Saudi Arabia’s finances have been battered by a more than 50% slump in crude prices this year. The commodity still makes up the majority of government revenue four years into Prince Mohammed’s overhaul of the economy. Coupled with a strict curfew to contain the coronavirus, the Kingdom is set for its deepest financial turmoil in decades.
Tripling value-added tax (VAT) and cutting bureaucrats’ allowances will damage consumption and hurt the private sector that is key to Crown Prince Mohammed Bin Salman’s vision to diversify the economy away from oil.
And while raising VAT should help rein in a widening budget deficit, it will make the country less competitive than other Gulf states when it’s trying to attract more foreign investment.
“These are radical measures that underscore the gravity of the challenges facing the Kingdom,” said James Reeve, group chief economist at Samba Financial Group. “The measures send a message to the markets that the authorities are prepared to make tough choices to keep the deficit within bounds. The downside is that this is a further blow to the already stricken retail sector.”
The shift, announced early on Monday, May 12th, by Finance Minister Mohammed al Jadaan, has forced analysts to cut their growth projections for the Arab world’s biggest economy for a second time in just a few weeks. Samba’s Reeve has slashed his 2020 forecast and estimates growth will drop 3.7 per cent, while JPMorgan Chase & Co’s Giyas Gokkent now thinks his expectation of an overall contraction of 3 per cent is too optimistic.
Standard Chartered’s Bilal Khan revised his estimate to a 5% fall.
With no appetite to devalue the currency, and pressure to contain a deficit the International Monetary Fund predicts will hit around 13 per cent of output this year.
In a region that has built most of its industry outside of oil on the back of low taxes and cheap foreign labor, the challenge for Saudi Arabia will be remaining competitive against neighbors with much lower VAT and other rates. Some, such as the United Arab Emirates and Qatar, also have better infrastructure and allow expatriates more social freedoms.