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Saudi's Looming Bankruptcy: Warning signs of a looming financial disaster in Saudi Arabia.

Saudi Arabia may be "structurally insolvent" within 2 years because it faces the twin threats of huge spending commitments and cheap oil.

October 27

0:00
2016

Riyadh , Saudi Arabia, Kingdom of - 27 Oct 2016 - BBC

It’s common knowledge for anybody that follows international news that the more than two-year-long crash in global oil markets has caused pain across the sector, with little immunity offered.

Oil majors have lost billions, with over 350,000 layoffs in the sector globally, while oil-producing nations, ranging from U.S. shale oil producers, to OPEC members, to the world’s largest oil producer Russia, have felt the pain.Saudi Arabia, once thought immune to any prolonged downturn in oil prices, has also felt the pinch as prices have trended downward from $115 per barrel in mid-2014 to a low in the $20s-range in January, followed by a rebound to the high $40s to low $50s range.

The kingdom ran a record high budget deficit of $98 billion last year with an estimated $87 billion deficit forecasted for this year. Low oil prices have hit Riyadh’s state coffers so hard that it made it first international bond sale last week, worth $17.5 billion, to bring in much needed cash.

In order to rein in expenses, the government has done what was once thought unthinkable – cutting costs and expenditures. At the beginning of the year, Saudi state media reported that the Finance Ministry would cut spending, adopt new taxes and reduce price subsidies for fuel, water and power.

The problem is Saudi Arabia needs oil prices at over $100 a barrel to break even on its budget. The kingdom spends heavily on perks for its huge population of nearly 30 million. Now it's being forced to reverse some of those gifts, as highlighted by the recent 50% gas price hike.

The kingdom also has a massive military budget that reflects the tough neighborhood in the Middle East it lives in, ongoing rivalry with Iran and the threat of civil uprising. Still, the Saudis cut their defense spending by 3.6% this year amid the oil crash.

End of the best of times

A January report in Al-Monitor said that gas price hikes and subsidy cuts had shaken Saudi citizens. In May, Saudi Arabia announced that it was trying to wean its economy off of oil, stating that more shake ups were coming – in an effort to let its citizens know that the best of times, were in effect, over.

'We're Doomed For Bankruptcy' Unless Changes Made, Says Saudi Official

The government also announced new leadership at some of Saudi Arabia’s most important institutions, including the powerful oil ministry and the central bank. A half-dozen other ministries and commissions were reformulated, eliminated or saw new heads appointed in an effort to improve government responsiveness and efficiency, The Wall Street Journal said.Moreover, in September top Saudi officials had their salaries cut by at least 20%, and their car and phone allowances sequestered. Ordinary workers lost 11 days’ pay when the government moved to the Gregorian calendar. Annual leave has been capped at 30 days.

Saudi Arabia's central bank is sitting on almost $600 billion -- a massive rainy day fund that is helping it cope with the financial storm. But the Saudis have burned through $140 billion between the end of 2014 and February. The IMF too recently warned the Saudis could eventually run out of cash. Schreiber argues that Saudi Arabia's balance sheet is "overstated and misunderstood." He points to nearly $340 billion of liabilities that minimize the size of that rainy day fund.

These concerns may help explain why the Saudis are planning to sell off a 5% stake in the country's crown jewel: state-owned oil behemoth Aramco.

"If they sell the golden goose, how do they fund the future. Saudi Arabia is effectively beached, and is mortgaging away its future to buy time,"

The problem for Saudi Arabia that even after a fifty year massive oil bonanzam it still relies on oil for 90pc of its budget revenues. There is no other industry to speak of,  It's insane. Citizens pay no tax on income, interest, or stock dividends. Subsidized petrol costs twelve cents a litre at the pump. Electricity is given away for 1.3 cents a kilowatt-hour. Spending on patronage exploded after the Arab Spring as the kingdom sought to smother dissent.

Far from retrenching, King Salman is spraying money around, giving away $32bn in a coronation bonus for all workers and pensioners. He has launched a costly war against the Houthis in Yemen and is engaged in a massive military build-up - entirely reliant on imported weapons - that will propel Saudi Arabia to fifth place in the world defence ranking.

The Saudi royal family is leading the Sunni cause against a resurgent Iran, battling for dominance in a bitter struggle between Sunni and Shia across the Middle East. "Right now, the Saudis have only one thing on their mind and that is the Iranians. They have a very serious problem. Iranian proxies are running Yemen, Syria, Iraq, and Lebanon," said Jim Woolsey, the former head of the US Central Intelligence Agency.

Money began to leak out of Saudi Arabia after the Arab Spring, with net capital outflows reaching 8pc of GDP annually even before the oil price crash. The country has since been burning through its foreign reserves at a vertiginous pace.The reserves peaked at $737bn in August of 2014. They dropped to $672 in May. At current prices they are falling by at least $12bn a month.

Khalid Alsweilem, a former official at the Saudi central bank and now at Harvard University, said the fiscal deficit must be covered almost dollar for dollar by drawing down reserves.

The Saudi buffer is not particularly large given the country's fixed exchange system. Kuwait, Qatar, and Abu Dhabi all have three times greater reserves per capita.

"We are much more vulnerable. That is why we are the fourth rated sovereign in the Gulf at AA-. We cannot afford to lose our cushion over the next two years," he said.

Standard & Poor's lowered its outlook to "negative" in February. "We view Saudi Arabia's economy as undiversified and vulnerable to a steep and sustained decline in oil prices," it said.

Mr Alsweilem wrote in a Harvard report that Saudi Arabia would have an extra trillion of assets by now if it had adopted the Norwegian model of a sovereign wealth fund to recyle the money instead of treating it as a piggy bank for the finance ministry. The report has caused storm in Riyadh.

"We were lucky before because the oil price recovered in time. But we can't count on that again," he said.

OPEC have left matters too late, though perhaps there is little they could have done to combat the advances of American technology.In hindsight, it was a strategic error to hold prices so high, for so long, allowing shale frackers - and the solar industry - to come of age. The genie cannot be put back in the bottle.The Saudis are now trapped. Even if they could do a deal with Russia and orchestrate a cut in output to boost prices - far from clear - they might merely gain a few more years of high income at the cost of bringing forward more shale production later on.

Yet on the current course their reserves may be down to $200bn by the end of 2018. The markets will react long before this, seeing the writing on the wall. Capital flight will accelerate. The government can slash investment spending for a while - as it did in the mid-1980s - but in the end it must face draconian austerity. It cannot afford to prop up Egypt and maintain an exorbitant political patronage machine across the Sunni world.Social spending is the glue that holds together a medieval Wahhabi regime at a time of fermenting unrest among the Shia minority of the Eastern Province, pin-prick terrorist attacks from ISIS, and blowback from the invasion of Yemen.

Egypt is already begining to feel the economics effect of the Saudi financial crisis with major staples such as sugar, the fabric of society doubling in prices. Without providing prior warning or an explanation to Ramallah, Saudi Arabia has been holding back financial aid earmarked for the Palestinian Authority for over six months, senior PA officials say.

Saudi Arabia had been paying $20 million a month to the PA as aid to the cash-strapped Palestinian government in the West Bank when it suddenly shut the tap.

While there has been no official announcement from either Riyadh or Ramallah, Diplomatico has learned that the payments stopped over half a year ago with no clear reason given for the cessation. The Palestinian Authority is curretly working on the assumption that the freeze is due to an across-the-board cut in Saudi Arabia’s funding of foreign countries based on its own budgetary strains.

The headwinds facing Saudi Arabia are severe and should not be treated with complacency. It must not only take immediate action but the right actions. Recently the Civil Service Minister Khalid Al-Araj said state workers were productive for no more than an hour a day, but see their jobs as a right. Mohammad Al Tuwaijri, the deputy economy minister, said without the recent austerity measures, the kingdom would have gone bankrupt in three to four years.

“Our reliance on oil is a pure dependence,” Al Tuwaijri told the show’s host, Dawood Al Sharyan. “Economic diversification is basically non-existent.”

That’s not how it came across to Mohammed Al Suwayed, the Riyadh-based head of capital and money markets at Adeem Capital, who was unimpressed by what he saw. The kingdom’s post-oil plan is nothing more than window dressing for unpopular austerity measures, he said. Instead of presenting clear statements, the ministers were arguing “in front of everyone,” he said.

 

 

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