Saudi Arabia has revealed a series of fuel-related subsidy reforms that are credit positive for the sovereign, as they will lower current expenditures and bolster government finances dented by the downturn in global oil prices, while reducing macroeconomic distortions, Moody's Investor Service has said.

 

It includes a 50 per cent increase in higher quality 95-octane petrol prices, a 66 per cent increase in lower quality 91-grade petrol prices, and a 74 per cent increase in diesel fuel prices, said the Moody's Investor Service report.

 

Despite progress in diversification, Saudi Arabia is particularly vulnerable to oil price declines because oil and gas-related revenues have historically accounted for around 90 per cent of government revenues (although this decreased to 73 per cent in 2015 as a result of the sharp drop in oil prices). 

 

The total revenues declined by approximately 42 per cent in 2015, and authorities expect another 15.5 per cent decline this year. 

 

At the same time, total expenditures declined 14.5 per cent in 2015, and are budgeted to decline an additional 13.8 per cent in 2016.

 

Although fiscal gains from subsidy reform are likely to be moderate this year, Moody's expects gains to accelerate when oil prices increase. The total subsidies and transfers composed about 4.9 per cent of all consolidated expenditures in 2014, although this likely understates the costs of energy price distortions because the subsidies are implicit – prices are kept artificially low, but this does not have a direct cost on the government’s balance sheet. 

 

The International Monetary Fund (IMF) estimated that the opportunity cost from low energy prices in Saudi Arabia amounted to nearly 10 per cent of GDP in 2014.

 

The price hikes will also lead to efficiency gains, reducing wasteful overconsumption driven by artificially low prices. 

 

According to the IMF, closing the price gap between Saudi Arabia’s domestic fuel prices and international prices would lead to efficiency gains of 1.5 per cent to 2.1 per cent of GDP. 

 

Although these unprecedented price hikes are credit positive, Saudi Arabia still has some ways to go to fully close that gap. Indeed, even with these reforms, Saudi Arabia’s diesel prices remain much lower than those of regional neighbours.

 

The inflationary effect of fuel subsidy reform will likely be moderate because energy products make up only 3.3 per cent of the Saudi consumer basket.

 

Despite these positive reforms, the recent escalation in geopolitical tensions with Iran (unrated) following the fallout from the execution of a prominent Shia cleric in Saudi Arabia will likely add to fiscal pressures. 

 

Saudi Arabia’s 2016 budget has allocated 25 per cent of its spending on military and security services alone, much higher than the US (Aaa stable) at around 15 per cent of total government spending. - TradeArabia News Service