moody’s (A1)).

Table 5.

Monetary Survey, 2012–21

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Sources: Saudi Arabian Monetary Agency (SAMA); and IMF staff estimates.
Figure 5.
Figure 5.

Monetary and Financial Developments

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Haver; Reuters; and IMF staff calculations.
uA01fig03

Growth of Bank Credit to Private Sectors and Deposits

(percent, year to year)

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Country authorities; and IMF staff calculations.
uA01fig04

Saudi Arabia: Change in Bank Balance Sheet Composition, April 15-16

(Percentage point change of share of total assets)

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Haver and IMF staff estimates.

10. Job creation for Saudis was weak in 2015 (Figure 6). Total employment increased by 3.8 percent, while the employment of Saudis increased by only 1 percent and actually fell by over 1 percent in the private sector. The unemployment rate of nationals fell slightly to 11.5 percent, although female unemployment rose to 33.8 percent.

Figure 6.
Figure 6.

Labor Market Developments

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Country authorities; Haver; IMF staff calculations.
uA01fig05

Policy and Interbank Interest Rates

(Percent, daily closing rates)

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Haver; and Reuters.
uA01fig06

Changes in Public and Private Sector Employment

(y-o-y change)

Citation: IMF Staff Country Reports 2016, 326; 10.5089/9781475539523.002.A001

Sources: Country authorities; Haver; and IMF staff calculations.

B. Outlook, Risks, and Spillovers

11. Growth is expected to slow in 2016 to 1.2 percent. Oil output growth is projected to slow to 0.6 percent (with oil production assumed to average 10.2 mb/d) and non-oil growth to 1.6 percent, the latter due to the impact of fiscal consolidation and tighter liquidity conditions, higher funding costs, and slowing credit growth (Box 1 discusses the determinants of bank credit in Saudi Arabia). In 2017, real GDP growth is expected to recover to 2 percent as the pace of fiscal consolidation eases. The recovery in private non-oil growth is, however, projected to weaken toward the end of the projection period in the baseline as rising government debt increases the risk premium and crowds-out credit growth.

Fiscal Developments 2014–16

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12. The fiscal deficit is projected to narrow to 13 percent of GDP in 2016 under the baseline scenario. This is based on policies in the 2016 budget and other policies that have an announced implementation schedule (see Table 6 for assumptions). Higher energy and water prices introduced in late 2015 (ranging from 10-134 percent) and increased transfers from public entities to the budget should generate additional revenues of 1.3 percent of GDP and 1.6 percent of GDP, respectively. Oil revenues are expected to decline relative to 2015, while spending restraint, particularly on the capital side, will result in a substantial reduction in spending. Beyond 2016, the fiscal deficit is expected to decline further to 7.7 percent of GDP in 2021, driven by higher oil revenues (about 3 percent of GDP), higher non-oil revenues (about 1 percent of GDP), mainly from the VAT and higher excise taxes which are partly offset by lower transfers from public entities, and a gradual further reduction in capital spending as a number of existing projects reach completion. The baseline scenario does not include additional spending measures in the NTP or additional revenue measures that have not been clearly specified. The fiscal deficit is projected to be financed through a mix of deposit drawdown and domestic and international borrowing. The government’s net financial asset position (defined as government deposits less gross debt) moves from +38 percent of GDP in 2015 to -17 percent of GDP in 2021.

Table 6.

Fiscal Assumptions in the Baseline and Adjustment Scenarios

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