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Spending discipline, higher oil revenues to narrow Saudi fiscal deficit

Short term improvement in oil prices may slowdown fiscal reforms

Gulf News

Dubai: Sustained spending discipline combined with improving oil prices are expected to narrow Saudi Arabia’s fiscal deficit this year, giving government more manoeuvring space in fiscal reforms according to economists.

The first half 2017 data showed the government’s fiscal deficit has narrowed sharply in 2017. During the first six months of this year the fiscal shortfall of 72.7 billion riyals (Dh71.2 billion) was less than half of 149.4 billion riyals realised the same period last year. This was largely on the back of higher oil revenue but also benefited from more restrained fiscal expenditure.

“We estimate that Saudi Arabia’s fiscal deficit will narrow to about 7.5 per cent of GDP in 2017, down from 16.6 per cent in 2016 [including the payment of government arrears], said Monica Malik, Chief Economist of Abu Dhabi Commercial Bank.

Fiscal data for the second quarter of 2017 suggests continued spending discipline and higher oil revenues have narrowed the fiscal balance. However, tight spending suggests non-oil economic activity is likely to remain fragile. Bank of America Merrill Lynch (BofML) expects the government target on deficit will be within reach this year, thanks to spending discipline and gains in oil prices.

“The fiscal deficit target of the authorities at 198 billion riyals or 7.8 per cent of GDP could be within reach for 2017, well below our expectations of 326 billion riyals or 12.8 per cent of GDP and last year’s out-turn of 416 billion riyals or 17.2 per cent of GDP,” said Jean-Michel Saliba, Mena Economist of BofA Merril Lynch.

Oil revenues are higher year-on-year despite the Opec production cuts thanks to higher oil prices as well as a higher fiscal transfer ratio from Saudi Aramco. Non-oil revenues are somewhat lower year-on-year but should increase starting from 2018. In the meantime, the excise tax on soft drinks, tobacco and energy drinks as well as the fee on dependents of expatriate workers could add in 7.5 billion riyals of non-oil revenues in the second half of 2017.

Oil risk on reforms

Higher oil prices support government efforts to lengthen the timeline for fiscal consolidation. However, they may breed policy-making complacency as the oil price level may not be sustained. Furthermore, the budget would have only improved from a cyclical, not structural, position according to economists

The pace of fiscal reform has slowed markedly in 2017 compared to 2016, with some signs of reversals. Nevertheless, there have been areas of progress this year. This includes a tax on dependents introduced in July 2017 whereby expatriates have to pay SAR100 per month per dependent, including children and domestic staff. The other main measure was the introduction of an excise tax on tobacco and sugary drinks from June.

The government revenue will also be boosted by the introduction of the White Land Tax (on undeveloped urban land), which was rolled out in March 2017. The government has not progressed any further with fuel and utility reforms in 2017. Moreover, they have reversed the pay and benefit cuts of public sector employees that were introduced in 2016.

Saudi Arabia is still at a relatively early stage in its fiscal reforms. The steady progress required to achieve change, even at a gradual pace, is likely to keep domestic demand weak. The kingdom is due to introduce VAT on 1 January 2018 with a standard rate of 5 per cent.

“We believe that this [VAT] could delay further subsidy reductions, especially in end-2017 or first half of 2018. This is especially as the VAT regulations point to one of the broadest VAT tax bases globally, including taxing food, private education, health care services, local transport and fee-based financial products. The wide VAT base is likely to affect the time it takes for private consumption to recover, particularly given the weakness in the underlying economy,” said Saliba.