High spending to spur Saudi growth

Global market turbulence could hit business confidence in Saudi Arabia in the short run but the domestic economy will not be impacted as high spending will spur growth, a Saudi investment firm said on Tuesday. Jadwa Investment said new economic data in the US and other Western nations showed that a global recession will be avoided and that the global economy is set for a period of slow growth. “High government spending should enable the kingdom’s economy to prosper despite this weakness….we do not foresee oil prices declining to a level that would jeopardize government spending,” the Riyadh-based company said in a study sent to 'Emirates 24|7'.

“We estimate it will take an oil price of |84 per barrel (Saudi export crude) for a budget surplus this year and $79 per barrel in 2012… even if prices fall below this level, spending can be financed by drawing down government reserves.”

In the short term, the study added, the volatility on global stock markets will hit “investor and business confidence” in the Kingdom. The report showed that the Saudi stock index moves fairly closely in line with global markets and has fallen by 7.4 percent so far this month.

“Although the index now looks attractively valued, more volatility on global markets is likely. New data releases will be monitored closely and investors remain concerned about the willingness and ability of policymakers to tackle the economic issues they are facing,” it said.

In the Eurozone these focus on the support the economically stronger nations provide to the weaker ones, according to Jadwa.It said that a series of stop-gap measures over several years have bought some time, but have proved unable to draw a line under the problems in Greece or to prevent them from spreading. In the US, political wrangling places more pressure on the Federal Reserve to support the economy.“As part of this process, after its most recent meeting the Fed announced that it planned to keep interest rates unchanged for two more years,” Jadwa said.

“This move has important implications for Saud Arabia, owing to the riyal’s peg to the US dollar. The peg means that interest rates in the Kingdom are closely aligned with those in the US. As there are no controls on the movement of capital into or out of the Kingdom, should any significant differential open between Saudi and US interest rates, this would likely trigger a flow of funds, into the Kingdom if local rates were much higher than those in the US and vice versa.”

The study said that the benchmark US interest rate, the Fed funds rate, has been at 0.25 percent since December 2008 and the Fed’s latest statement suggests it will be at this exceptionally low level for a total of nearly five years. “For much of this time very low interest rates have been appropriate for Saudi Arabia, with inflationary pressure low and little growth in bank lending,” it said.

“However, the case for keeping interest rates very low in the Kingdom for another two years is less compelling. Although we think it likely that inflation will ease from the end of this year, the source of inflation will shift from international forces (primarily higher prices of foods and other commodities) to local ones, as government spending and bank lending accelerate.”Jadwa said it believed that a weak US dollar and very low interest rates, combined with inflationary pressures and healthy economic growth within Saudi Arabia could lead to pressure on the exchange rate peg.It said Eurozone tensions are likely to impact on the progress toward a single GCC currency, as the model used by the EU is the basis for the GCC approach.

“An increasing number of Eurozone countries are requiring support to meet debt repayments at the same time as all member economies are slowing.

With austerity measures introduced across the region, voters are questioning why they should make cutbacks to help other member countries,” it said.“An institutional arrangement appears essential for the effective functioning of a regional single currency, but we do not think the GCC will be any more inclined to adopt it than Eurozone members….GCC countries have struggled to agree to a formula to distribute customs revenues since the introduction of a customs union in 2003 and argued the hosting of the regional central bank, which does not augur well for the need for greater financial cooperation.”

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