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MENAFN - Arab News - 01/01/2014

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(MENAFN - Arab News) Fiscal consolidation and sustainability had preoccupied most policy makers and rating agencies during the last five years, with governments mired in loads of debt.

The dilemma of filling the vacuum left over by a retrenching private sector made balancing the budget even more difficult, with tax revenues contracting and the cost of borrowing rising.

A closer look at the budget process in the US, the world's biggest economy, will suffice to understand the insurmountable difficulty of reaching consensus and balancing the short-term need of government intervention with the need to reduce piles of debt.

Saudi Arabia, however, decoupled from the global economy on this dimension supported by ample oil revenues that increased net foreign assets and , accordingly, reduced debt to a meager sum.

The budget for next year has clearly underscored adamancy on the part of the government to support broader economic activity and to enhance the physical and human capabilities. And yet it is always important to point out concerns, especially that so many economists, including myself, have extensively covered the positive dynamics within the budget.

One of the issues that need to be tackled is the ongoing pace of current expenditures and entitlements that raises concerns about medium to long-term fiscal sustainability, especially that the current cases of the US and Greece are still fresh in our minds.

It is widely known that during fiscal stress and a severe business cycle, it becomes an overwhelming task to maneuver with budget cuts given the limited discretionary fiscal space.

Policymakers must definitely take note, with the percentage of Saudi
entitlements, namely wages, salaries, subsidies and social payments rising to 44 percent from total government expenditures, which although lower than the US's 56 percent and Greece's 51 percent is still creeping closer.

Entitlements might be the top of my worry list in case of an economic slowdown, however, I have to commend the government on the pace of capital spending that rose from just SR30 billion in 2002 to an estimated SR264 billion by the end of last year, a 24 percent compounded annual growth rate (CAGR), which will surely support the revenue base and offset some of the concerns pertaining to the hefty share of wages and salaries.
The fact that the Kingdom is ranked the sixth largest oil consuming country, surpassing economies such as Germany, the eighth on the list, and Brazil, is another concern that reflects the importance of efficiently targeting subsidies to maximize the benefits from oil resources.

I am surely aware of the importance of subsides from a social rather than economic perspective, but I am here concerned with the restructuring and efficient management of these benefits not the abolishment of them. How much to be disbursed? By whom and to whom? When to go to overdrive and increase and when to slow down? The basic economic questions are still relevant to this topic as to any other.

Utilizing cheap energy as a comparative advantage in the drive to being a petrochemicals hub and maintaining gasoline and electricity subsidies, accelerated local consumption of crude and natural gas that currently grows at around 6 percent to 7 percent, thus threatening future export earnings.

Effectively, gradual and smart management of subsidies is being forced on most countries in fiscal stress whether regionally or globally, with the likes of Egypt and India in the process of scrapping the "subsidies for all" model toward a more targeted arrangement that reaches lower classes that are in real need of government support. Being an anomaly in this world of sovereign debt crises, I do see the Kingdom having ample time to devise and implement new schemes that will reduce government expenses and steadily phase down implicit subsidies for higher-income groups.

The Kingdom is surely in a better position than the aforementioned cases and is reform-minded, and have no funding requirements, but there is a need to weigh the opportunity cost of utilizing revenues from a non-renewable resource.

Vertical diversification into the value chain of crude oil is the first phase, nevertheless, the need will always be for horizontal diversification away from oil dynamics that are inherently volatile.
Starting 2014, the budget will most likely break even and from now onwards we might not see the hefty surpluses that became the norm in the last couple of years, as deficits prevail by the end of this decade.

However, I do believe that the Kingdom can withstand a severe business cycle that lasts between 5-7 years, mindful that such strong standing should not derail further reforms and the mitigation of concerns.
To conclude, it is during times of excesses that governments need to do their utmost because the downward business cycles are a fact of life and are bound to happen.


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