Saudi Arabia released its budget for 2019 yesterday, and spending stood at 1.106 trillion riyals ($295 billion), representing a 7% increase from 1.03 trillion in 2018 and a record level for the Kingdom. With revenue forecast to hit 975 billion riyals, that means a 131 billion ($35 billion) budget deficit in 2019, or 4.2% of GDP.
This will be the sixth consecutive budget deficit in a row. To put it context, this is nearly double the size of Italy's projected deficit. What is perhaps even more concerning is that the oil price assumption used to achieve that balance is about 40% higher than where prices are today. What do they know about the oil market that the world does not, or is it just wishful thinking?
Given the heavy reliance on oil, the Kingdom has been making efforts to diversify away from oil revenue over the past few years, but they have a long way to go. According to the budget, Saudi Arabia expects non-oil revenue to increase from 287 billion riyals ($77 billion) in 2018 to 313 billion riyals ($83 billion) in 2019. Oil revenue is expected to grow nearly 10% from $162 billion in 2018 to $177 billion in 2019.
The number in itself does not seem concerning, but rather the assumptions used to arrive at this conclusion seem like a bit of a leap of faith. To hit $177 billion in oil revenue in 2019, it is assumed that their oil output is sold at about $80/bbl Brent vs. trading closer to $57/bbl on Wednesday. But for the budget deficit to balance, according to Bloomberg's Ziad Daoud, Brent would have to rise by an additional $15 to $95/bbl!
OPEC and OPEC+ have agreed to cut about 1.2 million barrels per day starting in January with hopes to support the oil price. But will this be enough? It all depends on so many moving factors. Trump tweets aside, the Kingdom will do what is necessary to keep a stable oil price to support their domestic growth ambitions. Currently, we are entering the key winter heating season, where usually a pick-up in distillate demand is evident. However, we are entering this season with relatively higher distillate inventories, so are more comfortable to weather a cold snap than, say, last year. Trump's Trade War does put a damper on things, as it is unclear how this will be resolved, and what the implications will be for first-quarter GDP and global demand for oil. The dollar is another point of contention, as a higher dollar lowers emerging market demand as they face higher debt servicing costs.
To put it simply, there is a lot of oil in the market, so if the market does undergo a recession or a slowdown, oil prices can, and will, trade lower. It is a commodity after all, and right now it seems we are living in a supply-driven world. If we are vexed by lower demand, then price will naturally fall to a level where the marginal supply is starved off to provide natural support. U.S. shale is the biggest threat to oil prices next year and can grow comfortably with WTI prices between $45-50/bbl, with some even more resilient as they have forward hedges in place.
If oil prices do not rise significantly, it is certain that Saudi Arabia will need to find alternative ways to balance its budget -- including tapping the debt market. This year started on such a positive note and ended in a way unimaginable by most. Similarly, a lot can change in 2019, but it is too early to say for now.