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28 March 2024

US downgrade to have little impact on Saudi

Published
By Nadim Kawach

The US credit downgrade will have little impact on Saudi Arabia’s financial position as it has sufficient assets to cushion a sharp fall in oil prices but the crisis has raised concerns about the Gulf country’s foreign assets.

While Saudi Arabia does not provide details of its assets abroad, the bulk of them are believed to be concentrated in US government bonds, the Riyadh-based Jadwa Investments said in a study sent to Emirates 24/7.

“We do not think ongoing events will have too great an impact on the Saudi economy, as the growth momentum is coming from high government spending that can be afforded comfortably,” it said.

The report said oil prices remain the main link between the global economy and that of the Kingdom given its heavy reliance on crude sales.

Recent developments have pulled oil prices down by more than 15 percent in little over a week, with Brent dipping below $100 per barrel for the first time since February and WTI hitting its lowest level since November 2010, it said.

“Nonetheless, prices remain above the $84 per barrel (Saudi export crude) we estimate is necessary to avoid a budget deficit this year…indeed, the average for the year to date for Saudi export crude is comfortably in excess of $100,” it said.

Jadwa said it believes that further signs of a worsening global economic environment could well push oil prices lower.

Should the US fall back into recession, it would be a more normal recession than in 2008, meaning the movement in oil prices would be much less severe. Rather than the spectacular drop in the second half of 2008, from almost $150 per barrel to just over $30 per barrel, prices could drop to between $50 and $60 per barrel.

“Even in this scenario, we do not think there would be much impact on Saudi government spending. Rather, the government would draw down its foreign assets to finance the spending, as it did in 2009. SAMA net foreign assets were $492 billion at the end of June, $49 billion above their 2008 peak,” Jadwa said.

“We think that US government bonds constitute the bulk of SAMA’s net foreign assets. It is not possible to determine the exact amount as SAMA does not publish a breakdown of its holdings and US government data refers only to ‘oil exporters’ and gives a total of just $221.5 billion at end-May, though this only captures direct purchases rather than those through foreign intermediaries and therefore understates the actual value.”

According to the report, SAMA has publically referred to three criteria it uses to manage its portfolio of reserves: safety, liquidity and long-term returns.

“The downgrade has clearly called into question the first of these criteria.  Nonetheless, no market outside the US offers the same level of liquidity, or the same array of financial instruments, so while SAMA will closely monitor the situation, we do not expect a major change in its asset allocation policy,” it said.

“The downgrade is negative for the dollar and therefore the riyal, but it should not trigger a significant short-term fall. In the first few days of trading after the downgrade, the dollar was fairly stable….we do not think the downgrade will have an impact on the exchange rate peg between the riyal and the dollar.”

Jadwa said that at the moment, the peg makes sense for Saudi Arabia for economic reasons including the reliance on dollar-denominated oil revenues and the potential damage to non-oil competitiveness and foreign investment any adjustment would cause.

“In addition, it is backed by a strong strategic commitment. We think it would take a serious decline in the dollar sustained over several years for there to be any reconsideration of the peg….a fall in the dollar will add to inflationary pressures in the Kingdom. In 2010, 46 percent of the Kingdom’s imports were from emerging markets, and these currencies are likely to climb the most against the dollar.”