At first, the warnings were subtle. An IMF report in mid-2011 said Saudi Arabias high spending risked producing inflationary pressures. A year later, the US Citigroup made a more stark prediction. It said that if domestic fuel consumption continued its current pace of growth, the kingdom would become an oil importer by 2030.
Separately, the local Jadwa Investments warned in June 2012 that, based on current trends, Riyadh would need oil prices to be $320 a barrel by 2030 just to pay for its growing spending bill.
Although the Saudi authorities dismissed the suggestions as doomsday scenarios, it appears policymakers in the kingdom have been listening. After several years of big increases in budget allocations and high levels of overspending, spending growth is set to slow in 2013. What remains unclear is whether the deceleration is being driven by a change of heart in Riyadh, or is the result of institutional inertia after two years of massive upheaval across the Saudi government.
In the five years from 2008-12, government spending rose 65 per cent, hitting SR853bn ($227bn) in 2012. During the same period, the breakeven oil price, the point at which oil revenues match spending, increased from $37.6 to $73.6 a barrel, according to the IMF. This year, it reached $84.5 a barrel, making the kingdom more vulnerable to a fall in the oil price.
There is a sense that now is a good time to step back and look at all the spending rises that have been going on
The pace of spending growth, however, is now slowing. In 2012, spending was up by just 3.2 per cent, and this year is expected to rise by only 2 per cent. In 2014, Jadwa is forecasting that spending may actually fall by 1.4 per cent. That would be the first time that spending has dropped since 2002, when oil prices fell by 14 per cent from the previous year. Other forecasts are less pessimistic, but all agree that spending growth will no longer be double-digit increases each year.
We expect government spending to increase this year, but at a slower pace than in previous years, says James Reeve, senior economist at the local Samba bank. He adds that current spending on items such as public sector wages and subsidies will be maintained, but capital spending on new infrastructure will feel efforts to curb spending growth.
The slowdown in capital spending is evident in the volume of contract awards over the past 18 months. By the end of the first half of this year, only about $21bn of project-related contracts had been awarded, according to regional projects tracker MEED Projects. With the second half of the year including Ramadan and the slower summer months, contracts awards could fall short of the 2012 total, when $52bn of deals were signed. That year represented a significant drop from 2011, when $74bn of contracts were awarded.
As the government faces up to the pressure to curb spending, taking action on current budgets is unlikely. In the current political climate, Riyadh does not want to be raising prices, says Reeve. Part of the reason for the 21 per cent hike in current spending in 2011 was King Abdullahs announcement earlier that year of pay rises and bonuses for the public sector, which formed a major part of the policy response to prevent protests across the region spreading to Saudi Arabia.
Riyadh has found it easy to make these spending commitments while oil prices and production volumes are high, but it is much more difficult to reverse them if spending has to be curtailed.
That leaves investment spending set to bear the brunt of efforts to curb rising outlays. Capital spending is forecast to rise by only 4 per cent this year and creep up just 2.5 per cent in 2015. In 2011, capital spending jumped almost 40 per cent and helped shape Saudi Arabia into one of the Gulfs most attractive projects markets. A host of private sector firms relocated out of slowing construction markets elsewhere in the region to focus on profiting from the trickledown effect of Riyadhs largesse.
While capital investment growth decelerates, current spending is expected to continue to rise by more than 7 per cent a year for the next few years. But how much of this is a policy shift in response to the warnings about high spending levels?
I think it is unlikely that the government has suddenly woken up to this being a problem, says one Saudi economist. But there is a sense that now is a good time to step back and look at all the spending rises that have been going on and make sure that money is being spent in the right places and efficiently.
Coupled with this, there has been widespread change in several key ministries over the past two years. Two crown princes have died Prince Sultan and Prince Nayef and the current crown prince and first deputy prime minister, Prince Salman, has only been in the role since June 2012. The interior minister, Prince Mohammed bin Nayef, a son of the former crown prince, was appointed in November 2012. His ministry is one of the key government clients involved in procuring new infrastructure schemes.
I suspect that all the bureaucratic upheaval is also having an effect on the pace of spending as new ministers come in
James Reeve, Samba
Prince Bandar bin Sultan, also the son of a former crown prince, has been appointed secretary-general of the General Intelligence Presidency. Prince Khalid bin Bandar has been appointed governor of Riyadh, and Prince Saud bin Nayef governor of the oil-rich Eastern Province. All are grandsons of the kingdoms founder, Abdulaziz al-Saud. There have also been changes at the top of the Capital Market Authority and a clear-out at the central bank, the Saudi Arabian Monetary Agency (Sama).
I suspect that all the bureaucratic upheaval is also having an effect on the pace of spending as new ministers come in and assess planned spending, says Reeve.
Despite the slowdown in capital spending, Saudi Arabia still has a raft of multibillion-dollar infrastructure schemes planned, including major public transport projects in Riyadh, Jeddah and Mecca, and a series of new power plants. A host of other projects by state-owned firms including Saudi Aramco and Saudi Basic Industries Corporation (Sabic) require large investments, although these do not show up as direct government spending.
One reason behind the efforts to slow the pace of spending growth is the expected decline in government revenues as oil prices slip and output drops. Government revenue is expected to fall in 2013-15 and this could leave the kingdom facing a budget deficit by the end of the period. Brent crude prices are expected to average about $105-110 a barrel in 2013. Average daily production is expected to drop to 9.3 million barrels a day (b/d), from 9.8 million b/d in 2012. The overall effect of this is a fall of more than SR100bn (about 11 per cent) in total government revenue.
If the slowdown in spending growth is not part of a deliberate strategy, it soon will be. At a recent conference in Riyadh, Economy & Planning Minister Mohammed al-Jasser and the head of Saudi Electricity Company, Ali al-Barrak, said that action needed to be taken to stop subsidies from distorting the economy.
Al-Barrak also commented that subsidies should be revised and done in a different way. They should be smarter and target the low-income people.
Fuel subsidies alone are estimated to be about $43bn a year, but the total bill is much higher as it includes measures to hold down the prices of oil, power and food. The public comments by Al-Jasser and Al-Barrak suggest that Riyadh is now trying to build public awareness of the unsustainability of subsidies in their current form. Addressing this would be a big move on both the expenditure side, as fuel price increases lower consumption, and the revenue side, as less oil would be burned domestically, allowing it to be sold for export. It would provide a rare opportunity to trim the current spending bill, or at least use the funds more efficiently.
The other key plank of Riyadhs economic policy is to develop renewable energy sources, such as nuclear, wind and solar plants, to further reduce how much oil is used domestically. This will, however, require a massive capital spending plan to achieve, estimated at about $109bn up to 2030.
That could help boost the capital investment programme and please contractors in the country hungry for more work, but the pace of investment could still depend on the revenue outlook. While Riyadh showed in 2009 that it is not afraid to go into deficit spending when necessary, it is unclear how long it would keep that up in the event of sustained fiscal deficits.
With almost $700bn held by Sama as foreign assets, the government has enough savings to finance the entire budget for almost three years. It could easily fund a small deficit each year for much longer and, with virtually no debt, the government has plenty of options if it decides it does not want to close the taps on spending too quickly.
Al-Jasser has also said that sustainability and counter-cyclicality need to be the guiding principles behind economic planning. Achieving this would require the state to shift more employment to the private sector, reducing the current spending bill and giving it more room for counter-cyclical spending.
If the slowdown in the pace of spending is a pause while Riyadh digests what it has already committed to and allows the government to ensure it is spending efficiently, it will be a valuable time of reflection. If it is merely symptomatic of institutional inertia and caution about oil revenues this year, it will suggest that Riyadh is not actually embarking on the long-term strategic planning advocated by Al-Jasser.
So far, it seems more likely to be the former. If that is the case, then the spending increases of 2011 will become a thing of the past.
In 2012, spending was up by just 3.2 per cent. It is expected to rise by 2 per cent this year