Falling oil prices and Saudi stability

Crude oil dipped below $47 this week.

By SHMUEL EVEN, YOEL GUZANSKY
Updated: SEPTEMBER 30, 2015 21:31
OIL DERRICKS. (photo credit: REUTERS)
OIL DERRICKS.
(photo credit: REUTERS)
How much is the low oil price hurting Saudi Arabia, given its commitments to spending at both home and abroad? The drop in oil price will make it difficult for Saudi Arabia to maintain its development momentum and high standard of living. This has been especially important since the beginning of the “Arab Spring,” because of the infusion of cash required to quell social-political tensions.
Crude oil dipped below $47 this week.
Low oil prices seem to match the Saudi strategy to protect market share, maximize oil reserves in the long run and even hamper the reconstruction of the Iranian economy. A drop in shale oil production in North America would be music to Riyadh’s ears. But an ongoing drop in oil prices conflicts with its strategy for domestic survival, which requires a high level of wealth even in the short term.
In the recent years, around 80 percent of Saudi Arabia’s government revenues stem from the sale of oil, oil products and gas, and this income enables the regime to provide its citizens with a high standard of living. Oil revenues translate into highly subsidized services and products.
The regime is also the largest employer and the source of salary increases and bonuses, none of which is taxed. On the other hand, citizens have no political rights, and the society-state contract is bound by the notion that the ruler takes care of his subjects while they agree to non-interference in politics – hence the close correlation between oil revenue and regime stability (the ongoing war in Yemen, which started in March and shows little sign of abating, is also believed to have weighed heavily on Riyadh’s finances).
Saudi Arabia is expected to end the year with a deficit of up to $150 billion, the largest in its history. However, public spending remains high: public expenditures in 2015 are forecast to break 1.2 trillion Saudi Arabian riyals ($321.8b.) in 2015, almost twice 2010 levels. So far, the government has allocated some $10b. a month from its foreign currency reserves to finance its expenses. According to IMF the kingdom’s foreign currency reserves dropped from $724b. in late 2014 to $660b. in June 2015. The kingdom’s reserves are still significant, but this loss and the uncertainty over the duration of the current slump require a policy of expenditure cutting, a policy with risks of its own.
Saudi Arabia has oil reserves of around 270 billion barrels (amounting to 16 percent of proven world oil reserves) means that at current production levels of just under 10 million barrels a day Saudi Arabia could keep pumping for almost 75 years. But with crude oil selling for around $40 a barrel, it would run out of cash reserves long before that, unless spending is cut. The IMF is urging a policy of cutting subsidies and generating income, via taxation if necessary. However, in early 2015, when Kuwait tried to cut the diesel subsidy, public outrage caused the kingdom to reverse its decision.
That incident demonstrated to the Arab monarchies in the Gulf the risk involved in such moves.
The current Saudi strategy is unsustainable in the medium to long term.
The singular aspect of the current slump in the oil market is its occurrence at the height of the Middle East upheavals. This convergence of factors is problematic for the Gulf monarchies, and even more so for the nations economically connected to them, like Jordan and Egypt.
The high oil prices and foreign currency reserves from the outbreak of the unrest until 2014 helped the regimes in the Gulf maintain their citizens’ high standard of living. The big challenge now is to navigate this slump in peace and quiet. Given the uncertainty over its duration, the current strategy consists of a controlled use of monetary reserves and budget cuts so as to minimize the damage to the standard of living and the risk of public discontent. However, sentiment is difficult to control, especially given the presence of subversive elements. Consequently, the risk to the stability of Saudi Arabia is on the rise.
The writers are researchers at the Institute for National