Rating Action Commentary
ֳ Revises Saudi Arabia's Outlook to Stable; Affirms at 'A'
Thu 15 Jul, 2021 - 8:22 AM ET
ֳ - Hong Kong - 15 Jul 2021: ֳ has revised the Outlook on Saudi Arabia's Long-Term Foreign-Currency Issuer Default Rating (IDR) to Stable from Negative and affirmed the IDR at 'A'.
A full list of rating actions is at the end of this rating action commentary.
Key Rating Drivers
The Outlook revision reflects prospects for a smaller deterioration in key sovereign balance-sheet metrics than at the time of the previous review, owing to significantly higher oil prices and continued government commitment to fiscal consolidation. We continue to forecast government debt/GDP to rise and sovereign net foreign assets (SNFA) to decline over the medium term, but these metrics will remain considerably stronger than the 'A' median. In addition, the government will retain significant fiscal buffers, for example, deposits at the central bank in excess of 10% of GDP. Oil dependence, weak governance indicators and vulnerability to geopolitical shocks constrain the rating.
The widening of the 2020 budget deficit, to 11.2% of GDP, was less severe than during the 2015-2016 oil price slide owing to subsequent fiscal reforms, the policy response in 2020 and exceptional budget transfers from the Saudi Central Bank (SAMA) and the Public Investment Fund (PIF). The government tripled the VAT rate to 15% in July 2020, raised customs duties and reprioritised spending. Total spending was only 5% above budget because of capex reductions and the suspension of the cost of living allowance. Non-oil revenue rose to 18.5% of non-oil GDP (or 15.8%, excluding non-recurring items) from less than 10% in 2015.
We forecast the budget deficit to narrow to 3.3% of GDP in 2021, better than the 4.9% budget target. We assume the Brent price will average USD63/bbl, up 46% from 2020. A full year of the higher VAT rate will support non-oil revenue. Fiscal policy has tended to be procyclical with oil prices, but we expect budget spending to remain better anchored to budget plans in 2021 given the uncertain medium-term oil price outlook, the government's aim to improve the Kingdom's fiscal structure and increasing public-sector spending outside the budget. Higher oil prices in 2021 are nonetheless a test for reform momentum, including on the wage bill and subsidies. Planned reforms in these areas may well slow.
In 2022-2023, the government projects budget deficits of 3% of GDP and -0.4% of GDP, with lower nominal spending each year. Our forecasts are more conservative, with the budget deficit widening to an average of 3.6% of GDP as oil prices decline and assuming marginal nominal increases in spending which will nonetheless decline as a percentage of GDP.
ֳ forecasts an improvement in the non-oil primary deficit (NOPD/GDP), a measure of the underlying fiscal stance, to -24% from -34% in 2020 and from -43% in 2015. The Kingdom's fiscal breakeven oil price would be USD64/bbl. We assume that VAT remains at 15% (a reversal of the higher rate would undermine fiscal consolidation plans) and that Saudi Aramco continues to pay an annual USD75 billion dividend to its shareholders, mostly the government.
We forecast government debt to reach 35% of GDP by end-2023 (forecast 'A' category median: 62%) and expect central government deposits at SAMA to decline to 11.4% of GDP by 2023 from 16.6% in 2020, as deposit drawdowns finance some of the deficit. Broader public-sector entities, including pension funds, increased their holdings of government domestic debt to 7.3% of GDP in 2020 and could extend further financing to the government.
Oil market developments are a key risk for these forecasts, in either direction. We estimate that a USD10/bbl movement in oil prices would change our budget deficit forecast by 3.5% of GDP, while a one million bbl/day difference in production would change the fiscal deficit by 2% of GDP.
Saudi Arabia's external finances remain formidable despite deterioration in recent years. We forecast SAMA reserves to increase towards USD470 billion in 2022-2023 as the current account returns to surplus and as public institutions and enterprises, notably the PIF, invest less abroad and more domestically. Saudi Arabia has one of the highest reserve coverage ratios among ֳ-rated sovereigns at more than 20 months of current external payments. We forecast SNFA to fall to 63% of GDP in 2023 from 75% in 2020 as the sovereign's external debt increases, but this is likely to remain the strongest figure in the 'A' category.
A shift in the focus of public-sector spending outside the budget and the potential for higher debt of state-owned and government-related entities (GREs) presents an important risk to the sovereign's balance-sheet strengths, in ֳ's view. Announced plans for domestic investment by the PIF, Aramco and other entities are large and lack clarity in terms of actual likely outlays, financing and the investment framework. The PIF's 2021-2025 strategy includes SAR150 billion (5% of GDP) in annual spending, while a recent interview with the Crown Prince indicated double those amounts and that Aramco would also spend at similar levels, double its current capex plans.
We estimate that the level of state-owned and GRE debt reached about 23% of GDP in 2020, excluding banks. This is still moderate given the public sector's large role in the economy, and many GREs remain unlevered compared with international peers. However, a large step-up in GRE debt could undermine the assessment of the Kingdom's public finance strengths, depending also on the productivity of those investments, and worsen the country's net external creditor position.
The investment drive that is central to Vision 2030 is intended to boost non-oil economic activity and create jobs. We forecast real non-oil GDP growth to average a robust 3% in 2021-2023. Unemployment among Saudis has moderated since 2Q20, but remains high at 11.7% in 1Q21 and the labour force is expanding. A failure to create jobs would increase pressure for higher government spending to support living standards and could therefore undermine fiscal consolidation.
ESG - Governance: Saudi Arabia has ESG Relevance Scores (ESG.RS) of '5' for both Political Stability and Rights and for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption, as is the case for all sovereigns. Theses scores reflect the high weight that the World Bank Governance Indicators (WBGI) have in our proprietary Sovereign Rating Model. Saudi Arabia has a medium WBGI ranking in the 46th percentile, with low scores for Voice and Accountability, and Political Stability and Absence of Violence constraining the average.
RATING SENSITIVITIES
Factors that could, individually or collectively, lead to negative rating action/downgrade:
- Public Finances: Larger deterioration than we forecast in the overall public finance position reflected in higher government debt/GDP or drawdowns of government assets.
- Public Finances: Significant increases in contingent liabilities that undermine the strength of the public-sector balance sheet, for example, as a result of a sustained rise in GRE debt particularly if this might not result in productive investments in the economy.
- Structural Features: A major escalation of geopolitical tensions that affects key economic infrastructure and activities over an extended period.
Factors that could, individually or collectively, lead to positive rating action/upgrade:
- Public Finances: Fiscal consolidation that accelerates progress towards sustainable fiscal balance, including lower fiscal breakeven oil prices, or a sustained rise in oil revenue that improves the public-sector balance sheet.
- External Finances: An improvement of Saudi Arabia's already strong external position, as reflected in SNFA/GDP, net external debt/GDP and SAMA reserve metrics.
Sovereign Rating Model (SRM) and Qualitative Overlay (QO)
ֳ's proprietary SRM assigns Saudi Arabia a score equivalent to a rating of 'A-' on the Long-Term Foreign-Currency IDR scale.
- Public Finances: +1 notch, to reflect the large albeit declining government deposits held with the central bank as well as other public-sector assets, including state pension funds, that could be mobilised to support government funding.
ֳ's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three-year centred averages, including one year of forecasts, to produce a score equivalent to a Long-Term Foreign-Currency IDR. ֳ's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM.
Best/Worst Case Rating Scenario
International scale credit ratings of Sovereigns, Public Finance and Infrastructure issuers have a best-case rating upgrade scenario (defined as the 99th percentile of rating transitions, measured in a positive direction) of three notches over a three-year rating horizon; and a worst-case rating downgrade scenario (defined as the 99th percentile of rating transitions, measured in a negative direction) of three notches over three years. The complete span of best- and worst-case scenario credit ratings for all rating categories ranges from 'AAA' to 'D'. Best- and worst-case scenario credit ratings are based on historical performance. For more information about the methodology used to determine sector-specific best- and worst-case scenario credit ratings, visit /site/re/10111579.
Key Assumptions
Brent crude to average USD63/bbl in 2021, USD55/bbl in 2022 and USD53/bbl in 2023.
REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING
The principal sources of information used in the analysis are described in the Applicable Criteria.
ESG Considerations
Saudi Arabia has an ESG.RS of '5' for Political Stability and Rights as World Bank Governance Indicators have the highest weight in ֳ's SRM and are therefore highly relevant to the rating and a key rating driver with a high weight. As Saudi Arabia has a percentile rank below 50 for the respective Governance Indicator, this has a negative impact on the credit profile.
Saudi Arabia has an ESG.RS of '5+' for Rule of Law, Institutional & Regulatory Quality and Control of Corruption as World Bank Governance Indicators have the highest weight in ֳ's SRM and are therefore highly relevant to the rating and are a key rating driver with a high weight. As Saudi Arabia has a percentile rank above 50 for the respective Governance Indicators, this has a positive impact on the credit profile.
Saudi Arabia has an ESG.RS of '4' for Human Rights and Political Freedoms as the Voice and Accountability pillar of the World Bank Governance Indicators is relevant to the rating and a rating driver. As Saudi Arabia has a percentile rank below 50 for the respective Governance Indicator, this has a negative impact on the credit profile.
Saudi Arabia has an ESG.RS of '4+' for Creditor Rights as willingness to service and repay debt is relevant to the rating and is a rating driver, as for all sovereigns. As Saudi Arabia has track record of 20+ years without a restructuring of public debt and captured in our SRM variable, this has a positive impact on the credit profile.
Except for the matters discussed above, the highest level of ESG credit relevance, if present, is a score of '3'. This means ESG issues are credit neutral or have only a minimal credit impact on the entity(ies), either due to their nature or to the way in which they are being managed by the entity(ies). For more information on ֳ's ESG Relevance Scores, visit .
Additional information is available on
PARTICIPATION STATUS
The rated entity (and/or its agents) or, in the case of structured finance, one or more of the transaction parties participated in the rating process except that the following issuer(s), if any, did not participate in the rating process, or provide additional information, beyond the issuer’s available public disclosure.
APPLICABLE CRITERIA
APPLICABLE MODELS
Numbers in parentheses accompanying applicable model(s) contain hyperlinks to criteria providing description of model(s).
- Country Ceiling Model, v1.7.2 (1)
- Debt Dynamics Model, v1.2.1 (1)
- Macro-Prudential Indicator Model, v1.5.0 (1)
- Sovereign Rating Model, v3.12.2 (1)
ADDITIONAL DISCLOSURES
ENDORSEMENT STATUS
| KSA Sukuk Limited | EU Endorsed, UK Endorsed |
| Saudi Arabia | EU Endorsed, UK Endorsed |
