Abolishing Subsidies - Saudi Arabia's Quest To Curb Deficit

Includes: KSA
by: Ati Ranjan


On Monday, Riyadh outlined an ambitious economic development plan aimed at reducing its dependence on crude prices.

Last year Saudi Arabia, OPEC’s largest oil producer, saw a $98 billion deficit because of low oil prices.

The 28th of December 2015 was a turning point for the Kingdom, with the Saudi government resorting to an increase in the prices of gasoline, electricity, diesel, and kerosene.

These are the Saudi government’s first concrete steps towards reducing its dependence on crude prices, abolishing subsidies while improving its fiscal situation.

I have co-written this article with Rohit Nagraj, Senior Analyst - Investment Research & Analytics at Aranca

Government Expenditure - Focus on Spending to Continue

The 2016 Saudi Ministry of Finance budget suggests that government spending continued to grow in 2015, despite lower revenues from crude oil.

Actual expenditure in 2015 is expected to reach SAR 975bn, widening the deficit to SAR 367bn (during 2014, Saudi government reported deficit of SAR 66bn) which is about 15% of GDP. The 2016 budget estimates combined revenues of SAR 514bn, while government expenditure is budgeted at SAR 840bn, with a deficit of SAR 326bn.

Budgeted expenditure for 2016 is about 14% lower than that of 2015, primarily due to lower oil revenues. There is a contingency provision of SAR 183bn however, and the government may resort to bond issuance (as it did in 2015, with bonds totaling SAR 98bn) should the need arise.

Fuel Reforms - A Step Toward Rationalization

The Saudi government announced a 67%+ price hike in Octane 91 (low-grade) petrol and 50%+ price hike in Octane 95 (high-grade unleaded) petrol on the 28th of December, 2015.

The government also hinted that prices of other fuels such as natural gas, diesel, kerosene, Arabian light and heavy crude oil, heavy fuel oil, ethane, and butane would be hiked, with revised prices applicable from the 11th of January, 2016. Utilities such as electricity, water and sewage treatment would also become costlier as their tariffs would be revised.

Crude Oil Prices - No Near-term Surge Expected

A weak but stable demand across developing countries, lower than expected demand from China, higher crude availability from non-OPEC countries, and the continued oversupply from OPEC, have made global oil prices less vulnerable to any intermittent shocks.

OPEC in its recent World Oil Outlook 2015 suggested that the OPEC reference basket may reach USD 80/bbl by 2020.

Subsidy Regime to Diminish Over the Next Few Years

Saudi Arabia's decision to hike fuel prices is a constructive step toward reducing fuel subsidies.

Fuel prices in Saudi Arabia should be in sync with international prices over the next few years. Given the grim outlook for crude prices right now, the government shouldn't have a hard time implementing this decision. The reduced subsidies would not only help curb deficits, but also reduce the excessive consumption of a precious natural resource.

We believe that rather than reduce expenditure on development projects, the Saudi government will try to tap additional revenue streams from non-oil segments such as hiking fuel prices, levying taxes, and so on, which would help the government exchequer keep pace with its expenditure.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.