IMF Survey: Saudi Arabia: Managing the Oil Bonanza

IMF News, September 19, 2008

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Authors: Klaus Enders, Oral Williams IMF Middle East, Central Asia Department September
Published: September 19, 2008

Economy grew by an average of 4.3 percent during 2003-07, driven by a continued rapid expansion in the non-oil private sector.
Non-oil private growth has averaged 5.4 percent during 2003-07.
Private-sector expansion led to substantial job creation, including for foreign workers who sent home $16 billion in remittances in 2007.
Unemployment among the young remains high, reflecting skill mismatches and high reservation wages.

Saudi Arabia accounts for 22 percent of global oil reserves.
Saudi Arabia accounts for around two-thirds of global spare production capacity (2 million barrels per day (mbd)).
Investments of around $90 billion over the next few years will boost crude production output to 12.5 mbd by 2009 and increase refining capacity.
Saudis decided to boost oil production to 9.7 mbd in July 2008 to contain volatility in global oil markets.

Surging oil revenues have generated large fiscal and external surpluses.
A significant portion of oil revenues is being used to accumulate net foreign assets at the central bank, which at end-2007 stood at $301 billion (the equivalent of 19 months of imports).
Some oil revenues are also being accumulated in pension and state investment funds.
Policy trade-off: need to use revenue for infrastructure and social services while preserving part of oil wealth for future generations through accumulation of external financial assets (i.e., a current account surplus).

Inflation accelerated to a 30-year high of 11.1 percent year over year in July 2008.
Main inflation drivers: domestic demand pressures from higher income and wealth, supply constraints (housing), and imported inflation (food).
Dollar peg implications: Saudi Arabia was importing the easing monetary stance of the United States since mid-2007, further fueling inflation.
With monetary policy constrained by the peg, fiscal policy is the main demand management tool, creating difficult trade-offs between restraining spending to curb inflation and increasing capital outlays to address supply-side bottlenecks.

Structural measures: passage of a mortgage law to facilitate housing development.
Fiscal/transfer measures: a 15 percent wage increase over three years; subsidies on food; reduced import tariffs; waiving of several administrative fees.
Monetary/financial measures: central bank increased reserve requirements in four steps by a cumulative 600 basis points and issued bills to mop up liquidity.
Expectations: inflation is expected to gradually subside starting in late 2008 as global commodity prices ease, U.S. monetary policy firms, and supply bottlenecks are overcome, with infrastructure and housing investments coming on stream.

Medium-term outlook is very favorable, with growth sustained by strong private sector investment and government spending on key infrastructure.
Large fiscal and external surpluses are projected to continue, given high oil prices.
Even sharply lower oil prices would be unlikely to endanger macroeconomic stability—the oil price that would balance the current account in 2013 is estimated at around $70 per barrel.
Fiscal framework could be strengthened by anchoring budgets in a medium-term setting and by managing oil wealth with an explicit long-term, intergenerational perspective.

Structural reforms remain important to boost job creation and diversify the economy and to address supply constraints contributing to inflation.
International Finance Corporation's Doing Business report ranked Saudi Arabia first among Arab countries for three consecutive years and twenty-third globally in 2008.
Second-generation reforms needed to consolidate gains and diversify the economy include:
- Improvements in education.
- Financial sector deepening.
- Contract enforcement.
- Modernization of the legal system.

Source: IMF Survey: Saudi Arabia: Managing the Oil Bonanza (September 19, 2008).