ICAEW: Oil Price Drop Prompts Sharp Spending Cuts In Saudi Arabia

In its latest Economic Update, ICAEW has slashed its 2020 growth forecast for Saudi Arabia’s non-oil sector. The downgrade follows the collapse of OPEC+ and escalating economic woes caused by the spread of the coronavirus. Despite this, the forthcoming spike in oil production is expected to boost overall GDP growth by 3.8% this year - an improvement from 2019 and the strongest pace since 2015.

Economic Update: Middle East Q1 2020, produced in partnership by ICAEW and Oxford Economics, reports Saudi Arabia’s government budget will likely face substantial pressure with oil prices expected to average below $40 per barrel in 2020. The public finance deficit is forecast to widen to 8.6% of GDP this year, despite an estimated 8% cut to expenditure. This is expected to undermine recent progress on the Kingdom’s diversification agenda, which is financed through public spending. However, ICAEW says that Saudi Arabia’s Public Investment Fund (PIF) will continue to boost private sector investments to soften the impact on the non-oil economy.

In 2019, Saudi Arabia’s non-oil GDP rose by 3.3%, the fastest rate since 2014. According to ICAEW, the increase was supported by consumption, buoyed by higher consumer confidence and falling prices, and investment. However, the coronavirus outbreak has taken a toll on sentiment and activity this year. The latest Purchasing Managers’ Index (PMI) survey, which fell to its lowest level since April 2018, highlighted a slowdown in business optimism, due to the current temporary restrictions to contain the spread of the virus. These temporary restrictions include a ban on international travel, closures of schools and events, and a halt to some industrial activity. The expectation is that non-oil growth – a key metric in the country’s efforts to diversify away from oil – is likely to drop to 0.7%, from 2.8% previously.

Moderating levels of demand will also reinforce the weakness in hiring activity. The unemployment rate among Saudi nationals is the second-highest in the GCC at 12% (as of Q3 2019), and remains one of the biggest challenges for the economy. Almost two-thirds of Saudi nationals work in the public sector. In contrast, the private sector continues to struggle to create jobs for locals despite new policies of expat levies and expat-dependent fees aimed at encouraging Saudization. According to ICAEW, it is likely that Saudi Arabia’s government will absorb new labour market entrants as the private sector job market falters. This will put further strain on public finances.

Despite these challenges, robust oil sector performance is forecast to offset the slowdown in the Kingdom’s non-oil economy. According to ICAEW’s latest Economic Update, Saudi Arabia will temporarily pump 11.5m b/d in Q2, an increase from under 10m b/d in recent months, and then sustain the production of 11m b/d thereafter. This increase in oil production will make a positive contribution to growth in 2020, boosting overall GDP growth to 3.8%

Michael Armstrong, FCA and ICAEW Regional Director for the Middle East, Africa and South Asia (MEASA), said: “Saudi Arabia’s dependence on oil at a time of such volatility will certainly hinder its diversification efforts. But the government’s swift response in issuing a 50 billion riyal stimulus package to shore up its private sector, coupled with the G20's decision to inject over $5 trillion into the world economy during an emergency virtual meeting chaired by H.H. King Salman bin Abdulaziz Al Saud, reinforces Saudi Arabia’s commitment to delivering on it ambitious Vision 2030 goals.

“While cutbacks in government spending pose a threat to the diversification agenda, Saudi Arabia does sit on a large reserve fund and could take from this should the situation worsen. How well it boosts non-oil sector activity during the coming months will determine how quickly the Kingdom is able to bounce back.”

With improved non-oil growth momentum last year, Saudi Arabia has moved out of deflation and there was an uptick in prices for a second consecutive month, in January. But with consumption and investment decelerating, inflation expectations are also likely to slip.