London: Saudi Arabia’s 2016 budget contains significant reforms and follows notable expenditure restraint during the second half of 2015, but the fall in oil prices means that the deficit/GDP ratio will again be in double-digits, Fitch Ratings says.
The 2016 budget outlines measures to rationalise expenditure, increase non-oil revenues, and improve the fiscal policy framework. Petrol and utility price hikes were announced, and subsidy reform will proceed “gradually over the next five years.” The authorities aim to slow the growth of recurring expenditure, especially wages, salaries and allowances. Privatisations are planned. Adopting a medium-term expenditure framework with a budget ceiling and creating a debt management office should strengthen management of the public finances.
The commitment to reform was shown on 28 December with a hike in petrol prices of 66% (91 octane) and 50% (95 octane). Water prices for industrial, government and large corporate users more than doubled and electricity, and gas and diesel prices were raised. The direct cost of subsidies to the budget is less than 2% of GDP, but indirect subsidies (i.e. foregone revenue from oil that could be sold on international markets) are large. Taxes on tobacco and soft drinks will be raised, and support for a GCC-wide value-added tax appears firmer.
The full impact on the deficit will depend on the pace and extent of implementation and the size of offsetting measures to allay the effect on low- and middle-income families.
Nevertheless, the magnitude of the oil price decline means that the 2016 budget forecasts total revenues of SR513.8bn, down from an estimated SR608bn last year. Budgeted spending at SR840bn is below estimated actual spending for 2015 (SR975bn), but this leaves a projected deficit of SR326.2bn (USD86.9bn), around 13.5% of GDP. This is by far the largest fiscal deficit that the Saudi authorities have budgeted for, and suggests an oil price assumption in the low USD40 p/b.
This would be a second successive double-digit budget deficit, after the Ministry of Finance said that the 2015 deficit was expected to reach SR367bn, or 15% of GDP – the largest ever Saudi deficit, albeit below our forecast of 16.8%.
The lower-than-expected 2015 deficit mainly reflects measures to contain spending introduced during the year – including greater scrutiny of capex. Overspend was the lowest since 1999, with actual spending exceeding the budgeted level by 13.4% (compared with a 10-year average of 24%). Without the one-off cost of royal decrees after the accession of King Salman and additional military and security spending (likely due to the war in Yemen), spending would have been almost on budget.
The 2016 budget for the first time includes an unallocated contingency reserve worth 22% of budgeted spending to cover unforeseen expenditure. We assume that, without a significant rebound in oil prices, this will not be fully drawn down, making a further reduction in the gap between budgeted and actual spending plausible. It is unclear whether heightened tension with Iran will increase security costs.
Concrete deficit financing plans were not in the budget, but Fitch assumes these will remain a combination of drawing down government assets held at the central bank and debt issuance, potentially including international issuance. Net foreign assets held by the central bank fell by USD96bn over the first 11 months of 2015.
The fiscal policy response to lower oil prices and evolution of fiscal and external buffers are key to resolving the Negative Outlook on Saudi Arabia’s ‘AA’ sovereign rating.
