How Saudi Arabia's Public Spending Programs Will Impact the Rest of the World

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Apr 22, 2011
Unless you have been hiding in a cave for the past few months you are well aware of the unrest in all kinds of Middle East Countries: Egypt, Syria, Libya, Bahrain, Yemen, et al. And the oil market of course reacted as expected, quickly pushing up oil prices to $120-plus on a global basis.

The main fear though is such turmoil hitting Saudi Arabia, which is the oil market’s swing producer. The Saudis hold all of the global spare production capacity, so if they want oil prices to move up, they can hold production to a level that makes them go up. We saw that very clearly in 2009 when they successfully cut production and increased prices from $30 to $75 per barrel in just a few months. Should violence erupt in Saudi Arabia and we have more production knocked out we could have a massive supply and demand imbalance.

Thankfully, the Saudis have lots of cash to give to their people to calm them down. And that is what they have done thus far by announcing $129 billion of public spending aimed at making the general population happier.

It won’t, however, be the Saudis alone who pay for this spending. All of this additional spending is going to mean the Saudis will need a higher oil price to pay for it. And as I mentioned, if the Saudis want it they can get it by keeping the oil market tight.

The Financial Times has recently had a couple of articles which detail how 10 years ago the Saudis could balance their budget with $20 oil. This year they are going to need $80 per barrel. By 2015, they will need $100 per barrel.

“The clearest manifestation of the fresh populism is the hand-outs and boost to public spending announced by King Abdullah of Saudi Arabia. The policies, at a total cost of $129bn – equal to more than half the country’s oil revenues last year – vary from one-off bonuses for public sector workers to the promise of half a million homes at affordable prices. All in all, says John Sfakianakis, chief economist of Banque Saudi Fransi in Riyadh, “the total bill of measures is a substantial fiscal undertaking” on top of a budgetary trend in which actual spending has exceeded what had been announced over the past five years.

Edward Morse, a veteran oil watcher, argues that the extra spending will lift Saudi Arabia’s oil revenue needs closer to those of Venezuela and Iran, arch-hawks on price. Riyadh is likely to pay for King Abdullah’s largesse by tapping the country’s reserves, worth an estimated $450bn. Even so, prices will need to average $80 a barrel this year for Riyadh to balance its budget. Only a decade ago, it achieved that with prices at about $20 a barrel. “The main concern is that the hand-outs, which are at the moment discretionary spending, evolve into non-discretionary spending, boosting permanently the budgetary requirements,” says Mr Morse.“

A second concern is that the social discontent in these Middle Eastern countries means that governments will have no stomach for ending the very generous gasoline subsidies provided to citizens. The rapid increase of fuel consumption inside of the Middle Eastern countries is quickly eating into their net export capacity.

“The forecasts of higher oil revenue needs come after the Saudi government announced two packages of social spending totalling $129bn aimed at averting the spread of dissent that toppled the Egyptian and Tunisian leaders. The largesse failed to satisfy activists who were angry that the package did not include reforms.

“One important implication of the ... spending packages is that government spending has shifted to a higher path for the coming years. Evidence from many countries shows that once such benefits are in the budget, they could be hard to withdraw without strong resistance,” the IIF said.

Every year it seems more and more obvious that countries relying on oil imports need to do something quickly to end that dependence. The United States especially is at the mercy of oil exporters who now not only want a high oil price but need it.