Saudi Arabia's economic challenges real but less intense than others 

(MENAFN - Saudi Press Agency) The efficacy of Saudi Arabia's record 2009 Budget of SR475 billion ($126.7 billion), which was announced by Custodian of the Two Holy Mosques King Abdullah on Dec. 23 can in reality only be fully gauged in late 2009. The reason for this is that the Kingdom's budget is heavily dependent on the price of crude oil.

With the oil price plummeting from a record high of $147 per barrel only a few months ago to the current $43 per barrel, Saudi Arabia, like other oil producers, is taking a revenue hammering. Just as well the budget projections are based on an average oil price of $37 per barrel for 2009.

As such, with revenues predicted to reach SR410 billion in 2009, the budget will have a projected deficit of SR65 billion, which is sustainable and which can easily be funded from the Kingdom's foreign reserves and assets. After all, in 2008 Saudi Arabia experienced its largest budget surplus in its history — a sum of SR590 billion — based on projected oil revenues of SR1.13 trillion in 2008.

It is no surprise that the Kingdom too is following the general global trend in economic stimulus packages with this expansionary budget which will see public spending increase by 15.8 percent or SR65 billion in 2009. A record SR225 billion and SR122 billion are allocated for new projects and education respectively.

But, Riyadh's economic management tools are restricted because it cannot offer fiscal incentives or refinements as in other G-20 economies because Saudi citizens are not subject to paying personal and income tax. While this may be of short-term benefit to ordinary Saudis largely sustained by the dependency on oil revenues, in the longer term it ties the hands of Saudi treasury authorities in budget planning and goes against the grain of economic reality.

At the same time, as the IMF Article IV Consultation on Saudi Arabia has repeatedly stressed, the budget needs more transparency especially as to actual expenditures for the Royal Court and defense sectors. The Consultation has also recommended the introduction of value added tax (VAT) on goods and services to help diversify fiscal revenues.

The Kingdom, despite the oil bonanza in 2008, is not immune to the vagaries of the credit crunch and the global financial crisis. The country is heavily dependent on imports and as such it is also affected by volatility on other commodity prices especially food, consumer goods, industrial goods and materials. The challenges for the Kingdom in 2009 and beyond are real albeit less in intensity compared to other G-20 countries because of the cushion of oil revenues and large foreign reserves estimated at SR450 billion.

In its recent Global Economic Prospects 2009 report, the World Bank stressed, "the world financial crisis has dimmed short-term prospects for developing countries and the volume of world trade is likely to contract for the first time since 1982. The sharp slowdown has caused commodity prices to plummet, ending a historic five-year boom."

As such, the areas of concern are: GDP growth; sustainable growth in employment; improving public services, especially municipality services; controlling inflation; reforming the financial sector; and diversification of the revenue base away from the dependency on the oil sector.

Real GDP is projected at 4.2 percent for 2008 — up on the actual 3.4 percent in 2007. But this figure is well below expectations of 5 percent perhaps indicating that the Saudi economy is slowing down faster than officials had anticipated. Hence, the expansionary budget stimulus package.

Creating jobs is always a major challenge for the Kingdom because of its young demography, high birth rate, rapid rate of urbanization and a relatively high level of disguised unemployment. Coupled with job creation is human resource development through better education and vocational training.

A perennial problem for the Saudi market is the mismatch between the jobs available in the market and the educational qualifications or subjects of the jobseekers. Saudi graduates have a heavy weighting in Islamic studies, for instance.

Major cities in the Kingdom need huge infrastructure development. Eighty percent of Jeddah for instance does not have flushing in-house toilets nor tap water. Jeddah Municipality has embarked on a major program to ensure the whole of the city has proper sewage and running tap water within the next five years. It is not clear to what extent Jeddah's allocation in the Budget has been increased.

Inflation at 9.2 percent currently remains a big worry, especially if there is downward pressure on the US dollar, to which the riyal is pegged, and further volatility in global commodity prices. This compared to 0.5 percent inflation in the Kingdom in 2005. The IMF Article IV Consultation on Saudi Arabia in July this year warned that inflation, generating sustainable levels of employment and infrastructure bottlenecks remain the main challenges for the Kingdom in the medium-term.

Perhaps it is not surprising that the IMF thinks that "the peg of the riyal to the US dollar has provided a credible anchor that has contributed to macroeconomic stability" and as such the benefits of the peg outweigh the disadvantages of higher short-term inflation. However the pressure on Riyadh to revalue the riyal remains strong especially in the context of the huge oil revenue gains during 2008. Another concern is the decline in non-oil private sector GDP growth from 5.8 percent in 2007 to 4.3 percent in 2008. Diversification of the economy away from oil dependency is a key long-term objective.

The Kingdom's financial sector reforms and the 2009 Budget should be a boon to local bankers. The adoption of a new mortgage law would hopefully help clarify the legal framework for housing finance and would be major boost for the sector in the coming years, given the big demand for housing units.

Bankers and the IMF would like to see more competition in the financial sector and would like the Kingdom to take the lead in developing the corporate market for Sukuk (Islamic bonds). Indeed, they would like to see a greater involvement of Sukuk and other Islamic financial structures in the economic development of the Kingdom.