The ongoing price war continues between crude oil producers, as the Organization of the Petroleum Exporting Countries (OPEC) maintains its Saudi Arabia-led policies to maintain high oil output, contributing to a glut that has brought prices to record lows. This same strategy that aims to crowd out non-OPEC oil producers (particularly Russia and American shale oil companies), however, has placed OPEC economies under considerable pressure of their own. Nonetheless, Saudi Arabia believes it can weather its own storm. Despite prices now reaching an 11-year low of under $34 per barrel, Saudi Oil Minister Ali Naimi said the oil policy would continue—even if prices reach $20 per barrel. Although the International Energy Agency (IEA) cites Saudi Arabia’s dramatic increase in market share after the policy shift, it set the course for serious repercussions that cannot be neglected.
The Saudi policy to defend its market share rather than maintain high prices won out in OPEC’s November 2014 summit, but the reasons for it were at least partly political. Discussions over a possible deal with Iran, the Kingdom’s regional rival, over its nuclear program had reached a critical point. Oil became an expression of Saudi anger toward the US approach to the region that Gulf states had come to see as abandoning traditional allies for their rivals. Russia had not yet engaged in the Syrian war, but its military and financial support for the Assad regime Riyadh enough reason punish Moscow and exert pressure on an already troubled Russian economy.
The kingdom released an austere budget for 2016 containing unprecedented reforms to cut governmental spending, including a reduction in energy subsidies and a drive to raise revenues from taxes and privatization. The 2016 budget launched a new phase during which the kingdom hopes to diversify its revenue sources and cut the budget deficit to 326 billion riyals. It projects an expenditure of 840 billion riyals, down from 975 billion spent in 2015. The Finance Ministry stressed it would review projects to improve their efficiency, necessity, and affordability. Revenues are forecast at 514 billion riyals, down from 608 billion riyals in 2015 when oil revenues accounted for 73 percent of total income.
Saudi Arabia pledged that the first step after the budget announcement would involve increasing gas prices in the kingdom by 50 percent. Thus far, however, they remain low at 0.90 riyals ($0.24) per liter. Water and electricity price hikes were structured to impose most of the burden on large corporate users, but the policy has not yet been implemented. The ministry also said it planned to introduce value-added tax in coordination with other countries in the region, but the matter remains under review and no decision has yet been taken.
The 2014 budget, prepared based on an estimated oil price of $103 per barrel, allowed for almost 1.05 trillion riyals ($280 billion) in earnings. The Saudi Arabian Monetary Agency reported that the 2015 budget was based on an oil price estimated at $80. The total revenue earned in 2014-2015 stood at 715 billion riyals. This revenues shortfall could drive the budget deficit to $140 billion in 2016, forcing Saudi to increasingly rely on its approximately $600 billion or more in reserves. To help ease the pressure on the treasury, the Saudi government issued two series of bonds this summer and tightened domestic spending.
Naimi stressed the Saudi strategy is working and figures from the US Energy Information Administration (EIA), and the International Energy Agency (IEA) may prove he is right. Saudi oil exports to major consumers in Asia and Europe reached multi-year highs in the first half of 2015, with exports to the United States also increasing. According to IEA estimates, exports have amounted to around 8.1 percent of the global market since November 2014, compared to 7.9 percent in 2014. The agency said last September that Riyadh maintained its Asian market share, exporting 4.4 million barrel per day (bpd) of crude to seven big customers in Asia in the first half of 2015. In June, the United States imported 1.076 million bpd of Saudi oil (up from 788 thousand bpd) according to EIA data. Nonetheless, US imports remain far from the 2.2 million bpd number achieved in May 2003.
A hard test awaits Saudi Arabia’s ability to defend its market share as additional crude comes to the market from Iran and Iraq in 2016. With US shale oil production still on the rise, the United States could further decrease their dependence on Saudi oil imports and follow a more relaxed financial policy—and certainly a much less dependent foreign policy in the Middle East.
It is also believed that Saudi defense spending will witness deeper cuts in 2016, according to a new report published by the London-based IHS Janes Intelligence Review. Overall spending on military by Gulf Cooperation Council (GCC) countries fell to $81.6 billion in 2015 from $86.7 billion last year, despite the Saudi-led military interventions in Yemen and arms supplies to Syrian rebels. Saudi Arabia will spend 6.8 percent less on its military needs but will remain the regional leader, spending some $46.3 billion on defense. Nonetheless, this figure accounts for more than half of the GCC’s military budgets and makes it the eighth-largest defense spender in the world.
The Saudis are also keen on maintaining their expenditures in sectors other than defense and will not cut spending on health care and education. The new economic strategy reflected in the new budget and the long-awaited reforms will not secure the Saudi foreign reserves from further deterioration. The kingdom has so far lost $91.5 billion of these reserves which stood in September at $654.5 billion according to the International Monetary Fund, which warned that the kingdom may go bankrupt in five years if it sticks to its current spending model. Many questions also arise about the effect of such spending on domestic political stability, which was historically maintained by welfare spending and subsidizing main economic sectors. Although civil unrest will not likely occur in the short- to medium-term, if oil prices maintain their low levels, Saudi Arabia may have difficulty avoiding wide spread dissatisfaction in a few years.
Haytham Tabesh is a Beirut-based economics researcher and editor.
Image: Saudi Arabian Oil Minister Ali al-Naimi talks to journalists during a meeting of OPEC oil ministers in Vienna, Austria, December 4, 2015. (Reuters)