Fitch Ratings has upgraded Saudi Arabia’s Long-term foreign and local currency Issuer Default Ratings (IDR) to ‘AA’ from ‘AA-’. The Outlooks are Stable. The Country Ceiling has been upgraded to ‘AA+’ from ‘AA’ and the Short-term foreign currency IDR has been affirmed at ‘F1+’.
Key Rating Drivers:
The upgrade of Saudi Arabia’s IDRs reflects the following key rating drivers and their relative weights:
The strong sovereign and external balance sheets have been bolstered. The net creditor position is the strongest of all Fitch-rated sovereigns bar Macao, with government deposits in the banking sector rising to 58.7% of GDP at end-2013 compared with general government debt of just 0.6% of GDP. Net external assets climbed to over 100% of GDP at end-2013, well in excess of the peer median and the position of Kuwait and Abu Dhabi (both AA/Stable). Saudi Arabia does not have sovereign external debt. Although narrowing, forecast fiscal and external surpluses will support these substantial buffers.
The authorities have continued to take steps to address unemployment and a shortage of affordable housing, both of which Fitch considers potential economic sources of social instability.
Labour market reform has continued, with a normalisation of the status of expatriate workers (achieved through a change in the work visas of around four million expatriates to correct their employment status and the repatriation of around one million illegal workers) and efforts to increase the participation of nationals in the labour force. Saudi employment in the private sector increased significantly in 2013. However, at 11.5%, unemployment of nationals is still some way above the peer median and Fitch assumes that underemployment in the public sector is high.
Work to increase the supply of public sector housing continues and greater private sector provision of housing has moderated rental inflation. A package of mortgage laws has been approved. Although government interventions in the labour and housing markets have been costly, they have been taken from a position of budgetary strength and have generally caused little undue disruption to the private sector.
Banking soundness indicators have improved. Non-performing loans had fallen to 1.4% at end-2013 and coverage had risen to 155%. Capital adequacy is high, at 17.9%, and the system is well regulated. Saudi Arabia is ranked ‘a’ on Fitch’s banking system risk indicator (BSI), the strongest of all GCC members and below only ‘AAA’ rated Australia, Canada and Singapore.
Domestic oil consumption has declined, easing pressure on the fiscal breakeven oil price. Although the decline stems primarily from greater availability of gas, rather than a fall in overall energy consumption, the opportunity cost of using oil instead of gas domestically is substantial given the differential between global and local oil prices and the lack of gas export infrastructure. New energy efficiency measures have been introduced and public awareness of the distortions caused by low energy prices is rising. However, no change in pricing is expected over the forecast period.
Spending trends over 2013, including a likely peak in capital expenditure and the first reduction in the government wage bill since 2001, combined with a relatively conservative projection for spending growth in the 2014 budget also point to a moderation in the growth in the breakeven oil price in the next few years.
Saudi Arabia’s ‘AA’ IDRs also reflect the following key rating drivers:
Real GDP growth is in excess of peers and non-oil growth is faster still. Growth slowed to 3.8% in 2013 owing to lower oil production. Non-oil growth was robust, at 5%, and has outpaced growth in the oil sector for seven of the past eight years. The volatility of growth is below peers. Substantial government spending, completion of major projects, and higher employment of nationals should keep non-oil growth around 5% over the forecast period.
The economy is heavily dependent on oil, which accounts for 90% of fiscal revenues and 80% of current account revenues, levels that are little changed over the past decade. However, large and growing buffers mean it would take a prolonged period of much lower oil prices to materially undermine the fiscal and external positions, though the fiscal breakeven oil price continues to rise, to an estimated $84/b (Brent) in 2013. Oil reserves are large and the Kingdom maintains substantial spare capacity that it uses to smooth disruption to production elsewhere. Large new non-associated gasfields will come on stream in 2014.
Structural indicators are generally weaker than peers. GDP per capita, Human Development indicators and World Bank governance indicators are all well below peer medians. According to the World Bank measure, voice and accountability is the lowest of all rated sovereigns. Fitch considers exposure to geopolitical risk to be higher than peers given the Kingdom’s prominent role in a volatile region.
Fitch considers the exchange rate peg to the US dollar to be a key policy anchor, even though it constrains policy flexibility. Transparency on fiscal policy and outturns is a weakness relative to peers and overspending is common.
The Stable Outlook reflects Fitch’s assessment that upside and downside risks to the rating are currently well balanced. Consequently, Fitch’s sensitivity analysis does not currently anticipate developments with a high likelihood of leading to a rating change.
The main factors that, individually or collectively, could lead to positive rating action are:
- Progress in tackling weaknesses in structural indicators and the economic policy framework, relative to peers, and enhancing the business environment in ways conducive to further diversification of the economy and the revenue base.
The main factors that, individually or collectively, could lead to negative rating action are:
- A material erosion of fiscal and external buffers, likely stemming from a prolonged period of sharply lower oil prices or rapid growth in the fiscal breakeven oil price.
- Spill over from regional conflicts or a domestic political shock that threatens stability or affects key economic activities.
The ratings and Outlooks are sensitive to a number of assumptions.
Fitch forecasts Brent crude to average $100/b in 2014 and 2015.
Fitch assumes that Saudi Arabia will not be materially affected by any of the conflicts in the region and that the domestic political scene will remain stable.
Fitch assumes the government will remain committed to labour market reforms and that the reforms will not cause significant disruption to the economy. The authorities will remain attentive to other potential sources of social unrest.
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