30.03.2016 | Saudi Arabia plans economic reforms to preserve its social contract

As oil revenues plummet, the country needs to diversify its economy to maintain the system of privileges Saudi citizens are accustomed to.

Riyadh airport is not what you’d expect. Having flown in from Abu Dhabi, which is very glitzy and well managed, the chaos that greeted me was something of a shock.  And it got worse - the capital itself is a huge sprawling city with chronic traffic congestion. It’s the sort of unplanned metropolis that you’d typically find in a poor developing country - not the world’s biggest oil producer that’s accumulated tens of billions of dollars in surpluses over the years.

But the government now seems to have grasped the nettle, investing in a huge Riyadh metro, one of the biggest engineering projects in the region. The authorities, which have historically not been too open to overseas participation in the economy, have invited in the very best international construction firms to build the new transport system. Although commissioned several years ago, the scheme reflects a new economic era in this desert kingdom, in which foreign companies may play a critical role in helping the country develop its infrastructure and wean itself off oil dependence.

Saudi rulers have known for decades that their reliance on oil revenue makes them extremely vulnerable to price shocks. But while they’ve long aimed to diversify the economy, none of their plans have been implemented because there’s never been the political will to do so. However, with plummeting oil prices, many think that the time has come for them to act in order to sustain a social contract that has kept the House of Saud in power.

In return for their acceptance of no political rights, Saudi citizens enjoy privileges that would be envied in many Western countries. Education and healthcare are free; utilities are heavily subsidised; there’s no income tax; and two-thirds of the workforce is employed in often undemanding jobs in bloated government departments and state-run enterprises that generally pay better than the private sector.

That may be about to start changing. Deputy Crown Prince Mohammed bin Salman, King Salman’s influential son, is attempting to drive forward ambitious-sounding economic reforms and cutting public expenditure and subsidies in a bid to balance the books. The authorities also want private business to play a much bigger role in the economy, with foreign investment seen as a means of helping them achieve their goal.

Last year, the Saudi Stock Exchange was opened to overseas investors, and there’s much talk of public-private partnerships and privatisations – even a part sell-off of Saudi Aramco the biggest oil company in the world.  Prince Mohammed and his father were both in the US in September trying to drum up business, while Riyadh hosted a major investor conference in January, with the large number of participants suggesting foreign investors see potential in the move towards a more market-friendly economy.

But the transition is fraught with problems. Investors may be put off by excessive bureaucracy and a legal system that offers them little protection.  While authorities are looking to curb the growth in public sector pay and reduce the country’s reliance on overseas workers in order to nudge Saudis towards private business and entrepreneurship, there are concerns that many lack the required skills as the country’s educational system places too much emphasis on rote learning and religious instruction.

Nonetheless, with state employment a drag on the budget, an expansion of the private sector is a priority to accommodate a growing workforce. The management consultants McKinsey say over the next fourteen years six million young Saudis are expected to enter the job market, which would require the creation of almost three times as many jobs as were created during the 2003-13 oil boom. Many are sceptical that Saudi rulers can meet the challenge, as plans to overhaul the economy, although much heralded, provide very little detail.
Perhaps of more immediate concern is how the cuts in public expenditure and subsidies will play with its cosseted citizens. For the moment, there’s little outward sign that it’s hurting them. Riyadh’s plush shopping malls and restaurants appear to be doing a roaring trade. But while consumer spending was up 18 per cent year-on-year in 2015, it’s reported to be slowing as the cuts seemingly prompt Saudis to tighten their belts.

Saudi rulers will want to minimise the pain of economic transition as much as possible, wary of the risks of social turmoil and conflict down the line.  Billions of dollars of reserves will help cushion the population against possible hardship, but with the oil price showing no sign of recovery these funds could soon be depleted unless the authorities start to bring about the economic diversification so vital to maintaining the country’s social contract.