A message posted on social networking site Twitter by one Saudi citizen reads “Things I learned on 11 March, the government listens to you (though chooses to ignore you) and the government is afraid of you.”

That fear was clearly evident earlier that day as a huge police presence was rolled out across Saudi Arabia’s major cities to deter protests from starting what opposition groups hoped would be an Egypt-inspired ‘Day of Rage’. As it turned out, the protests failed to materialise. That came as little surprise after the government said any sign of demonstrations would not be tolerated and denounced public protests as ‘unIslamic’. The people, it turned out, were equally afraid of what could transpire if protests occurred and nervous about the identity of the anonymous organisers of the protests.

Saudi Arabia state spending increases

The extent of the security presence on the streets of Saudi Arabia showed that the government has been deeply rattled by the uprisings that have spread across the Arab world. That fear has had a profound impact on economic policy. Although broader political reform has been at the heart of the wider protest movement, in Riyadh, that has been neglected in favour of opening the government coffers further.

Despite the massive spending increases, the government’s budget looks surprisingly healthy

Earlier this year, King Abdullah announced spending plans of SR485bn ($129bn). The cash will go on a wave of measures, including introducing unemployment benefit, paying bonuses to state employees, increasing wages, the construction of new homes and increasing the availability of home loans.

Despite the massive spending increases, Riyadh’s budget looks healthy, buoyed by high oil prices. The Washington-based IMF is predicting the country will grow by 7.5 per cent in 2011 and although that estimate is much higher than those of other analysts, all are bullish on the prospects for the Saudi economy in 2011.

The spending increase will push the kingdom’s breakeven oil price much higher. The UK’s Barclays Capital estimates that Saudi Arabia now needs an average oil price of $91 a barrel to balance the budget. Nonetheless, with oil expected to average more than $100 a barrel, that should still leave a comfortable surplus.

However, it does show that Riyadh is becoming increasingly reliant on high oil prices to finance its domestic spending. The Institute of International Finance, a global bankers industry body, estimates that by 2015, oil will need to be about $110 a barrel for Saudi Arabia to balance its budget. The relentless increase in state spending has had a huge impact on oil price assumptions. In May 2009, King Abdullah said that a fair price for oil was around $75-80 a barrel. If oil fell back to that level for a sustained period, Riyadh would probably have to start reconsidering its profligate spending.

“The government’s dependence on oil revenue, and hence vulnerability to oil price movements, has grown rather than diminished,” says Keith Savard, director of economic research at local bank Samba.

The government is working on an ambitious plan to make domestic energy more efficient, providing more power through renewable energy sources in order to keep more oil available for exports. The King Abdullah Centre for Alternative and Renewable Energy was created in April 2011 to drive this forward.

While conserving oil for export is clearly the long-term goal of the government, short-term, the focus will be on measures to bolster stability through job creation and building affordable homes for the lower and middle-income classes.

The danger of increased state spending is that the government risks elbowing out the private sector from the economy, and that, ultimately, is where the majority of the new jobs need to come from. “After exceeding 5 per cent between 2004 and 2007, private sector gross domestic product (GDP) growth slowed to below 4 per cent for the past three years, a rate that fails to encourage an adequate level of job creation for the kingdom’s youth,” says John Sfakianakis, chief economist at the local Banque Saudi Fransi.

According to the kingdom’s ninth development plan, which covers the period 2010-14, private sector GDP growth needs to average 6.6 per cent a year. But as the state becomes more active, the opposite is occurring. Sfakianakis estimates that the government sector will account for 33.6 per cent of non-oil GDP in 2011, up from 32.3 per cent in 2008.

Although the increased spending is welcomed on the streets of Saudi Arabia, the government’s SR485bn pledge will act only as a short-term fillip to the economy, which will continue to face real challenges in diversifying away from oil and providing the jobs necessary for the kingdom’s growing youth population.

Alternative funding for Saudi Arabia projects

“The emphasis on state funding has hampered the government’s endeavour to stimulate the private sector. The trend towards relying on government cash to push forward crucial infrastructure projects has, to some extent, stifled the rebound in bank credit and restrained private sector investment,” says Sfakianakis.

Lacklustre credit growth has been a major concern for Saudi Arabia. The loan-to-deposit ratio of the banking sector fell to 76.5 per cent in March, the lowest in six years. But loan growth is due to pick up over the rest of the year. Lending grew by 2.9 per cent in the first quarter of 2011, the largest increase since the third quarter of 2008. It is still well down on the double-digit growth experienced prior to the financial crisis.

The additional government spending will also impact on inflation. Banque Saudi Fransi has increased its inflation forecast to 5.6 per cent for 2011, from 5.1 per cent, based on the injection of cash in to the economy.

Ultimately, the provision of more housing units should help temper inflation. But the government will have to be careful to avoid a situation in the interim of both high inflation and a lack of housing, which will increase social pressures and could lead to civil instability.

Saudi Arabia has proven more stable than many in the West expected. That does not mean it is not sitting on a hotbed of potentially destabilising factors.

Public affection for King Abdullah and billion dollar handouts will not last forever and the recent measures will have to be accompanied by a political reform. Although many Saudi businessmen claim the population is more concerned with economic prosperity than political rights, that assessment flies in the face of the motivation for protests elsewhere in the region.

Limitations on freedoms have increased since the beginning of the year, as well as banning protests, Riyadh has also prohibited criticism of the religious leaders and reporting anything that could cause “division between citizens”. A widely anticipated cabinet reshuffle to bring in more reformist ministers has not happened.

But there are signs that the government is trying to respond to some of the demands of its people. Included in the spending measures was a plan to create a new commission to root out corruption. It will report directly to King Abdullah. The Royal Decree issued gave three months for the National Anti-Corruption Commission to be established.

Political reform in Saudi Arabia

The government is also pushing ahead with municipal elections, delayed since October 2009 and now scheduled for 22 September 2011. Although the councils have little in the way of real power and women remain unable to vote, it is a sign that the kingdom’s piecemeal reform is continuing.

Whether the promise of elections, along with the massive spending pledge, will buy the silence of the public long enough for more significant reforms to come through, is difficult to assess. In the meantime, state spending risks choking the private sector, which is essential to the kingdom’s development.

Riyadh is well aware of the challenges it faces and the potential for unrest if it fails to deliver at least some improvement in the quality of life of its citizens. Although the people have shown a remarkable degree of faith in their leadership, and fear of it, by not protesting, they will need to see the benefits of that soon.