Financial Crisis

Financial Crisis

Saudi Arabia, the richest country in the Middle East, is facing a financial crisis. Its government has built up a domestic debt, composed of medium and short term borrowing and sums owed to contractors and suppliers equivalent to $150-170 billion. To finance this it has an expected oil income in 1999 of somewhat under $30 billion. The country’s gross domestic product, according to official figures for 1998, is about $135 billion. The banks and state institutions such as the General Organisation for Social Insurance, which have been providing the government with credit, are now objecting to being pushed to lend more.

On top of the domestic figures there is a small amount of foreign borrowing. The money borrowed on international markets in the early 1990s has been repaid, but in November 1997 the government took a new credit of $4.3 billion, to finance the purchase of new aircraft for Saudia, the national airline. In addition it has unknown but substantial commitments for military hardware and military construction projects, including six vast underground storage tanks - caverns cut in the rock - that are to hold a strategic oil reserve near major cities and military bases. Payments for military contracts, which are substantially in arrears, are made partly in cash and partly in crude oil.

To help improve its position, it is thought that at the end of last year the Kingdom borrowed $5 billion from the emirate of Abu Dhabi, which is the one state in the region that still has a healthy budget. Reports of this borrowing, and rumours of a similar though less likely borrowing from Kuwait, were denied.

The immediate cause of the Kingdom’s difficulties is the fall in the price of oil, brought about by the crisis in the Far East. In 1998 the average price of the Organisation of Petroleum Exporting Countries’ basket of seven crudes, which are used as a benchmark, was $12.32 a barrel, compared with $18.68 in 1997, when there was a sharp fall in the last month of the year, and $20.29 in 1996. Saudi Arabia’s own five crudes sell for an average figure that is a bit below the OPEC basket price. For 1998 the government had worked on the assumption that it would be receiving $16 a barrel, whereas in practice its receipts fluctuated between $10 and $13.

Given that three quarters of the budget is financed by oil revenues, the effect of the fall on the government’s finances was dire. The deficit for 1998 was expected to be the equivalent of $5 billion; it turned out to be just under $13 billion. For 1999 the government has published a budget that shows a deficit of $12 billion, but the reality is that it has little idea of what its deficit will be. One of the problems of a supposedly rich country that finances most of its expenditure by oil sales and levies virtually no domestic taxes is that its government has very little control over its revenues.

As usual the government has published few details of its budget. It is known that the biggest item, accounting for between a quarter and a third of all expenditure, is defence, but no figure is ever given for this. The general assumption is that this year there will be severe cutbacks in this area. The government has said that social spending "will not be affected"; it has said the same virtually every year since it began to experience financial difficulties in the mid-1980s. In practice it will be forced to respond to events as the year progresses. It will certainly try to regulate its payments so it will not have to say anything more in public until it announces its next (notional) budget on 31^st December, but it is quite possible that at some point in the year it will be forced to announce austerity measures that will have a direct impact on the public.

In a long term sense the government’s problems come from overspending. Its military budgets have always been huge, with the money going not so much on arms as on lavish base facilities, designed partly to keep the personnel happy and partly, when necessary, to accommodate foreign forces. Businessmen and the public have benefited from an array of subsidies. These have included free land on industrial estates and loans at 2 per cent for up to half the capital needed for industrial projects. Water and electricity are provided to industrial and domestic consumers for a fraction of what they cost to produce, and many members of the royal family, who are particularly big consumers, have been in the habit of paying nothing at all. Telephone calls are likewise subsidised, as are domestic flights - which again are treated as a free good by many members of the royal family and their staffs. Basic foodstuffs are subsidised; gas and gasoline are sold at just over their production cost. There is a free health service, of rather poor quality, and, of course, free education of a similarly disappointing quality. Anyone who has invested in agriculture has benefited from free land, other inputs that are free or subsidised, and extremely generous support prices.

In the public perception huge amounts of money are lost from the treasury through corruption. This is particularly associated with commissions on big government contracts, especially in the defence sector. In practice corruption is probably less of a drain on state finances than people think. It is true that large sums, up to a third of total value, are "skimmed" off certain big contracts, but the numbers of such contracts and therefore the numbers of corruption based fortunes are not great. There may be no more than two or three dozen people - a few of the senior princes and their hangers on - who have made fortunes worth billions of dollars from corruption. Certainly corruption consumes less money than subsidies - but the fact that it exists, and is known to exist, makes it difficult for the government to cut subsidies. The fear is that any action on this will provoke a popular outcry in which people will say, in the words of the Islamist opposition leaders of the early 1990s, that if some of the princes were not "robbing" the treasury there would not have to be "taxes".

Both subsidies and corruption have been being discussed as budgetary issues - mostly by economists and other analysts outside Saudi Arabia - since the early 1980s. The perception that the Kingdom has financial difficulties is nothing new. However, it is now clear that the position is much worse than it was before. From 1983, when a budget deficit first appeared, to 1990 the government was able to finance its overspending by drawing down its reserves, which at the start of the period stood at over $150 billion. In 1991 some $50 billion, much of what remained of the reserves, was used to pay the cost of the Gulf war. Since then the government has been left with a few tens of billions which are earmarked for backing the currency. In 1992 it started to borrow - initially a very sensitive matter both on religious grounds, in that it involved the payment of interest, and from the point of view of the government’s pride, in that it involved a tacit admission that the state could no longer be a universal benefactor, which without difficulty was going to build for its own people a perfect Muslim state, which was both devout and extremely comfortable.

While it has been borrowing, the government has been able to make a few savings. It has much reduced recruitment into the civil service, which virtually used to guarantee employment for young Saudis, and since 1993 it has made big cuts in agricultural subsidies. Less commendably, it has given a slightly false impression of reducing its spending by delaying capital projects - mostly for the maintenance or expansion of infrastructure built in the 1970s and 1980s - and stopping payments to contractors and suppliers. It has justified to itself the halt in payments by arguing that the contractors made fortunes from it in the good years, and now have a duty to help it when money is short. When it has enjoyed periods of relatively firm oil prices - as from mid-1995 to November 1997 - it has paid off the money it owes. All the time the government has gradually been lowering the expectations of its people - without ever telling them directly that they are going to be poorer.

Now the government has reached a point where, barring a quick and totally unexpected recovery in the price of oil, it has to make serious cutbucks, which sooner or later it will have to announce to its people. If its debts were mainly foreign, rather than domestic, it would be calling on the International Monetary Fund to arrange a rescheduling.