(Bloomberg) – Saudi Arabia’s decision to extend its oil production cuts – part of a so far largely unsuccessful attempt to hike prices – could trigger an economic downturn in the country, which was the fastest-growing country in the Group of 20 last year.
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It would be a drastic reversal for the $1 trillion economy, which would grow nearly 9% in 2022 and help Crown Prince Mohammed bin Salman invest tens of billions of dollars in everything from sports to tourism to new cities .
The boom was fueled by record production of around 10.5 million barrels a day of crude oil and prices averaging $100 a barrel as Russia’s invasion of Ukraine roiled energy markets.
With the global economic slowdown now weighing on crude oil demand, Riyadh is cutting production this month to just 9 million barrels a day, a level the kingdom has rarely seen in the past decade. The move has increased prices, but only slightly. Brent is trading at around $78.50 a barrel, down almost 9% this year.
The cut in supply will be a drag on the world’s largest oil exporter. According to Bloomberg Economics, the economy will fall 0.1% this year if the government ramps up production in September and 1% if it stays the course for the rest of 2023.
“The Saudi cut could be costly,” said Jean-Michel Saliba, Middle East and North Africa economist at Bank of America Corp.
The US lender’s base case is for growth to slow to 0.9%. However, it forecasts a 0.6% drop if supply cuts are not reversed this year. A fall from this level would make Saudi Arabia the worst-performing economy in the G20 after Argentina, according to Bloomberg polls.
non-oil growth
Some analysts are optimistic that gross domestic product can grow even if cuts remain in place through 2024. Amy McAlister from Oxford Economics assumes a 0.3% increase in GDP in this scenario.
The story goes on
And the non-oil economy – which employs most Saudis and which the crown prince’s Vision 2030 plan aims to transform – remains thriving. Private companies outside the oil industry increased their orders in June at an all-time high, according to a purchasing managers’ index.
“This is the sector that’s really important for job creation and corporate profits,” said Ziad Daoud, chief emerging market economist at Bloomberg Economics.
The government expects the non-oil economy to grow 5.8% this year.
“Saudi Arabia’s economic transformation and diversification under Vision 2030 focuses on non-oil GDP,” said a spokesman for the Saudi Ministry of Finance.
Still, the drop in petrodollars has pushed the kingdom’s budget into deficit and could force it to borrow more.
There are already first signs of this. The government has sold $16 billion worth of Eurobonds so far this year, despite interest rates rising as the US and other central banks fight inflation. That’s more than what the kingdom spent in 2021 and 2022 combined, according to data compiled by Bloomberg.
Below the breakeven point
Many energy analysts, as well as Saudi Arabia itself, expect the oil market to tighten later in 2023 as demand increases in China and India. In such a scenario, prices would likely increase. Goldman Sachs Group Inc. expects crude oil prices to rise to $86 a barrel by December.
Currently, prices are well below what Saudi Arabia needs to balance its balance sheets. In its most recent forecast, the International Monetary Fund put the breakeven price of oil at almost USD 81 per barrel this year.
However, this is based on production of 10.5 million barrels per day. Also excluded are expenditures by the sovereign wealth fund and other government agencies for Prince Mohammed’s so-called giga projects, including the new city of Neom. Taking that into account, the breakeven rises to nearly $100 a barrel, says Bloomberg Economics.
Oil flows remain critical to Saudi Arabia, despite all the diversification efforts since Vision 2030 began in 2016. The commodity accounted for 80% of exports in 2022. That’s 93% if you include chemicals and plastics, most of which are derived from crude oil, according to Bloomberg Economics’ Daoud.
“Judging by the performance of the past seven years, there is still a lack of progress in this area,” he said of the diversification of the economy.
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