Lower oil prices rather than political risk remain the key development this year for Saudi Arabia's credit profile, after the smooth succession triggered by the death of King Abdullah, Fitch Ratings says. The clear and agreed succession process reduces the risk of political uncertainty as senior royals age (King Abdullah was 91 and his successor is 79). It also suggests broad continuity in economic and social policy. The accession of King Salman was quickly followed by the nominations of Prince Muqrin, established as second in line to the throne, as crown prince and Prince Mohammed bin Nayef as deputy crown prince. Prince Mohammed bin Nayef is the first from the third generation of the royal family to be formally included in the line of succession.

Our main near-term focus for Saudi Arabia's sovereign credit profile remains the impact of, and potential policy responses to, lower oil prices. Large buffers mean it would take prolonged low prices to undermine Saudi Arabia's strong fiscal and external positions, which support its 'AA'/Stable rating. But the fall in oil prices will cause fiscal metrics to deteriorate in 2015. Our forecast of an average oil price of USD70/bbl (Brent) in 2015 implies a deficit of 7% of GDP, assuming some reduction in spending. If prices stay around current levels, averaging USD50/bbl, the deficit would more than double to 16% of GDP unless spending is cut further. Higher spending has pushed Saudi Arabia's fiscal breakeven oil price up, and we estimate the 2014 figure at USD102/bbl. Regular overspending has been a feature of budget execution, and whether actual spending will exceed budgeted as much as in previous years will be a key test of policy response.

Expenditure in line with the 2015 budget would reduce spending 22% from last year, when the government overspent by 29%. The 2015 budget plans only a small increase compared with the 2014 budget (excluding overspending), as government employees will receive an extra month's salary to account for the difference between the Hijri and Gregorian calendars (this occurs roughly every three years). The 2015 budget reduces capex - we had expected this to be the authorities' first focus in any fiscal response to falling oil prices. Further reductions are possible (removing all capex from 2014 data would reduce Saudi Arabia's fiscal breakeven price to USD67/bbl).

But the budget did not include subsidy reductions or measures to increase tax revenues. The size of the deficit will also be influenced by our expectation that Saudi Arabia will lower oil production this year as part of a wider Opec cut. Our forecast contraction in real GDP of 1.7% this year also assumes a blow to the confidence of a private sector increasingly reliant on high government spending. A higher deficit could be financed comfortably by drawdowns from the sovereign's very large stock of foreign assets rather than increasing debt. Foreign reserves fell by around USD5bn in the three months from August, but at an estimated 113% of GDP at end-2014, sovereign net foreign assets remain among the highest for all Fitch-rated sovereigns. We discussed the impact of lower oil prices on Saudi Arabia and other MENA sovereigns on a teleconference on Tuesday.
Source: Fitch Ratings