## 1. Saudi Arabia’s Corporate Sector (_cr15251)

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### Context and recent developments
- Over the past decade, rising oil prices and production generated large external and fiscal surpluses; government deposits in the banking system increased to nearly 56 percent of GDP and government debt declined to about 1½ percent of GDP by end-2014.
- Power transferred to King Salman in January; government reorganization included abolition of numerous committees, merging of two ministries, and creation of two high-level councils: the Council of Economic and Development Affairs and the Council for Political and Security Affairs.
- Oil prices have fallen by close to 50 percent since mid-2014; Saudi production increased to 10.4 mb/d in June.
- Demographic pressures: Saudi labor force growth has exceeded 5 percent a year; Saudis are primarily employed in the public sector while private sector relies on low-wage, low-skilled expatriates.
- Key policy focus areas: diversify into high-productivity activities, labor market reforms, investments in affordable housing, and skills development for Saudi youth.

### Status of 2014 Article IV staff recommendations (selected)
- Fiscal consolidation: did not occur in 2014; the non-oil primary fiscal deficit (in percent of non-oil GDP) increased as expenditure on goods and services and capital projects grew strongly.
- Fiscal framework: macro-fiscal unit budgeted for but not established; 2015 budget expenditures likely below actual outcomes.
- Energy prices: consideration given to reforms for commercial and industrial users; focus also on efficiency standards and public transportation.
- Vacant land tax: Council of Ministers approved a tax on vacant land and is determining modalities.
- Macro-prudential framework: Financial Stability Committee established within SAMA; Early Warning Systems strengthened; Financial Stability Report published.
- Financial regulation: D-SIB framework published; banks given until January 2016 to comply with higher capital charges; LTV ratio for mortgage lending introduced; all finance companies now need SAMA licensing.
- Employment and diversification: private sector hiring of Saudi nationals increased; expatriate mobility rose somewhat; investments in infrastructure and education ongoing.
- Statistics: national accounts rebased to 2010 published; quarterly IIP data submitted; gaps remain in official real estate price index, wage data, and GFSM2001 fiscal publication.

### Macro-financial developments and outlook
- Transmission of oil shocks historically: weaker fiscal and external positions, equity price declines, slower government spending, tighter banking liquidity, lower credit growth, weaker bank balance sheets.
- 2014 key figures:
  - Government spending grew by 14.7 percent in 2014.
  - Central government recorded a deficit of 3.4 percent of GDP in 2014, versus a surplus of 5.8 percent of GDP in 2013.
  - Current account surplus declined from 18.2 percent of GDP in 2013 to 10.9 percent of GDP in 2014.
- 2015 developments:
  - Fiscal packages announced January and April 2015 totaled about SR 100 billion or 4.2 percent of GDP.
  - Fiscal deficit widened in 2015Q1 partly owing to these packages and financial assistance to neighboring countries.
- Financial flows and asset prices:
  - Bank deposit growth slowed to 10 percent (y-o-y) in May, down from an average of 13½ percent in 2014.
  - Private sector credit growth was about 9½ percent, down from an average of 12½ percent.
  - Corporate profits have fallen, led by the petrochemicals sector; corporate balance sheets generally in good shape.
  - Equity markets declined in 2014H2 and partially recovered ahead of opening to qualified foreign investors on June 15.
- Real economy and inflation:
  - Real GDP growth for 2014 was 3.5 percent (up from 2.7 percent in 2013); non-oil growth 5 percent in 2014.
  - Real GDP growth in 2015Q1 increased to 2.4 percent (y/y) from 1.6 percent (y/y) in 2014Q4.
  - Inflation was 2.2 percent in June 2015 compared to 2.7 percent in May 2014.
- Labor market:
  - Employment grew by 3.2 percent in 2014: Saudi employment grew by 4.4 percent and non-Saudi by 2.2 percent.
  - Unemployment rate for nationals stood at 11.7 percent at end-2014 (unchanged from a year earlier).
  - Gini coefficient published for 2013 was 45.9, down from 51.3 in 2007.

### Projections and scenarios (staff projections)
- Growth projections:
  - Growth expected to slow to 2.8 percent this year, and then to 2.4 percent in 2016.
  - Oil GDP growth expected to boost to 2.4 percent this year, before slowing in 2016.
  - Non-oil private sector growth projected at 3.4 percent in 2015 and 3.8 percent in 2016.
  - Medium-term growth expected to settle around 3 percent.
  - Oil GDP projected to grow by around 1.5 percent a year from 2017–20, driven by domestic consumption.
  - Non-oil growth expected around 4¼–4½ percent.
  - Without reform dividend, non-oil private sector growth could be about 1 percentage point a year lower, translating into lower overall growth of about 0.4 percentage points a year.
- Fiscal outlook:
  - Staff projects a fiscal deficit of about 19½ percent of GDP in 2015.
  - Non-oil primary deficit projected to increase to 64.7 percent of non-oil GDP.
  - Over the medium term, with partial oil price recovery and slower expenditure growth, fiscal deficit narrows to 9½ percent of GDP by 2020.
  - Government deposits with the banking system projected to be run-down to about 12 percent of GDP by 2020.
  - Government debt projected to increase to 33½ percent of GDP by 2020 (assuming financing via a combination of debt and deposits).
- Financial sector and external:
  - Lower oil inflows and slower government spending will slow deposit growth and weaken credit supply, moderated by high bank liquidity.
  - Corporate profit declines likely to raise NPLs, though impact on asset quality expected to be limited by strengthened regulation and supervision.
  - Inflation projected to remain subdued and just below 3 percent in the medium-term.
  - Current account projected to move into a deficit of about 1 percent of GDP in 2015, returning to surplus during 2016–20.
  - SAMA’s NFA have fallen by $52 billion since the beginning of 2015 and are expected to continue to decline over the medium-term.

### Risks, spillovers, and external factors
- Main downside risks:
  - Possibility of lower oil prices due either to weaker global demand or increased supply.
  - Possibility that domestic reforms do not generate a growth dividend and create a more diversified and self-sustaining private sector.
  - Escalation of regional tensions that undermines confidence and investment.
- Upside risks:
  - Stronger than expected rebound in oil prices would boost growth.
  - Absence of fiscal adjustment could boost near-term growth but raise medium-term fiscal risks.
- External/financial factors:
  - Expected U.S. monetary normalization will lead to higher interest rates in Saudi Arabia given the peg; empirical evidence of significant interest-rate impact on the non-oil economy is limited.
  - U.S. dollar appreciation affects the REER, making imports cheaper and raising consumption of imported goods; only a modest effect on non-oil exports expected.
- Oil market role:
  - Saudi Arabia plays a key role in global oil markets and OPEC policy; spare capacity provides insurance against negative supply shocks.

### Policy discussions — Maintaining macroeconomic stability (fiscal policy)
- Key fiscal developments and risks:
  - Government spending increases pushed the breakeven oil price to $106 a barrel in 2014 from $69 a barrel in 2010.
  - Large decline in oil prices has sharply increased the fiscal deficit and is likely to keep it high over the medium-term.
  - Fiscal deficits will rapidly erode fiscal buffers (government deposits and low public debt).
- Scenarios for net financial wealth:
  - If underlying non-oil fiscal deficit remains at its estimated 2015 level over the medium-term (scenario i), net financial wealth would turn negative in 2017 (and in 2016/2019 in a lower/higher oil price environment).
  - In the baseline scenario, net financial wealth turns negative in 2018 (scenario ii).
- Staff recommendations on consolidation and framework:
  - Need for gradual but sizable fiscal consolidation to stabilize the net financial asset position over the medium-term.
  - Build political support to implement consolidation.
  - Strengthen fiscal framework with:
    - Annual budget providing a full account of planned expenditures during the year, including from the budget surplus fund.
    - Annual budget set within a medium-term framework that establishes fiscal goals and delinks expenditures from short-term oil revenue volatility.
    - Incorporation of spending priorities from the 5-year national development plan on a rolling basis.
    - Assessment and mitigation of budget risks, including future pension commitments of the PPA and GOSI.
    - Support via a macro-fiscal unit, introduction of GFMIS, and publication of fiscal data in GFSM2001 format.
- Fiscal adjustment sizing (structural balance target of zero):
  - Cumulative adjustment of around 21 percent of GDP during 2015–20 would stabilize net financial wealth at a little over 20 percent of GDP by end-2020.
  - About 45 percent of this adjustment would occur as one-off spending in 2015 ends and ongoing capital spending projects are completed.
  - Remaining needed adjustment of about 2 percent of GDP a year until 2020.
  - A more gradual path with annual adjustment of 1 percent of GDP a year until 2025 would stabilize net financial wealth at 0 percent of GDP.
- Policy measures discussed:
  - Energy price reforms:
    - Implicit cost of low energy prices is significant: 8 percent of GDP this year using a price gap method between prices in Saudi Arabia and pre-tax prices in the U.S.
    - Raising domestic prices of gasoline and diesel to the average level in the GCC would yield an estimated 2.6 percent of GDP in revenues.
    - Raising to the U.S. pre-tax price levels would yield 6 percent of GDP in revenues.
    - Recommend gradual price increases and eventual price adjustment mechanism; accompany with compensation for low- and middle-income households and support for energy-intensive firms.
  - Reducing the government wage bill:
    - Civil service review to identify non-essential positions; reduce government employment through attrition while limiting wage growth.
    - Announce government is no longer employer of first resort to set expectations.
  - Increasing non-oil revenues:
    - Non-oil revenues (excluding investment income) about 7 percent of non-oil GDP in 2014.
    - No personal income tax on wages; corporate profits and business and professional incomes of individual Saudi citizens subject to zakat at 2.5 percent.
    - Introduction of VAT (as agreed at the GCC level), planned tax on vacant land, and tax on high-end properties discussed.
  - Reviewing capital spending projects:
    - Public investment outlays at 16¾ percent of GDP in 2014 (up from about 7½ percent of GDP in 2007).
    - Recommend review of project selection, monitoring, appraisal, and existing projects to secure savings and ensure alignment with development goals.
- Authorities’ actions:
  - Positions for the new macro-fiscal unit included in the 2015 budget; filling to start soon.
  - Progress toward publication of fiscal data in GFSM2001 format expected with the 2016 budget.
  - Council for Economic and Development Affairs asked ministries to submit expenditure reduction proposals; cost approval threshold reduced from SR 300 million to SR 100 million.
  - Plans to scale back sports stadiums; consideration of energy price reforms for commercial and industrial users.
  - GCC-approved VAT framework and excise tax on tobacco allow Saudi Arabia to move ahead with VAT law.
  - Tax on vacant land planned to finance low-income housing expenditures.
  - Authorities plan to start issuing debt to finance the deficit; debt issuance likely to start in the second half of the year.

### Maintaining financial stability if growth slows (macroprudential & banking)
- Banking sector vulnerabilities and resilience:
  - Construction, commerce, and manufacturing sectors account for 40 percent of total bank lending.
  - Construction sector balance sheets weaker than other sectors.
  - Average pre-tax return on assets was 2.5 percent.
  - Capital adequacy ratio was 17.9 percent at end-2014.
  - NPLs are low at 1.1 percent of total loans.
- Staff estimates (12 banks, publicly available data):
  - NPLs likely to rise modestly over the medium-term to around 2.8 percent given lower oil prices and slower private sector growth.
  - Banks have more than enough provisions to cover loan losses; capital ratios would remain stable.
  - Bank balance sheets could absorb a more significant worsening than envisaged in staff’s baseline.
- SAMA reforms and measures:
  - Progress on 2011 FSAP Update Recommendations and Basel III requirements.
  - D-SIB methodology published; identified D-SIBs required to comply from January 2016.
  - Framework for countercyclical capital buffers (CCB) under development.
  - Draft legislation to strengthen bank resolution and recovery regime prepared.
  - Aggregate large exposure limit imposed at 400 percent of capital.
  - Single borrower exposure limits to be reduced from 25 percent of capital to 15 percent by 2019.
  - LTV ratio of 70 percent introduced for mortgages in November 2014.
  - Deposit insurance fund to be introduced in January 2016, protecting deposits up to a maximum of SR 200,000.
- Macroprudential guidance if stress emerges:
  - Conditional relaxation sequence:
    - If liquidity pressures: ease reserve requirements first; then relax loan-to-deposit ratio if needed.
    - If asset quality stress: allow dynamic provisions to decline first; then relax CCB if needed after dynamic provisions reduced.
  - Broaden coverage to contain leakages: extend instruments to nonbanks and foreign branches; use reciprocity for CCBs; extend DTI and LTV limits beyond current scope.
  - SAMA indicated expansion in the scope of the DTI limits is under consideration.

### Regulation of nonbank financial sector, capital markets, consumer protection, AML/CFT
- Nonbank and mortgage lending:
  - Fourteen banks and five finance companies received real estate finance licenses; further 16 finance companies licensed for other financing activities.
  - Lending for real estate has risen by nearly 70 percent (and now accounting for 12 percent of bank lending) over the past two years.
  - LTV ratio applies to banks and nonbanks; impact will need periodic assessment.
- Capital markets:
  - Debt capital markets are under-developed; lack of benchmark sovereign yield curve.
  - Planned sovereign debt issuance can help build a yield curve.
  - Equity markets opened to qualified foreign investors from June 15, 2015.
  - Market dominated by retail investors and public sector investment institutions (PIF, GOSI, PPA).
- Consumer protection and inclusion:
  - Authorities increasing transparency of bank fees and charges.
  - Financial access lower than G-20 peers; measures to broaden access include SME support and wage protection system requiring bank accounts for private sector workers.
- AML/CFT:
  - Saudi Arabia admitted as an observer of FATF.
  - Following CFT law in 2013, SAMA worked with banks via thematic reviews and audits.
  - Staffing levels to monitor compliance have increased significantly.

### Exchange rate, external stability, and policy stance
- Current account:
  - Staff assessment: current account broadly consistent with fundamentals in 2014; projected to be weaker than norms in 2015 due to large fiscal deficit.
  - Sizable fiscal adjustment needed over time to bring current account in line with fundamentals.
- Exchange rate peg:
  - Riyal pegged to the U.S. dollar; benefits include monetary credibility and low inflation.
  - REER has appreciated by nearly 14 percent over the past year; terms of trade fell by over 30 percent in 2014–15.
  - Staff and authorities agreed the exchange rate peg remains appropriate; periodic review recommended in coordination with other GCC economies.
  - Reforms to support a future move to flexibility include strengthening liquidity management, developing money and debt markets, and improving data on corporate foreign currency exposures.

### Job creation for nationals and labor market reforms
- Labor market challenges:
  - Overall unemployment for nationals: 11.7 percent.
  - Female unemployment: about 33 percent at end-2014.
  - Youth unemployment: over 40 percent and increasing.
  - Over 35 percent of the population still under the age of 19.
- Five groups of reform initiatives:
  - Nitaqat Saudization program; de facto minimum wage for nationals of SR 3,000 a month.
  - Skills development: increased education and training spending; colleges of excellence.
  - Address wage gap: wage subsidies, payroll tax rebates, monthly fees on expatriates; increased expatriate mobility expected to raise expatriate wages.
  - Job search support: Hafiz program, job placement services, unemployment insurance introduction.
  - Reduce regulations and improve working conditions: easing female employment regulations; proposals to reduce private sector work week from 45 to 40 hours.
- Staff recommendations:
  - Improve incentives for private-sector employment; clearly state that future public sector employment opportunities will be very limited.

### Economic diversification: progress and remaining challenges
- Recent supports:
  - Investments in human capital and physical infrastructure; financial policies supporting SMEs (dedicated SME units in banks; Kafalah loan-guarantee program; SIMAH credit information).
  - Work on new insolvency law and strengthening contract enforcement.
  - Privatization restarted with sale of part of government’s stake in NCB.
  - Focus on industrial clusters around oil and mining; joint ventures across several industries.
- Remaining problems:
  - Rapid fiscal spending growth has allowed firms to profitably operate in nontradable sectors reliant on government demand.
  - Recommendation: reorient public spending and strengthen private sector competition to incentivize tradable production; improve availability of finance and insurance for export-oriented firms.

### Housing: need, program, and guidance
- Estimated need: 160-180,000 new homes will need to be built each year over the next few years.
- Funding/support:
  - Government allocated SR 250 billion from the budget surplus fund for the program.
  - Buyer support options include interest-free loans (up to SR 500,000) and payment of interest on behalf of borrower for bank mortgages.
  - Support allocation uses a points system favoring greater need.
  - Supply-side: provision of free public sector land; proposed “white lands tax” to increase land available for housing.
- Staff recommendations:
  - Ensure housing needs are met cost-effectively while minimizing disruption to private real estate and mortgage markets.
  - Government should act as facilitator and regulator rather than developer.
  - Streamline regulatory and approval processes; target financing to those unable to obtain bank financing; focus on purchases of new dwellings.

### Statistical issues and data gaps
- Progress: rebased national accounts (to 2010) published; quarterly IIP data submitted; SAMA publishes additional monetary data.
- Gaps and weaknesses:
  - No official real estate price index.
  - FDI data unavailable for recent years.
  - Trade credit data of uncertain quality.
  - Wage data sparse and inconsistent.
  - Commercial bank credit breakdown hampered by a large unallocated component.
  - Bank lending rates not collected/published.
  - Fiscal data in GFSM2001 format expected with 2016 budget.
- Authorities aim to subscribe to the SDDS in 2016.

### Staff appraisal: macro outlook and fiscal policy recommendations
- Recent shock and near-term outlook:
  - Oil prices have fallen by close to 50 percent over the past year.
  - Real GDP growth projection: 2.8 percent this year and 2.4 percent in 2016, down from 3.5 percent in 2014.
  - Observed impacts: slowed credit and deposit growth, falling equity market and corporate profits, and slowed real GDP growth.
- Fiscal situation and required adjustment:
  - Fiscal deficit projection: 19½ percent of GDP this year.
  - Recommendation: a large multi-year fiscal adjustment anchored on a structural budget balance is necessary to stabilize fiscal buffers and achieve intergenerational equity.
  - Core elements of consolidation strategy:
    - Comprehensive energy efficiency and price reforms.
    - Expanding non-oil revenues.
    - Reviewing capital and current expenditures to align with priorities.
    - Reducing the government wage bill.
  - Debt issuance: issuing debt to finance part of the deficit as fiscal policy adjusts is appropriate.
- Fiscal framework reforms:
  - Annual budget to provide a complete and realistic representation of planned expenditures, including from the budget surplus fund.
  - Set annual budget within a medium-term framework with fiscal goals and reduced exposure to oil revenue volatility.
  - Fully integrate 5-year national development plan priorities into the medium-term framework.
  - Establish a macro-fiscal unit and publish fiscal data in GFSM2001 format.

### Banking sector resilience and stress scenarios
- Strengths:
  - Profits, liquidity, and capital buffers are strong; NPLs are low.
  - Banks’ pre-tax return on assets: 2.5 percent.
  - Capital adequacy ratio: 17.9 percent at end-2014.
  - NPLs: 1.1 percent of total loans.
- Staff stress estimates:
  - NPLs could rise to around 2.8 percent over the medium-term under baseline assumptions.
  - Banks have sufficient provisions; capital ratios would remain stable under modeled scenarios.
- Risk Assessment Matrix highlights:
  - A 10 percent permanent decline in oil prices would reduce fiscal and external balances by 1.6 and 2.8 percentage points of GDP, respectively, assuming no policy response.
  - GDP growth would drop by 0.5 percentage points a year assuming the government fully offsets the revenue losses with expenditure cuts.

### Corporate sector summary indicators (listed firms)
- Listed corporate sector debt and cash:
  - Debt of listed companies increased by around 10 percent in 2014 and remains relatively low at 17 percent of GDP.
  - Short term debt outstanding accounts for around 15 percent of total debt and increased slightly in 2014.
  - Cash and cash equivalents increased by nearly a third (or some $6.6 billion) in 2014.
  - Petrochemicals, industrials, and telecom sectors accounted for the bulk of the increase in cash balances.
  - In aggregate, cash balances of the listed corporate sector exceed short-term debt levels.
- Sector vulnerabilities:
  - Aside from three sectors with debt service coverage ratios below 1, most sectors operate with comfortable coverage levels.
  - Construction was the only major sector with a debt service coverage ratio below 1 in 2014.
  - Only in construction and transport is short-term debt considerably higher than cash on hand.

### Empirical evidence on oil-macro-financial linkages
- Two VAR models used:
  - Quarterly aggregate VAR (1997Q1-2014Q4): oil prices, equity prices, domestic credit, government spending, non-oil GDP.
  - Annual panel VAR (1999–2014): bank-level balance sheet variables and aggregate macro variables.
- Key findings from bank-level model (impact of a 1 percent negative shock to oil prices):
  - reduces non-oil private sector growth by 0.1 percent,
  - reduces bank credit growth by 0.3–0.4 percent,
  - reduces deposit growth by 0.1–0.2 percent,
  - increases NPL ratios by 0.1–0.15 percent in the long run.

### Box 3 — Youth, female, and regional labor market outcomes (key statistics)
- Overall unemployment rate for nationals: 11.7 percent.
- Female unemployment rate (2014): 33 percent.
- Male unemployment rate (2014): less than 6 percent.
- Female labor force participation: around 14 percent in 2011; 18 percent in 2014.
- Population share under age 19: over 35 percent.
- Regional unemployment rates: as high as 20 percent in some regions.

### Appendix I — Fiscal DSA (baseline, as of April 20, 2015) — selected figures
- Nominal gross public debt (percent of GDP): 2013: 20.7; 2014: 2.2; 2015: 1.6; 2016: 7.8; 2017: 14.5; 2018: 20.2; 2019: 25.1; 2020: 29.5; 2020 (final): 33.4.
- Public gross financing needs (percent of GDP): 2013: -6.6; 2014: -4.4; 2015: 4.0; 2016: 19.5; 2017: 12.8; 2018: 11.8; 2019: 11.0; 2020: 9.8; 2020 (final): 9.8.
- Real GDP growth (percent): 2013: 6.4; 2014: 2.7; 2015: 3.5; 2016: 2.8; 2017: 2.4; 2018: 2.9; 2019: 3.1; 2020: 3.1; 2020 (final): 3.2.
- Inflation (GDP deflator, percent): 2013: 8.3; 2014: -1.2; 2015: -3.1; 2016: -16.0; 2017: 4.6; 2018: 4.0; 2019: 3.9; 2020: 2.4; 2020 (final): 2.5.
- Primary Balance (percent of GDP, baseline): 2015: -19.4; 2016: -12.4; 2017: -11.0; 2018: -9.9; 2019: -9.0; 2020: -8.2.
- Effective interest rate (percent): 2015–2020: 5.8.

### Appendix IV — External sustainability (selected)
- External assets: estimated 140 percent of GDP in mid-2014.
- External liabilities: 36 percent of GDP (portfolio and other investments amounted to 8.3 percent of GDP).
- NIIP: between 85 and 105 percent of GDP during 2007–mid-2014.
- International reserves: about 97 percent of GDP (36 months of imports) at end-2014.
- Current account surplus in 2014: 10.9 percent of GDP (narrowed from 18.2 percent in 2013).
- Staff projection: current account projected to move into a small deficit in 2015, before returning to surplus during 2016–20.
- Projection: medium-term current account level 4.7 percent of GDP in 2020 (surpluses expected to recover to about 5 percent of GDP in 2020 in another statement).
- Proven oil reserves at end-2014: 262.1 billion barrels.
- Staff oil production path: production grows at a constant rate (2 percent), peaks at 12.9 million barrels in 2029 and then remains constant at that level till 2115 when oil production stops.

### Institutional, TA, and procedural notes
- PRGT borrowing: Saudi Arabia provided up to SDR 500 million under borrowing agreement (May 2011); figure mentioned: 71.88 million.
- Exchange rate arrangement: conventional peg to the U.S. dollar; Riyal pegged at 3.75 since 1986 (formal peg to USD effective January 2003).
- Last Article IV consultation: held May 4–15, 2014; staff report considered July 11, 2014 and published September 23, 2014.
- Technical assistance: multiple missions listed across STA, MCM, FAD, FSSA and FSAP-related activities.
- FSAP: main mission January 2004; FSSA published June 5, 2006; FSSA-update published April 18, 2012.
- Data adequacy: broadly adequate for surveillance but gaps in labor markets, government finance statistics, and external sector statistics; authorities targeting SDDS subscription in 2016.

*Source: _cr15251 - IMF staff report excerpts for Saudi Arabia*

### 1. Saudi Arabia’s Corporate Sector _______________________________________________________________ 25

### 1. Saudi Arabia’s Corporate Sector

### Context and recent developments
- Over the past decade, rising oil prices and production generated large external and fiscal surpluses; government deposits in the banking system increased to nearly 56 percent of GDP and government debt declined to about 1½ percent of GDP by end-2014.
- Power transferred to King Salman in January; government reorganization included abolition of numerous committees, merging of two ministries, and creation of two high-level councils: the Council of Economic and Development Affairs and the Council for Political and Security Affairs.
- Oil prices have fallen by close to 50 percent since mid-2014; unlike earlier episodes, Saudi production did not cut but increased to 10.4 mb/d in June.
- Demographic pressures: Saudi labor force growth has exceeded 5 percent a year; Saudis are primarily employed in the public sector while private sector relies on low-wage, low-skilled expatriates.
- Key policy focus areas: diversify into high-productivity activities, labor market reforms, investments in affordable housing, and skills development for Saudi youth.

### Status of 2014 Article IV staff recommendations (selected)
- Fiscal adjustment to preserve buffers and increase saving for intergenerational equity: Fiscal consolidation did not happen in 2014; the non-oil primary fiscal deficit (in percent of non-oil GDP) increased as expenditure on goods and services and capital projects grew strongly.
- Strengthen the fiscal policy framework: Progress limited; a macro-fiscal unit has been budgeted for, but not established; 2015 budget expenditures likely below actual outcomes.
- Upward adjustment in energy prices to contain domestic demand: Consideration given to energy price reforms for commercial and industrial users; government focusing on improving efficiency standards and public transportation development.
- Introduce a tax on high-end property and/or vacant land: Council of Ministers approved a tax on vacant land and is determining the modalities.
- Introduce a formal, clear, and transparent macro-prudential framework: A high-level Financial Stability Committee established within SAMA; Early Warning Systems strengthened; a Financial Stability Report has been published.
- Strengthen financial regulation and supervision: D-SIB framework published with banks given until January 2016 to comply with higher capital charges; LTV ratio for mortgage lending introduced; all finance companies now need SAMA licensing.
- Policies to increase employment of Saudis and spur diversification: Authorities continue to develop labor market strategy; private sector hiring of Saudi nationals has increased; some increase in expatriate mobility; investments in infrastructure and education ongoing.
- Improve economic statistics: Progress continuing; rebased national accounts (to 2010) published; quarterly IIP data submitted to the Fund; gaps remain in official real estate price index, wage data, and GFSM2001 fiscal publication.

### Macro-financial developments and outlook
- Transmission of oil shocks: Past large oil price declines have led to weaker fiscal and external positions, equity price declines, slower government spending, tighter banking liquidity, lower credit growth, and weaker bank balance sheets; dependence on oil remains high despite some diversification concentrated in petrochemicals.
- 2014 impacts:
  - Government spending grew by 14.7 percent in 2014.
  - Central government recorded a deficit of 3.4 percent of GDP in 2014, versus a surplus of 5.8 percent of GDP in 2013.
  - General government balance moved into deficit.
  - Current account surplus declined from 18.2 percent of GDP in 2013 to 10.9 percent of GDP in 2014.
- Fiscal packages announced January and April 2015 totaled about SR 100 billion or 4.2 percent of GDP; fiscal deficit widened in 2015Q1 partly owing to these packages and financial assistance to neighboring countries.
- Financial flows and asset prices:
  - Bank deposit growth slowed to 10 percent (y-o-y) in May, down from an average of 13½ percent in 2014.
  - Private sector credit growth was about 9½ percent, down from an average of 12½ percent.
  - Corporate profits have fallen, led by the petrochemicals sector; corporate balance sheets generally in good shape.
  - Equity markets declined in 2014H2 and partially recovered ahead of opening to qualified foreign investors on June 15.
- Real economy and inflation:
  - Real GDP growth for 2014 was 3.5 percent (up from 2.7 percent in 2013); non-oil growth 5 percent in 2014.
  - Real GDP growth in 2015Q1 increased to 2.4 percent (y/y) from 1.6 percent (y/y) in 2014Q4.
  - Inflation was 2.2 percent in June 2015 compared to 2.7 percent in May 2014.
- Labor market:
  - Employment grew by 3.2 percent in 2014: Saudi employment grew by 4.4 percent and non-Saudi by 2.2 percent.
  - Unemployment rate for nationals stood at 11.7 percent at end-2014 (unchanged from a year earlier).
  - Gini coefficient published for 2013 was 45.9, down from 51.3 in 2007.

### Projections and scenarios (staff projections)
- Growth:
  - Growth expected to slow to 2.8 percent this year, and then to 2.4 percent in 2016.
  - Oil GDP growth expected to boost to 2.4 percent this year, before slowing in 2016.
  - Non-oil private sector growth projected at 3.4 percent in 2015 and 3.8 percent in 2016.
  - Medium-term growth expected to settle around 3 percent.
  - Oil GDP projected to grow by around 1.5 percent a year from 2017–20, driven by domestic consumption.
  - Non-oil growth expected around 4¼–4½ percent (lower than average non-oil growth close to 7 percent during 2009–13).
  - Without reform dividend, non-oil private sector growth could be about 1 percentage point a year lower, translating into lower overall growth of about 0.4 percentage points a year.
- Fiscal outlook:
  - Staff projects a fiscal deficit of about 19½ percent of GDP in 2015.
  - Non-oil primary deficit projected to increase to 64.7 percent of non-oil GDP.
  - Over the medium term, with partial oil price recovery and slower expenditure growth, fiscal deficit narrows to 9½ percent of GDP by 2020.
  - Government deposits with the banking system projected to be run-down to about 12 percent of GDP by 2020.
  - Government debt projected to increase to 33½ percent of GDP by 2020 (assuming financing via a combination of debt and deposits).
- Financial sector and external:
  - Lower oil inflows and slower government spending will slow deposit growth and weaken credit supply, moderated by high bank liquidity.
  - Corporate profit declines likely to raise NPLs, though impact on asset quality expected to be limited by strengthened regulation and supervision.
  - Inflation projected to remain subdued and just below 3 percent in the medium-term.
  - Current account projected to move into a deficit of about 1 percent of GDP in 2015, returning to surplus during 2016–20.
  - SAMA’s NFA have fallen by $52 billion since the beginning of 2015 and are expected to continue to decline over the medium-term.

### Risks, spillovers, and external factors
- Primary drivers of outlook are oil prices and fiscal policy; higher U.S. interest rates and U.S. dollar appreciation likely play secondary roles.
- Expected U.S. monetary normalization will lead to higher interest rates in Saudi Arabia given the peg; empirical evidence of significant interest-rate impact on the non-oil economy is limited.
- U.S. dollar appreciation affects the real effective exchange rate, making imports cheaper and raising consumption of imported goods; only a modest effect on non-oil exports expected.

*Source: _cr15251 - 1. Saudi Arabia’s Corporate Sector (IMF)*

### 12. Risks to the growth outlook are tilted to the downside. The main downside risks are

### 12. Risks to the growth outlook are tilted to the downside. The main downside risks are

### Downside and upside risks
- Downside risks:
  - Possibility of lower oil prices due either to weaker global demand or increased supply.
  - Possibility that domestic reforms do not generate a growth dividend and create a more diversified and self-sustaining private sector that creates jobs and reduces inequality.
  - Escalation of regional tensions that undermines confidence and investment.
- Upside risks:
  - Stronger than expected rebound in oil prices would boost growth.
  - In the absence of fiscal adjustment, growth could be stronger in the near-term, but fiscal risks would rise over the medium-term with negative implications for longer-term growth and macroeconomic stability.
- Other factors:
  - Increased volatility in global oil markets would present challenges for macroeconomic management.
  - Global financial risks are less important unless they manifest themselves in lower oil prices, given limited financial linkages with the global economy.

### Oil market and global spillovers (paragraph 13)
- Saudi Arabia’s role:
  - Plays a key role in the global oil market and in determining OPEC policy.
  - Spare production capacity provides insurance against negative supply shocks (example: 2011 and 2013 Libyan production declines).
- Authorities’ assessment:
  - Considerable uncertainty about the oil market outlook—demand should pick up with a stronger global economy, but timing and scale of supply adjustments in non-OPEC and other OPEC members are unclear.
  - Authorities noted increased production and exports in recent months to maintain market share.
  - Given Saudi Arabia’s low production costs, authorities believe other producers will have to reduce supply and adjust to the new market environment.

### Regional outward spillovers (paragraph 14)
- Channels:
  - Remittances, financial assistance, and imports affect Middle East and south Asian countries.
- Recent developments:
  - With slowdown in government capital spending, remittances are projected to fall this year and recover only slowly thereafter.
  - Financial assistance is continuing, with additional aid recently committed to Egypt.

### Policy discussions — Overall themes
- Two main themes:
  - Maintaining macroeconomic stability in an environment of low oil prices.
  - Further reforms to manage demographic pressures and enable sustained and inclusive private-sector led growth.

### A. Maintaining Macroeconomic Stability — Fiscal policy: consolidation needed, supported by a stronger fiscal framework

Key fiscal developments and risks
- Government spending increases pushed the breakeven oil price to $106 a barrel in 2014 from $69 a barrel in 2010.
- Large decline in oil prices has sharply increased the fiscal deficit and is likely to keep it high over the medium-term.
- Fiscal deficits will rapidly erode fiscal buffers (government deposits and low public debt).
- Scenario outcomes for net financial wealth (government deposits in the banking system less gross public debt):
  - If underlying non-oil fiscal deficit remains at its estimated 2015 level over the medium-term (scenario i), net financial wealth would turn negative in 2017 (and in 2016/2019 in a lower/higher oil price environment).
  - In the baseline scenario, net financial wealth turns negative in 2018 (scenario ii).

Staff recommendations on fiscal consolidation and framework
- Need for gradual but sizable fiscal consolidation to begin to stabilize the net financial asset position over the medium-term.
- Building political support is necessary to implement the consolidation.
- Reforms to strengthen the fiscal framework should include:
  - Annual budget to provide a full account of planned expenditures during the year, including from the budget surplus fund.
  - Annual budget set within a medium-term framework that establishes fiscal goals and delinks expenditures from short-term volatility in oil revenues.
  - Incorporation of spending priorities from the 5-year national development plan on a rolling basis.
  - Assessment and mitigation of budget risks, including future pension commitments of the Public Pension Agency (PPA) and the General Organization for Social Insurance (GOSI).
  - Support for fiscal policy analysis and implementation via a macro-fiscal unit, introduction of the Government Financial Management Information System (GFMIS), and publication of fiscal data in GFSM2001 format.

Authorities’ progress
- Positions for the new macro-fiscal unit included in the 2015 budget; filling to start soon.
- Progress toward publication of fiscal data in GFSM2001 format; expected with the 2016 budget.
- Producing but not publishing multi-year macroeconomic and fiscal forecasts.

Fiscal adjustment sizing and scenarios (paragraph 19)
- Staff guidance using the baseline oil price path and a structural balance target of zero:
  - Would involve a cumulative adjustment of around 21 percent of GDP during 2015–20.
  - This would stabilize net financial wealth at a little over 20 percent of GDP by end-2020 and bring the non-oil primary deficit toward that needed for intergenerational equity.
  - About 45 percent of this adjustment would occur as one-off spending in 2015 ends and ongoing capital spending projects are completed.
  - Remaining needed adjustment of about 2 percent of GDP a year until 2020.
  - A more gradual fiscal consolidation path, with an annual adjustment of 1 percent of GDP a year until 2025, would stabilize net financial wealth at 0 percent of GDP.
- Footnote on structural balance target:
  - The structural balance target of zero calibrates expenditures in line with structural revenues; the latter is calculated as the sum of a long-term moving average of oil revenues and projected non-oil revenues.

Policy measures for achieving fiscal adjustment (paragraph 20)
- Mix of expenditure and revenue measures discussed:
  - Energy price reforms:
    - Implicit cost of low energy prices is significant: 8 percent of GDP this year using a price gap method between prices in Saudi Arabia and pre-tax prices in the U.S.
    - Raising domestic prices of gasoline and diesel to the average level in the GCC would yield an estimated 2.6 percent of GDP in revenues.
    - Raising to the U.S. pre-tax price levels would yield 6 percent of GDP in revenues.
    - Gradual price increases and eventual price adjustment mechanism recommended; accompanied by compensation measures for low- and middle-income households and support for energy-intensive firms.
  - Reducing the government wage bill:
    - Civil service review to identify non-essential positions; reduce government employment through attrition while limiting wage growth.
    - Announce government is no longer employer of first resort to set expectations and support private sector employment of nationals.
  - Increasing non-oil revenues:
    - Non-oil tax regime light: non-oil revenues (excluding investment income) about 7 percent of non-oil GDP in 2014.
    - No personal income tax on wages; corporate profits and business and professional incomes of individual Saudi citizens subject to zakat at 2.5 percent.
    - Introduction of VAT (as agreed at the GCC level), planned tax on vacant land, and tax on high-end properties discussed.
  - Reviewing capital spending projects:
    - Public investment outlays at 16¾ percent of GDP in 2014 (up from about 7½ percent of GDP in 2007).
    - Efficiency of public investment close to global average but below advanced commodity exporters.
    - Recommend review of project selection, monitoring, appraisal, and existing projects to secure savings and ensure alignment with development goals.

Authorities’ actions and expectations (paragraph 21–22)
- Council for Economic and Development Affairs asked ministries to submit expenditure reduction proposals; cost approval threshold reduced from SR 300 million to SR 100 million.
- Plans to scale back sports stadiums; consideration of energy price reforms for commercial and industrial users.
- GCC-approved VAT framework and excise tax on tobacco allow Saudi Arabia to move ahead with VAT law.
- Tax on vacant land planned to finance low-income housing expenditures.
- Authorities believed they could hold the 2015 fiscal deficit at a lower level than staff projections.
- Authorities plan to start issuing debt to finance the deficit; debt issuance likely to start in the second half of the year to slow erosion of government deposits, take advantage of favorable financing environment, and build a yield curve.

### Maintaining financial stability if growth slows

Banking sector vulnerabilities and resilience
- Structural exposure:
  - Economy heavily reliant on oil; banks have difficulty diversifying credit portfolios.
  - Construction, commerce, and manufacturing sectors account for 40 percent of total bank lending.
  - Construction sector balance sheets weaker than other sectors.
- Strengths:
  - Average pre-tax return on assets was 2.5 percent.
  - Capital adequacy ratio was 17.9 percent at end-2014.
  - Non-performing loans (NPLs) are low at 1.1 percent of total loans.
- Staff estimates (based on publicly available bank-by-bank data for 12 banks):
  - NPLs likely to rise modestly over the medium-term to around 2.8 percent given lower oil prices and slower private sector growth.
  - Banks have more than enough provisions to cover loan losses; capital ratios would remain stable.
  - Bank balance sheets could absorb a more significant worsening than envisaged in staff’s baseline.
  - Strong liquidity positions imply significant liquidity pressure would arise only with substantial deposit withdrawals, which has not occurred in past oil price declines.

Regulatory and macroprudential reforms (paragraphs 25–28)
- SAMA reforms and measures:
  - Progress on implementation of the 2011 FSAP Update Recommendations and Basel III capital requirements.
  - Domestic-Systemically Important Bank (D-SIB) methodology published; identified D-SIBs required to comply from January 2016.
  - Framework for countercyclical capital buffers (CCB) under development in line with Basel guidelines.
  - Draft legislation prepared to strengthen bank resolution and recovery regime.
  - Aggregate large exposure limit imposed at 400 percent of capital.
  - Single borrower exposure limits to be reduced from 25 percent of capital to 15 percent by 2019.
  - Loan-to-value (LTV) ratio of 70 percent introduced for mortgages in November 2014 (previously often 100 percent).
  - Deposit insurance fund to be introduced in January 2016 and built up gradually, protecting deposits up to a maximum of SR 200,000.
  - Noted limited impact so far from de-risking by several global banks, but recommended dialogue between banks and regulators.
- Macroprudential framework enhancements suggested by staff:
  - Establish formal coordination and responsibilities among SAMA, Capital Markets Authority (CMA), and Ministry of Finance.
  - Assess reliability of early warning indicators to identify triggers for countercyclical policies.
  - Provide guidance on tightening/easing macroprudential policies while respecting microprudential norms.
  - Set microprudential norms taking into account lack of economic diversification and concentration risks.
  - Address data gaps—develop a real estate price index and market activity indicators to monitor emerging mortgage lending risks.
  - Enhance SAMA’s countercyclical use of macroprudential tools; examples include countercyclical caps on sectoral exposures.

*Source: _cr15251 - 12. Risks to the growth outlook are tilted to the downside. The main downside risks are*

### 29. There was agreement that a relaxation of macroprudential policies could be

### _cr15251 - 29. There was agreement that a relaxation of macroprudential policies could be

### Macroprudential policy: conditional relaxation and operational guidance
- Relaxation of macroprudential policies could be considered if downside risks materialize and systemic stress emerges.
- Monitoring approach: staff suggested close monitoring of a number of high-frequency indicators to assess risks to financial stability.
- Decision framework: judgment drawing on market intelligence, supervisory assessments, and stress tests will be central.
- Instrument sequencing if policy space is available:
  - If liquidity pressures are the source of banking sector stress: ease reserve requirements first.
  - If easing reserve requirements is insufficient: relax the loan-to-deposit ratio.
- If stress is on asset quality:
  - Allow dynamic provisions to decline first to absorb losses.
  - Put a CCB framework in place to allow relaxation of the CCB, should it be needed after dynamic provisions have been reduced.
- Complementary measures: strengthening SAMA’s forecasting framework to manage banking system liquidity; maintain strong financial supervision to ensure adequacy of remaining capital and liquidity buffers.
- Authorities’ position: SAMA agreed and considered that, with high existing levels of capital and liquidity buffers, some policy space for relaxation of macroprudential policies is available if needed.

### Coverage of macroprudential policies and leakage containment
- Recommendation: broaden coverage to contain potential leakages.
- Specific extensions recommended by staff:
  - Extend macroprudential instruments presently applicable only to local banks to nonbanks and foreign branches.
  - For CCBs, use reciprocity requirements (under the Basel III framework) to help ensure home-host cooperation and minimize leakages towards foreign branches.
  - Extend DTI (debt-service-to-income) limits beyond personal and consumer loans to include all debt service paid by an individual borrower.
  - Extend LTV limits (currently applied on residential mortgages) to commercial real estate loans or other corporate loans and investments secured by real estate collateral.
- Authorities’ action: SAMA indicated an expansion in the scope of the DTI limits is under consideration.

### Regulation of nonbank financial sector, capital markets, consumer protection, and AML/CFT
- Mortgage lending and nonbank regulation:
  - Fourteen banks and five finance companies have received real estate finance licenses, and a further 16 finance companies have been licensed for other financing activities.
  - Lending for real estate has risen by nearly 70 percent (and now accounting for 12 percent of bank lending) over the past two years.
  - The recently implemented LTV ratio applies to banks and nonbanks; its impact will need periodic assessment.
  - In insurance, SAMA has been working to improve the financial health of the sector to protect consumers and ensure companies are well-positioned to support future demand for insurance products.
- Capital market development:
  - Debt capital markets are under-developed, hindered by the lack of a benchmark sovereign yield curve.
  - Planned sovereign debt issuance can help build a yield curve to support market development.
  - Equity markets have been opened to qualified foreign investors, allowed to invest directly up to certain limits (implemented from June 15, 2015).
  - Current market structure: dominated by retail investors and public sector investment institutions (the Public Investment Fund (PIF), GOSI, and the PPA).
- Consumer protection and financial inclusion:
  - Authorities are increasing transparency of bank fees and charges.
  - On most measures, financial access is lower than in G-20 peers.
  - Measures to broaden access include improving financial access for SMEs from less developed regions.
  - Wage protection system being introduced requires nationals and expatriates in the private sector to have bank accounts.
- AML/CFT regime:
  - Saudi Arabia was recently admitted as an observer of the Financial Action Task Force (FATF).
  - Following passage of the CFT law in 2013, SAMA has worked with banks through thematic reviews and audits to identify weaknesses.
  - Staffing levels to monitor compliance, both within banks and at SAMA, have increased significantly.

### External stability and the exchange rate
- Current account:
  - Staff assessment: the current account was broadly consistent with fundamentals in 2014 (Appendix IV).
  - Projection: current account projected to be weaker than estimated norms in 2015, mainly reflecting the large fiscal deficit.
  - Implication: a sizable fiscal adjustment will be needed over time to bring the current account in line with fundamentals.
- Exchange rate peg and macro implications:
  - Benefits observed: peg provided monetary policy credibility and helped deliver low inflation and low inflation volatility, supported by labor market flexibility.
  - Recent pressures:
    - REER has appreciated by nearly 14 percent over the past year.
    - Terms of trade has fallen by over 30 percent in 2014–15.
  - Trade-offs of moving away from the peg:
    - Potential benefits: stability of fiscal revenues in nominal riyal terms; more independent interest rate policy.
    - Limited gains for competitiveness given economic structure (heavy reliance on oil exports and limited import-competing industries reliant on imported inputs).
    - Risks: increased inflation volatility; loss of credible monetary anchor; reduced certainty for trade and investment.
- Policy stance:
  - Authorities and staff agreed the exchange rate peg remains appropriate for the Saudi economy.
  - Staff suggestion: review the peg periodically (in coordination with other GCC economies) to ensure appropriateness given evolving economic structure from labor market reforms and diversification efforts.
  - Reforms that would support a future move to a more flexible regime (desirable in their own right) include:
    - Strengthening liquidity management.
    - Improving monetary transmission by developing money and debt markets.
    - Improving data on foreign currency exposures of corporates.

### Job creation for nationals: challenges and policy measures
- Labor market context and risks:
  - Young population entering the labor force in large numbers each year.
  - Overall unemployment rate for nationals: 11.7 percent.
  - Female unemployment: about 33 percent at end-2014.
  - Youth unemployment: over 40 percent and increasing.
  - Over 35 percent of the population still under the age of 19.
- Five groups of labor market reform initiatives being implemented:
  - Requiring private sector companies to meet minimum rates of Saudi employment (Nitaqat program); introduces de facto minimum wage for nationals of SR 3,000 a month.
  - Helping nationals develop private-sector skills: increased spending on education and training; colleges of excellence focusing on particular professions.
  - Addressing the wage gap between Saudis and expatriate workers: wage subsidies, payroll tax rebates for Saudi employees, monthly fees on expatriate workers; increased expatriate mobility under Nitaqat expected to raise expatriate wages over time.
  - Supporting nationals in job search: Hafiz program provides financial support; job placement services and an unemployment insurance program introduced.
  - Reducing regulations and improving working conditions: easing regulations on female employment; proposals to reduce private sector work week from 45 to 40 hours and to limit late night opening in retail stores (to facilitate female employment).
- Staff observations and recommendations:
  - Although Saudi private-sector employment has increased, incentives for private-sector employment could be improved.
  - Public sector employment growth and attractive public-sector compensation discourage investment in private-sector skills.
  - Recommendation: a clearly stated government policy that future public sector employment opportunities will be very limited to set expectations and incentivize private sector job search and skill acquisition.
  - Authorities’ view: strong private sector job creation is key given large youth inflows into the labor market.

### Macroeconomic implications of increased private-sector national employment
- Potential consequences:
  - Reduced availability of low-wage expatriate labor may raise costs and make inflation more sensitive to the domestic non-oil output gap.
  - Offsetting effects possible if reduced expatriate availability encourages investment and productivity rises as higher skilled nationals enter the private sector.

### Economic diversification: progress and remaining challenges
- Recent reforms and supports:
  - Significant investments in human capital and physical infrastructure; improvements to the business environment.
  - Financial policies supporting SMEs: dedicated SME units in banks; Kafalah loan-guarantee program; better access to credit information through SIMAH.
  - Ministry of Commerce and Industry working to coordinate and strengthen SME support.
  - Work started on a new insolvency law and strengthening contract enforcement.
  - Privatization restarted with sale of part of government’s stake in National Commercial Bank (NCB).
  - Government focus on developing industrial clusters around oil and mining; joint ventures in refining, mining, petrochemicals, automobiles, pharmaceuticals, and banking.
- Remaining incentive problems:
  - Rapid fiscal spending growth has allowed firms to profitably operate in nontradable sectors reliant on government demand rather than competing in tradables.
  - Implication for labor market: reliance on low-wage, low-skilled foreign workers; few high-paying, high-productivity jobs.
  - Recommendation: reorient public spending and strengthen private sector competition to incentivize tradable production; improve availability of finance and insurance for export-oriented firms.

### Housing: demand, program scale, and policy guidance
- Estimated need: 160-180,000 new homes will need to be built each year over the next few years to meet growing demand.
- Funding and support measures:
  - Government allocated SR 250 billion from the budget surplus fund for the program.
  - Buyer support options include interest-free loans (up to SR 500,000) and payment of interest on behalf of the borrower for mortgage loans taken from banks.
  - Support allocation uses a points system favoring greater need.
  - Supply-side options: provision of free public sector land; proposed “white lands tax” to increase land available for housing.
- Staff recommendations:
  - Ensure housing needs are met cost-effectively while minimizing disruption to private real estate and mortgage markets.
  - Government should act as facilitator and regulator rather than developer to expand supply cost-effectively.
  - Streamline regulatory and approval processes to improve private real estate market functioning.
  - Target financing to those unable to obtain financing from banks or finance companies and focus on purchases of new dwellings to avoid bidding up real estate prices.

### Statistical issues to address
- Ongoing improvements: rebased (to 2010) national accounts data published; quarterly IIP data being submitted to the Fund.
- Data gaps and weaknesses:
  - No official real estate price index.
  - FDI data unavailable for recent years.
  - Trade credit data of uncertain quality.
  - Wage data sparse and inconsistent.
  - Commercial bank credit breakdown hampered by a large unallocated component.
  - Data on bank lending rates not collected.
  - Fiscal data in GFSM2001 format has still not been published.
- Authorities’ aim: to subscribe to the SDDS in 2016.

### Staff appraisal: macro outlook and fiscal policy recommendations
- Recent shocks and near-term outlook:
  - Oil prices have fallen by close to 50 percent over the past year.
  - Real GDP growth projection: 2.8 percent this year and 2.4 percent in 2016, down from 3.5 percent in 2014.
  - Observed impacts: slowed credit and deposit growth, falling equity market and corporate profits, and slowed real GDP growth.
  - Risks: uncertainty about future oil market outlook, uncertainties about growth pay-off from recent reforms, possible escalation of regional tensions undermining confidence.
- Fiscal situation and required adjustment:
  - Fiscal deficit projection: 19½ percent of GDP this year.
  - On current policies the deficit will remain high over the medium-term despite declines as one-off spending ends and projects complete.
  - Recommendation: a large multi-year fiscal adjustment anchored on a structural budget balance is necessary to stabilize fiscal buffers and achieve intergenerational equity.
  - Core elements of consolidation strategy:
    - Comprehensive energy efficiency and price reforms.
    - Expanding non-oil revenues.
    - Reviewing capital and current expenditures to better align spending with policy priorities.
    - Reducing the government wage bill.
  - Debt issuance: issuing debt to finance part of the deficit as fiscal policy adjusts is appropriate.
- Fiscal framework reforms:
  - Annual budget should provide a complete and realistic representation of planned expenditures during the year, including from the budget surplus fund.
  - Set the annual budget within a medium-term framework that establishes fiscal goals and delinks expenditures from short-term oil revenue volatility.
  - Fully integrate expenditure priorities from the 5-year national development plan into the medium-term budget framework, link to annual budgets, and update regularly.
  - Establish a macro-fiscal unit and publish fiscal data in GFSM2001 format to support these changes.

*Source: IMF staff report content unit _cr15251 - 29. There was agreement that a relaxation of macroprudential policies could be*

### 47. The banking sector is in a strong position to weather lower oil prices and weaker

### 47. The banking sector is in a strong position to weather lower oil prices and weaker

### Banking sector resilience and near-term outlook
- Profits, liquidity, and capital buffers are strong and NPLs are low.
- While fiscal adjustment and slower private sector growth are likely to result in modestly higher NPLs over the medium-term, bank provisions are more than adequate to cover loan losses and capital ratios would remain stable.
- Bank balance sheets also appear able to absorb a more significant worsening of the economic situation.
- SAMA’s continued reforms to strengthen the regulation and supervision of the financial sector are welcome.
- Recommendation recorded: It is recommended that the next Article IV consultation take place on the standard 12-month cycle.

### Macroprudential policy
- The macroprudential policy framework could be strengthened to mitigate financial sector risks in a countercyclical way.
- SAMA was a developer and early user of macroprudential policy tools; some tools have been used in a countercyclical way, while others have not changed over time.
- Enhancing the countercyclical use of macroprudential tools and linking them to systemic risks would help mitigate the potential effects of oil price and asset price cycles on financial stability.
- The establishment of a formal macroprudential policy board with SAMA, the CMA, and the Ministry of Finance as members would help ensure policy coordination and could guide decisions on when to tighten or relax policies.
- Decisions should rely substantially on judgment drawing on early warning indicators, market intelligence, supervisory assessments, and stress tests.
- Macroprudential policies may be relaxed if financial sector stress emerges and policy space is assessed to be available.

### Exchange rate policy
- The exchange rate peg remains appropriate given the structure of the Saudi economy.
- Supported by a flexible labor market, the peg has delivered monetary policy credibility and low inflation, while a more flexible exchange rate would have few benefits given the structure of the economy.
- Fiscal consolidation will be needed to support the peg over the long-term.
- The peg should be periodically reviewed in coordination with other GCC countries given ongoing structural changes in the labor market and efforts to increase diversification.

### Structural reforms and labor market
- The decline in oil prices will put greater emphasis on labor market and other structural reforms to shift growth from the public sector to the private sector.
- Policies are continuing to strengthen the business environment, but firm incentives need to change to focus more on tradable rather than nontradable production in the non-oil sector.
- Limiting the availability of public sector jobs will be critical to create incentives for workers to acquire the skills needed for high-productivity jobs in the private sector.
- Continued efforts are needed to strengthen education and training.

### Data and statistics
- Considerable progress has been made in improving the quality and availability of key economic statistics.
- Further progress is needed especially in government finance, monetary, real estate, and labor market statistics.
- The authorities’ target of subscribing to SDDS in 2016 is welcome.
- Continued close collaboration with GCCStat will support further strengthening of domestic economic statistics.

### Risk Assessment Matrix — key risks and quantified impacts
- Persistently low energy prices, triggered by supply factors reversing only gradually and weaker demand
  - Likelihood: Medium
  - Expected impact: High
  - Quantified scenario: A 10 percent permanent decline in oil prices would reduce fiscal and external balances by 1.6 and 2.8 percentage points of GDP, respectively, assuming no policy response.
  - Quantified scenario: GDP growth would drop by 0.5 percentage points a year assuming the government fully offsets the revenue losses with expenditure cuts.
  - Notes: Using fiscal buffers can delay expenditure reductions in the near-term at the cost of a larger adjustment later; adverse confidence effects and drying up of banking system liquidity could reduce credit availability and amplify negative spillovers.
  - Policy implications: Fiscal policy would need to adjust; intensify diversification efforts; ensure adequate banking system liquidity and carefully monitor banks for signs of stress.
- Political fragmentation/state failure/security dislocation in the Middle East and some countries in Africa leads to a sharp rise in oil price volatility and migrant flows
  - Likelihood: Medium
  - Expected impact: Medium
  - Notes: Heightened tensions could raise oil prices if supply is threatened; higher oil prices could ease fiscal pressure but confidence and investment could fall; fiscal adjustment would still be needed over the medium-term.
- Increased energy price volatility due to uncertainty about the persistence of the oil supply shock and underlying drivers of the price decline
  - Likelihood: Medium
  - Expected impact: Medium
  - Notes: High oil price volatility could lead to increased macroeconomic volatility if not carefully managed; strong fiscal and macroprudential frameworks are needed.
- Private sector employment opportunities do not increase fast enough to provide jobs for the young population
  - Likelihood: Medium
  - Expected impact: Medium
  - Notes: Public sector cannot absorb new entrants given fiscal consolidation needs; further labor market reforms are needed to increase employment of Saudi nationals in the private sector.
- Side-effects from global financial conditions (sharp asset price adjustment and decompression of credit spreads; persistent dollar strength)
  - Likelihood: High
  - Expected impact: High (asset price adjustment); Low (persistent dollar strength)
  - Notes: Normalization of U.S. monetary policy would tighten financial conditions; limited empirical evidence of an interest rate channel in Saudi Arabia; dollar strength would appreciate the riyal given the peg but have minimal impact on growth or the current account given small non-hydrocarbon exports and limited substitutability; banks’ open foreign exchange positions are largely in U.S. dollars and subject to prudential limits; large financial cushions are in place.

### Corporate sector (Box 1) — summarized indicators
- Listed corporate sector debt and cash
  - Debt of listed companies increased by around 10 percent in 2014, driven mainly by issuance among utilities, telecoms and industrial groups, and remains relatively low at 17 percent of GDP.
  - Short term debt outstanding accounts for around 15 percent of total debt and increased slightly in 2014.
  - Cash and cash equivalents increased by nearly a third (or some $6.6 billion) in 2014.
  - Petrochemicals, industrials, and telecom sectors accounted for the bulk of the increase in cash balances.
  - In aggregate, cash balances of the listed corporate sector exceed short-term debt levels.
- Sector vulnerabilities
  - Aside from three sectors with debt service coverage ratios below 1, most sectors operate with comfortable debt service coverage levels.
  - The construction sector, which experienced declining profitability in 2014, was the only major sector with a debt service coverage ratio below 1.
  - Only in the construction and transport sectors is short-term debt considerably higher than cash on hand.

### Empirical evidence on oil-macro-financial linkages (Box 2)
- Methods
  - Two complementary VAR models: (1) quarterly aggregate VAR (1997Q1-2014Q4) with variables: oil prices, equity prices, domestic credit, government spending, and non-oil GDP; (2) annual panel VAR (1999–2014) with bank-level balance sheet variables and aggregate macro variables: oil prices, non-oil private sector output, bank credit, NPL ratios, and bank deposits.
- Key empirical findings
  - From the first model: equity prices and government spending are main channels through which an oil price shock affects aggregate domestic credit and non-oil output; a decrease in oil prices results in an immediate decline in equity prices and in government spending after 6 quarters; feedback loop exists between credit, equity prices, and non-oil GDP.
  - From the second (bank-level) model: a 1 percent negative shock to oil prices
    - reduces non-oil private sector growth by 0.1 percent,
    - reduces bank credit growth by 0.3–0.4 percent,
    - reduces deposit growth by 0.1–0.2 percent,
    - increases NPL ratios by 0.1–0.15 percent in the long run.
  - The bank-level model also finds feedback loops among balance sheet variables that impact the broader economy.

*Source: IMF staff summary of the content in the provided chapter.*

### Box 3. Youth, Female, and Regional Differences in Labor Market Outcomes

### Box 3. Youth, Female, and Regional Differences in Labor Market Outcomes

### Overview
- The overall unemployment rate for nationals stands at 11.7 percent, but masks considerable gender, age, and regional variations.
- Recent labor reforms and development projects have aimed at addressing these inequalities.

### Female labor market outcomes
- Among Saudi females, the unemployment rate stood at 33 percent in 2014, compared to less than 6 percent for males.
- Female participation in the labor force is low.
- Female participation has increased from around 14 percent in 2011 to 18 percent in 2014 and the unemployment rate has declined.
- A number of sectors have been opened to female employment.

### Youth labor market outcomes
- Youth unemployment is very high and rising.
- With over 35 percent of the population still under the age of 19, this working age segment will increase rapidly, underscoring the urgency of tackling youth unemployment.

### Regional labor market outcomes
- Across regions, unemployment rates vary considerably, being as high as 20 percent in some regions.
- Gender gaps are much wider than at the national level in some regions.
- A number of development projects have been targeted to high unemployment regions.

### Policy responses and programs
- The government has introduced initiatives targeting mainly youth and female workers, including:
  - Nitaqat: a Saudization program that sets quotas on the minimum number of Saudi’s a company needs to employ depending on its size and sector of activity.
  - Hafiz: a program that provides financial support while nationals search for a job.
- Development projects have been targeted to high unemployment regions.
- Several sectors have been opened to female employment.

### Key statistics (as reported)
- Overall unemployment rate for nationals: 11.7 percent.
- Female unemployment rate (2014): 33 percent.
- Male unemployment rate (2014): less than 6 percent.
- Female labor force participation: around 14 percent in 2011; 18 percent in 2014.
- Population share under age 19: over 35 percent.
- Regional unemployment rates: as high as 20 percent in some regions.

*Source: IMF staff (Box 3, "Youth, Female, and Regional Differences in Labor Market Outcomes").*

### Appendix I. Fiscal and External Debt Sustainability

### Appendix I. Fiscal and External Debt Sustainability

### Saudi Arabia Public Sector Debt Sustainability Analysis (DSA) – Baseline Scenario (central government)
- Timeframe: As of April 20, 2015.
- Nominal gross public debt (in percent of GDP): 2013: 20.7; 2014: 2.2; 2015: 1.6; 2016: 7.8; 2017: 14.5; 2018: 20.2; 2019: 25.1; 2020: 29.5; 2020 (final): 33.4.
- Public gross financing needs (in percent of GDP): 2013: -6.6; 2014: -4.4; 2015: 4.0; 2016: 19.5; 2017: 12.8; 2018: 11.8; 2019: 11.0; 2020: 9.8; 2020 (final): 9.8.
- Real GDP growth (in percent): 2013: 6.4; 2014: 2.7; 2015: 3.5; 2016: 2.8; 2017: 2.4; 2018: 2.9; 2019: 3.1; 2020: 3.1; 2020 (final): 3.2.
- Inflation (GDP deflator, in percent): 2013: 8.3; 2014: -1.2; 2015: -3.1; 2016: -16.0; 2017: 4.6; 2018: 4.0; 2019: 3.9; 2020: 2.4; 2020 (final): 2.5.
- Nominal GDP growth (in percent): 2013: 15.4; 2014: 1.4; 2015: 0.3; 2016: -13.7; 2017: 7.1; 2018: 7.1; 2019: 7.1; 2020: 5.6; 2020 (final): 5.8.
- Effective interest rate (in percent): 2013: 5.2; 2014: 4.7; 2015: 5.8; 2016: 5.8; 2017: 5.8; 2018: 5.8; 2019: 5.8; 2020: 5.8; 2020 (final): 5.8.
- Sovereign spreads: EMBIG (bp): 3/n.a.; 5Y CDS (bp): 76. Ratings: Moody's Aa3/Aa3; S&Ps AA-/AA-; Fitch AAAA.

Identified flows and debt dynamics (percent of GDP)
- Change in gross public sector debt (annual): 2013: -8.7; 2014: -1.4; 2015: -0.6; 2016: 6.2; 2017: 6.8; 2018: 5.7; 2019: 4.8; 2020: 4.5; cumulative: 31.8.
- Identified debt-creating flows (annual): 2013: -10.2; 2014: -1.4; 2015: -0.6; 2016: 6.2; 2017: 6.9; 2018: 5.9; 2019: 5.0; 2020: 4.6; cumulative: 32.6.
- Primary deficit (percent of GDP, annual): 2013: -13.6; 2014: -6.0; 2015: 3.3; 2016: 19.4; 2017: 12.4; 2018: 11.0; 2019: 9.9; 2020: 9.0; cumulative: 69.8.
- Primary (noninterest) revenue and grants (percent of GDP, annual): 2013: 43.5; 2014: 41.4; 2015: 37.3; 2016: 29.9; 2017: 30.9; 2018: 30.9; 2019: 30.5; 2020: 29.3; cumulative: 179.8.
- Primary (noninterest) expenditure (percent of GDP, annual): 2013: 29.9; 2014: 35.5; 2015: 40.6; 2016: 49.4; 2017: 43.3; 2018: 41.8; 2019: 40.4; 2020: 38.3; cumulative: 249.7.

Automatic debt dynamics (percent of GDP)
- Automatic debt dynamics (annual): 2013: -3.2; 2014: 0.1; 2015: 0.1; 2016: 0.4; 2017: -0.1; 2018: -0.2; 2019: -0.2; 2020: 0.0; projection final: -0.1.
- Real interest rate contribution: 2013: -1.5; 2014: 0.2; 2015: 0.2; 2016: 0.4; 2017: 0.1; 2018: 0.2; 2019: 0.3; 2020: 0.8; cumulative: 2.7.
- Real GDP growth contribution: 2013: -1.7; 2014: -0.1; 2015: -0.1; 2016: -0.1; 2017: -0.2; 2018: -0.4; 2019: -0.6; 2020: -0.7; cumulative: -2.8.

Other identified debt-creating flows and residuals (percent of GDP)
- Other identified debt-creating flows (annual): 2013: 6.6; 2014: 4.4; 2015: -4.0; 2016: -13.6; 2017: -5.4; 2018: -4.9; 2019: -4.6; 2020: -4.4; cumulative: -37.1.
- Accumulation of deposits (annual): 2013: 6.6; 2014: 4.4; 2015: -4.0; 2016: -14.6; 2017: -6.3; 2018: -5.8; 2019: -5.4; 2020: -5.1; cumulative: -42.1.
- Loans (annual): 2013: 0.0; 2014: 0.0; 2015: 0.0; 2016: 1.0; 2017: 1.0; 2018: 0.9; 2019: 0.8; 2020: 0.7; cumulative: 5.0.
- Residual, including asset changes (annual): 2013: 1.5; 2014: 0.0; 2015: 0.0; 2016: 0.0; 2017: -0.1; 2018: -0.2; 2019: -0.2; 2020: -0.2; cumulative: -0.8.

Notes on methodology and assumptions
- Public sector defined as central government.
- Effective interest rate defined as interest payments divided by debt stock (excluding guarantees) at the end of previous year.
- Automatic debt dynamics derived as [(r - π(1+g) - g + ae(1+r)) / (1+g+π+gπ)] times previous period debt ratio, with r = interest rate; π = growth rate of GDP deflator; g = real GDP growth rate; a = share of foreign-currency denominated debt; and e = nominal exchange rate depreciation.
- Projection assumption: key variables (real GDP growth, real interest rate, and other identified debt-creating flows) remain at the level of the last projection year.

### Composition of Public Debt and Alternative Scenarios
- Baseline, Historical, and Constant Primary Balance scenarios presented with underlying assumptions.
Key underlying assumptions (percent)
- Baseline scenario (selected):
  - Real GDP growth: 2015: 2.8; 2016: 2.4; 2017: 2.9; 2018: 3.1; 2019: 3.1; 2020: 3.2.
  - Inflation from GDP deflator: 2015: -16.0; 2016: 4.6; 2017: 4.0; 2018: 3.9; 2019: 2.4; 2020: 2.5.
  - CPI inflation: 2015: 2.0; 2016: 2.4; 2017: 2.8; 2018: 2.9; 2019: 2.9; 2020: 2.9.
  - Primary Balance (percent of GDP): 2015: -19.4; 2016: -12.4; 2017: -11.0; 2018: -9.9; 2019: -9.0; 2020: -8.2.
  - Effective interest rate: 5.8 (2015–2020).
- Constant Primary Balance scenario assumes Primary Balance fixed at -19.4 (2015–2020) and that all financing needs are met through issuance of short-term debt rolled over in full each year.

Selected debt and financing indicators (graphics summarized in source)
- Gross Nominal Public Debt (Percent of GDP): historical and projected series 2013–2020 under Baseline, Historical, Constant Primary Balance.
- Public Gross Financing Needs (Percent of GDP): series 2013–2020.
- By maturity: Medium and long-term vs Short-term (Percent of GDP).
- By currency: Local currency-denominated vs Foreign currency-denominated (Percent of GDP).

### External Debt Sustainability Framework, 2010–20 (selected series)
- External debt (percent of GDP): 2010: 17.8; 2011: 13.5; 2012: 12.0; 2013: 11.6; 2014: 12.3; 2015: 15.0; 2016: 14.8; 2017: 14.6; 2018: 14.4; 2019: 14.4; 2020: 14.3.
- Change in external debt (annual): 2010: -3.1; 2011: -4.3; 2012: -1.5; 2013: -0.4; 2014: 0.7; 2015: 2.7; 2016: -0.2; 2017: -0.2; 2018: -0.2; 2019: 0.0; 2020: -0.1.
- Identified external debt-creating flows (4+8+9, percent of GDP): 2010: -18.0; 2011: -27.9; 2012: -24.1; 2013: -17.8; 2014: -8.9; 2015: 4.4; 2016: -2.0; 2017: -3.7; 2018: -5.2; 2019: -4.4; 2020: -3.5.
- Current account deficit excluding interest payments (percent of GDP): 2010: -12.7; 2011: -23.7; 2012: -22.5; 2013: -18.3; 2014: -10.9; 2015: 0.8; 2016: -2.5; 2017: -4.6; 2018: -6.4; 2019: -6.1; 2020: -5.2.
- Exports (percent of GDP): 2010: 49.7; 2011: 56.2; 2012: 54.4; 2013: 52.1; 2014: 47.6; 2015: 38.6; 2016: 39.1; 2017: 38.9; 2018: 38.6; 2019: 37.2; 2020: 36.0.
- Imports (percent of GDP): 2010: 33.1; 2011: 29.6; 2012: 29.3; 2013: 30.9; 2014: 33.8; 2015: 37.1; 2016: 35.4; 2017: 34.7; 2018: 34.0; 2019: 33.8; 2020: 33.5.
- Net non-debt creating capital inflows (negative, percent of GDP): 2010: -1.4; 2011: -0.4; 2012: -0.4; 2013: 0.5; 2014: 2.0; 2015: 1.5; 2016: 1.3; 2017: 1.6; 2018: 1.8; 2019: 1.9; 2020: 2.0.
- Automatic debt dynamics (percent of GDP): 2010: -3.8; 2011: -3.7; 2012: -1.1; 2013: -0.1; 2014: 0.0; 2015: 2.0; 2016: -0.8; 2017: -0.7; 2018: -0.6; 2019: -0.3; 2020: -0.3.
  - Contribution from nominal interest rate (annual): example 2010–2020 range: 0.1 to 0.5.
  - Contribution from real GDP growth (annual): example 2010: -0.8; 2011: -1.4; 2012: -0.7; 2013: -0.3; 2014: -0.4; 2015: -0.4; 2016: -0.3; 2017: -0.4; 2018: -0.4; 2019: -0.4; 2020: -0.4.
  - Contribution from price and exchange rate changes (annual): 2010: -3.1; 2011: -2.4; 2012: -0.5; 2013: 0.1; 2014: 0.4; 2015: 2.3; 2016: -0.7; 2017: -0.6; 2018: -0.5; 2019: -0.3; 2020: -0.4.
- Residual, including change in gross foreign assets (2-3, percent of GDP): 2010: 14.9; 2011: 23.5; 2012: 22.6; 2013: 17.5; 2014: 9.6; 2015: -1.7; 2016: 1.8; 2017: 3.5; 2018: 5.0; 2019: 4.4; 2020: 3.4.
- External debt-to-exports ratio (percent): 2010: 35.8; 2011: 23.9; 2012: 22.0; 2013: 22.3; 2014: 25.8; 2015: 38.9; 2016: 37.8; 2017: 37.5; 2018: 37.4; 2019: 38.8; 2020: 39.8.
- Gross external financing need (in billions of US dollars): 2010: -27.6; 2011: -115.9; 2012: -129.8; 2013: -85.8; 2014: -39.9; 2015: 52.0; 2016: 32.5; 2017: 19.7; 2018: 7.1; 2019: 10.9; 2020: 19.0.
  - Expressed in percent of GDP: examples provided in source.

Key macroeconomic assumptions (selected averages and projections)
- Real GDP growth (percent): historical average and projections include 2010–2020 series with 2015: 2.7; 2016: 3.5; 2017: 2.5; 2018: 2.8; 2019: 2.4; 2020: 2.9; later projections 3.1–3.2.
- Exchange rate appreciation (percent): 0.0 (2010–2020).
- GDP deflator in US dollars (change in percent): example 2010: 17.2; 2011: 15.6; 2012: 4.0; 2013: -1.2; 2014: -3.1; 2015: 6.0; 2016: 11.7; 2017: -15.9; 2018: 4.6; 2019: 4.0; 2020: 3.9; subsequent: 2.4–2.5.
- Nominal external interest rate (percent): series from 2010: 0.4 up to 2020: 3.6.
- Growth of exports (US dollar terms, percent): 2010: 29.6; 2011: 43.7; 2012: 6.2; 2013: -2.9; 2014: -8.3; 2015: 13.4; 2016: 25.5; 2017: -30.0; 2018: 8.6; 2019: 6.5; 2020: 6.1.
- Growth of imports (US dollar terms, percent): 2010: 7.5; 2011: 13.6; 2012: 8.7; 2013: 6.9; 2014: 9.6; 2015: 14.8; 2016: 12.6; 2017: -5.1; 2018: 2.3; 2019: 5.0; 2020: 4.9.

Stress tests and alternative scenarios (summary)
- Alternative scenario A1: key variables at their historical averages in 2015–2020 produce cumulative impacts shown in the source (example cumulative series: 15.0; -6.8; -25.3; -41.1; -56.2; -71.1 under labeled rows).
- Bound tests B1–B5 examine shocks including:
  - B1: Nominal interest rate at baseline plus one-half standard deviation.
  - B2: Real GDP growth at baseline minus one-half standard deviation.
  - B3: Non-interest current account at baseline minus one-half standard deviations.
  - B4: Combination of B1–B3 using 1/4 standard deviation shocks.
  - B5: One time 30 percent real depreciation in 2016.
- Graphical bound test outputs (external debt in percent of GDP) presented for interest rate shock, CA shock, combined shock, 30% depreciation, growth shock; gross financing need under baseline reported (right scale) with scenario averages in boxes (specific numeric scenario averages provided in source graphics; examples: Baseline Scenario average values shown: 2.5, 3.9, 2.4 and other series).

### External Debt Sustainability: Bound Tests (summary)
- Figures present external debt responses (percent of GDP) to permanent half-standard-deviation shocks and one-time shocks (e.g., 30 percent real depreciation).
- Notes: Individual shocks are permanent one-half standard deviation shocks. Combined shock uses permanent 1/4 standard deviation shocks. One-time real depreciation of 30 percent occurs in 2010 (historical scenario example).

### Appendix II. A Snapshot of the Financial Sector in Saudi Arabia
- Sector structure and scale:
  - 24 commercial banks operating in Saudi Arabia (12 foreign-owned). Bank assets amount to 76 percent of GDP. Top 6 banks account for over 75 percent of total commercial bank assets. Business model focused on domestic market.
  - Five public specialized credit institutions (SCIs) with assets (book value) amounting to 22 percent of GDP. SCIs are owned by government ministries, are not supervised by SAMA or the CMA, and are not deposit-taking institutions. SCIs provide medium- to long-term subsidized loans to industry, SMEs, housing, and agriculture; one SCI has substantive equity participations.
  - Non-bank finance: growth since Finance Law 2012. From November 2014, banks and finance companies providing real estate or other financing services require SAMA licences (37 such licences granted). No data available on size of finance companies. There are 88 securities firms.
  - Insurance: 35 insurance companies; assets are 3 percent of GDP. All insurance companies regulated and supervised by SAMA.
  - Public pension funds: two funds are sizable institutional investors with combined assets of 34 percent of GDP. PPA manages public worker scheme; GOSI manages private worker scheme. Schemes operate defined-benefit, primarily pay-as-you-go.
  - Equity market: 169 listed companies with market capitalization of 65 percent of GDP as of end-2014. Investor base primarily retail and large state investors. Direct foreign investor participation in the equity market allowed since June 15, 2015.
  - Fixed income markets: undeveloped. Government debt market did not develop during the past decade; some large but sporadic corporate bond and sukuk issues by a few large companies.

- Note: The five SCIs are: Saudi Industrial Development Fund (SIDF); Public Investment Fund (PIF); Real Estate Development Fund (REDF); Saudi Credit & Saving Bank (SCSB); Agricultural Development Fund (SADF).

### Appendix III. Status of Key Recommendations of the 2011 FSAP Update (selected)
Bank and Securities Regulation
- Update the Banking Control Law (BCL) and remove need for ministerial approval of certain SAMA decisions.
  - Progress: Existing BCL provides a strong basis; ministerial approval required only in times of extreme stress per SAMA.
- No longer allow large exposure up to 50 percent of bank’s own capital.
  - Progress: SAMA revised regulations; single exposure limit set at 15 percent of bank’s own capital.
- Strengthen CMA regulatory transparency by fully disclosing enforcement actions, interpretations, and funding rules.
  - Progress: CMA established internal committee to discuss FSAP recommendations including disclosure policies.

Systemic Stability
- Introduce a formal liquidity forecasting framework.
  - Progress: SAMA is working on a liquidity forecasting framework.
- Enhance data on cross-border financial activities of banks and corporate.
  - Progress: SAMA submits monthly reserves template to IMF, publishes IIP quarterly, submits 12 core FSIs to IMF, started collecting IBS data reviewed with BIS.
- Maintain a stable stock of government securities and regular issues to help anchor a robust yield curve.
  - Progress: Government may issue bonds to fund the budget deficit; public sector entities issuing sukuk.
- Introduce a payment system law.
  - Progress: SAMA drafted a legal covering note based on SAMA Charter powers.
- Conduct stress tests with wider range of shocks, including liquidity shocks, regularly.
  - Progress: SAMA enhancing top-down stress test model with IMF TA; banks conduct bottom-up stress tests reviewed annually as part of ICAAP.
- Establish a formal early warning system (EWS) for the banking sector.
  - Progress: EWS operational; includes macroprudential dashboard and excel-based early warning model; SAMA publishes quarterly FSIs.
- Develop a formal and transparent macroprudential policy framework.
  - Progress: Financial Stability Committee and Micro-Macro Engagement sub-Committee established; D-SIB framework to be implemented; first financial stability report published; SAMA participates in FSB peer reviews.
- Strengthen legal framework for bank resolution.
  - Progress: Draft law on resolution prepared and in legislative approval process.

Expanding Access to Finance and Preserving Financial Stability
- Ensure loan soundness as housing finance expands (lower LTV and debt service ratios).
  - Progress: LTV of 70 percent for residential real estate finance operational; finance companies subject to cap on total financing assets at 5 times capital and reserves (up to 7 times with SAMA permission); SAMA engaging external consultant on responsible lending principles.
- Contract banks to manage REDF portfolio.
  - Progress: Ministry of Housing and REDF working with banks and finance companies to develop funding schemes; alternative proposals considered.
- Complement mortgage reform with housing market observatory and consumer guidance.
  - Progress: SAMA coordinating data collection and publication; issued Consumer Protection Principles for banking and insurance; draft Consumer Protection Principles for finance companies under public consultation.
- Prepare long-term funding solution for mortgage finance (refinance facility).
  - Progress: PIF establishing Saudi Real Estate Refinance Company (fully owned by PIF and supervised by SAMA).
- Create modern electronic unified registry for movable collateral.
  - Progress: Feasibility assessment for financial lease registry finalized; SAMA coordinating with Ministry of Justice to ensure enforceability.
- Enact and implement draft Enforcement law with specialized courts.
  - Progress: Enforcement Law and implementing regulation issued and implemented by Ministry of Justice and courts.
- Closely supervise SME units in banks.
  - Progress: Since 2012 SAMA collecting bank-level SME exposures; supervisory follow-up on SME lending in supervisory reviews and ICAAP meetings.

Insurance, Institutional Investors, and Capital Markets
- Finalize outstanding functional regulations for insurance.
  - Progress: All outstanding regulations expedited except corporate governance regulations in draft; actuarial, policyholders protection scheme and audit committee regulations in final stage.
- Improve enforcement of mandatory motor third party liability insurance.
  - Progress: Committee established; legislation issued requiring insurance on all government (non-military) vehicles; implementation committee established.
- Disclose investment policies and performance of PPA and GOSI.
  - Progress: GOSI Board approved more active disclosure policy to disclose elements of investment policy and performance in 2015.
- Further outsource management of PPA and GOSI portfolios.
  - Progress: GOSI’s investment division spun off as Hasanah, fully owned by GOSI, managing domestic and foreign assets.
- Permit foreign investors to invest directly in Tadawul.
  - Progress: Qualified Foreign Financial Institutions allowed to directly own listed shares from June 15 (year indicated in source).

*Source: IMF staff.*

### Appendix IV. External Sustainability Assessment

### Appendix IV. External Sustainability Assessment for Saudi Arabia

### Overall assessment and external balance sheet
- Staff assessment: the peg to the U.S. dollar serves Saudi Arabia well; the external position in 2014 was broadly consistent with fundamentals, but for 2015 the current account will be weaker than estimated norms. Fiscal, rather than exchange rate, adjustment will be needed to bring the current account back in line with fundamentals.
- External assets and liabilities (mid-2014 / end-2014):
  - External assets: an estimated 140 percent of GDP in mid-2014.
  - External liabilities: 36 percent of GDP (portfolio and other investments amounted to 8.3 percent of GDP).
  - Net international investment position (NIIP): between 85 and 105 percent of GDP during 2007–mid-2014.
  - International reserves: about 97 percent of GDP (36 months of imports) at end-2014; reserves covered over 36 months of imports and 157 percent of broad money in 2014.
  - Average return on assets: about 2½ percent; on liabilities: about 5 percent.
- Assessment: the external balance sheet is very strong. Substantial accumulated assets support intergenerational savings and mitigate oil price volatility risks. Projections suggest the NIIP/GDP ratio will remain broadly stable over the medium term.

### Current account: recent developments and outlook
- Historical and short-term developments:
  - Current account surplus in 2014: 10.9 percent of GDP (narrowed from 18.2 percent in 2013).
  - Drivers: oil prices declined by over 50 percent between June and December 2014; oil export volumes for the year decreased slightly.
  - Staff projection: given oil prices, the current account is projected to move into a small deficit in 2015, before returning to surplus during 2016–20 as oil prices rise and oil export volumes increase.
  - Projected medium-term level: 4.7 percent of GDP in 2020 (the report also states CA surpluses are expected to recover to about 5 percent of GDP in 2020).
  - Projected oil export revenue shock: oil export revenues decline by 14 percent of GDP (projected impact in 2015).
- Structural determinants of the long-term current account:
  - Determined by the fiscal/development strategy (balance between saving oil revenues overseas vs. domestic investment) and the pace of oil extraction and future oil prices.
  - Saudi Arabia’s exposure: oil exports over 65 percent of non-oil GDP and 80 percent of exports of goods and services.
- Vulnerabilities and mitigating factors:
  - Large accumulated buffers (reserves and external assets) and no significant immediate capital flow concerns mitigate risks from a small projected 2015 deficit.
  - External adjustment must be driven by fiscal adjustment given the economy’s export structure.

### Real exchange rate (REER) and exchange rate policy
- Exchange rate peg: the Riyal has been pegged to the U.S. dollar at a rate of 3.75 since 1986.
- REER movements and terms of trade:
  - The REER has appreciated by 14 percent over the past year (through April 2015).
  - The REER is currently about 19 percent above its average over the past decade.
  - Terms of trade fell by 4 percent in 2014 and are projected to decline by another 30 percent in 2015.
- Assessment: given exports are mostly oil-related, exchange rate movements have limited impact on competitiveness; fiscal policy impacts on domestic demand and imports are the primary mechanism for external adjustment.

### External sustainability (ES) / annuity approach and assumptions
- Concept: sustainability requires the NPV of all future oil and financial/investment income (wealth) to equal the NPV of imports of goods and services net of non-oil exports; import trajectories (annuities) are calculated under:
  - (i) constant real per capita annuity; and
  - (ii) constant real annuity.
- Baseline technical assumptions used in ES projections:
  - Proven oil reserves at end-2014: 262.1 billion barrels.
  - Staff oil production path: production grows at a constant rate (2 percent), peaks at 12.9 million barrels in 2029 and then remains constant at that level till 2115 when oil production stops; oil exports remain unchanged.
  - Oil prices increase by 2 percent and the GDP deflator increase by 2.5 percent after 2020.
  - Real non-oil GDP grows by 5 percent while total real output growth is assumed to be 2.8 percent.
  - Future oil revenues are nominally discounted at 6 percent (assumed rate of return on externally held financial wealth/NFA).
  - Population growth: 1 percent.
- ES approach findings:
  - Estimates suggest the current account surplus is below what would be expected under the constant real per capita annuity rule, but above the constant real annuity rule.
  - Results are sensitive to parameter choices; scenarios illustrate effects of (i) 25 percent higher/lower oil prices; and (ii) 25 percent higher/lower oil prices combined with discount rates of 5 and 7 percent (baseline r = 6 percent).

### Macroeconomic balance (MB) / GMM and EBA-lite approaches
- Macroeconomic balance (GMM) approach:
  - Four GMM specifications produce estimated current account norms for Saudi Arabia:
    - Estimated current account norm (2014): 12.75%, 11.64%, 19.27%, 19.16% (Specifications I–IV respectively).
    - Estimated current account norm (2015): 0.50%, 10.32%, 17.32%, 16.18% (Specifications I–IV respectively).
  - Preferred specification: Specification II (norms 11.64% in 2014 and 10.32% in 2015), given the absence of a lagged dependent variable and inclusion of NFA data.
  - Underlying current account observed: 10.9% (2014).
- EBA-lite approach:
  - Estimated current account norm (2014): 11.4 percent of GDP.
  - Actual current account (2014): 10.9 percent of GDP → gap of -0.5 percent of GDP.
  - Note: EBA-lite does not fully account for oil-exporter specifics (intergenerational savings needs).
- Cross-method comparison and gaps:
  - Estimates of current account norms for 2014 across methods range from 19.4 percent of GDP (ES approach) to 11.6 percent of GDP (MB approach reported in IMF Country Report No. 13/229) to 11.4 percent of GDP (EBA-lite).
  - Corresponding current account gaps for 2014 are estimated at, respectively, -8.5 percent, -0.7 percent, and -0.5 percent of GDP.
  - Staff summary: there was a negative current account gap in 2014, with estimated sizes varying by methodology (from -8.5 to -0.5 percent of GDP, with an average gap of -3 percent of GDP). The ES methodology’s CA gap is entirely driven by current fiscal policy settings.
- Errors and omissions: estimated at -2 percent of GDP in 2014.

### Policy implications and recommendations
- Main policy message: fiscal adjustment is required to close the projected current account gap and to preserve intergenerational equity—exchange rate adjustment is not the appropriate tool given the peg and the oil-dominated export structure.
- Specific policy directions:
  - Fiscal consolidation is needed over time, though sizeable fiscal buffers mean there is no need for a sharp cut in government spending immediately.
  - Reduce current spending and increase non-tax revenues.
  - Continue government investment in infrastructure and education, ensuring spending is efficient and aligned with development needs.
  - Steps to allow increased foreign investment in the equity market are ongoing to deepen domestic capital markets and broaden private inflows.
- Reserve policy:
  - Reserve assets are more than adequate for precautionary purposes per Fund metrics, but a larger current account surplus and NIIP accumulation would be needed to ensure an equitable intergenerational transfer of oil revenues in real per capita terms.

*Source: Appendix IV. External Sustainability Assessment, Staff Report for the 2015 Article IV Consultation — Saudi Arabia (PDF).*

### 71.88 million. As regards loan resources, the Fund as Trustee of the Poverty Reduction and Growth

### _cr15251 - 71.88 million. As regards loan resources, the Fund as Trustee of the Poverty Reduction and Growth

### Loan resources and PRGT borrowing
- The Fund as Trustee of the Poverty Reduction and Growth Trust (PRGT) entered into a borrowing agreement with the Saudi Arabian Monetary Agency in May 2011, by which Saudi Arabia would provide new loan resources of up to SDR 500 million.
- Figure mentioned: 71.88 million.

### Exchange rate arrangement
- Saudi Arabia maintains an exchange rate system free of restrictions on the making of payments and transfers for current international transactions.
- The Saudi Arabian riyal was formally pegged to the U.S. dollar, effective January 2003 and the exchange arrangement is classified as a conventional peg.
- Prior to that, it was officially pegged to the SDR at the rate of SAR 4.28255=SDR 1, with margins of 7.25 percent even though in practice it has been pegged to the U.S. dollar since 1986, with a middle rate of SAR 3.7450=$1.
- Saudi Arabia maintains security-related exchange restrictions pursuant to UN Security Council resolutions 1267 and 1373.

### Last Article IV Consultation
- Saudi Arabia is on the standard 12-month consultation cycle.
- The last Article IV consultation was held during May 4–15, 2014 in Riyadh.
- The staff report was considered by the Executive Board on July 11, 2014 and published on September 23, 2014.

### Technical assistance missions (selected)
- STA GDDS Meta Data Development January 26–February 6, 2008.
- G20 Data Gap Initiative, January 22–23, 2011.
- Balance of Payment Statistics, March 12–23, 2011.
- National Accounts Statistics, April 8–18, 2012.
- Balance of Payment Statistics, November 11–22, 2012.
- SDDS Assessment, March 9–19, 2013.
- G20 Data Gap Initiative, May 27–28, 2014.
- MCM Stress testing, January 9–21, 2010.
- Stress testing, February 1-5, 2015.
- FAD Options for Indirect Taxation, February 25–March 11, 2006.
- Public Financial Management and Statistics, jointly with STA, September 16–30, 2006.
- Tax Administration, November 6–19, 2006.
- Enhancing Budget Process Reforms January 22–February 2, 2008.
- Budget Institutions and GFSM2001 (with participation of STA), June 2–5, 2012.
- GFSM2001 Training Course, April 2013.
- Training workshop on structural fiscal balance rules as a guide for policy, February 2014.

### Financial Sector Assessment Program (FSAP)
- The main FSAP mission took place in January 2004.
- The FSSA was published on June 5, 2006.
- The FSSA-update was published on April 18, 2012.
- FSAP-update, April 16–30, 2011.
- Detailed Assessment of Observance was published on July 19, 2013.

### Resident representative
- No resident representative is stationed in Saudi Arabia.

### Relations with the World Bank Group (as of June 10, 2015)
- World Bank TCP has provided policy advice, capacity development, and implementation support to development efforts in Saudi Arabia on a reimbursable basis since 1975.
- TCP objectives: assist Saudi Arabia in generating productive jobs for a fast growing population; improving education and health system performance; enhancing provision of public services including water, electricity, and transport; strengthening capacity in national, municipal institutions, and tourism.
- Recent advisory work completed in: public financial management, foreign direct investment, small and medium enterprise strategy, economic diversification strategy, special economic zones, and housing finance regulations.
- Ongoing priority activities include: employment policy (including a focus on unemployment assistance); workshops on education quality, assessment, and decentralization issues; developing funding options to promote energy efficient investments; updating the water sector strategy; developing an implementation plan for the national ports strategy; advising on the creation of a Public Transport Authority; and food security.

### International Finance Corporation (IFC) activities
- IFC objectives in Saudi Arabia:
  - Promoting Selective Business in Saudi Arabia: invest in selective transactions that add value in institution building, new financial instruments, and SME development. Specific investments in the financial sector include housing finance, insurance, leasing and microfinance (with total commitments of around $200 million). IFC provides Advisory Services in mortgage finance, SME finance, corporate governance, risk management and PPP transactions. IFC PPP engaged with two new PPP mandates signed in FY14 (Taif Airport and King Abdul Aziz International (Jeddah) Airport). Earlier success includes Medina Airport PPP which helped mobilize over $1 billion, and successes on the Hajj Terminal and a captive desalination project at Jeddah Airport.
  - Promoting South-South Investments from Saudi Arabia: Since 2007, IFC has been able to mobilize around $2 billion from Saudi sponsors for investments in the rest of MENA as well as in emerging markets including in Africa and East Asia.
  - Mobilizing Funds: efforts with Saudi public institutions and IFIs have resulted in obtaining commitments of over $1 billion.

### Statistical issues (as of July 10, 2015)
- Assessment of Data Adequacy for Surveillance: Data provision has some shortcomings, but is broadly adequate for surveillance. Most affected areas are: labor markets, government finance statistics, and external sector statistics.
- National accounts and Labor Markets:
  - Annual GDP estimates were rebased to 2010 from the previous base year of 1999.
  - The revised GDP data are more comprehensive in coverage of services, specifically distribution and financial services.
  - The rebasing increased the share of the oil GDP in 2013 to 43 percent from 21 percent previously.
  - Data on wage rates of public and private sector workers is not published; official data on the number of public sector employees is not published.
- Price statistics:
  - The weight reference period for the wholesale price index appears outdated (1988 according to the publicly available information) and would need to be updated, ideally at least every five years.
  - No official real estate price index is provided.
- Government finance statistics:
  - Authorities are reclassifying the budget in line with GFSM 2001. Most chapters have been completed and the Ministry of Finance plans to use the GFSM 2001 framework to report fiscal data and publish it by early 2016.
- Monetary and financial statistics:
  - Quality of monetary data has improved and additional information is made available in the SAMA Monthly Statistical Bulletin.
  - Authorities have not yet adopted the Standardized Report Forms (SRFs) as recommended in the Monetary and Financial Statistics (MFS) Compilation Guide.
  - An MFS technical assistance mission is scheduled in FY2016 to assist SAMA to migrate to SRFs.
  - The breakdown of bank credit to the private sector in the quarterly bulletin can be improved; it currently includes a large “Miscellaneous” category.
  - Data on lending and deposits rates is currently not published.
- Financial sector surveillance:
  - SAMA reports all 12 core financial soundness indicators (FSIs) to the IMF.
- External sector statistics:
  - Quarterly IIP data are published although IIP statistics are highly aggregated and coverage in the capital and financial accounts, particularly for the private sector, needs to be improved.
  - Errors and omissions in balance of payments data have been reduced substantially due to improved coverage of trade credit, though further improvements are possible.
  - Authorities are working on strengthening financial account data, where data on FDI flows and other investment flows are weak.
  - There are inconsistencies between the BOP and IIP data.
- Data Standards and Quality:
  - Participant in the General Data Dissemination System (GDDS) since 2008.
  - No data ROSC is available.

### Saudi Arabia: Table of Common Indicators Required for Surveillance (as of July 10, 2015) — selected entries
- Exchange rates: Date of latest observation 7/10/2015; Date received 7/10/2015; Frequency of Data D; Frequency of Reporting D; Frequency of publication D.
- International reserve assets and reserve liabilities of the monetary authorities: Date of latest observation 5/2015; Date received 6/29/2015; Frequency of Data M; Frequency of Reporting M; Frequency of publication M.
- Reserve/base money: Date of latest observation 5/2015; Date received 6/29/2015; Frequency M/M/M.
- Broad Money: Date of latest observation 5/2015; Date received 6/29/2015; Frequency M/M/M.
- Central Bank balance sheet: Date of latest observation 5/2015; Date received 6/29/2015; Frequency M/M/M.
- Consolidated balance sheet of the banking system: Date of latest observation 5/2015; Date received 6/29/2015; Frequency M/M/M.
- Interest rates: Date of latest observation 7/10/2015; Date received 7/10/2015; Frequency D/D/D.
- Consumer price index: Date of latest observation 5/2015; Date received 6/20/2015; Frequency M/M/M.
- Revenue, expenditure, balance and composition of financing—central government: Date of latest observation Q1 2015; Date received 5/20/2015; Frequency Q/Q/A.
- Stocks of central government and central government-guaranteed debt: Date of latest observation 2014; Date received 5/20/2015; Frequency A/A/A.
- External current account balance: Date of latest observation Q4 2014; Date received 5/20/2015; Frequency Q/Q/Q.
- Exports and imports of goods and services: Date of latest observation Q4 2014; Date received 5/20/2015; Frequency Q/Q/Q.
- GDP/GNP: Date of latest observation Q1 2015; Date received 7/2/2015; Frequency Q/Q/Q.
- Gross external debt (BIS): Date of latest observation Q3 2014; Frequency Q/Q/Q.
- International investment position: Date of latest observation Q4 2014; Date received 6/29/2015; Frequency Q/Q/Q.

*International Monetary Fund — Saudi Arabia country report excerpts (content unit: _cr15251 - 71.88 million. As regards loan resources, the Fund as Trustee of the Poverty Reduction and Growth)*

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_Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2015/_cr15251.pdf_