Saudi Arabia 2019 Budget

Balancing real GDP growth with fiscal prudence

Saudi Arabia’s 2019 budget released by the Saudi Ministry of Finance (MoF) on 19 December 2018 appears to have struck a fine balance between focusing on stimulus to drive economic growth on the one hand, and fiscal prudence in accordance to its medium-term balanced budget by its terminal date of 2023, on the other hand. At face value, the 2019 budget is pragmatic, real GDP growth enhancing and maintains the government’s strategy of a focus on fiscal stimulus rather than austerity.

In a first for the Kingdom, the MoF held a budget forum held on 19 December in Riyadh which included a degree of openness to questioning some of the finer details of current assessment of the state of the economy, highlights the lengths and seriousness the MoF is willing to go in order to provide a transparent level of forward guidance to markets on its comprehensive fiscal and economic framework over the medium term. This is a clear testament to the energy, vigour and accountability surrounding the broader reform programme.

Narrower deficit in 2018

For 2018, the Kingdom registered a narrower deficit of $36.1 billion (4.6 per cent of GDP), compared with a budgeted fiscal deficit of $51.9 billion (6.6 per cent of GDP), and an actual deficit of $63.6 billion (9.3 per cent of GDP) in 2017. We take comfort from the improvement which demonstrates sound fiscal judgement, notwithstanding this was fundamentally due to a 39.3 per cent increase in oil revenues.

2019 Budget figures are optimistic

For 2019, the MoF’s forecasts are for the Kingdom to record a narrower deficit of $34.9 billion (4.3 per cent of GDP), owing to revenue growth exceeding expenditure growth. Specifically, the budget statement did not reveal what oil prices the budget is centered on, it appears that the authorities are relying on optimistic assumptions for oil prices, with the MoF’s projections for oil revenues being nine per cent above the 2018 oil revenues outturn figures.

Focus is on higher oil revenues despite the precipitous fall in prices

For 2018, the outturn suggests that total revenues were 14.2 per cent higher this year at $238.5 billion (30 per cent of GDP) against $208.8 billion (27.1 per cent of GDP) when this year’s budget was announced at the outset of 2018. For 2019, the MoF’s forecasts suggests that total revenues will increase by nine per cent to $260 billion (32.7 per cent of GDP) next year. For non-oil revenues, the MoF plans to raise these earnings, mainly through higher expat levies which are expected to double in 2019 to yield an estimated $15 billion (1.9 per cent of GDP), from $7.5 billion in 2018.

Meanwhile, VAT revenues are projected at $12.5 billion (1.6 per cent of GDP) due to a widening in the scope of the tax generated from corporates. Of noteworthy importance, the MoF specified that $13.3 billion (1.7 per cent of GDP) in graft investigation proceeds were included in the 2018 budget, though there was guidance for 2019. Given the inclusion of these proceeds for this year’s calculation, we view that this raises the prospect of weaker non-oil revenues going into 2019. Indeed, as ever before, the developments in oil markets remain critical for the fiscal revenue outlook over the medium term.

Source: MUFG MENA Research

Higher expenditures suggesting an expansionary budget to spur economic growth

For 2018, the outturn suggests that total expenditures were 5.3 per cent higher this year at $274.7 billion (34.5 per cent of GDP) against $260.8 billion (33.9 per cent of GDP) when this year’s budget was announced at the outset of 2018. For 2019, the MoF’s forecasts suggests that total expenditures will increase by 7.4 per cent to $294.9 billion (37.1 per cent of GDP) next year. Under the theme of efficiency and sustainability, the 2019 budget is targeting to improve the quality of expenditures by slowing the growth in current spending by 4.2 per cent to $229.3 billion whilst raising the allocation to capital expenditures by 20 per cent to $61.2 billion.

Importantly, the 2019 budget statement continues to point to certain belt tightening measures, in coordination with the Spending Efficiency Rationalisation Centre (SERC), which aims to prioritise capital expenditures by focusing on the quality and efficiency of project spending, as well as efforts to rein in current expenditures, with a further reduction in energy subsidies (notable increases in prices of gasoline, diesel, fuel oil and electricity tariffs).

Source: MoF SAMA

Bullish fiscal breakeven oil price assumptions

As has historically been the case, the MoF did not reveal in the 2019 budget statement what oil prices the budget is centered on. Our calculations suggest that the budget for 2019 assumes a bullish average Brent price within a range of $78-80/b which we model based on (i) published data for oil revenues; (ii) certain assumptions for the effects of subsidies; (iii) assumptions for the effects of oil production in conjunction with this month’s OPEC+ 1.2 million b/d production cut agreement; and (iv) no amendments in the pay-out rate by Saudi Aramco to the MoF.

The MoF’s estimated oil price assumption of $78-80/b for the Saudi budget in 2019 is considerable above what the current implied future curve is trading (around $60/b) and our own oil derived modelling oil price scenario for forecast purposes of between ($66-68/b). Separately, but in similar vein, crucially, the MoF’s quarterly fiscal data for the first three quarters of 2018 has demonstrated a robust increase in public spending which has more than offset gains in non-oil receipts, pushing the Kingdom’s breakeven oil price higher. We expect this trend to continue, as the Kingdom draws on firm oil receipts and ready access to funding to boost historically weak levels of economic activity.

Diversified financing strategies available for the Kingdom

The 2019 budget statement projects a fiscal deficit of $34.9 billion in 2019 and within this forecasts that debt issuance will amount to $31.5 billion (historically this has broadly been one-third international debt issuance and two thirds domestic debt issuance) taking the total debt stock from $149.3 billion (19.4 per cent of GDP) in 2018 to $180.8 billion (22.7 per cent of GDP)—note that the MoF has its own self-imposed debt ceiling cap at 30 per cent of GDP as stated in the National Transformation Programme (NTP) 2020.

On the whole, we expect the authorities to finance the $34.9 billion in fiscal deficit next year through a combination of a (i) drawdown of SAMA and banking deposits, (ii) the issuance of domestic and external debt, (iii) the issuance of syndicated loans, as well as (iv) raising financing through privatisation in order to release value from existing state assets and to promote private sector activity.

Our forecast signal a wider deficit

Whilst we view that MoF’s forecasts for next year as pragmatic with the large fiscal stimulus enhancing real GDP growth in 2019, we view that the oil revenue figures are based on optimistic assumptions for oil prices—which as noted above, we calculate assumes a bullish average Brent price within a range of $78-80/b. Based on this, and under our oil modelling scenario of $66-68/b for 2019, compared with the MoF’s fiscal deficit projection of $34.9 billion (4.3 per cent of GDP) next year, our estimates imply a fiscal deficit of $54.3 billion (6.8 per cent of GDP) in 2019.

Real GDP growth to rise but remain below the long-run equilibrium rate

We take comfort from the MoF’s fiscal stimulus strategy to spur real GDP growth to 2.6 per cent in 2019 from 2.3 per cent in 2018. However, even at these levels it does remain below Saudi’s long-run equilibrium real GDP growth of 4.0-4.5 per cent as the economy continues to address structural challenges to meaningfully alter the model away from the cyclical nature of the reliance on oil receipts.

Source: CEIC Database

This time is different

 We continue to view that this time is genuinely different for the Kingdom and there is a strong basis, under the new leadership of Crown Prince Mohammad bin Salman, that the country continues to move towards a period of meaningful structural change away from the cyclical reliance of hydrocarbons. On the whole, diversification will be slow and will take years to deliver on the pledges set out in Vision 2030, and it is likely that some of the delivery of reform may fall short of ambitious targets set.

To an extent, the uneven progress underscores the complexity and scale of the reform programme which makes rapid gains difficult to deliver. We remain optimistic, however that the reform agenda—should it bear fruit—to not only boost Saudi Arabia’s potential growth rate over the long-term, but also to structurally transform its economy away from hydrocarbons, with longstanding impediments to investment and productivity being reversed.