Saudi Arabia’s 1995 budget has been praised for its call for further cuts in public spending and greater transparency. Yet, there is no avoiding the fact that the dream of balancing government income and expenditure has still not been achieved. In 1995, the state will once again spend more than it earns. The local banking system will be under pressure to help finance the difference.

Analysing the Saudi budget is more of an art than a science. Figures released by the government at the start of each calendar year refer to goals. There is much less information about how much has been earned and spent.

When the 1994 budget was unveiled in January last year, it seemed to suggest that the kingdom aimed to match income with spending. The impression was created that balancing the budget was the possible goal. The less palatable truth only emerged in the 1995 budget. This showed that the government had recorded a deficit of SR 40,000 million ($10,700 million).

Deficit

Developments in 1994 continued the historic tendency for the budget statement to underestimate deficit trends. The deficit in 1990/91, the fiscal years spanning the Kuwait crisis, reached a combined total of SR 140,900 million ($37,500 million), an enormous figure reflecting the extraordinary financial demands made by the war to drive Iraq from Kuwait.

But even setting aside these two years, the kingdom has not done well in forecasting its deficit. Its predictions have worsened as international creditors paid closer attention to the kingdom’s financial position.

In the three years before the Kuwait crisis, the actual deficit was between 14 to 40 per cent above the budgeted level, figures contained in IMF Article IV reports show. Budgetary drift has increased since then. In 1993, the shortfall was almost four times greater than the target. The 1994 budget took this process to its highest stage: a zero deficit was forecast, but another large deficit was recorded in practice.

For these reasons, analysts of the kingdom’s budget are treating the 1995 forecast with caution. There would be little surprise if the SR 15,000 million ($4,000 million) goal – which would be the lowest deficit for more than a decade – is missed, even by a wide margin.

There is nothing unusual, or even reprehensible, about giving forecasts that embellish financial prospects. Governments of every political hue and quoted companies regularly do so. Analysts are paid to see through the wishful thinking. Yet, there is growing pressure from actual and potential creditors for the gap between Saudi Arabia’s announced financial plans and what happens in practice to be

narrowed.

There are several reasons why this is a demand the finance ministry will have difficulty satisfying. Not all public spending shows up in the budget.

The 1995 budget statement showed that some income, in this case amounts due in water, municipal and telephone fees, is not included in the aggregate figures. Autonomous government institutions, notably the cash-rich pension fund and General Organisation for Social Insurance, manage huge amounts of money and are in a position to finance at least some of their own spending.

The greatest uncertainties invariably surround government oil income trends. Since OPEC abandoned its price goal strategy at the end of 1985, Saudi public revenue has swung alarmingly (see page 17).

The 1995 budget statement said the state earned SR 120,000 million ($32,000 million) last year. This was almost 30 per cent lower than the 1992 figure. Analysts say the projection that oil revenue will rise by 12.5 per cent in 1995 is realistic, but the return of Iraqi crude exports or a political crisis in a major oil producing country could invalidate this forecast overnight.

For the past 20 years the unenviable task of running Saudi finances has fallen to Saudi Finance & National Economy Minister Mohammad Ali Abalkhail. With both income and expenditure susceptible to large and often unpredictable changes over very short time-frames, some would say it is an impossible task.

Since the kingdom started recording deficits in 1983, Abalkhail and the kingdom’s financial managers have adopted different approaches to financing them. Until 1987, it was mainly done by drawing down on foreign assets. In net terms, these are steady at about $72,000 million, although a large part of this figure is illiquid and not readily available for balance of payments financing.

In 1988, the government stopped the draw down on assets and launched fixed-rate bonds to raise deficit finance. According to figures published in IMF Article IV reports, outstanding bonds at the end of 1993 were worth SR 133,000 million ($35,500 million).

In 1989, the government borrowed from banks for the first time in modern history, raising $660 million in a three-year loan syndicated among Saudi banks for the Public Investment Fund (PIF), an agency of the finance ministry. This has been followed by further local borrowing from banks and from government agencies. The IMF report says outstanding internal loans were worth SR 150,000 million ($40,000 million) at the end of 1993.

The fourth approach to financing the deficit emerged in 1991 when the government for the first time borrowed from international banks, raising $4,500 million. This is to be paid off in full this year. The fifth borrowing initiative came in 1994 when two floating-rate borrowings were arranged. The first, finalised in August last year, raised $280 million in five- year floating rate notes (FRN) mainly placed with local banks. The second FRN, launched in December, has a two-year maturity and raised $272 million. This issue was the first Saudi borrowing governed by foreign law.

The sixth way the kingdom has dealt with its deficit, slowing the rate of payment to government suppliers, is unpopular but effective. It is estimated that there are at least SR 18,750 million ($5,000 million) worth of overdue payments.

Most companies experiencing delays have turned to the banks for credit facilities while they wait for finance ministry cheques. Worried about the irregular nature of what was the fastest-growing category of their assets in 1994, some banks have submitted plans to convert the amounts owed into negotiable securities. This proposal was still under consideration as this special report was published.

Other suggestions have been made to help raise money for the Saudi government. In 1994, export credit proposals in support of major power projects were presented to the Saudi Arabian Monetary Agency (SAMA) and to the finance ministry.

All have foundered on the authorities’ refusal to provide sovereign guarantees to the power companies that might benefit from these deals. Export credits are on offer to finance national airline Saudia’s expansion programme, but these have yet to be taken up.

Some contractors have unsuccessfully suggested build-operate approaches to financing power schemes. In 1993, some local banks formed a consortium to finance the telephone expansion programme. In the event, this deal went ahead on a straight cash basis.

All these approaches to dealing with the deficit, and certainly any future initiatives, involve and affect the kingdom’s 12 commercial banks. Some have shown a greater appetite for government debt than others. At the end of 1993, no less than 24 per cent of the assets of Arab National Bank were in the form of government development bonds.

In contrast, Al-Rajhi Banking & Investment Corporation, a self-defined sharia bank, had invested precisely nothing in government debt. The United Saudi Commercial Bank has bought a lot of government paper but refused to participate in any of the internal loans.

However, all are signalling that their capacity to lend to the state has limits. Bidding for development bonds has fallen because rising international interest rates have eliminated the attractions of fixed-rate lending. The banks want greater liquidity to their government asset portfolio in the way that the late-payment securitisation programme would furnish.

The authorities, for their part, are treading warily, examining each new proposal with forensic intensity. When the government must look for money, it does so on its terms, not the banks’. It would prefer not to borrow at all.

And yet, borrow the government must, if the IMF’s most recent projections are accurate. Its 1994 Article IV report, drafted before the 1995 budget was unveiled, forecasts that the Saudi government will have to raise up to SR 24,000 million ($6,400 million) every year until 1998 to finance the budgetary deficit. Financing to build power projects, estimated to involve capital spending of about $10,000 million by the end of the century, would be additional.

This could force the government to turn once more to international lenders. Perhaps the stock market, de-regulated and opened to foreign investors, could help. But the main financial source will continue to be the banking system. The banks are still enjoying a boom in profits and swimming in a sea of liquidity, as Finance Minister Abalkhail can plainly see.