The International Monetary Fund (IMF) gave a presentation on its regional economic outlook for the Middle East yesterday, and there was one point that the media latched on to. The IMF announced the budgetary break-even points it had calculated for oil exporters for 2018. Saudi Arabia, the IMF asserted, will need to sell oil at $70 per barrel in order for the country to fully fund its 2018 budget.
This particular assertion—and similar claims in previous years—have been responsible for a great deal of poor forecasting about the Saudi economy, Saudi oil policy and Aramco . Giving primacy to this presumption-heavy projection overlooks factual historical precedent and ignores the current situation.
It would be imprudent to assume that Saudi Arabia will shape its oil policy or its economic policy around this concern. Here are the reasons why:
- Unlike most other countries in its region, Saudi Arabia does not take revenue from sales of its country’s oil for deposit directly into the treasury. The money first goes to Aramco, Saudi Arabia’s national oil company. As a largely independent corporation, Aramco earns money and then pays some of that money in taxes, fees and royalties to the Saudi government. For a while, these payments to the government amounted to somewhere between 85% and 93% of Aramco’s profits. Last year, the tax was lowered to 50% in preparation for an IPO.
- It is not clear whether the IMF’s 2018 forecast even takes the change in tax rate into consideration. Despite the lower tax rate, the “breakeven” number has actually decreased in recent years, according to the IMF, when it should have increased by their standards since a smaller percentage is now going to the government. This raises the possibility that the IMF is simply ascribing all Aramco profit to a government revenue pipeline. Regardless, Saudi Arabia has never funded its budget directly off of oil revenue and has, over the years, adjusted Aramco’s tax burden.
- Keep in mind, also, that the oil company, Aramco, has the lowest cost of production of any oil company in the world – between $2 and $10 per barrel. The oil in Saudi Arabia is comparatively easy to access. Since Saudi Arabia purchased the company, Aramco always has been able to fund its own budget and capital expenditures. For Aramco—not the Kingdom—the breakeven number is quite low and even lower since the tax rate was dropped.
- As a stable country, Saudi Arabia has no difficulty finding parties to finance debt, including bonds and lines of credit. Thanks to global central banks and the U.S. Federal Reserve, interest rates are very low. It has proven worthwhile for Saudi Arabia to take on debt over the last few years even while maintaining large amounts of cash. This is normal for a modern country.
- Crucially, running a deficit is a strategy Saudi Arabia has pursued before. In the 1940s and 1950s, when Saudi Arabia first started receiving significant oil revenue, the Kingdom took on extensive debt. The finance minister at the time, Abdullah Sulaiman, was willing to face debt to build modern infrastructure and provide services for the people. He and King Abdul Aziz ibn Saud bet that Saudi Arabia’s oil revenue would rise in the future – which it did.
- Historically, Saudi Arabia has typically employed a strategy of seeking an equilibrium oil price instead of a simply high price, looking to establish a situation that was good for both consumers and producers. Even in 1973 and 1974, amidst the infamous oil shocks, the Saudi oil minister, Ahmed Zaki Yamani, regretted that OPEC settled on a high price. He said, “a lower posted price would have been more equitable and reasonable.” King Feisal was also very disappointed that OPEC set oil prices as high as it did during the oil shocks, because he too feared this would hurt the global economy and decrease the demand for oil. During the financial crisis in 2008, when oil prices dropped drastically to $54 per barrel from previous highs of $147 per barrel, Saudi oil minister Ali al Naimi said he considered $75 per barrel a fair price, as opposed to the $100+ per barrel prices before the crash. Though oil minister Khalid al-Falih has been reluctant to name a desired price in public, if Saudi strategy is consistent, the Kingdom will aim for a price that will be good for producers and acceptable to consumers.
Ellen R. Wald, Ph.D. is a historian & consultant on geopolitics & energy. She is a Non-Resident Scholar at the Arabia Foundation. Her book, Saudi, Inc., will be published in 2018.