Contents - · PDF fileContents ... Weighted Average KSA Crude Spot Price ... , respectively,...

Contents

Executive Summary 1

2016 and 2017 Projections 2

1. Global Economic Developments 3

2. Saudi Economic Develpments and Outlook 7

2.1 Real Sector 7

2.2 Fiscal and External Balances 10

2.3 Monetary Developments 12

2.4 Financial Sector 14

2.5 Risks 15

Said A. Al ShaikhHead of Economics

[email protected]

Authors:

Tamer El ZayatSenior Economist/Editor

[email protected]

Majed A. Al-GhalibSenior Economist

[email protected]

Yasser A. Al-DawoodEconomist

[email protected] Sources: SAMA and NCB

A New Era of Fiscal Consolidation and Reform

• Piercingthrough2016,theworld’smacroeconomiclandscapehasn’tshifteddrastical-ly from 2015 as many of the same perils still persist. The slowdown in emerging and developingeconomies,whichstillaccountsforover70%ofglobalgrowthmeasuredbypurchasing-powerparity,ismarkingitsfifthconsecutiveyear,contrastingwithamodestrecoveryinadvancedeconomies.InApril,theIMF’sWorldEconomicOutlook(WEO)toneddownitsforecastsfor2016and2017’sglobaloutputonthebackofaslowdowninmanufacturing,investmentandweakcommodityprices.Therefore,thepaceofgrowthwillbemoregradualat3.2%and3.5%,respectively.

• SuppressedoilpriceswillweakentheeconomicoutlookforSaudiin2016,whichwillgrowby1.7%,thelowestsince2009.WebelievethattheoilsectorGDPwilldeceler-atesignificantlyto0.3%thisyearbasedonslowergrowthinSaudicrudeproduction.Additionally,thenon-oilsectorGDPisexpectedtomoderatefurtherthisyeartobe-low3%astheeconomicslowdownweighsonbusinessesandconsumerconfidencealike.Thesectorwillcontinuetobeimpactedbythenegativespillovereffectsfromcollapsingoilrevenues,therecentreductionsinsubsidiesandthefadingimpactfromtheseriesofroyaldecreesannouncedinJanuaryandApril2015.

• Elevated production levels, decelerating demand, and record high inventorieswillsuppressoilprices.SupplyfactorspertainingtoOPECanddemanddynamicspertain-ing toemergingmarkets, inparticularChina,haveunderpinnedthisbearishview.Recently,thefailuretoreachanagreementtofreezeoilproductioninAprilhasmadeithighlylikelythatoilwillremaininarange-boundterritory,endingtheyearbelowlastyear’s levels.Accordingtoourbaselinescenariofor2016,weassumeArabianLightpricestoaverageUSD45/bblandSaudiproductiontoremainat10.2MMBD,withgovernmentannouncementsunderscoringadamancytoprotectmarketshareat any cost.

• Themoneycreationcycleisgrindingtoahalt,withtheinfluxofrecentyearsdissipat-ingasoilrevenuesplungesharplyand,inturn,governmentspendingdeclineinthedouble-digit.In2016year-to-date,withprivatecreditgrowthoutpacingdeposits,theLoans-to-Deposits(L/D)ratioreached88.7%bytheendofApril,promptingSAMAtoraisetheguidancelimitto90%from85%.RisingL/Dratiocoupledwiththein-creasedissuancesofsovereignbondshavestressedliquiditylevels,asevidentfromthe continued rise in interbank rates.Wedoexpect furtherdeceleration inbroadmoneythroughoutthisyear.

• Thefeebleglobaleconomicoutlookandthelackof inflationarypressuresaresup-porting the tendency of central banks to maintain/intensify monetary accommoda-tion.After aDecemberhike, the Fed reversed to await-and-see approachas theextrememarketvolatilityatthebeginningof2016riskednegativespillovereffectsonUSmarkets. InJapanandEurope,aggressivemonetaryeasing isproceedingtobattle the stubbornly low inflation.On theemergingmarkets front, centralbanksaregrapplingwithslowergrowth,weakcurrenciesandcapitaloutflows,whichhavecomplicatedmonetarypolicy.Lookingahead,downsiderisksstemmingfromtheChi-neseeconomicslowdown,thecontainedcommodityoutlook,andaresilientUSDwillremain headwinds for global growth.

Business Cycles in KSA

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Y/Y Growth in Non-oil Sector, Contribution Real GDP Growth Rate Y/Y Growth in Oil Sector, Contribution

2

Real Sector

WeightedAverageKSACrudeSpotPrice,ArabLight,USD/BBL 110.2 106.4 97.2 50.2 45.0 55.0 32.3 4M16

AverageDailyCrudeOilProduction,MMBD 9.8 9.6 9.7 10.2 10.2 10.3 10.2 4M16

GDPatCurrentMarketPrices,SARbillion 2,752.3 2,791.3 2,826.9 2,449.6 2,322.3 2,488.9 - -

GDPatCurrentMarketPrices,USDbillion 734.9 745.3 754.8 654.1 620.1 664.6 - -

RealGDPGrowthRate 5.4% 2.7% 3.6% 3.4% 1.7% 2.4% - -

OilSectorGDPGrowthRate 5.1% -1.6% 2.1% 3.1% 0.3% 1.3% - -

Non-oilSectorGDPGrowthRate 5.5% 6.4% 4.8% 3.6% 2.9% 3.2% - -

Population,million 29.2 30.0 30.8 31.4 32.0 32.7 - -

PopulationGrowthRate 2.9% 2.7% 2.6% 2.0% 2.0% 2.0% - -

GDP/Capita,USD 25,172.6 24,849.1 25,172.6 20,840.4 19,370.3 20,353.0 - -

CPIInflation,Y/Y%Change,Average 2.9% 3.5% 2.7% 2.2% 4.5% 5.0% 4.2% Apr-16

External Sector

MerchandiseTradeBalance,USDbillion 246.6 222.6 184.0 62.7 50.6 73.8 - -

OilExports,USDbillion 337.5 321.6 284.2 157.6 137.5 168.3 - -

Non-oilExports,USDbillion 50.9 54.1 57.9 47.0 41.1 47.5 - -

MerchandiseImports,USDbillion (140.7) (152.1) (158.5) (141.8) (128.1) (142.0) - -

InvisiblesTradeBalance,USDbillion (81.8) (87.1) (106.9) (104.1) (103.3) (109.1) - -

NetFactorIncome,USDbillion 9.2 11.7 13.8 7.4 7.5 8.5 - -

NetUnilateralTransfers,USDbillion (28.7) (34.0) (36.0) (38.6) (41.3) (42.1) - -

CurrentAccountBalance,USDbillion 164.8 135.4 76.9 (41.3) (52.7) (35.3) - -

CurrentAccountBalance/GDP 22.4% 18.2% 10.2% -6.3% -8.5% -5.3% - -

NetForeignAssetswithSAMA,USDbillion 648.5 717.7 725.2 609.7 539.0 515.7 573.0 Apr-16

Fiscal Sector (Central Government)

BudgetedExpenditure,SARbillion 690.0 820.0 855.0 860.0 840.0 856.8 - -

ActualRevenues,SARbillion 1247.4 1156.4 1044.4 608.0 586.3 798.3 - -

ActualExpenditure,SARbillion 873.3 976.0 1140.0 975.0 897.0 923.9 - -

ExpenditureOverrun,% 26.6% 19.0% 33.3% 13.4% 6.8% 7.8% -

TotalRevenues/GDP 37.5% 44.5% 45.3% 41.2% 37.1% 32.9% - -

TotalExpenditure/GDP 31.7% 35.0% 40.3% 39.8% 38.6% 37.1% - -

OverallBudgetBalance,SARbillion 374.1 180.3 -95.6 -367.0 -310.7 -125.6 - -

BudgetBalance/GDP 13.6% 6.5% -3.4% -15.0% -13.4% -5.0% - -

Break-EvenOilPrice 73.9 82.6 103.6 79.2 69.2 67.1 - -

Financial Sector

USD/SARExchangeRate 3.75 3.75 3.75 3.75 3.75 3.75 3.75 Apr-16

GrowthinBroadMoney(M3) 13.9% 10.9% 11.9% 2.6% 2.5% 5.3% -1.5% Apr-16

GrowthinCredittothePrivateSector 16.4% 12.1% 11.9% 9.8% 5.3% 6.3% 10.4% Apr-16

Average3MSARDepositRate 0.9% 1.0% 0.9% 0.9% 2.5% 3.0% 1.8% 4M16

Average3MUSDDepositRate 0.4% 0.3% 0.2% 0.3% 0.9% 1.5% 0.6% 4M16

Spread,inBasisPoints,SAIBOR-LIBOR 55.2 68.7 70.4 56.4 160.0 150.0 113.8 4M16

2016 and 2017 Projections

Ourmacroeconomicprojectionsarebasedonanaveragecrudeoilprice(ArabianLight)ofUSD45/bblandanaveragedailycrudeoilproductionlevelof10.2MMBD(outofwhich72%isexported)in2016.Thedecreaseinoilrevenueswillcontinuetoweighnegativelyonthefiscalandcurrentaccountsthatwillregisterdeficitsof13.4%and8.5%toGDP,respectively.RealGDPgrowthisexpectedtorisebyjust1.7%,thelowestsince2009,mainlyduetoadecelerationingrowthinboththeoilandnon-oilsectorsthatwillrespectivelyexpandby0.3%and2.9%,lowerthanlastyear’s3.1%and3.6%.Moderationwillbeacrosssectors,withkeysectorssuchastrade,constructionandmanufacturing,grow-ingat3%,3%and2.5%,respectively,drivenbythedecline ingovernmentcapitalspendingandreducedbusinesssentiment.Ostensibly,thedrivetowardsfiscaladjustmentandconsolidationwillcontinueunabatedlyoverthenextfiveyears,whichwillsupporteconomicdiversificationandsustainability.Fiscaldeficitswillweighnegativelyonnetforeignassetsgoingforward,asituationthathasmaterializedwiththegovernmentdrawingdownaroundUSD140billionsince2015.Chinesegrowthprospects,G3monetarypolicydivergence,andlackofcomplianceamongOPECmembersarethemostnotableeventsthatcanposeriskstoourcrudeoilpricesandproductionforecastswhethertotheupsideordownside given the inherent volatility of oil markets.

Sources: Reuters, SAMA and NCB

Note: Saudi Economic Perspectives Data (May 2016)

Key Macroeconomic Indicators 2012 2013 2014 2015P 2016F 2017F Latest Date

NCB PERSPECTIVES | JUNE 2016

3

1. Global Economic Developments

Piercing through 2016, the world’s macroeconomic landscape hasn’t shifted drastically from 2015 as many of the same perils still persist. Theslowdowninemerginganddevelopingeconomies,whichstillaccountsforover70%ofglobalgrowthmeasuredbypurchasing-powerparity,ismarkingitsfifthconsecutiveyear,contrastingwithamodestrecoveryinadvancedeconomies.InApril,theIMF’sWorldEconomicOutlook(WEO)toneddownitsforecastsfor2016and2017’sglobaloutputonthebackofaslowdowninmanufacturing,investment,andweakcommodityprices.Therefore,thepaceofgrowthwillbemoregradualthanpreviouslyprojectedatanannualized3.2%and3.5%,respectively.Mostofthisgrowthislikelyattributedtotheproactiveunconventionalmonetarypoliciesundertakenbytheworld’smajorcentralbanks,includingtheexperimentationofnegativeinterestrates.Inflationratesinadvancedecono-miesarebelowcentralbanks’targets,thusmonetaryaccommodationremainsessential.Inaddition,higherdisposableincomeresultingfromcheaperenergypriceswillboostretailandserviceorientedeconomies.Fiscalreformsaretakingabackstagewithgeopoliticaltensionsontherise;however,somecountrieslikeSpain,India,andtheGCCarebettingonboldfiscaladjustmentstoplugbudgetdeficits.Currencydepreciationsandcapitalrepatriationareleavingadismaloutlookonemergingmarketswhileamorestablerecoveryinadvancedeconomieswillcontinue,albeitatagradualpace.Hence,weexpectadvancedeconomiestobethelocomotiveforgrowthin2016-2017.Nevertheless,downwardriskstotheglobaloutlookareduetospilloverfrominternationaltrade.TheChineseeconomicslowdown,thecontainedcommodityoutlook,andaresilientUSDwillremainheadwindsforglobalgrowth. Commodities continue to unwind since the end of the commodity super-cycle in 2011. According to the Re-uters/JeffriesCRBindex,commoditymarketscollectivelyfell42.3%between2011-2015,andin1Q2016,theyslidanadditional2.7%,indicatingnoinflectionpoint.Thecommoditybubbleburstwastoosteepforcommodityexportingcountriestoabsorb,leadingtomajoreconomicperilsincountriessuchasBrazil,Chile,Australia,Nigeria,andRussia.Oneofthelargestdeclineswasincrudeoil,fallingfromUSD129.9/bblinearlyMarch2012tojustUSD25.8/bblbylateJanuary2016(seebox1).Elevatedstocksandlowerindustrialdemandforecastsledinvestorstoshyawayfrombaseandpreciousmetals,whileamplesupplyofagriculturalcommoditiesledtodouble-digitdeclinesinprices.Furthermore,theGoldman-SachsAgriculturalCommodityIndextumbled34.7%between2011-2015,reflectingthedrasticmarketcorrection,whichresultedfromover-investmentduringthecommoditymarketboom.TheUSdollar’sstrengtheningsincelate2014,resultingfromtheFed’snormalizationrhetoricmovingawayfromdovishness,exacerbatedthecom-modityslump.Thetrade-weightedUSdollarindexsurpassedthe100markonMarch2015andremainedrange-boundatmid-90s.SuchelevatedlevelsfortheUSDhadprofoundimplicationsoncommoditiesandotherUSDdenominatedassets.Lookingforwardin2016,commoditypriceindiceswillremaincontainedduetopersistentlyhighsupplyandweakgrowthprospectsinemergingmarkets.Mostimportantly,China’snewgrowthmodelwhichtransitionsawayfrominvestment-ledgrowthwillremainahangingcloudoncommodities,therefore,wedonotexpectafullreboundtothe2010-2011 levels.

Sources: IMF Sources: Thomson Reuters

2. Selected Commodity Price Indices(S&P Goldman Sachs Spot Indices; January 100 = 2004)

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Agriculture Industrial Metals Precious Metals Petroleum Advanced economies Emerging and developing economies World

1. Global GDP Growth(Annual % change)

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Benchmark treasury yields are expected to remain compressed due to growing major central banks bond-buying programs.Demandforriskier,higheryieldingholdingsretractedasglobalstocksslidsharplyearlyin2016.Weakinflationaryprospectsamidaggressivemonetarystimulus,inadditiontoweakcommoditymarketshadinvestorsflockingtowardsthesafetyofbonds.Japan’slongbattlewithdeflationledpolicymakerstotheunchartedterritoriesofnegativeinterestrates,pushing10-yearJapaneseGovernmentBonds(JGBs)yieldstonegative0.09%bytheendofthefirstquarter.Incomparisontothebeginningoftheyear,theyieldonbenchmarkJGBsslid132%.Inthebrutalracetothebottom,the10-yearGermanbundyieldtumbled77.8%in1Q2016andispoisedtofallfurtherastheECB’sinitia-tivesgainstraction.Yieldon10-yearUStreasurieslost20.6%in1Q2016,andthecontinuedaccommodativestanceattheFedwilllikelykeepyieldsfairlylowintheshort-run.

The feeble global economic outlook and the lack of inflationary pressures are supporting the tendency of central banks to maintain/intensify monetary accommodation. The US Federal Reserve ended the zero-rate era in December2015byhikingitsfedfundsrateby25pbsallowingforatargetrangebetween0.25%and0.5%.However,theFedreversedtoawait-and-seeapproachastheextrememarketvolatilityatthebeginningof2016riskednegativespillovereffectsonUSmarkets.InJapanandEurope,aggressivemonetaryeasingisproceedingtobattlethestubbornlylowinflation.TheBankofJapanhadasurpriseratecuttonegative0.1%inJanuary,andpledgedtoincreaseitsmon-etarybasebyJPY80trillionannually.Additionally,theECBadoptedrecordlowzerointerestrate,massiveEUR80billion/monthassetbuyingprogramandnegativedepositrates.Nevertheless,consumerpriceshardlybudgedandareexpectedtoremainstickythroughout2016.Intheneartomedium-term,wedonotseeinflationineithertheEurozonenorinJapanreachingtheir2%inflationtargetduetolackofsufficienteconomicdrivers.Indigenousvariablessuchaswagegrowtharetooslowtowarrantmeaningfulupwardpressure,andexogenousvariablessuchasweaktrade,andlowglobalcommodityandenergypricesareweighingontheinflationaryspecter.

Ontheemergingmarketsfront,centralbanksaregrapplingwithslowergrowth,weakcurrencies,andcapitaloutflowswhichhavecomplicatedmonetarypolicy.Growthforecastsforemerginganddevelopingmarketsin2016and2017weremarkeddownintheIMF’smostrecentupdateby0.2%respectivelyto4.1%and4.6%.Geopoliticaluncertaintyandhighlyvolatileoilmarketsposehugeriskstotheforecast.Forinstance,thefalloutofthePetrobrasscandalinBrazil,andRussia’sadjustmentto lowoilpricesandWesternsanctionswillprolongtherecessionaryperformance intheseeconomies.Brazilisexpectedtoshrinkby3.8%in2016andremainstagnantin2017,whileRussia’sgrowthwillpostanotherrecessionat1.8%in2016.

China,theworld’ssecond-largesteconomy,havingtheweakesteconomicperformancesince1990,withitsgrowthfall-ingbelow7%for2015and2016despitethemyriadattemptstoreduceinterestratesandreserverequirements,anddevaluetheYuantospurbusinessactivity.China’sNationalPeople’sCongress(NPC)setaGDPgrowthratetargetof

Sources: IIF Sources: Thomson Reuters

3.Emerging Market Economies: Capital Inflows

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Portfolio Investment, NetDirect Investment, Net

USD Billion4. Global Equity Markets(January 2008 = 100)

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World Emerging Markets G7


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6.5%-7%for2016,thefirsttimethegrowthtargetissetasarange,indicatingashiftinstrategiestobuildingreaterflexibility,whilecontinuingwiththeemphasisonGDPgrowth.Weforeseefurtherinterestratecuts,likelycoupledwithunconventionalQE-likemeasures.The2016’sbudgetmarksanexpansionofChina’sfiscalpolicy,withanincreaseinthebudgetedfiscaldeficitto3.0%ofGDP,from2.3%in2015and1.87%in2014.TheincreaseaddsRMB560billion(USD86billion)tothe2016budgetedfiscaldeficit;thispointstostrongerfiscalstimulusthisyear.

Sources: Thomson Reuters Sources: IMF

The age of deflation reigns on advanced economies in the lack of adequate price pressures. The aftermath of thegreatrecessionlefttheglobaleconomywithaworseningjobsmarket,andtherecoveryafterwardshasbeenfragileandslow.Lendinginstitutionshavebeenmoreconservative,andborrowerslargelyturnedtosavers.Banks’reluctanceto lendexplainsmostof thedilemmaof low inflationdespitehelicoptermoneydropsandmassive scalemonetarystimuli.Globalconsumerpricesareexpectedtostaylowinthemedium-termasriskaversionremainsnotablyhigh.TheEuropeanCommissionforecastsitsharmonizedinflationindextogrowby0.5%in2016,assumingenergypricesfindnosuddeninflectionpoint.IntheUS,theinflationaryspecterislessdismalalbeitnotcompletelyoutofthewoodswithcorePCEindexexpectedtoriseby1.3%.Japan’sinflation,assumingtheefficacyofrecentpoliciescouldreversefrom-0.2%in2016topossiblyreach1.2%in2017.Incontrast,emerginganddevelopingmarketshavebeenthesubjectofinflationarypressuresresultingfromcurrencydevaluationsinattemptstojumpstarteconomicactivity.Russia,afterrecordingawhopping15.8%inflationratein2015isexpectedtopost8.4%in2016onthebackofamorestablecur-rencyprospect.TheIMFforecastsBrazil’sinflationratetohoveraround8.7%in2016andTurkey’sat9.8%.

6. Fiscal Deficits(in % of GDP)

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Box1:Oil…Bottoming-outin2016 Elevatedproductionlevels,deceleratingdemand,andrecordhighinventorieswillsuppressoilpricestoanaverageofUSD45/bblin2016,accordingtoourestimatesfortheArabianlight.SupplyfactorspertainingtoOPECanddemanddynamicspertainingtoemergingmarkets,inparticularChina,haveunderpinnedthisbearishview.Eventhoughmajorcentralbankshaveceasedtobeahangingcloudonglobalmarkets,withmoststressingtheircontinuedsupportofaccommodativemonetarypolicies, theupside impacton commodities thatusually ensueafterdecisions toexpandquantitativeeasingandtodelayinterestratehikesdidnotfullymaterializeasitdidin2009and2010. ThelackofcomplianceamongOPECmembersthatproducedabovethe30MMBDquotaforthe24thmonthinarowwillbeanimportantdrag,especiallythatthegrouplacksaunifiedfront.Saudi,IraqandIranareadamantinproduc-ingasmuchastheycan.TheKingdom’sproductioncontinuesnearrecordhighs,averaging10.2MMBDyear-to-date,whileIraqhasincreasedoutputsince2015byaround0.8MMBD,reaching4.2MMBDinMarch.Additionally,liftingthesanctionsimposedinJuly2012onIranisexpectedtobringanadditional0.5-1MMBDduringthisyear,whichwillkeepOPEC’sproductionabovethe32MMBDmark.

Eventhoughnon-OPECmembersandhigh-costproducerswillcontinuetobepressuredthisyear,theanticipatedde-clineintheirproductionwillnotoffsetOPEC’soverquotastrategy.TheIEA,EIAandOPEChaveforecastedadeclineinnon-OPECsupplybetween400-750thousandbarrelsaday,thefirstannualdecreasesince2008,largelyduetothesteeperdeclineinUSshaleproduction.TheEIApredictedinitslatestreportthatcompaniesoperatinginUSshalefor-mationswillreduceproductionforthefirsttimeinsixyears,whichunderscoresthechallengingenvironmentevenafterslashingcapitalspending,layingoffworkersandfocusingonthemostproductiveareas.

Onthedemandside,Chinaisexpectedtohavetheweakesteconomicperformancesince1990,withgrowthfallingbelow7%for2015and2016despitethemyriadattemptstoreduceinterestratesandreserverequirements,andde-valuetheYuaninordertospurbusinessactivity.Furthermore,emergingmarketsareexpectedtoexpandat4%,theslowestpacesince2010andwellbelowtheirten-yearaverageof7%.Generally,thethreeeminentorganizationsareforecastingoildemandtorisebetween1.1-1.25MMBDin2016,muchslowerthanlastyearthatsawdemandgrowbymorethan1.5MMBD,afive-yearhigh.

TherecordUSandglobalcrudeoilinventorieswillalsocontinuetoweighonoilmarkets.TheearlyAprilUScrudeoilinventorythatstoodat529.9MMbblsis37%morethanthelevelrecordedin2014,whichwas388MMbbls,andisalsoatan80-yearhighforthistimeofyear.Additionally,OECD’scommercialtotaloilinventoriesrosetoaround3.023billionbarrels,neararecordlevelthatisequivalentto65.3daysofconsumptionandabovethefive-yearaverage.Giventheseaforementioneddynamics,andmostrecentlythefailuretofreezeproductioninDoha,wedonotexpectthemarkettobalancein2016,withoilbeingcontainedwithinaUSD30-50/bblrange.

Sources: EIA Sources: EIA

Crude Oil Price Developments

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Sources: SAMA and NCB Sources: OPEC and NCB

2. Saudi Economic Developments and Outlook

2.1 Real Sector

Suppressed oil prices will weaken the economic outlook for Saudi in 2016, which will grow by 1.7%, the low-est since 2009.Lastyear,amoderatebusinesscycletookhold,weighingonnon-oileconomicactivitiesthatgrewby3.6%comparedto4.8%in2014.Thisdecelerationwasdrivenbylesseroilrevenuestricklingdownintotheeconomy,especiallyasthegovernmenthadtoreducespendingtominimizethebudgetdeficit.Nevertheless,realGDPgrowthat3.4%wassupportedbytheoilsector,whichexpandedbyasubstantial3.1%,onthebackofrecordproductionlevelsabove10MMBDastheKingdomutilizeditsexcesscapacitytomaintainmarketshareamidstrisingnon-OPECoilproduction,namelyUSshale.Innominalterms,thesharpdeclineinArabianlightaveragespotpricetoUSD50.2/bbl,48.3%below2014’saverage,resultedinasignificantcontractioninnominalGDPby13.3%,thefirstcontractionsince2009.Goingforward,itishighlylikelythatoilwillremaininarange-boundterritory,endingtheyearbelowlastyear’slevels,whichwillundermineeconomicgrowthforthisyear.Therefore,webelievethattheoilsectorwilldeceleratesignificantlyto0.3%thisyearbasedonslowergrowthinSaudicrudeproduction.Incontrast,realnon-oilGDPsectorisexpectedtomoderateto2.9%thisyear,yetasgovernmentreformsunravel,thesectorwillbetheprimaryforcetomaintain the economy on an expansive trend.

Even though the anticipated National Transformation Plan (NTP) will aim to diversify the economy away from oil, the oil story still remains pivotal and valid.In2015,oilcontributed42.7%torealGDPandrepresented73.1%oftotalfiscalrevenues.Despitebottoming-outinFebruary,downsiderisksonoilpricesremainentrenchedduetorecordinventorylevels,technologicaladvancementsinshalefrackingandsluggishglobaldemandgrowth.Addition-ally,lowercomplianceamongOPECmembersimpliesthatexcesssupplywillcontinuethroughoutthisyear,andassuchwedonotforeseeSaudicuttingitsrecordoilproductionlevelsanytimesoon,neitherunilaterallyorcollectively.Interest-ingly,recentgovernmentannouncementsunderscoredadamancytoprotectmarketshareatanycost,withthepos-sibilityofincreasingoutputto11.5MMBD,yetitisouropinionthatsuchscenariowillnotmaterialize.Accordingtoourbaselinescenariofor2016,weassumeoilpricestoaverageUSD45/bblandSaudiproductiontoremainat10.2MMBD,andinturnoilrevenuesareexpectedtodeclinetoSAR386.3billion,13.1%lowerthan2015.Onamedium-termnote,prolongedlowoilpriceswillforcehighcostoilproducerstocurtailcapitalspending,reduceinvestments,andinturnreducesupply,thus,puttingupwardpressureonpricesasinventorylevelsgraduallyreturntonormallevels.

7. Real GDP Growth, Contribution

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Non-oil Private Non-oil Public Oil Real GDP

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MMBD

8

The non-oil sector is expected to moderate further this year to below 3%, as the economic slowdown weighs on businesses and consumer confidence alike.Thesectorwillcontinuetobeimpactedbythenegativespillovereffectsfromcollapsingoilrevenuesandtherecentreductionsinsubsidies.Therationalizationofgovernmentspending,theonlychanneltoconvertthecountry’soilwealthintoeconomicdevelopment,hasaffectedtheoutlookforbusinesssentiment,evidentfromourforwardlookingNCBBusinessOptimismIndex(BOI),wherebythenon-hydro-carbonsectorcompositeindexfor2Q2016postedthesixthquarterlydeclinetosettleat21points,whichisalsothesecondlowestlevelsincetheinceptionoftheindexin2009.Additionally,consumeractivity,gaugedbycashwithdraw-alsandPointOfSale(POS)transactionshadbeenindicativeofalessbuoyantoutlook.DuringthemonthofFebruary,cashwithdrawalsdeclinedby13.3%Y/Y,whilePOStransactionvaluesretreatedby9.0%annually,thelargestdeclinesinceJune2009.Wedobelievethatlowerdisposableincomefromthehikesinenergyandwaterpricesinadditiontothenegativewealtheffectsfromtheback-to-backannualdeclinesinTadawulwillweakenconsumptionexpenditure,especiallyonbig-ticketitems.Theone-timetwo-monthsalarytoallSaudipublicsectorworkersthatwasgrantedinearlylastyearalreadyceasedtostimulatespending.Accordingly,weexpecttheretailsectortodecelerateto3.0%thisyear,downfrom3.9%in2015.

Inanattempttocontrolspending,theMinistryofFinance(MOF)hasstoppedawardingcontractssince4Q2015,whichhasaffectedtheconstructionsector.Theconstructionmarketwillseekagreaterrelianceonprivatesectorinitiativestosupportadecliningprojectsmarket.Consequently,weexpectthevalueofawardedconstructioncontractstofallsignificantlybelowtheSAR200billion,theweakestlevelsince2010.Theoil&gassectorisexpectedtocontinuereceiv-ingthemajorityofconstructioncontracts,underpinnedbySaudiAramco’sannouncementofsustaininginvestmentsdespitelowoilprices.Theoilsectorsecured36.6%oftotalcontractsin2015,accordingtoNCB’sConstructionContractAwardsIndex.Despitetherecentmoderation,thefactthatcontractsawardedamountedtoaroundSAR1.6trilliondur-ingtheperiod2008-2015,willcontinuetoprovidesupporttothesectorvia“momentumspending”,resultinginanexpected3.0%expansionin2016.

The government is adamant on adopting structural reforms to attract capital inflows across different sec-tors, which had been highly concentrated around oil & gas.Intheretailsector,forinstance,thegovernmentwillallowfullforeignownershipofbusinesseswithoutalocalsponsor,whichisexpectedtoencourageinvestmentsandincreasetheappealoftheSaudimarket.ArecentannouncementofaUSgreen-cardlikeprogramwillprovidethehighlyskilledandforeignentrepreneurstheabilitytoapplyforresidencythatwillenablethemtoownrealestateandsetupbusinesses,which inouropinion,mightalso reduceremittancesover themedium-term.The2015/16GlobalCom-petitivenessReportpreparedbytheWorldEconomicForumrankedSaudiArabiaat25outof140countries,aheadofChina,Spain,IndonesiaandTurkey.Additionally,accordingtotheWorldInvestmentReport2015,issuedbytheUnitedNationsConferenceonTradeandDevelopment, theKingdomwas the third-largest ForeignDirect Investment (FDI)recipientinWestAsia,withreceiptstotalingUSD8.0billionin2014,9.6%lowerthan2013,surpassedbyTurkeyandtheUAEthatpostedUSD12.1billionandUSD10.1billion,respectively.EventhoughFDIhadbeenonadownwardtrendsince2008,wedobelievethatFDIlevelswillbesupportedagainaboveUSD10billionmarkbythegovernment’sinitia-tivestoattractinternationalinvestments,asevidentbyrecentbilateralagreementssuchastheSaudi-Koreanagreementtodevelop100’000housingunitsoversevenyearswithavalueofUSD10billion.

Sources: SAMA and NCB Sources: SAMA and NCB

9. Non-oil GDP Growth, Contribution

0%

2%

4%

6%

8%

10%

2011 2012 2013 2014 2015P 2016F

Manufacturing

Construction

Transport and Communication

Other Sectors

Electricity & Water

Trade, Hotels, and Restaurants

Financial, Insurance, and Real Estate Services

10. Real GDP Growth by Expenditure, Contribution

-5%

5%

0%

15%

10%

2011 2012 2013 2014

Net Exports

Gross Fixed Capital Formation

Government Final Consumption Expenditure

Change in Inventory

Private Final Consumption Expenditure Real GDP


9

We believe that inflation will edge higher to average 4.5% for 2016 with domestic inflationary pressures off-setting the positive international dynamics of a resilient USD and contained global commodity prices. GiventhepegoftheSaudiRiyaltotheUSDollar,thestrengthofthelatterduringthelasttwoyearshadreducedimportedinflationondomesticprices.Thetradeweighteddollar index,whichtracks theUSDagainstcurrenciesofsixmajortradingpartners,ended2015at98.6whileaveraging96.3throughoutthisyear,16.4%higherthan2014’saverageof82.7.Additionally,theReuters/JefferiesCRBindex,aglobalcommoditiesgauge,droppedbyasubstantial23.4%lastyear.Thiscontributedtothecontinueddecelerationinthelargestcomponentofdomesticinflation,foodandbever-ages,whichrecordedanaverageriseofjust1.7%for2015,thethirdconsecutiveannualslowdown.Thesecondlargestcategory,housingandutilities,remainedstableforthefourthyear,postinganaverageof3.4%for2015.Therecentapprovalof“whiteland”tariffsisexpectedtocontainanyupsidepotentialforrealestatepricesbyencouraginglanddevelopment,thus,mitigatingthehousingshortage.However,giventherecentreductioninenergysubsidies,whichincludedhigherpricingforelectricityandwaterconsumption,thecategoryofhousingandutilitieswillriseconsiderablyabove8%Y/Yin2016.Inaddition,thetransportsub-indexwillincreasebyaround13%followingthe33%and50%increasein95and90octanegasoline,respectively.

Box 2: SCIs: Moderation in the Offing

2016’sgovernmentbudgetallocations tospecializedcredit institutions (SCIs)havemoderatedsignificantly,yet theircontinuationreflectsadamancytosupporttheeconomy.Accordingtothebudgetannouncement,SAR49.9billionwillbeallocatedtoSCIs,namelytheSaudi IndustrialDevelopmentfund(SIDF),SaudiCredit&SavingBank(SCSB),andtheRealEstateDevelopmentFund(REDF).AccordingtothelatestavailabledatapublishedbySAMA,theconsolidatedbalancesheetforSCIspointsto:(1)asignificantincreaseinthedisbursementsofnewloansbySAR40.8billionduring2015,a13.1%Y/Ygrowthrate,(2)anincreaseinthetotalvalueofinvestmentstoaroundSAR163.6billionbytheendof2015,whichwasattributedtoagrowingdomesticportfoliothatrosefromSAR115.9billionbytheendof2014toSAR149.4in2015,(3)aninsignificantincreaseinforeigninvestmentsthatremainedaroundSAR14billionmark,and(4)asizabledeclineindepositswithSAMAbyaround47%Y/YtoSAR36.7billion,reflectingthewithdrawalofsuchdepositsinordertoextendloanstolocalcompanies.TheselatestdatareflectthecentralroleplayedbySCIsasacatalystin the domestic economy.

Asexpected,theREDFwaslargestamongtheseinstitutionsintermsoftheoutstandingloansthatregisteredSAR145.9billion,anditisourbelievethatsuchfigurewillcrosstheSAR150billionthresholdinthecomingdatareleases.ItisnosurprisethatREDFwillmaintainitsstatusasthelargestlenderamongSCIswiththegovernmenttryingtomitigatethehousingmarketimbalancesespeciallyatthedemandside.ThePublicInvestmentFundandSCSBhadalsomaintainedthesecondandthirdrankgiventheirparticipationinprojectfinanceacrossdifferentsectorsthatenhancethekingdom’sabsorptivecapacity,withtheoutstandingloansofbothstandingatSAR103.9billionandSAR41.9billion,respectively.OntheSmallandMediumscaleEnterprises(SMEs)front,theLoanGuaranteeProgram“Kafalah”,whichisattributedtoacollaborationbetweentheMinistryofFinancerepresentedbySIDFandSaudibankscontinuedtogainground,

Sources: SAMA Sources: Thomson Reuters

11. Drivers of Inflation

0%

2%

4%

6%

8%

Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16

Renovation, Rent and Fuel

Foodstuff and Beverage

Other

Overall CPI

12 . Imported Inflation

(January 2010 = 100)

-10%

-5%

0%

5%

10%

15%

20%

25%

30%

35%

40%

Jan-

10

Jul-1

0

Jan-

11

Jul-1

1

Jan-

12

Jul-1

2

Jan-

13

Jul-1

3

Jan-

14

Jul-1

4

Jan-

15

Jul-1

5

Jan-

16

SAR/GBP SAR/EUR Trade Weighted Dollar

10

facilitatingcreditwortharoundSAR1.6billionbytheendof1H2015to752establishments,representing12%oftheaggregatebeneficiariessincetheinceptionoftheprograminJanuary2006.Inouropinion,supportingSMEsiscriticalforjobcreationandtheexpansionoftheprivatesector,andassuchtheSAR13billionloansthathadbeengrantedovera10-yeartimeframetosuchassetclass,amere1%ofbanks’loanportfolio,needtobeexpanded.Goingforward,thedeclineinoilpricesandtheunfavorablebusinesscyclewitnessedsincethesecondhalfof2014isexpectedtolimitbudgetallocationstoSCIs,makingithardertomaintainthedouble-digitgrowthinloans,yetwedobelievethatnewlendingwillcenteraroundtheviabilityofprojects,inlinewithgovernmentstrategytoprioritizespendingandenhanceefficiency.

10%

Investments by Type

90%

Domestic Foreign

Loans

0%

5%

10%

15%

20%

25%

0

50,000

100,000

150,000

200,000

250,000

300,000

350,000

400,000

3Q11

4Q

11

1Q12

2Q

12

3Q12

4Q

12

1Q13

2Q

13

3Q13

4Q

13

1Q14

2Q

14

3Q14

4Q

14

1Q15

2Q

15

3Q15

SAR Million

Loans Annual Growth, RHS

2.2 Fiscal and External Balances

Dwindling oil revenues have triggered an ambitious government strategy to reduce reliance on oil revenues within 20 years.The2016’sbudgetestimatesrevenuesandexpendituresatSAR513.8billionandSAR840billion,re-spectively,projectinganotherdeficitatSAR326billion.Althoughthebudgetpressreleasedoesnotprovideoilpriceandproductionlevelassumptions,webelievethatbothrevenuesandexpendituresareunderstated.Basedonannouncedrevenues,governmentassumednextyear’soilpricestoaverageUSD35/bbl.WithourforecastofUSD45/bblfortheav-erageArabianlightspotpricesand10.2MMBDforaverageoilproduction,weprojectaslightlysmallerbudgetdeficitatSAR311billion,or13.4%ofestimatedGDPin2016.Theoilglutcontinuestopressurecrudeprices,whichisexpectedtoreduceoilrevenuestoSAR386billion,adeclineof13.1%over2015’sSAR445billion,andinturntotalrevenuesareprojectedtoreachSAR586.3billion.Incontrast,non-oilrevenuesareexpectedtoreachSAR200billionin2016,offset-tingthedeclineontheoilside.The22.3%annualincreaseinnon-oilrevenuesisattributedtotheimplementationofhigherenergyandwaterpricesand,notably,theboostininvestmentincomethathadrisenby69.3%lastyearandislikelytocontinuewiththegovernmentadaptinganactiveportfoliostrategy.Ontheexpenditureside,weexpectgov-ernmentspendingtodeclineby8%toSAR897billion,followinglastyear’sdouble-digitdecreasethatstoodat14.5%,asspendingmeasuresintheRoyaldecreesoflastyearhavenotbeenrolledoutandasthecostcontrolmeasuresin-tensify.Againstthisbackdropofback-to-backreductionsinactualexpendituresandnearrecordcrudeproduction,thebreak-evenoilpricerequiredtobalancethebudgetisestimatedtodeclinetoUSD69/bbl.

The current account balance registered a deficit in 2015, the first since 1998, a situation that will continue well into this year.Basedonouroilpriceandproductionassumptions,weexpectoilexportrevenuestodeclineby12.7%toUSD137.5billion.Ostensibly,weexpectacontractioninnon-oilexportsaspricesforpetrochemicalsandplas-ticsremainpressured.Bothcategoriesconstitutedthemajorityofnon-oilexports,around60%in2015.Bytheendoflastyear,thetotalvalueofpetrochemicalandplasticexportsdroppedby19.6%and26.4%,respectively.China’smod-erationhasaffectedSaudiexportsastheAsiangiantisoneofthemajordestinationsforSaudiproductswithavalueofSAR19.9billion,droppingby25.2%onanannualbasisandretiringfirstplacetotheUAE,whichreceivedSAR24.3billionofdomesticexportsin2015.Asforimports,theyhavemarginallydeclinedonthebackofcontainedglobalprices


11

andastrongerdollar.TotalimportssettledatSAR609.4billion,decliningby6.5%Y/YfromSAR651.9billionin2014.Additionally,falteringdomesticdemandhasresultedinadeclineinthevalueofthesettledandnewlyopenedLettersofCredit(LCs)thatrespectivelyfellby1.2%and8.3%in2015withbuildingmaterialsandmachineryunderpinningthedropduetotheslowingconstructionsector.Accordingly,weexpectthecurrentaccounttorecordadeficitofUSD52.7billionthisyear,8.5%relativetoGDP.Theprolongeddeclineinoilpriceswillcontinuetoweighnegativelyonnetfor-eignassets,withthegovernmentprojectedtowithdrawafurtherUSD70.7billionin2016,yetthisslowerpaceofdrawdownwillbecoveredbymorerelianceondebtissuances.

Low oil prices will weigh on the fiscal and external balances for another year, yet the economy remains solvent given its ample reserves and low debt utilization.Ratingagencies,Moody’s,S&P,andFitch,hadmain-tainedinvestmentgradesfortheKingdom’ssovereignrating,despitetherecentdowngradesduetotheunfavorableimpactonoilrevenues.Thegovernmenthasrecentlytakenstepstowardsfiscalconsolidation,economicdiversification,andsustainability.SaudiArabiahasbeenabletowithstandoilpricevolatilityandtheslowglobaleconomicrecoverybywithdrawingfromitsvastamountofreserves,whichstoodatUSD609.7billion,around90%ofGDPbytheendof2015,thethirdlargestintheworldafterChinaandJapan.Albeittheincrease,publicdomesticdebtstillrepresentedjust5.9%ofGDPlastyearandisexpectedtorisetonear10%asthegovernmenttapsintodomesticandinternationaldebtmarketsintandemwithwithdrawalsfromforeignreservestocontainfinancialshocksandprovidestability.WeexpectamorebalancedapproachinpluggingtheanticipatedfiscalshortfallwiththeKingdomtryingtobenefitfromthe prevailing low interest rate environment.

Sources: SAMA and NCB Sources: SAMA and NCB

13. Government Revenue and Expenditure Balance

SAR billion 2014 2015 2016 Budget 2016 Forecast

Total Revenue 1,044 608 514 586

Oil 913 445 349 386

Non-Oil 127 164 164 200

TotalExpenditure 1,140 975 840 897

Current 740 731 657 718

Capital 740 244 183 179

Deficit/Surplus (96) (367) (326) (311)

Sources: SAMA and NCB

14. Twin Deficits

-15%

-10%

-5%

0%

5%

10%

15%

20%

25%

2011 2012 2013 2014 2015P 2016F

Current Account Balance / GDP Budget Balance / GDP

15. Government Expenditure

0

200

400

600

800

1,000

1,200

2011 2012 2013 2014 2015P 2016F

SAR billion

Captial Expenditure Current Expenditure

12

Saudi Vision 2030 provides the blueprint to move away from an oil-centric economy, vital to that is diversi-fying the economy in every sphere: economic, human, and social. Thevisionistargetingsustainableeconomicdevelopmentbasedonthreepillars,beingtheheartoftheIslamicworld,beingidentifiedasaninvestmentpowerhouse,andexploitingthestrategicgeographicallocationofthecountry.ThecumulativeoutcomeofthemyriadprogramsisexpectedtoincreasethesizeofthedomesticeconomybyalmosttwofoldtoovercomethelikesofSwitzerland,Turkey,and Mexico to achieve the target of being the 15th largest economy globally. Emphasizing the role of private enterprises inVision2030willenhancetheprivatesectorcontributiontorealGDPto65%andmagnifyforeigndirectinvestmentto5.7%ofGDPin2030,upfromthecurrent3.8%.Thegovernmenttargetofincreasinghomeownershipfrom47%to52%by2020impliesadamancytomitigatethehousingshortagethathadconstitutedachallengeoverthelasttwodecades.SMEswillcontinuetoreceivethemuchneededsupportthrougheasingregulationsandgreateraccesstofund-ingastheircontributiontoGDPisplannedtoincreasefrom20%to35%.

Fiscalconsolidationisalsoanintegralpartofeconomicsustainability,withthegovernmentstreamliningsubsidiesandplanningtopropelnon-oilrevenuesfromSAR163billionin2015toaroundSAR600billionby2020,whichaccordingtothegovernmentwillbalancethebudgetatthattime.Onalonger-termhorizon,theinvestmentfocusofbuildingthelargestsovereignwealthfundwithaplannedvalueofSAR7trillion,partlybysellinga5%stakeinSaudiAramco,willpropelinvestmentincomethatwillexceedoilrevenuesby2030.Additionally,thisfundwillallocate50%ofitsportfolioin international investments to reach the colossal target. The social aspect of the vision is targeting a decrease in the unemploymentrateto7%aswellasincreasingfemaleparticipationrateto30%throughprovidingjobsforSaudis,namely1millionjobsintheretailsectorand90’000jobsintheminingsector.Inthistransitionphase,higheroilpriceswillbeusedasacatalystforacceleratingthevisionratherthananimpediment.

2.3 Monetary Developments

The monetary situation in the Kingdom is largely reflective of the oil narrative.OversuppliedoilmarketandastrongerUSdollarpressuredoilpricestosubstantially lowlevels, leadingtoagapingovernmentspending.Thus,growthprospectsinSaudiArabiaremainheavilydependentonthesinglecommoditydespitediversificationefforts.Duetolaggingeffect,weonlystarttonoticeadecelerationinmoneysupplygrowthearly2015,endingtheyearat2.6%toreachSAR1.78trillion.In2016,thegrowthratedeceleratedfurther,fallingintonegativeterritory.Asglobaloilmarketsareexpectedtoremainsluggishthroughoutthisyear,wedonotseeashort-termreboundinliquidity.MonetarypolicyatSAMAremainsdedicatedtopreservingthedollarpegwithnoroomforeasing.SAMAbillholdingsbySaudibanksdeclinedby39.7%Y/YtoSAR136.3billioninordertofreebankliquidityforthelongermaturitygovernmentissuances.Onthefiscalfront,thegovernmentreliedonforeignreservesduring2015,withdrawingaroundSAR115.9billiontofinancethebudgetdeficit,thuserodingreserveassetsby15.8%comparedtoayearago.Duringthesecondhalfof2015,thegovernmentissuedsovereignbondswithvaryingmaturities,5-year,7-year,and10-years,tappingintotheunutilizeddebtcapacityoftheKingdom.

Sources: SAMA and NCB Sources: SAMA

17. Government Deposits at SAMA

0

200

400

600

800

1,000

1,200

1,400

1,600

1,800

Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16

SAR billion 2011

+194 bn 2012

+329 bn 2013

+125 bn 2014 -80 bn

2015 -398 bn

16. Domestic Public Debt

-60%

-40%

-20%

0%

20%

2008 2009 2010 2011 2012 2013 2014 2015P 2016F

Gross Domestic Public Debt/GDP Net Domestic Public Debt/GDP


13

In 2015, the monetary base grew by 6.6% to SAR301.5 billion, which is considerably below 2014’s 10.5% growth. Themainculpritinthesubparmonetarybaseperformanceisthedwindlingofpublicfinancialinstitutions’depositsby50.7%tojustSAR4.7billion.Currencyoutsidebanksistheonlymoneysupplycomponentthatmaintainedadouble-digitannualgrowth,surgingby10.1%toSAR169.3billion.Demanddeposits,whichaccountedforthelarg-estcomponent,makinguparound55%ofbroadmoneysupplyrecordedanannualizeddeclineof1.3%toSAR976.2billion.Ontheotherhand,wenotethatthepropensitytosavehasincreasedduring2015asindicatedbythegrowthoftimeandsavingsdepositsby9%Y/Y,totalingSAR434.5billion.Quasimonetarydepositsthatincludedepositsofforeigncurrency,marginaldepositsforLCs,andoutstandingremittancesedgedupby3.4%toSAR194billion.Overallbroadmoneysupplyroseby2.6%in2015andisexpectedtodeceleratefurtherduetolowergovernmentspendingand slower economic growth.

Sources: Thomson Reuters and SAMA

Sources: SAMA

Sources: Thomson Reuters

Sources: SAMA

19. Interbank Market Rates

0%

1%

2%

3%

4%

5%

6%

May-08

May-09

May-10

May-11

May-12

May-13

May-14

May-15

May-16

3M SAIBOR 3M USD LIBOR

18. SAMA and US Federal Reserve Policy Rates

0%

1%

2%

3%

4%

5%

6%

May-08

May-09

May-10

May-11

May-12

May-13

May-14

May-15

May-16

Reverse Repo Rate Repo Rate Federal Funds rate

20. Growth in Money Supply

-10%

0%

10%

20%

30%

40% M

ar-09

Mar-10

Mar-11

Mar-12

Mar-13

Mar-14

Mar-15

Mar-16

M3 M0 12m MA, M0

21. Growth in Private Sector Credit

-5%

0%

5%

10%

15%

20%

Mar-09 Mar-10 Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16

14

Sources: Tadawul Sources: SAMA

2.4 Financial Sector

The money creation cycle is grinding to a halt, with the influx of recent years dissipating as oil revenues plunge sharply and in turn government spending declining by double-digits. Total deposits in the banking sys-temregisteredamere1.9%gainlastyear,theweakestgainsincetheGulfWar.SaudiBanksprimarilyrelyondepositstoexpandtheirbalancesheetsbyextendingcreditlinestotheprivateandpublicsector.Consequently,totalclaimsofthebankingsystem,excludingT-billsandgovernmentbonds,deceleratedto8.9%Y/Yfor2015.Despitethechallenges,Saudibankswereabletogrowtheirnetprofitsby5.4%lastyeartogenerateacollectiveSAR43.7billion.Thecurrentcostoffundsremainslowasover60%ofdepositsarenon-interestbearing,whichwillallowbankstoprofitfromhighermarginsasinterestratescreephigheroverthemediumterm,yet,thechallengewillbetoremainliquidinordertograsplucrativeopportunities.In2016year-to-date,withprivatecreditgrowthoutpacingdeposits,theLoans-to-Deposits(L/D)ratioreached88.7%bytheendofApril,promptingSAMAtoraisetheguidancelimitto90%from85%.RisingL/Dra-tiocoupledwiththeincreasedissuancesofsovereignbondshavestressedliquiditylevels,asevidentfromthecontinuedriseininterbankrates.Inouropinion,asthegovernmentretractsfrombeingthedrivingforceforexpenditureandtheprivatesectortakesonamoreactiverole,creditdemandwillpickupafterthistransition.

After entering a bear market territory in January, Tadawul found some reprieve, rebounding from its bot-tom and is expected to end the year on the positive side.During2015,astrongpositivecorrelationof0.88hasbeenregisteredbetweenoilpricesandTadawul’smainindex,underscoringthenegativedragontheindexlastyear,whichfellbya17.1%.Equityinvestors’riskaversenessresonatedfromthefiscalchallengestheeconomycontinuestoface.Inaddition,thegeopoliticaltensionshaveweighedonstocksastheongoingmilitaryinterventioninYemen,theheightenedpoliticalstand-offwithneighboringIranoverSyriaandotherissuesdiscouragedinvestors.The11approvedQualifiedForeignInvestors(QFIs)thatwereallowedtoaccessthemarketsincethefirsthalfof2015didnotprovidetheinstitutionalsupportexpectedyet,withtheirtotalownershipcurrentlystandingatjustSAR1.2billion,aninsignificant0.09%ofTadawul’smarketcapitalization.

Furthermore,tradingactivityin2015experiencedaslowdownasaveragedailytradingvaluesdeclinedby22.9%Y/YtosettleatSAR6.6billion.Corporateprofitabilityalsodeclinedby13.7%annually,recordingSAR98.7billion,bringingtheprice-to-earningsratiodownto13.8,anattractivepropositionconsideringtheDow’sandS&P500’sratiosataround15and20,respectively.Movinginto2016,theCapitalMarketAuthorityannouncedanambitiousplantoincreasethemarket’scapitalizationtomirrortheeconomy’ssize.Theplanalsoincludeseasingregulationsforforeigninvestorsandanarrayofproductssuchasderivatives,debtproducts,andrealestateinvestmenttruststocaterformoresophisticatedinvestors.Furthermore,thedepthofthemarketisexpectedtoreachatotalof250companieswithinsevenyears.WhileinvestorshaveshowngreatinterestinInitialPublicOfferings(IPO)overtheyears,itwillbequitechallengingtoenticecompaniestoturnpublicgiventhecurrenteconomicdynamicsofriskaversionandexpectationsoflowercorporateprofitability.During2015,onlyfourcompaniesturnedpublic,downfromsixayearago,andthetotalvalueraiseddroppedby83.5%annuallytosettleatSAR4.15billion.However,aspartofSaudi’stransformationplan,oilgiantSaudiAramcoisexpectedtogopublicnextyearinanefforttoestablishaUSD2trillionsovereignwealthfund.Eventhoughlessthan5%ofthecompanywillbeoffered,theIPOwilllikelyenhancetheprimarymarketperformancebyattractinglocal and international investors.

22. Saudi Equity Market Index(January 2009 = 100)

-25%

0%

25%

50%

75%

100%

125%

150%

Jan-09 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Jan-16

Tadawul Index

23. Saudi IPO Issuance

0

1

2

3

4

5

6

7

8

9

10

0

5,000

10,000

15,000

20,000

25,000

30,000

2010 2011 2012 2013 2014 2015

SAR million

Capital Raised Number of Issues, RHS


15

The global economic slowdown diminished the appeal for alternative financing, with global Sukuk issu-ances falling by 38.8% Y/Y in 2015 to USD66.8 billion, raised through 727 issuances.MalaysiacontinuestorepresentthelargestmarketforSukuk,albeitrecordingasignificantdecline.ThetotalvalueofMalaysianissuancesreachedUSD34.8billion in2015,halfof its2014level. IndonesiatooksecondplacewithavalueofUSD8.2billionthrough84issuances,growingby64.6%and52.7%intermsofvalueandnumberofissuances,respectively.AsforSaudiArabia,theissuanceof16SukukwithatotalvalueofUSD7.0billionplaceditthirdin2015onaglobalscale.Thismarksthesecondconsecutiveannualdropafterreachingarecordlevelin2013atUSD15.2billion.Theslowdowninthedomesticbusinesscycleisexpectedtolessentheneedforextensiveissuancesoverthenear-term.Eventhoughtherecentgovernmentbondissuanceswillactasabenchmarkforfutureissuances,therelativelyhigheryieldsofferedbythegovernmentarelikelytoraisethecostoffundingforcompaniesoptingforIslamicfinancing.Overall,weexpectamoderationintheSukukmarketgoingforward.

2.5 Risks

Systemicmacroandbankingsectorrisksarestilllow.Nevertheless,theheftysurplusesofrecentyearshavereversedduetothesignificantdeclineinoilprices,whichwillnecessitatecountercyclicalpolicies.Acrowding-outeffectandtighterli-quidityamidtherisingissuancesofgovernmentdevelopmentbondsmightbechallengingtobanks,butinreducingthestockofT-billsandeasingtheL/Dguidancelimitto90%from85%,SAMAwillbeabletomitigatetheserisks.Gaugingtherisksonthebankingsystemthroughnon-performingloans(NPLs)revealsthatbanksarewellpoisedtocounterpos-siblefutureshocks.Yet,aslesseroilrevenuestrickledownintotheeconomy,andthebusinessenvironmentbecomesmorechallenging,NPLsarelikelytoincrease.ThecurrentlycontainedNPLratioillustratestheprudentmanagementandsupervisorypracticesthathavebeenappliedbybanksandSAMA.Bythefourthquarterof2015,banksregisteredanindustry-wideNPLratioof1.1%,incomparisontothe1.9%recordedduring2004-2008.Saudibanks’tier1ratioinspecificandthecapitaladequacyratioingeneralareatcomfortablelevels,currently,at16.2%and18.1%,respectively,doubletheBasel’sIIIrequirements.Figure26belowdepictskeymacroandbankingsectorvulnerabilityindicatorsofSaudiArabiabetween2010until2015.

24. Saudi Sukuk Issuance

0 2 4 6 8 10 12 14 16 18 20 22

0

2

4

6

8

10

12

14

16

18

20

2010 2011 2012 2013 2014 2015

USD billion

Debt issued Number of issues (RHS)

Sources: Zawya Sources: Zawya

25. Saudi Share of GCC Sukuk Issuance, 2015

36%

64%

KSA Rest of GCC

16

KeySystemicMacroandBankingSectorRiskIndicators

2010 2011 2012 2013 2014 2015

1. Macro Risks

OverallBudgetBalance/GDP 4.4% 11.6% 13.6% 6.5% -3.4% -15.0%

GrossDomesticPublicDebt/GDP 8.5% 5.4% 3.6% 2.2% 1.6% 5.9%

NetDomesticPublicDebt/GDP -41.8% -41.9% -51.5% -56.7% -53.6% -41.7%

NetBankingSectorClaimsontheGovernment(SARbn) (931.6) (1,140.4) (1,474.3) (1,591.9) (1,507.6) (1,076.4)

OverallCurrentAccountBalance/GDP 12.7% 23.6% 22.4% 18.2% 10.2% -6.3%

Net Factor Income/Merchandise Imports 5.6% 6.8% 6.6% 7.7% 8.7% 5.2%

NetForeignAssets/ImportsofGoodsandServices 254.3% 272.0% 302.9% 313.7% 283.9% 260.5%

Net Foreign Assets/M2 178.8% 188.2% 200.5% 199.8% 176.2% 144.5%

MerchandiseImportCoverage(1YRaheadimports,inmonths) 54.8 54.0 55.3 56.6 54.9 51.6

2. Banking Sector Systemic Risks (11 Locally Incorporated Banks

Loan-to-Deposit Ratio 73.9% 74.2% 75.9% 77.4% 77.4% 82.5%

MinimumRiskAssets/TotalAssets 34.9% 33.8% 32.7% 31.4% 31.7% 4.4%

CashandBalanceswithSAMA/TotalAssets 11.1% 11.7% 12.5% 10.6% 9.5% 6.8%

Tier1CapitalAdequacyRatio 16.6% 16.1% 15.8% 16.4% 16.2% 16.2%

NonPerformingLoan(NPL)Ratio 2.9% 2.3% 1.9% 1.4% 1.1% 1.1%

NPLCoverageRatio 115.7% 133.2% 145.3% 157.4% 182.9% 172.3%

26. Key Systemic Macro and Banking Sector Risk Indicators

Sources: Financial statements of commercial banks, SAMA and NCB


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The Economics Department Research Team

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Macroeconomic Analysis

Head of Research

Said A. Al Shaikh

[email protected] of Economics

Tamer El Zayat

[email protected] Economist/Editor

Yasser A. Al-Dawood

[email protected]

Majed A. Al-Ghalib

[email protected] Economist

Sector Analysis

Ahmed Maghrabi


Sultan Mandili

[email protected]

Hanan M. Al Asiri

[email protected]

Sharihan Al-Manzalawi



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