Saudi Arabia has been the top pick in the GCC from a long-term perspective with its large and closed domestic market as a source of stable growth, the Bank of America Merrill Lynch said in its latest Investment Strategy report. It said high savings, favorable demographics, and the pressing need for infrastructure spending add to this robust growth outlook. “We expect the GDP growth to accelerate to 4.2 percent in 2010-19 period compared to 3.4 percent in 1999-2008. This puts Saudi Arabia among the very few countries in the EEMEA universe with accelerating GDP growth in the next 10 years. All in, we see the oil windfall transforming the country in the medium to long term.” The report pointed out though that abundant oil wealth is not the main reason “we like Saudi macro story but of course it definitely helps.” The Kingdom is the biggest petroleum liquids producer in the world and oil accounts for 88 percent of exports, 87 percent of budget revenues and 31 percent of GDP. Crude production capacity has been raised to 12.5mn b/d from 9.5 million b/d in 2005, although output is currently much lower at 8mn b/d. Saudi Arabia's growth profile will remain volatile given its role as OPEC's swing producer. “Our estimates suggest that, ceteris paribus, every 100,000 b/d increase in oil production increases headline GDP growth by c.0.3 percent, while a $10 increase in the oil price raises nominal GDP by around $13 billion or 3 percent.” However, it's the non-oil sectors that drive growth, it said. The non-oil sector has been the driver of growth in recent years, averaging 4.4 percent since 2002 compared to 2.7 percent in the 1990s. Oil is now 31 percent of GDP versus 4&5 in 1975. While non-oil sector growth has been adversely affected by the global recession and tighter credit, the counter-cyclical policies run of the state have smoothed the business cycle. Positive demographic trends, low penetration and ongoing large infrastructure spending suggest a robust non-oil growth outlook. “The authorities can further support the medium-term growth via structural reforms that increase private sector involvement in the economy (46 percent of GDP),” the report said. Moreover, a large and young population is Saudi's key asset compared to its GCC peers, which suffer from scarce human capital and small local markets, the report stressed. Saudi Arabia is a young country, two-thirds of which are under 30, with a population growth of c.2.5 percent. “This suggests a high natural rate of growth for the economy. But in order to receive this demographic bonus, Saudi Arabia has to create more jobs. Hence, further opening up of the economy and carrying on with the ambitious infrastructure spending remains key to the medium term outlook.” The Bank of America Merrill Lynch report said as Saudi gets older, the decline in the youth dependency ratio (from 55 percent in 2005 to 41 percent by 2020 according to UN forecasts) and expansion of working age population will be a big boost to non-oil savings. The frequently quoted rule-of-thumb demographic change dynamic suggests that savings will increase 0.5ppt for every 1ppt fall in youth dependency ratio, assuming the economy will create enough jobs. Higher savings will then increase investments and growth, creating more jobs and forming a virtuous cycle. Note that Saudi Arabia still has a low investment to GDP ratio in a cross country comparison, despite its potential to further increase its savings. Moreover, the Saudi government has shown a clear commitment to diversification, particularly following entry into the WTO in 2005. The report noted that the long-term development vision rests on the following: 1) building on Saudi's role in developing energy intensive industries where the country has a competitive advantage; 2) developing as a logistics and transport hub; 3) expanding technology and R&D base and investing in education. It said global turmoil has not derailed these ambitions so far as strategic projects are supported by government savings. The Kingdom still has a strong pipeline of total projects worth $579 billion for the next 5-7 years. Saudi Arabia has plenty of room to run counter-cyclical policies having saved 70 percent of the oil windfall since 2002. The level of indebtedness is also comparatively low, the report said. “This strong fiscal muscle stands in stark contrast to previous boom-bust cycles in oil prices. This time around, the Kingdom is well-placed to press on with government's $400 billion five-year investment and development program, thanks to its $405 billion of gross foreign assets and quicker rebound in oil prices.” The report further noted that “since higher oil prices are often followed by higher production, there is upside to our real GDP forecast of 0.2 percent in 2009 and 3.1 percent in 2010.” Saudi Arabia begins to save again in 2010 thanks to improved oil price outlook. “We now expect a C/A surplus of 3.7 percent of GDP in 2009 and 9 percent of GDP in 2010, while the budget deficit of -1.9 percent of GDP is expected to return to surplus of 5.1 percent of GDP in 2010. We estimate the budget breakeven at $60/bbl for 2009, based on our forecasts that factors in the usual budget overspend of around 20 percent. Fiscal policy will remain stimulative - we expect budget expenditures to increase to 37 percent of GDP in 09 from 29 percent in 08, supporting domestic demand.” However, inflation will be tamed to 5 percent on average in 2009 from 10 percent in 2008 due to declining oil windfall, restricted credit and money along with lower global food and commodity prices, the report said. Unlike UAE and Qatar, the decline in real estate prices in the Kingdom have been less steep - rental price inflation declined from 19.8 percent yoy in July 2008 to 15 percent in June 2009. Restrictions on real estate sector have meant speculative activity is less pronounced in the Kingdom while tight domestic supply supports prices, the report noted. __
