A view of Saudi Aramco’s headquarters in Dhahran.
Seth Clare and Samer Mosis*
Part 2: Saudi Arabia & Conclusion
To an even greater degree than Mexico, Saudi Arabia’s government rules under the auspices of an oil-fueled social contract— one where citizens exchange certain political freedoms for generous government salaries, consumption subsidies, and social welfare programs. Starting in the 1970s and growing lockstep with Saudi’s stature in global energy markets, the royal al-Saud family has utilized hydrocarbon export revenues to subsidize public utilities, large state payrolls, and free education and healthcare, all without ever levying a single income tax. By guaranteeing the average citizen a middle-class life, the royal family effectively purchases political legitimacy. Indeed, as one Saudi analyst noted, “by 1979 the rentier social contract…had come to define national politics.”[i]
At first glance, this isn’t the place a casual observer would expect to see populist economics wither on the vine. But Saudi Arabia has one of the world’s fastest growing populations (the citizenry quadrupled between 1970 and 2015), which means a social contract of this nature comes at considerable cost.[ii] Growing with the population, public expenditures rose at an annual average rate of 18%, or 462% over the last two decades and 182% over the last ten years.[iii] With some of the lowest per barrel extraction costs in the world and a leading voice among OPEC-members, Saudi Arabia has traditionally paid for these exploding costs with its oil exports. From 2007-2013, exports made up as much as 30-40% of GDP and 80-90% of total revenues.[iv]
Yet, since 2014, tectonic hydrocarbon market shifts, driven by the shale revolution and growing private and public sector concerns with climate change, have rendered this rentier state untenable. By 2015, oil revenues had shrunk by nearly $200 billion, or 50%, and what had been a 12% fiscal surplus just three years prior flipped to 16% deficit. [v] With spending on the social contract continuing as usual, Saudi’s foreign assets fell more than $115 billion in less than a year.[vi] Consequently, Saudi’s credit rating precipitously declined, which led to increasing borrowing costs at the worst of fiscal times.[vii]
This reversion of fortunes shed light on the long-building, populist market distortions within the Kingdom. In the years preceding the oil price crash, state subsidies provide Saudis with some of the cheapest energy in the world, putting a tremendous burden on public coffers. Below market energy costs fueled a misallocation of energy resources, protecting inefficient industries and encouraging wasteful consumption. This reduced the amount of exportable oil, with forgone export revenues estimated at $80 billion in 2015, or 12% of GDP.[viii] Furthermore, between 2000 and 2010, the kingdom’s energy intensity, a measure of a nation’s energy efficiency, was among the worst in the region, rivaled only by Iraq.[ix], [x]
Saudi leaders have long called for reforms to address these issues, with former Economy and Planning Minister Mohammed al-Jasser stating in 2013 that “these subsidies have become increasingly distorting to our economy.” [xi] Yet, for years these same leaders fell short of applying substantive reforms. Fortunately for the Saudis, the price collapse of 2014 has serendipitously occurred alongside the political ascent of Mohammed bin Salman (MbS), the young and powerful Deputy Crown Prince. Unlike some of his predecessors, he is matching words with actions in his quest to modernize the Kingdom’s economy and diversify Saudi industry. In light of the crash in oil prices, the young prince has pushed aggressively for energy subsidy reforms, the privatization of Saudi Aramco, and a shakeup of the Kingdom’s tax regime as he amassed substantial powers.[xii]
Collectively, these reforms are a part of the National Transformation Program 2020 and Vision 2030, both all-encompassing economic strategies aimed at fundamentally modernizing the Saudi economy by weaning it off oil. In short, while economic anxiety and anemic growth have fueled populist sentiment elsewhere, low oil prices have led to the start of some prudent planning and reform in the Kingdom.
To start, MbS began with low-hanging fruit, correcting domestic energy markets at the start of January 2016 by reducing subsidies on gasoline, diesel, crude oil, and natural gas, many of which doubled if not tripled in price as a result.[xiii] For MbS this is just the beginning; domestic fuel prices remain below free market pricing and he intends to cut subsides even further, albeit not entirely, by 2020.
The changes have not come without costs. Along with the unsurprising public outcry, two of the largest publicly traded companies in the Kingdom, SABIC and Ma’aden, announced that the subsidy revisions would reduce their respective revenues by 5% and 10%.[xiv]
But whatever the short-term drawbacks, these kinds of subsidy rollbacks are critical as they challenge the populist status quo that has existed for decades. Even as recently as 2010, the Saudi government publicly opposed universal energy subsidy reforms, no doubt because so many Saudi citizens view cheap living costs as their birthright.[xv] With crude prices in a sustained lull, that kind of entitlement has never come at a greater cost to the country. Yet, public sentiment suggests that this could be the right time for substantive policy changes. A Gallup Poll conducted well after the reduction of energy subsidies found that “despite a series of security and economic challenges facing Saudi Arabia, residents of the country — and Saudi nationals in particular — now express a heightened sense of optimism about their lives.”[xvi]
This positive outlook may well stem in part from another of the crown prince’s signature initiatives: the unfolding privatization of Saudi Aramco, arguably the most ambitious IPO of all-time. In spinning off just a 5% stake of the company, MbS believes he could bring in as much as $2 trillion – breaking the record for the largest equity sale in history – to finance his plans for economic diversification. Much has already been written about this upcoming historic IPO. Even if MbS’s $2 trillion price tag is a questionable figure, if managed well, Aramco’s listing of different tiers of shares domestically and internationally could be a boon to all Saudis. Listing shares locally will provide a liquidity boost to domestic capital markets and listing shares globally will open up parts of the domestic hydrocarbon industry to foreign ownership. Moreover, by funneling share revenues, as well as future oil revenues, into Saudi’s sovereign wealth fund, the Public Investment Fund (PIF), the IPO will play a key role in the PIF’s evolution from a largely inactive financial accounting tool into a well-diversified source of state revenues. Taking a page out of Norway’s book, this will effectively break the direct link between oil exports and government expenditures.[xvii]
Recent activity shows that the PIF’s evolution has already started. Since MbS started his political ascent, the PIF has invested $3.5 billion in Uber, $45 billion with SoftBank’s new technology fund and pledged another $20 billion as an anchor investment with Blackstone’s new US-focused infrastructure fund.[xviii] Markets have taken notice. After an April investment roundtable with PIF-head Yasir al-Rumayyan, Bill Ford, CEO of private equity firm General Atlantic said, “This was a coming-out party for the PIF…Every global investor should have a relationship with Mr. al-Rumayyan.”[xix]
Yet, one of the less appreciated aspects of the IPO will be the limitations it sets on the royal family’s ability to utilize Saudi Aramco as a personal bank. The mega-oil company has not only financed the Kingdom’s budget for decades, but has also supported much of the royal family’s lavish lifestyle by way of Saudi Aramco’s opaque financial practices.[xx] Having to provide audited financial statements, a requirement for pubic listing, will inject some transparency into a historically secretive company, in turn allowing the public to view how Aramco’s proceeds are used. This will put certain limits on how much, and in what form, the Saudi state and royal family use the land’s oil rents.
In this sense, MbS’s social contract revisions have not only acted as a first step in limiting the public welfare state, but also as a first step in limiting the royal family’s excesses. Without both changes happening simultaneously, ordinary Saudi citizens would be more likely to oppose the ongoing social welfare revisions. As esteemed Gulf energy scholar Dr. Jean-François Seznec stated, “The government wants to show the major asset of the kingdom is developed in a transparent way so everyone knows what that asset is earning and where the money’s going…If you want people to pay for sacrifices, to pay more for gasoline and value-added taxes, the public should know the royal family is, too.”[xxi]
Building public support will be key to MbS’s fiscal reforms even if Saudis continue to enjoy zero taxes on either individual incomes or company profits. New airport fees and a transportation tax are mere overtures. With Saudi Arabia leading the charge, the Gulf Cooperation Council has agreed to new “sin taxes”: a 50% markup on soft drinks and 100% on energy drinks and tobacco products.[xxii] These new excise taxes are not to be confused with the even more ambitious adoption of a value-added tax (VAT) to be levied in 2018. The Saudis will not only have to write the complex tax from scratch, but also communicate its nuances to local businesses. Some experts do not believe that the planned start date in 2018 is a feasible amount of time for businesses to comply with all the complexities of a VAT. Consulting juggernaut Deloitte is even hosting “VAT academies” in Saudi Arabia to educate local legal and finance experts.[xxiii] The 5% levy enjoys backing from the IMF and if successful, will free up investment in economic diversification. [xxiv]
To be sure, many believe these reform measures are nothing more than knee jerk, cosmetic changes to the prototypical conservative, oil-dependent Middle Eastern country. Yet, it is this oil-dependence and conservatism that makes the breadth and depth of these reforms particularly noteworthy. Many of the reforms will face resistance and roll-back; this, however, is to be expected.
For example, September 2016 austerity measures – which cut some public salaries by up to a third, fueled public grumbling, and drove a 3.8% drop in the Saudi stock market benchmark Tadawul All Share Index – saw partial rollbacks in April 2017.[xxv], [xxvi] Yet in the seven months between the announcement and roll-back, the Q1 2017 fiscal deficit turned out to be $6.93 billion instead of the initially projected $14.4 billion, and the Tadawul All Share Index gained over 25%.[xxvii] While some of these gains are surely due to the rise in oil prices, MbS has shown the citizenry with the April austerity reversion that when there are economic results, they will be shared across the socioeconomic spectrum. While we expect to see additional public pushback before Saudi Arabia embraces a more open, transparent energy market, a more equitable sharing of hardships and windfalls between Saudi’s rulers and people will be necessary for earning the public’s trust and building support for further economic reforms down the road.
To conclude, we wish to point out that for all the attention populism now enjoys in Europe and America, in some ways it now seems to be retreating in certain hydrocarbon-producing states longed plagued by populist economic thinking. Although not as systemic as in Mexico and Saudi Arabia, progress is being made in other resource-dependent nations. A delayed oil industry reform bill to tackle corruption and overhaul the tax regime is working its way through Nigeria’s legislature and could finally be passed before the end of the year.[xxviii] In the hopes of triggering a natural gas renaissance, Argentinian President Mauricio Macri has struck a deal with energy worker unions to create a more flexible labor market and bring new foreign players into the Belgium-sized Vaca Muerte shale play.[xxix] In forming its 2017 State Budget, former OPEC member Indonesia conducted a first-of-its-kind review to catalog and evaluate its many energy hand-outs and President Joko Widodo’s administration is on track to halve Indonesian diesel subsidies.[xxx]
In our view, these kinds of encouraging developments can all be traced back to the sustained weakness we now see in commodity prices, which have vastly increased the opportunity costs of populist economics. To be sure, this is not occurring everywhere. While many would point to Venezuela in making this point, we are deeply troubled by the fact that that the US energy industry also seems to be moving in the opposite direction of Mexico and Saudi Arabia. Though PEMEX and Saudi Aramco are each poised to begin an era of unprecedented transparency, the US Senate voted in February to repeal a regulation requiring US energy companies to disclose payments to foreign governments. It had been implemented to minimize corruption by ensuring that royalties were always transparently made to foreign states.[xxxi] As Mexico opens itself to new foreign partnerships, the US is shying away from free trade as it lays out new red tape for companies wishing to sponsor foreign, technically-skilled workers to come to America with H-1B visas.[xxxii] This may not bode well for the oil and gas industry, a major employer of engineers and other highly-skilled labor. While Saudi Arabia prepares to give the world an unprecedented look into Saudi Aramco’s murky finances for its IPO filing, open source data provided by the US government is disappearing.[xxxiii]
In light of these developments, it must not be taken for granted that institutions are mutable. For decades, the free market, rule of law, and transparency for investors that characterized the US oil industry has served as a foil to the inefficient PEMEX and secretive Saudi Aramco. But as we have hopefully shown, even institutions as vast and entrenched as the oil sector can change, sometimes faster than we expect. We urge American policymakers to consider the long-term impact that less transparency, fewer foreign workers, new trade barriers, and other populist policies will have on our long-term oil and economic output. Energy supply chains are simply too globalized for an “America-first” strategy to be productive, and with $50 per barrel the new normal, the pursuit of populist fiscal policies will become more costly. All oil producing states, the United States included, would do well to follow Mexico and Saudi Arabia’s lead in this respect.
Seth Clare and Samer Mosis were classmates in the Johns Hopkins School of Advanced International Studies (SAIS) class of 2016 in Washington DC. At SAIS, Seth pursued a concentration in energy, resources, and the environment while Samer focused on international economics and the Middle East. They now work as senior commodity pricing specialists at S&P Global Platts in Houston. Prior to joining Platts, Seth, a student of Spanish, worked with the US Department of the Treasury, UCLA’s Resnick Program for Food Law and Policy, and the Israeli Ministry of Foreign Affairs. Samer, an Arabic-speaker, has spent time with the Lafayette Group, US Department of the Treasury, and Tahrir Institute for Middle East Policy.
*The views and opinions expressed in this article are solely those of the authors, who are writing from the perspective of John Hopkins SAIS alumni and do not in any way represent the views of S&P Global Platts, its affiliates and/or any of its employees.
[i] Steffen Hertog, “A Rentier Social Contract: The Saudi Political Economy since 1979,” Middle East Institute, Feb. 22, 2012, http://www.mei.edu/content/rentier-social-contract-saudi-political-economy-1979.
[ii] The World Bank, World Development Indicators (2016).
[iii] Kingdom of Saudi Arabia, “Fiscal Balance Program: Balanced Budget 2020,” March 2017,
[iv] The International Monetary Fund, “Saudi Arabia 2016 Article IV Consultation,” IMF Country Report No. 16/326, November 2016, http://www.imf.org/external/pubs/cat/longres.aspx?sk=44328.0; The International Monetary Fund, “Saudi Arabia: 2011 Article IV Consultation” IMF Country Report No. 11/292, September 2011, http://www.imf.org/external/pubs/cat/longres.aspx?sk=25252.0.
[v] The International Monetary Fund, “Saudi Arabia 2016 Article IV Consultation,” IMF Country Report No. 16/326, November 2016, http://www.imf.org/external/pubs/cat/longres.aspx?sk=44328.0.
[vi] Saudi Arabian Monetary Authority, “Monthly Statistical Bulletin,” March 2017, http://www.sama.gov.sa/en-US/EconomicReports/Pages/MonthlyStatistics.aspx.
[vii] Myles Udland, “S&P downgrades Saudi Arabia’s debt rating again,” Business Insider, February 17, 2016, http://www.businessinsider.com/sp-downgrades-saudi-arabia-2016-2.
[viii] Jadwa Investment, “Fiscal Balance Program 2020,” Macroeconomic Reports, February 2017, http://www.jadwa.com/en/download/fiscal-balance-program-2020/research-13-1-1-1-1-1-1-1-1.
[ix] Carlo Sdralevich, et al. “Subsidy Reform in the Middle East and North Africa: Recent Progress and Challenges Ahead,” The International Monetary Fund, 2014.
[x] Kate Dourian, “Saudi Arabia Warns Domestic Oil Use Growing at ‘Frightening Level.’” S&P Global Platts, November 26, 2012, https://www.platts.com/latest-news/oil/dubai/saudi-arabia-warns-domestic-oil-use-growing-at-7284877.
[xi] Michael Peel, “Subsidies ‘distort’ Saudi Arabia economy says economy minister,” Financial Times, May 7, 2013, https://www.ft.com/content/f474cf28-b717-11e2-841e-00144feabdc0.
[xii] “The Saudi Blueprint,” The Economist, January 9, 2016, http://www.economist.com/news/leaders/21685450-desert-kingdom-striving-dominate-its-region-and-modernise-its-economy-same.
[xiii] Adal Mirza and Dex Wang, “Saudi Arabia hikes price of gas for power production, ethane, gasoline in 2016 budget,” S&P Global Platts, December 29, 2015, https://www.platts.com/latest-news/natural-gas/dubai/saudi-arabia-hikes-price-of-gas-for-power-production-26323825.
[xiv] Glen Carey and Zaid Sabah, “Saudi King Fires Water Minister After Complaints Over Tariffs,” Bloomberg, April 24, 2016, https://www.bloomberg.com/news/articles/2016-04-24/saudi-king-fires-water-minister-after-complaints-over-tariffs; Ma’aden, “Addendum Announcement From Saudi Arabian Mining Company (Maaden) Related To The Effect Of The Ministerial Decision To Amend The Prices Of Energy Products And Electricity Tariffs,” January 3, 2016, http://www.maaden.com.sa/en/news_details/277.
[xv] Laura El-Katiri, “Vulnerability, Resilience, and Reform: The GCC and the Oil Price Crisis 2014-2016,” Columbia Center on Global Energy Policy, December 20, 2016, http://energypolicy.columbia.edu/publications/report/vulnerability-resilience-and-reform-gcc-and-oil-price-crisis-2014-2016.
[xvi] Mohamed Younis, “Saudis See Hope After Oil,” Gallup, August 8, 2016, http://www.gallup.com/poll/194210/saudis-hope-oil.aspx.
[xvii] Laura El-Katiri, “Vulnerability, Resilience, and Reform: The GCC and the Oil Price Crisis 2014-2016,” Columbia Center on Global Energy Policy, December 20, 2016, http://energypolicy.columbia.edu/publications/report/vulnerability-resilience-and-reform-gcc-and-oil-price-crisis-2014-2016.
[xviii] Simeon Kerr, “Sleepy Saudi sovereign wealth fund wakes and shakes global finance,” Financial Times, January 28, 2017, https://www.ft.com/content/bd3d7c34-b877-11e6-961e-a1acd97f622d.
[xix] Maureen Farrel, “Buyout Firms Eye Gusher of Cash From Aramco IPO,” Wall Street Journal, June 5, 2017, https://www.wsj.com/articles/buyout-firms-eye-gusher-of-cash-from-aramco-ipo-1496655005.
[xx] J.F. Seznec, “Saudi Energy Changes: The End of the Rentier State,” The Atlantic Council Policy Brief, March 24, 2016, http://www.atlanticcouncil.org/publications/reports/saudi-energy-changes-the-end-of-the-rentier-state.
[xxi] Mass Passwaters, “Analysts call for Saudi transparency as kingdom prepares for massive Aramco IPO,” SNL Market Intelligence Thursday, May 11, 2017.
[xxii] Great Speculations, “Oil Price Swings Spark Cigarette Taxes In Saudi Arabia,” Forbes, February 10, 2017, https://www.forbes.com/sites/greatspeculations/2017/02/10/oil-prices-have-to-do-with-cigarette-prices-in-saudi-arabia/#3739a0626ce6.
[xxiii] “Deloitte to house VAT academies in Saudi, Bahrain,” TradeArabia, May 14, 2017, http://www.tradearabia.com/news/BANK_325004.html.
[xxiv] Dima Jardaneh, “Saudi Arabia – Scaling Back Austerity,” Standard Chartered, April 24, 2017.
[xxv] “King Announces New Austerity Measures,” Saudi Gazette, Sept. 27, 2016, http://saudigazette.com.sa/saudi-arabia/king-announces-new-austerity-measures/.
[xxvi] Glen Carey and Vivian Nereim, “Saudi King Cuts Once Untouchable Wage Bill to Save Money,” Bloomberg, September 27, 2016, https://www.bloomberg.com/news/articles/2016-09-26/saudi-arabia-cancels-bonus-payment-for-state-employees-spa-says.
[xxvii] “Saudi Arabia cuts deficit by half in first quarter – deputy economy minister,” Reuters, September 22, 2017, http://af.reuters.com/article/commoditiesNews/idAFL8N1HU0MY.
[xxviii] Camillus Eboh, “Nigeria’s senate aims to pass delayed oil reform bill before end-2017,” Reuters Africa, April 27, 2017, http://af.reuters.com/article/nigeriaNews/idAFL8N1HZ8UC.
[xxix] Reuters Market News, “Argentina clinches labor/subsidy deal to attract energy investment,” Reuters, January 10, 2017, http://www.reuters.com/article/argentina-gas-idUSL1N1F00IV.
[xxx] Philip Gass and Lucky Lontoh, “Indonesia Energy News March 2017,” Global Subsidies Initiative, March 30, 2017, https://www.iisd.org/gsi/news/indonesia-energy-news-march-2017.
[xxxi] Timothy Cama, “Senate votes to repeal transparency rule for oil companies,” The Hill, February 3, 2017, http://thehill.com/policy/energy-environment/317700-senate-votes-to-repeal-transparency-rule-for-oil-companies.
[xxxii] Ileana Najarro, “Companies file for H1B visas while waiting on Trump to address outsourcing woes,” April 7, 2017, http://www.houstonchronicle.com/business/article/Firms-file-for-H1B-visas-while-still-waiting-on-11059001.php.
[xxxiii] Joshua New, “Why is federal government data disappearing?,” The Hill, February 2, 2017, http://thehill.com/blogs/pundits-blog/technology/320511-why-is-federal-government-data-disappearing.