Real GDP growth in KSA is expected to slow to 1.2% in 2016, but recover to 2% in 2017 as the pace of fiscal consolidation eases and to settle around 2.25 to 2.5% over the medium-term. Inflation has risen in recent months to over 4% as energy and water prices have been increased, and is expected to ease to 2% in 2017.
The observations were made by the Executive Board of the International Monetary Fund (IMF), which concluded an Article IV Consultation* with KSA on July 18, 2016. The board noted that bank deposits have declined, but growth of credit to the private sector remains strong. Capital buffers are high, non-performing loans (NPLs) low, and banks are well provisioned against loan losses.
Based on current policies, the IMF says that the fiscal deficit is projected to narrow to 13% of GDP in 2016. Non-oil revenues are expected to increase, while spending restraint, particularly on the capital side, will result in a substantial reduction in expenditure.
KSA has begun a fundamental policy shift to respond to low oil prices. The government has introduced a series of reforms over the past year and has recently set out plans for a bold and ambitious transformation of the Saudi Arabian economy in Vision 2030 and the National Transformation Program. Diversifying the economy, creating jobs for nationals in the private sector, and implementing a gradual, but sizable and sustained fiscal consolidation to reach budget balance in five years are key policy priorities.
Executive Directors** noted that KSA faces important challenges stemming from the decline in oil prices. They welcomed the authorities’ timely response, which, supported by sizeable fiscal buffers and a strong and resilient financial system, has maintained macroeconomic growth and stability. Nonetheless, the fiscal and current account balances have moved into deficit and growth is starting to slow. Directors highlighted the need for continued fiscal adjustment and reforms to strengthen and transform the Saudi Arabian economy. In this regard, they commended the authorities’ bold reform plans.
Directors welcomed the ambitious reform goals announced by the authorities in Vision 2030 and the National Transformation Program, and underscored the importance of clear prioritisation and sequencing of the planned reforms to reduce implementation risks and give the economy time to adjust. They supported the authorities’ plan to increase the role of the private sector in the economy by focusing on privatisation and public-private partnerships, improve the business environment, develop local capital markets, encourage foreign direct investment (FDI), and support small and medium enterprises. Directors noted that continued labor market and education reforms are needed to encourage private sector employment of Saudi nationals and increase labour force participation of women.
Directors agreed that a gradual but sizable and sustained fiscal consolidation is needed, and welcomed the adjustment under way. They generally agreed that balancing the budget over the medium term is an appropriate goal and encouraged the authorities to develop a credible medium-term plan to achieve this objective. They supported expenditure and revenue reforms, including continued gradual adjustment of energy prices with compensation for lower-income households, introduction of a VAT and excise taxes, containment of the government wage bill, and improved public investment management and spending efficiency. They recommended accompanying these measures with growth-enhancing structural reforms.
Directors emphasised the importance of developing a medium-term fiscal framework and strengthening the annual budget process, with better integration of the Public Investment Fund and Aramco into the budget. They encouraged the authorities to take an integrated asset-liability management approach to financing the fiscal deficit. They noted that government debt issuance would help establish a risk-free yield curve and support the development of domestic debt markets.
Directors noted that reforms have helped strengthen the financial system, and the banking sector is well positioned to weather lower oil prices and slower growth. They encouraged the authorities to continue to closely monitor credit quality, strengthen the macro-prudential framework, and finalise the framework for bank resolution and liquidity provision. They also recommended strengthening the liquidity forecasting and management frameworks of the central bank.
Directors agreed that the exchange rate peg to the US dollar is the best option for Saudi Arabia given the current structure of its economy, and emphasised that a continued fiscal adjustment is needed to support the peg. They saw merit in reviewing the peg periodically to ensure it remains appropriate, given the desired evolution of the economy away from its current reliance on oil.
Directors welcomed the improvements in economic statistics, but noted that further work is needed to fill remaining data gaps. Publication of more detailed budget data and updates would enhance transparency. Directors encouraged the authorities to subscribe to the Fund’s Special Data Dissemination Standard.
*Under Article IV of the IMF's Articles of Agreement, the IMF holds bilateral discussions with members, usually every year. A staff team visits the country, collects economic and financial information, and discusses with officials the country's economic developments and policies. On return to headquarters, the staff prepares a report, which forms the basis for discussion by the Executive Board.
**At the conclusion of the discussion, the Managing Director, as Chairman of the Board, summarises the views of Executive Directors, and this summary is transmitted to the country's authorities. Read an explanation of qualifiers used in summings up.