Saudi Arabia burns through foreign reserves

Saudi Arabia is burning through its foreign reserves at a record rate as the kingdom seeks to maintain spending plans despite lower oil prices.

The central bank’s foreign reserves have dropped by $36bn, or 5 per cent, over the past two months, as newly crowned King Salman bin Abdulaziz al-Saud dips into Riyadh’s rainy-day fund and increases domestic borrowing to fund public sector salaries and large development projects.

The latest data show Saudi’s foreign reserves dropped by $16bn to $708bn in March, driven by public sector bonuses paid by King Salman after he assumed power in January. This follows a fall of $20bn in February. Saudi Arabia has spent $47bn of foreign reserves since October.

The king this week reshuffled his royal court, replacing Crown Prince Muqrin, one-time heir to the throne, as he seeks to shore up his power base and promote a younger generation of princes, including his son and nephew.

Significantly, the appointments of two well respected technocrats, labour minister Adel al-Faqih to the economy and planning brief and oil executive Khalid al-Falih to the health ministry, are meant to signal King Salman’s intent to tackle the country’s economic difficulties.

Unveiling his reshuffle, King Salman promised a bonus payment for military personnel engaged in the kingdom’s month-long bombardment of Houthi rebels in Yemen, a campaign that itself added pressure to state coffers.

“The military bonus could increase the drawdown,” said Monica Malik, chief economist at Abu Dhabi Commercial Bank. “Once this is paid, the pace of the reduction in reserves could moderate.”

However, Ms Malik also raised concerns about spending for 2016, which she said would depend on a recovery in oil prices. “There is a need to rationalise spending,” she said.

Brent crude, an international benchmark, was trading at $66 a barrel on Thursday.

The International Monetary Fund has warned Gulf states to cut spending on wages and subsidies to prevent the draining of national reserves.

“The [military] bonuses are not an encouraging sign,” said Steffen Herthog of the London School of Economics. “It shows the knee-jerk reaction to political challenges is to distribute more money.”

A combination of reserve drawdowns and domestic debt is expected to continue funding Saudi Arabia’s budget deficit, which bankers estimate will reach $100bn this year.

“[Riyadh] does have a very large cushion and can continue to draw down reserves and issue domestic debt for at least a couple more years,” added Prof Herthog.

However, delivering large-scale projects and more efficient social services remains a challenge for a kingdom that is also battling the rising threat from Islamist extremists.

ADCB data show the value of projects awarded in the first quarter of 2015 was down 10 per cent on the previous quarter.

While the awards were focused on areas such as health and housing, in line with the kingdom’s social objectives, this week’s reshuffle underlined Riyadh’s awareness of the need to implement economic reforms and reduce financial efficiencies.

The promotion of Mr Faqih, who has won praise for his reforms as minister of labour, to economy and planning is aimed at shaking up a ministry that is meant to knit together other departments into a unified development policy but which for years has struggled to do so. The ministry also plays a role in studying subsidy reforms, a policy conundrum for Saudi Arabia, as well as other Gulf states.

Mr Falih, who takes over at the health ministry that consumes about a fifth of the state’s budget, is the respected chief executive of Aramco, the state oil company. The royal family will hope Mr Falih, an Aramco veteran, will bring some of his organisational skills to the health brief. Aramco has traditionally been relied upon to deliver special projects for the government, even outside its core oil and gas market.

The royal family, whose social contract with the people offers cradle-to-grave care in return for loyalty, is seeking to reduce state subsidies without sparking popular anger. But analysts are unclear how quickly the government can move on such a sensitive topic.

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