Divide & Conquer

Saudi Arabia is in the midst of an enormously ambitious plan to reshape its economy by diversifying away from oil and increasing the role of private industry.

There’s much more to the Saudi economy than its oil wealth; an ambitious and sweeping nationwide plan is underway to transform the Saudi economy by developing the infrastructure needed to support diverse and varied forms of economic activity. To do so, the Kingdom is drawing upon all its resources, leveraging its oil wealth, strong international relationships, and forward-thinking leadership to build a better future. It is a massive project, but the Middle East’s wealthiest country is confident it has what it takes to succeed.


Unsurprisingly, the world’s largest oil exporter has seen its economy slow significantly as the price of oil has fallen in recent years. After reaching a high of 9.95% GDP growth in 2011, the Kingdom saw its growth rates fall to 3.63% in 2014 and 3.48% in 2015 as decreased oil revenues led to a series of compounding effects throughout its economy. Despite a slight recovery in the price of oil after OPEC production cuts, 2016 was even more difficult, with GDP growth falling to 1.4%, the lowest since the 1.82% posted during the middle of the worldwide economic recession in 2009. The World Bank projects growth to continue to slow in 2017, falling to 0.6% despite a 2.1% increase in the non-oil economy. Unsurprisingly, Saudi Arabia has also seen corresponding budget deficits in recent years due to the lack of revenue. After posting a record SAR367 billion (USD97.8 billion) deficit in 2015, the shortfall shrunk to SAR297 billion (USD79.2 billion) in 2016, below original projections of a SAR326 billion (USD86.9 billion) deficit. This came about thanks to aggressive cuts in government spending; after expenditures of USD260.8 billion in 2015, government spending fell 15% to USD220 billion in 2016.
The 2017 Saudi budget, however, reflects the government’s confidence in the Kingdom’s financial standing and a recognition that increased spending is needed to achieve its larger economic goals. The 2017 budget calls for USD237.9 billion in government expenditures, an 8% increase over 2016, with an expected deficit of USD52.8 billion. While still maintaining fiscal prudence, spending on infrastructure, education, and health and social services are all increasing significantly, with USD11.2 billion scheduled to go to meeting National Transformation Program goals. The Kingdom’s long-term goal is to achieve a balanced budget by 2020 by raising energy prices and increasing its shares of non-oil related income, and performance through mid-2017 is on target to achieve that. The share of non-oil revenue, which is projected to be 31% of 2017 revenues, is expected to rise to 50% over that same timeframe.


First announced in April 2016, Saudi Arabia’s Vision 2030 is a wide-ranging blueprint for transforming the Kingdom’s economy. It proposes a vision of the economy that takes oil not as its cornerstone but as a springboard from which Saudi Arabia can use its natural resources to become a hub for investment and commerce. One of the central goals of the plan is to increase the role of the private sector in the Saudi economy; the private sector currently constitutes less than 40% of the Kingdom’s GDP, but the upcoming privatization of several key parts of the energy industry and the adaptation of new regulatory reforms should dramatically increase its role. The Vision Plan also calls for SMEs to become a larger part of the Kingdom’s economy. Currently, SMEs make up less than 20% of Saudi Arabia’s GDP and financial institutions provide only 5% of their funding. The Vision 2030 plan calls for the SME contribution to GDP to increase to 35% by 2030, thanks to a more robust entrepreneurial structure and the elimination of cumbersome regulations. The plan also calls for increased access to formal lines of credit with the goal of increasing the percentage of funding from financial institutions to 20% over the same time frame. At the same time, the Saudi government plans to launch incubators, venture capital funding centers, and training networks that draw upon the Kingdom’s international relations to build the skills a young and rapidly growing population needs to increase entrepreneurship.


The biggest privatization project currently underway, though, is the upcoming Saudi Aramco IPO, which is expected to be the largest public offering in history. The decision to sell a stake of Saudi Aramco, the Kingdom’s oil and gas production company, has massive financial and economic implications; as the centerpiece of the government’s privatization plan, the offering is in some ways expected to singlehandedly shift the balance in the Kingdom’s investment portfolio. It would seem an impossible goal for almost any other company, but Saudi Aramco is large enough for this not to be a pipe dream. Originally American owned, the Saudi government purchased shares of the what was then the Arabian American Oil Company until it was formally transferred to the government and renamed Saudi Aramco in 1988. Today, it controls all upstream, midstream, and downstream oil operations in the country and has a production capacity of 12 million bpd, making it the world’s largest oil producer and the cornerstone of the Saudi economy. It is no surprise, then, that the government’s announcement that it would be selling a 5% stake got financial markets across the globe eager to learn more. Preliminary valuations of Saudi Aramco estimate its net worth at a staggering USD2 trillion, making a 5% stake worth about USD 100 billion—easily the largest IPO of all time.
The Saudi government plans to use the money earned from the IPO to turn its Public Investment Fund (PIF) into the largest in the world. Vision 2030 calls for half the money earned from Aramco’s sale to be invested domestically, with the rest used to diversify the Kingdom’s investments away from oil, ensuring a stable source of national income. Government officials have been careful to explain that their goal is not to compete with the private sector but instead to work with it by using the PIF to form new developmental pathways that strengthen both the position the country’s domestic industries and its pool of international investments. By 2030, the goal is for the fund to be worth over SAR7 trillion (USD1.9 trillion). Long-term investment plans are already underway; in May 2017, PIF signed a deal with US investment group Blackstone, committing to invest USD20 billion in infrastructure spending, mostly in the US. It is an illustrative example of how the fund plans to slowly spread its reach worldwide; it uses Saudi Arabia’s long-existing relationship with the US to open up a new area of investment away from the global energy industry.

Though the government’s plans for the Saudi Aramco IPO and subsequent expansion of PIF are well structured, the sheer size of the undertaking has led to delays. Initially scheduled for early 2018, the Saudi Aramco IPO is now expected for to be held in late 2018 or early 2019. The primary factor behind the delay is the need for financial restructuring before Aramco can go public; Saudi leaders have had to make a number of decisions about how to structure the company in such a way to offer the best value to investors. One major hurdle was cleared in March 2017, when the government announced that it would reduce Saudi Aramco’s tax rate from 85 to 50%, reducing investor fears that the structure of the company was too closely linked to the government. The cut in the tax rate also reflects the Saudi government’s confidence that it is in a stable enough financial position to withstand the loss of some oil revenues even before PIF becomes a significant factor. Yet there are still investor concerns about the true valuation of the company and the role the Saudi government will play in making production decisions. Valuations have ranged from USD2 trillion (according to Prince Mohammed bin Salman) to USD1.4 trillion (according to private analysts), and the Saudi government has already announced that it will maintain control of all production decisions. This has raised the possibility of OPEC-led production cuts that could reduce investor gains. But even with all this, Saudi Aramco’s unique potential still has investors salivating. Its IPO, whenever it comes, will be transformational.


Even with the privatization programs underway, the Saudi government is expected to be the most significant part of the Kingdom’s economy for the near future, but government officials and industry leaders know that increasing personal consumption and the strength of the domestic private economy will be one of the key factors in the Kingdom’s growth. As part of its austerity measures, the Saudi government eliminated bonuses for public sector employees and cut minister salaries by 20%. The move, which was part of the National Transformation Plan’s mission to cut public sector wages from 45% of the budget to 40% by 2020, affected two-thirds of all working Saudi citizens. While part of a series of much-needed government cuts, the sudden and unexpected decrease in consumer purchasing ability had a significant impact on the larger Saudi economy. After oil prices rebounded in early 2017, the Saudi government announced the reversal of the cuts, announcing that the government was now in a more stable financial state and able to raise spending levels. The government also announced that banks would extend the generous lending policies they adapted immediately after the cut in order to increase private access to credit. These changes are not as glamorous as the Vision 2030 plan nor as earthshaking as the Aramco IPO, but they are arguably every bit as important for the Kingdom’s long-term financial health. For the Saudi economy to be successful, a thriving consumer industry must be established where middle-and lower-income Saudis are able to access credit and buy key consumer goods. The government’s recent actions bode well for domestic consumption and the economy as a whole.