TIGHT budgetary policies are starting to pay off in the form of improving financial indicators that should reassure the international financial community about economic developments in the kingdom.

MEED's analysis suggests that Saudi Arabia's balance of payments deficit in 1994 will be its lowest for four years (see chart). Foreign exchange reserves are improving and there is evidence that the government is adhering to its goal of a 19 per cent cut in public spending and a balanced budget in 1994.

The price paid for these achievements has been a year of no economic growth. The cut in public spending has tested the corporate sector's financial resources and imposed major demands on the banking system.

The business outlook for 1995 should be much better. With Iraq likely to be excluded from export markets for at least another year, other oil exporters are set to reap the benefits of a worldwide economic recovery. Forecasters agree that the call on OPEC crude oil will average about 1 million barrels a day (b/d) more in 1995 than in 1994. Most believe there will be some firming in the oil price in the next 12 months. Both factors will help Saudi Arabia's financial position and provide the resources to pay for a return to growth.

One of the most positive forecasts for the kingdom's economy has come from the Petroleum Finance Company of Washington. It foresees Saudi oil production reaching an average of 8.9 million barrels a day (b/d) in 1995 and rising to 9.4 million b/d in 1996. Its analysis also shows the kingdom's export earnings rising by 18 per cent in 1995 to almost $50,000 million and holding around this level in 1996.

If this projection proves to be correct, the kingdom's current account deficit will fall to $3,000 million in 1995 before rebounding to a sustainable $5,000 million in 1996 as imports of goods and services start to recover.

Such a development would be welcomed by the kingdom's trading partners which have been struggling to maintain their position in the Middle East's biggest export market. It suggests that Saudi Arabia will be well-placed to follow a steadier growth path in the second half of the 1990s and help dispel the unhappier memories of the past 18 months.

Much attention has focused on the kingdom's economy in the past two years. Business people recognised that a correction was overdue in an economy that had been surging ahead since the late 1980s. But when the government axe fell in the 1994 spending programme, many were still caught unawares by the determination with which the goal of achieving the kingdom's first balanced budget in more than a decade was being pursued.

No one outside the highest levels of government has more than an approximate idea of the extent to which this target is being achieved. Yet, it is apparent that the Finance & National Economy Ministry has applied the tightest squeeze on government cash-flow since the mid-1980s. This has mainly affected project spending and contracts awarded to international suppliers.

Under pressure

In places, the squeeze has hurt badly, but few companies have fallen into serious financial difficulties. Companies may have been weakened but none of any size has gone out of business.

There are two main reasons for this. The first is the attitude of the banks. To an unprecedented extent, they have been willing to extend credit to companies waiting for government payments. Some analysts believe bank credit to companies for this purpose is now standing at several thousand million riyals.

A second factor is that companies were well prepared for what happened, building in margins in their prices to take into account the cost of borrowing while they waited for government payments.

Critics say that managing the Saudi economy through the cash-flow tap is too crude and damages business confidence. They argue that the government could have avoided the traumas caused by the payments slow down by borrowing more, permanently cutting the level of public spending through cuts in the state payroll and privatising profitable public enterprises the private sector is keen to run.

The government's response has been typically conservative. It is now clear that it has no intention of embarking on radical new financial policies with uncertain long-term consequences simply because money is tight for a couple of years. Riyadh has decided to tough out the consequences of the 1993 oil price fall, the spending overhang from the 1990/91 Kuwait crisis and the continuing heavy cost of its commitment to social welfare programmes.

The policy has meant putting pressure on the corporate sector. Official attitudes may have been influenced by the view that business has done well out of the Saudi economy and it was time for the private sector to give something back.

January 1995 will mark the start of the kingdom's sixth five-year development plan, a document that remains a useful medium-term indicator of government policy. In the past, the plan was full of quantitative targets. The latest document concentrates on qualitative issues: efficiency, quality and giving a bigger role to the private sector.

Talk of privatisation in the Saudi economy has to be placed in this context. The plan document itself says the private sector should be given the opportunity of 'operating, managing, maintaining and renovating many of the utilities run by government provided this cuts costs, raises performance and creates job opportunities for Saudi citizens.' It also calls for business to be given 'the opportunity to participate in owning and managing basic industries set up by the state through the timely flotation of shares in these industries.'

How this will be done is not defined. The signs are that the approach will be careful and that there is not going to be a privatisation bonanza. Candidates for privatisation include national carrier Saudia and the telephone system. But the government is determined not to sell these valuable assets cheaply.

Consistency

Consistency is the defining characteristic of Saudi economic policy in the way it both earns and spends money. The kingdom's oil production strategy has been adhered to throughout 1994. Crude oil production from all Saudi concessions averaged 8.1 million b/d in the first nine months of 1994. The kingdom's output accounted for 32 per cent of total OPEC output during this period. This compares with average production of 8.23 million b/d in 1993 as a whole, when the kingdom's crude oil output accounted for 33 per cent of the OPEC total.

Saudi Arabia's production allocation under the OPEC agreement which is to apply to the end of 1994 is 8 million b/d. The OPEC meeting in Bali on 21 November will decide whether it should be rolled over into the first quarter of 1995 to allow prices to rise during the winter months.

These estimates indicate that the kingdom's earnings from crude oil and refined product sales are averaging about $3,000 million a month, about $150 million a month less than in the equivalent period of 1993. If this trend continues for the rest of 1994, total crude oil export earnings will be about $1,000 million-2,000 million less than in the previous 12 months.

The big change has been in the volume of imports. Figures released by the kingdom's main trading partners suggest that the value of imports is down by at least 10 per cent on 1993. Service imports are likely to have fallen by an equivalent amount.

News on non-oil exports is encouraging. Nine-month figures released by the Saudi Basic Industries Corporation (Sabic) show sales and profits are up strongly. The company is the kingdom's leading non-oil exporter. Wheat exports are forecast to fall to 1.5 million tonnes in 1994 compared with 2.5 million tonnes last year due to efforts to scale back surplus wheat production.

Deficits

These factors will combine to help sustain the improvement in the kingdom's external account since it recorded a record current account deficit of almost $28,000 million in 1991.

A similar improvement is expected in the government's financial position. However, there is clear evidence that a deficit is still being incurred. Domestic borrowing is continuing. The rise in international interest rates is undercutting the appetite of the banks for government development bonds, fixed-rate borrowing instruments used to finance the deficit. Nevertheless, the government is still issuing paper in an effort to deal with its deficit. In a new development welcomed by local banks, a $280 million, five-year floating rate note issue was launched on 15 August. Further issues of a similar kind are expected.

Another sign of the financial pressure on the state was the decision to secure a $1,300 million, seven-year loan from a consortium of local banks. The syndicate included Gulf International Bank (GIB), the Bahrain- based offshore bank part owned by the Saudi government. It was signed earlier in 1994.

Ways of directly financing projects are being explored. The UK and the US have been leading a campaign to promote the use by Riyadh of export credits. This has foundered on the kingdom's resolute refusal to provide a sovereign guarantee to underpin deals to finance the construction of an electricity substation by a consortium led by a UK company and for the supply of aircraft to Saudia which was agreed earlier this year with the Boeing Commercial Airplane Group and McDonnell Douglas Corporation. The UK's Export Credits Guarantee Department (ECGD) has indicated a greater desire to be flexible than the Export Import Bank of the US.

The government also considered re-profiling repayments due for the kingdom's $4,500 million Euroloan, arranged in 1991. Repayments of principal started in May and are to take place in four equal $900 million tranches every three months thereafter. Reports in August said that the second repayment was to be deferred but this proved to be a false forecast and the kingdom paid on time.

The kingdom is financing itself by drawing down on its international savings. Figures published by the Basle-based Bank for International Settlements (BIS) show that the public and private sectors have drawn down on their deposits with international banks. At the end of March, Saudi Arabia had net placings with Western banks of just over $40,000 million. This compares with almost $44,000 million at the end of 1993.

More recent information shows that the tough financial measures of 1994 are starting to bear fruit in higher foreign exchange reserves. At the end of July, they were reported at their highest level for almost two years (see chart).

EOS