Saudi non-oil sector growth to remain strong in medium term

Economic growth in Saudi Arabia slowed in 2013 on the back of a small contraction in oil GDP and a moderation in non-oil sector growth, said NBK in its latest Economic Update.

“Recent labor market disruptions are believed to have impacted activity in the latter. Over the medium-term, growth should remain relatively solid, supported by high oil prices and implementation of large government projects. Nevertheless, an easing in private sector activity and a moderation in the pace of overall government spending – as well as heavy downward revisions to official data – have seen us lower our growth forecasts; we now expect non-oil growth of 4-5 percent in both 2014 and 2015, compared to up to six percent before,” said NBK report.

“Recent data point to softening in the pace of non-oil private sector activity. The Purchasing Managers’ Index trended lower through 2013, credit growth has eased slightly (though remains strong), and ATM and point-of-sale figures are off their highs. This may be partly linked to recent labor market initiatives and Saudization efforts which have led to a crackdown on illegal foreign workers. The full impact of these policies on private sector activity has yet to manifest, but there are downside risks in the near-term: increased labor costs, disruptions to labor-intensive sectors (especially construction and retail), and weaker domestic consumption levels. Government infrastructure projects and rapid population growth should nevertheless continue to provide underlying support for steady growth in non-oil GDP.

“Saudi Arabian oil production rebounded by more than 1 mbpd in the nine months to September 2013 to a peak of 10.2 mbpd, partly to compensate for output disruptions in Libya and Iraq. Since then, output has once again fallen back. As demand weakens and non-OPEC supply continues to rise, Saudi Arabia – given its unofficial role as OPEC’s swing producer – is seen making more significant cuts in 1H 2014 in order to keep prices close to $100 pb. We expect real oil GDP to fall in 2014 by some two percent, before stabilizing in 2015.

“Inflation edged higher in 2013, averaging 3.6 percent in the first 10 months. This was driven by higher inflation in the food and housing segments, both of which have eased of late. While food price inflation is expected to remain contained, pressures from residential rents could rise amid a shortage in affordable housing – a challenge that the government is trying to address through a house building program and new mortgage law. However, steady economic growth and softer food prices should keep inflation at a moderate rate of around 3-4 percent over the forecast period.

“The budget registered a lower, but still large, surplus of seven percent of GDP in 2013. As oil prices slip further and revenues decline, the surplus is projected to continue to shrink to around 6-7 percent of GDP in 2014 and 2015 – despite moderating expenditure growth. Further fiscal consolidation could conceivably affect capital spending allocations.  Nevertheless, a large number of infrastructure projects – including major transportation and power projects – will be financed off-budget, thereby mitigating the impact of any curb in spending. Private sector credit growth eases, but remains strong; stock market hits post-financial crisis peak.

“Some financial indicators have shown a slight softening in market conditions: both credit and monetary growth have slowed from their peaks. But overall, the Saudi financial sector still looks in robust shape: banks are profitable and well-capitalized, lending growth is still strong and the stock market staged a significant rally in 2013. Solid economic growth and implementation of large government projects should provide continued support for the financial sector in 2014. Downside risks stem from a prolonging of the recent softening in private sector activity and possible instability in global markets.

“Growth in liquidity has eased somewhat in recent months. Annual growth in the broad money supply (M3) decelerated from a two-year high of 16 percent in May 2013 to 10 percent in October. Growth in the short-term measure M1 also slowed from 19 percent in mid-2013 to an 11-month low of 15 percent, as a result of weaker growth in demand deposits – which make up more than 60 percent of total banking system deposits. “Growth in private credit eased back slightly in 2H 2013, though is still very firm. Lending growth edged down from its four-year high of 17 percent in May 2013 to 13 percent in October. The latest softening could be partly explained by the recent slowdown in private sector activity. But the slowdown may also be reducing credit growth to healthier, more sustainable levels.

“While corporate loans have traditionally accounted for the bulk of lending, banks have increasingly focused their attention on the smaller retail lending segment. The latter has offered higher margins in a low interest-rate environment. In 2Q13, consumer loans grew by some 22 percent y/y compared with 13 percent for corporate loans. The new mortgage law should also help lift demand for home loans, although its impact will likely be gradual.