Opec oil output cut brings relief to Saudi Arabia

Posted on December 1, 2016

Opec’s market moving deal to cut output by 1.2m barrels a day has come as a relief to Saudi Arabia, the main force behind the accord, as Riyadh struggles to break out of a deep fiscal deficit.

The assumption in Riyadh has been that an Opec cut was needed to stabilise the oil price within a band of $50-$60 a barrel. Without a deal the economy would have plunged into a steeper spiral, setting the scene for a worse fiscal crisis next year.

“People are very happy, this is a real boost to sentiment,” said one banker in Riyadh. “The kingdom has reversed a policy that did not achieve its objectives. The fact is every Opec member needs cash now!”

Capital Economics said Saudi Arabia’s new output ceiling of 10.06m barrels a day would knock 0.75 to 1 percentage points off overall gross domestic product, but this would be offset by an increase in government revenue.

“That in turn might allow the government to ease the pace of fiscal austerity further, allowing for stronger growth in the non-oil sector,” wrote Jason Tuvey of Capital Economics in a note.

The kingdom, reeling from two years of low oil prices, had been desperate to break a monotonous procession of bad news in recent months.

Since the oil price fell in 2014, the government has burnt through $200bn in foreign reserves, putting pressure on the riyal’s dollar peg.

For the first time in its history, Saudi Arabia approached capital markets to raise a $17.5bn to stave off a domestic liquidity crisis exacerbated by the expensive, messy war in Yemen.

With confidence evaporating, the private sector has slipped towards the first recession since 1987 with the state leaving dozens of billions of dollars of invoices unpaid. An unpopular decision to cut public sector benefits hit the take home pay of 3m civil servants and drove down consumer sentiment.

But the kingdom still faces a sober future.

“The gains aren’t enough to turn the story around,” said Simon Williams, chief regional economist at HSBC.

Even at $55 a barrel, the government will face a large deficit that will require more borrowing and spending cuts, he said.

The International Monetary Fund in October forecast a 9.5 per cent deficit for 2017, compared with 13 per cent this year.

The government is considering tax increases and further cuts to salaries, subsidies and pensions. Longer term proposals to privatise swaths of the public sector will shunt more financial pain on to a population accustomed to easy jobs and a generous welfare system.

“Even if the Opec deal brings a more stable oil price, it’s imperative that the kingdom push ahead with reform,” said Mr Williams.

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