BofAML recommends ‘overweight’ rating for Saudi Arabia in 2019

According to a recently released BofA Merrill Lynch Global Research report, lower-than-budgeted oil prices and sticky spending suggest potentially large external borrowing needs for Saudi Arabia.

Argaam compiled key takeaways from the report:

2018 deficit narrows thanks to oil prices

The fiscal deficit has continued to narrow over 2018, partly as higher oil revenues have more than offset higher current expenditures. The 2018 fiscal deficit stood at SAR 135 billion, narrowing markedly from 2017 levels. This compares to the 2018 budget target of SAR 195 billion.

Non-oil revenue fiscal reforms broadly on track in 2018

Non-oil revenues came in line with their budgeted amount. This masks weak non-oil non-tax revenues, which were non-recurrent transfers in 2017. However, this was offset by a better-than-budgeted performance from the introduction of Value-Added Tax (VAT).

Social spending boosts expenditures

The January 2018 Royal Order boosted spending, but authorities appear to have tried to contain spending in other areas. Total spending crossed the SAR 1 trillion thresholds in 2018, standing at SAR 1,030 billion, 5.3 percent higher than budgeted.

The SAR 52 billion overspending came on the current spending side, as capital expenditures stood fully in line with budgetary targets. Spending on goods and services dropped by 2.5 percent versus the budget target on the back of rationalization initiatives.

Major fiscal loosening in Q4 2018

Major fiscal loosening took place in Q4 2018, and in line with historical precedents and the pre-budget statement. The quarterly fiscal deficit stood at SAR 87 billion in Q4 2018, equivalent to double of the combined deficits recorded over 9M 2018. This was due to higher spending as it increased by 38 percent quarter-on-quarter, and largely on the capital expenditure front.

No major stimulus spending in 2018

As the subsidy spending of SAR 11.6 billion includes expenditures on the SAR 200 billion Private Sector Stimulus Plan, it does not appear much stimulus spending took place. This is in line with our expectations of no major near-term impact from our estimated SAR 24 billion tranche of the fiscal stimulus for 2018. 

Expansionary 2019 budget increases exposure to oil

The 2019 budget is expansionary as the pace of austerity eases, spending increases, the Royal Order is rolled over and capital expenditure picks up. However, support to economic activity is coming at the cost of a more sticky and higher fiscal breakeven oil price. The gradual and sticky move higher in the fiscal breakeven oil price, coupled with the relative erosion of fiscal buffers since 2014, increases the economic vulnerability to a sustained drop in oil prices.

2019 budget relies on higher oil prices to finance higher spending

The 2019 budget targets the deficit to narrow to SAR 131 billion. Revenues are budgeted at SAR 975 billion. On the other hand, spending is budgeted at SAR 1,106 billion.

Budgeted increase in oil and non-oil revenues appears ambitious

Budget targets on the oil and non-oil revenue sides appear difficult to reach. The increase of revenues versus 2018 realized levels largely stems from higher oil revenues and higher proceeds from expat levies.

Fiscal deficit likely to widen in 2019

We expect the 2019 fiscal deficit to widen to SAR 230 billion on the assumption of oil prices of $70 per barrel. We expect total spending to increase by 9.4 percent year-on-year to SAR 1.1 trillion in 2019, as we pencil in the wage and social benefit bills flat to their 2018 outturns.