(Bloomberg) — Saudi Arabia’s decision to extend oil production cuts — part of a largely failed attempt to raise prices — could trigger an economic contraction in what was the fastest growing country in the G20 last year.
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It would be a stark turnaround for the $1 trillion economy, which is up nearly 9% in 2022, helping Crown Prince Mohammed bin Salman invest tens of billions of dollars in everything from sports to tourism and new cities.
The boom was driven by record crude production of around 10.5 million barrels per day and prices averaging $100 a barrel as Russia’s invasion of Ukraine rattled energy markets.
With the global economic slowdown now weighing on demand for crude oil, Riyadh is cutting its production this month and only near 9 million barrels per day, a level the kingdom has rarely reached in the past decade. This move raised prices, but only slightly. Brent crude is trading around $78.50 a barrel, down about 9% this year.
Lower supplies would be a burden on the world’s largest oil exporter. The economy will decline by 0.1% this year if the government raises production in September and by 1% if it stays on track for the rest of 2023, according to Bloomberg Economics.
Jean-Michel Saliba, Middle East and North Africa economist at Bank of America Corp. “Saudi cut could be costly.”
The base case for the US lender is to slow growth to 0.9%. But it expects a contraction of 0.6% if supply cuts are not reversed this year. A drop to this level would make Saudi Arabia the worst performing economy in the G-20 after Argentina, according to Bloomberg polls.
non-oil growth
Some analysts are optimistic that GDP can grow even if cuts remain in place into 2024. Amy McAllister of Oxford Economics sees GDP rising by 0.3% in this scenario.
And the non-oil economy – where the bulk of Saudis work and which the crown prince’s Vision 2030 plan aims to transform – is still thriving. Private firms outside the oil industry boosted orders at the fastest rate on record in June, according to the Purchasing Managers’ Index.
“This is the sector that is really important for job creation and corporate profits,” said Ziad Daoud, chief emerging markets economist at Bloomberg Economics.
The government says the non-oil economy will likely expand 5.8% this year.
“Saudi economic transformation and diversification within the framework of Vision 2030 is focused on non-oil GDP,” said a spokesperson for the Saudi Ministry of Finance.
However, the slide in petrodollars has put the kingdom’s budget in deficit and could force it to borrow more.
There are already some signs of that. The government has sold $16 billion in Eurobonds so far this year, despite rising interest rates as the United States and other central banks battle inflation. While Saudi officials said that was due in part to refinancing existing debt, it was more than the kingdom issued in 2021 and 2022 combined, according to data compiled by Bloomberg.
below the break-even point
Many energy analysts, as well as Saudi Arabia itself, expect the oil market to shrink through the rest of 2023 as demand grows in China and India. In such a scenario, prices are likely to go up. Goldman Sachs expects the price of crude oil to jump to $86 per barrel by December.
For now, prices are well below what Saudi Arabia needs to balance its books. The International Monetary Fund, in its latest forecast, put the breakeven oil price for this year at around $81 per barrel.
However, it is based on a production of 10.5 million barrels per day. It also rules out spending by the sovereign wealth fund and other state entities on Prince Mohammed’s so-called giant projects, including the new city of Neom. Bloomberg Economics says that breakeven rises to nearly $100 a barrel when factored in.
Oil flows remain crucial for Saudi Arabia, despite all its diversification efforts since Vision 2030 began in 2016. The commodity accounted for 80% of exports in 2022. The figure is 93% when chemicals and plastics are included, most of which are derived from Crude oil, accordingly. David from Bloomberg Economics.
“Judging by the performance over the past seven years, progress in this area remains weak,” he said of the diversification of the economy.
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