Saudi Arabia Country Risk Report & Economic Strengths and Weaknesses

Economic growth set to remain subdued

B2

MEDIUM RISK for entreprise

  • Economic risk

  • Business environment risk

  • Political risk

  • Commercial risk

  • Financing risk

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GDP USD782bn (World ranking 18, World Bank 2018)
Population 33.7mn (World ranking 41, World Bank 2018)
Form of State Absolute Monarchy
Head of government King SALMAN bin Abdulaziz Al Saud
Next elections None
  • Natural resource base (oil and gas)
  • Strategic importance as an oil exporter and with spare capacity to increase output when needed
  • Large financial asset base and strong foreign exchange reserves
  • In time of high oil prices strong fiscal and current account surpluses. These provide a financial buffer when deficits are recorded in times of severely depressed oil prices
  • Net creditor
  • Generally good relations with the U.S.
  • Long-standing and stable exchange rate system
  • Dependence on international oil prices along with a narrow economy focused on the hydrocarbon sector
  • High unemployment and under-employment have the potential to fuel increased militancy, particularly among the minority Shia population
  • Data transparency is below average for a high income economy
  • Regional uncertainties, with land borders with Iraq and Yemen and with Iran as a close neighbor. The latter is seen by some as a competitor for regional power

Structural weaknesses

Saudi Arabia’s economic structure is unbalanced. The country possesses the world’s second-largest proven oil reserves (>15% of global resources) and, at current rates of extraction, its oil will last for over 60 years. In addition, gas reserves will last for a further 72 years. Hydrocarbons account for around 34% of GDP (2018) and over 80% of export earnings. Such a narrow output base, with (still) little progress in diversification into other industries and services (other than downstream activities), leaves the economy vulnerable to world oil price cycles. However, in times of high oil prices, large surpluses in the fiscal and current accounts are accompanied by a build-up in foreign assets and in special sovereign wealth funds (SWF) established to serve future generations. The total reserve assets managed by SAMA (Saudi Arabian Monetary Authority) are officially recorded at around USD500bn (as of end-2019). Another SWF, the Public Investment Fund, currently holds around USD360bn.

The structural business environment in Saudi Arabia is generally adequate, ranking slightly above average in our assessment of 191 economies. The World Bank’s Doing Business 2020 survey ranks Saudi Arabia 62nd out of 190 economies in terms of the overall ease of conducting commercial operations, a considerable improvement from rank 92 a year earlier. Marked advancements in the following sub-components have contributed to the overall improvement:  ‘Getting credit’, ‘Protecting minority investors’, ‘Paying taxes’ and ‘Trading across borders’. However, ‘Resolving insolvency’ remains a weakness in Saudi Arabia as the country still does not have an insolvency legislation. ‘Enforcement of contracts’ involves less time and procedures than the regional average but the cost is higher.

According to the World Bank Institute’s Worldwide Govern­ance Indicators 2019 survey, the legal framework and control of corruption are slightly above the global average while the regulatory framework is below. With regard to our proprietary Environmental Sustainability index, Saudi Arabia ranks only 166th out of 210 economies, reflecting particular weaknesses in renewable electricity output, water stress and recycling rate.

Gradual recovery in 2020 from recession in 2019

Saudi Arabia’s real GDP contracted for three quarters in a row in seasonally adjusted quarter-on-quarter (q/q) terms – by -0.4% q/q in Q1 2019, -0.6% in Q2 and -0.2% in Q3 – putting the economy into protracted recession. In year-on-year (y/y) terms, real GDP growth decelerated rapidly from +4.3% y/y in Q4 2018 to +1.7% in Q1 2019, +0.5% in Q2 and -0.5% in Q3. This took average growth in the first three quarters of 2019 to just +0.6% y/y, down from full-year 2018 growth of +2.4%. The deceleration in Q1-Q3 2019 was entirely due to the contraction in the oil sector (which accounts for one third of the economy) by -2.8% y/y, after it had grown by +2.8% in 2018 as a whole. This sharp shift into negative territory in 2019 mirrors the seesaw changes with regard to oil output cuts by OPEC+ (OPEC + Russia + some other major oil producers). Those cuts were cancelled in June 2018, leading to sharp output increases thereafter until their re-imposition at end-2018, after which they remained in place for all of 2019 and have been extended until March 2020, for now. Meanwhile, growth in the Saudi non-oil sector picked up to +3.1% y/y in Q1-Q3 from +2.1% in full-year 2018.

On 14 September 2019, key Saudi oil infrastructure was hit by an air attack which Iran-backed Houthi rebels in neighboring Yemen claimed responsibility for, though the U.S. blamed Iran for direct involvement, without evidence for now. However it had only a short-term impact on overall Saudi oil output. The latter averaged 9.83 million barrels per day in Q4 2019, the same as in June-August, according to the U.S. Energy Information Administration. However, we assume some reduction in feedstocks to petrochemicals and lower gas production to have occurred in Q4. The negative impact on economic growth was likely counterbalanced more or less by increased (re-)construction output. Overall we expect real GDP to have been nearly flat in 2019 as a whole (+0.2%).

Looking ahead, we expect the non-oil sector to remain robust in 2020 as indicated by the non-oil private sector PMI for Saudi Arabia, which in Q4 2019 rose to the highest quarterly average (57.7 points) since Q1 2015. Meanwhile, oil output is likely to remain subdued this year but should not fall as compared to 2019. As a result, we forecast real GDP to grow by a modest +1.5% in 2020. The slight pickup from last year is mainly reflecting fading negative base effects in the oil sector. The tentative growth forecast for 2021 is +2.0%.

Downside risks to this forecast include the uncertain global economic outlook (notably trade tensions), as well as the increased geopolitical risks in the Middle East region.

Macroeconomic risks to remain moderate in the short term

Exchange rate and price stability

Saudi Arabia has a fixed exchange rate system, with the Saudi riyal (SAR) pegged to the US dollar at SAR3.75:USD1. Despite pressures on the currency during the low oil price period in 2015-2017, the peg held – thanks to the huge foreign exchange reserves held at the SAMA – and we expect this to continue over the next few years. Progress towards a full Gulf monetary union has been limited and we do not envisage the introduction of an effective GCC single currency in the next five years or so.

The peg has ensured relative price stability in the past. In 2017, Saudi Arabia experienced deflation (-0.9% on average) amid a recession and weak domestic demand. The introduction of a 5% VAT in 2018 lifted inflation to an average +2.5% in that year. In 2019, the country was again mired in deflation (-1.2% on average) amid the renewed recession, and in particular as a result of falling housing prices and waning effects from the VAT introduction. In 2020, we expect a return to modest inflation of +1.4% or so.

SWFs provide buffers for fiscal and current accounts
Since mid-2014, sharply lower oil prices led to a substantial drop in fiscal revenues. The annual fiscal balance swung into a moderate deficit in 2014, which surged to around -17% of GDP in 2015-2016. Fiscal austerity measures narrowed the shortfall to -5.9% in 2018. Meanwhile, since 2019, the Saudi government has embarked on heavy fiscal stimulus measures, so we expect the fiscal deficit to widen again to more than -7% of GDP in 2019-2021.

Initially the fiscal deficits were financed almost entirely by a drawdown of foreign exchange (FX) reserves held at SAMA, which fell from a peak of USD745bn in August 2014 to a temporary low of USD485bn in September 2017 (these reserves include financial assets held by the SAMA Foreign Holdings sovereign wealth fund). Since then reserves have stabilized and hovered around USD500bn until end-2019. Current reserves are sufficient to cover around 30 months of imports, a very comfortable ratio. Since 2016, Saudi Arabia has successfully turned to the international bond market in order to cover its external financing requirements. As a consequence, public debt has risen from just 2% of GDP in 2014 to an estimated 30% currently. While at this level it is still relatively low compared to peers, the trajectory is somewhat worrisome and needs to be monitored closely.

However, another SWF, the Public Investment Fund, currently holds around USD360bn, providing further cushion, if needed. Overall, Saudi Arabia remains a net creditor.

The country’s annual current account balance also shifted to substantial deficits in 2015-2016 in the wake of the oil price slump, after 15 years of very high surpluses. Meanwhile, the partial oil price recovery since mid-2016 and the reduced Saudi import demand against the background of a lower economic growth regime have shifted the current account back into surplus: +1.5% of GDP in 2017 and +9.2% in 2018. As a result of reduced oil output and lower oil prices the surplus is likely to have narrowed to about +6.5% of GDP in 2019. It is forecast to decline further to around +5% in 2020-2021 as oil production and prices will not change much on average while fiscal stimulus should accelerate nominal import growth to some extent.

Gross external debt has increased from 12% of GDP in 2014 to around 25% currently but this is still a relatively low level in comparison to peers.

Trade structure by destination/origin

(% of total)

Exports Rank Imports
China 7%
1
16% China
Japan 6%
2
12% United States
India 5%
3
6% Germany
United States 5%
4
5% United Kingdom
South Korea 5%
5
4% India

Trade structure by product

(% of total)

Exports Rank Imports
Crude Oil 72%
1
8% N.E.S. Products
Refined Petroleum Products 11%
2
8% Cars And Cycles
Plastic Articles 5%
3
5% Engines
Basic Organic Chemicals 3%
4
4% Telecommunications Equipment
Natural Gas 2%
5
4% Aeronautics

As with all GCC states, late payment is common in Saudi Arabia. In practice, the law does not regulate late payment, while late payment interest is prohibited and collection costs cannot be recovered from the debtor unless a specific agreement has been concluded by the parties. As a result, debtors will often try to negotiate discounts in exchange for prompt payment.

  • Low

  • Medium

  • Sensitive

  • High

  • Payments

  • Court proceedings

  • Insolvency proceedings


Local legal action is very slow, costly and uncertain overall, since the courts are not bound by a system of precedent and have considerable discretion in applying Shariah principles to specific circumstances. In addition, several weeks or months may separate each hearing and the courts hardly abide by time management requirements.

Insolvency laws in the Middle East are not as sophisticated as in other regions and the nonexistent company rescue culture in Saudi Arabia illustrates this point.

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Collection complexity Saudi Arabia

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Contact

Contact Euler Hermes

Economic Research Team

research@eulerhermes.com

Manfred Stamer

Senior Economist for Eastern Europe and Middle East

manfred.stamer@eulerhermes.com

 

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