EUR 35.16 For Business Accounts Only

Saudi macro | COVID-19 to spare Saudi at least two years to restore growth path

Negative 2020e outlook on low oil revenues, religious tourism halt. Despite diversification efforts, oil revenues remain the main source of funding for non-oil GDP growth. Consequently, 40% lower oil revenues (on our numbers) in 2020e triggered a 30% cut in the government’s budgeted capex for the year. The halt of tourism (10% of GDP) is set to impair government revenues, postpone capex on entertainment, and increase pilgrimage capacity. That said, the implementation of fiscal austerity measures, mainly tripling the VAT to 15% as of Jul-20, would further weigh on the already suffering private consumption (39% of GDP), amid COVID-19 restrictive measures. Accordingly, we expect Saudi to record an economic contraction of -5.5% and a budget deficit of 13.2% of GDP in 2020e (vs. 4.5% in 2019).

Saudi implements austerity measures to compensate for lower budget revenues. Although tripling the VAT has always been among the Kingdom’s fiscal targets, we see the timing of the implementation expedited by the squeezed fiscal position. Recent decisions to increase both the VAT and custom rates are set to increase non-oil revenues by c3.5% of GDP and contribute to a flat non-oil revenue figure in 2020e, despite muted economic activity. However, this will come at the cost of price stability; we expect a rise in inflation to reach 2-2.5% in 2020e. We also anticipate a drop in consumer confidence, primarily as we see limited capacity for introducing a new support programme (similar to the citizenship account to mitigate the 5% VAT in 2018). A possible introduction of an income tax, currently discussed by the government, is a further downside risk to consumption.

Off-budget capex largely mirrors budget cuts, key drag to economic activity. Spending on projects collapsed in May-20, breaking the rising trend for the same month in 2016. The government prioritised healthcare and social support spending, and put diversification efforts on a short-term hold. Accordingly, we expect the construction sector (4.5% of GDP) to contract by c-4% and non-oil GDP by -4.5% in 2020e. MEED Projects revised downwards its 2020e contract awards forecast by c30% in a best-case scenario and 50% in a worst-case scenario.

Sufficient buffers, economy structure supportive of maintaining the peg. We estimate higher reliance on external financing to fund c70% of the budget deficit vs. c40% in 2019. The Kingdom has sufficient buffers (official reserves+debt+PIF), in our view, to support the peg. We see no motivation to de-peg, as the external balance is largely inelastic to the exchange rate, with oil priced at international prices, and BOP running a non-oil current account deficit. Long-term success of tourism and manufacturing diversification efforts may boost reassessing the currency policy.