Even Saudi Arabia Is Giving Up On Oil – It’s Over
by Jason Simpkins
Saudi Arabia is waving the white flag… or maybe more appropriately the black flag.
The world’s top oil producer is giving up on oil.
Of course it may be too late. Considerable damage has already been done.
Saudi Arabia and other major petro-states, like Russia and Venezuela, badly overplayed their hands.
All of these countries blundered during oil’s delirious price rise. They overspent on social programs, energy subsidies, and war machines. And they’ve been slow to adapt to new technologies.
Now, they’re paying the price.
Just take a look at what’s happening in these three paragons of the petroleum industry…
In Russia, inflation is in double-digits, as the ruble careens to one record-low after another. Its economy is set to contract through 2017. Money is fleeing the country at a rate not seen since the fall of the Berlin Wall. And the central bank is burning through reserves like an arsonist.
Venezuela’s economy contracted 10% last year, and is set to shrink another 8% this year. Its inflation rate is a mind-boggling 720%. The population is in a state of crisis, suffering widespread food shortages, with no international aid forthcoming.
As for Saudia Arabia, its economic model is failing, too. Oil, the Kingdom’s lifeblood for so long, has finally betrayed it. Its budget has been strained to the max, provoking unheard-of austerity measures and credit ratings downgrades.
Like Venezuela, the Kingdom squandered oil revenues on populist programs that returned no value other than borrowed social stability. And like Russia, it prioritized its military, with the third-largest defense budget in the world.
As much as these countries want to dismiss this as a temporary market downturn, it’s not. As the Saudi Prince himself said, oil will never return to $100 per barrel. And yet that’s exactly what these countries need to save their economies.
Oil at $50, $60, or even $80 per barrel simply won’t do the trick.
We’re witnessing a watershed moment here: The fall of the petro-state.
Venezuela is doomed to failure, and Russia isn’t far behind.
The only one that has a chance to emerge from this chaos is Saudi Arabia.
That’s because Saudi Arabia is the only country of the three that’s acknowledged its sickness — and more importantly, is working to correct it.
Saudi Arabia is turning fully away from oil and focusing on a new source of energy — one that the Saudi oil minister says “will be even more economic than fossil fuels.”
Saudi Arabia wants to dominate the market for this new fuel, the same way it dominated the oil market.
It’s investing heavily, and changing the very fabric of its society.
That, and that alone, could save it.
A few decades from now, Saudi Arabia may be the only petro-state left, but it won’t be a petro-state any longer.
It’ll be something different…
Darkness in the Desert Kingdom
What makes this all so remarkable is that oil is quite literally Saudi Arabia’s lifeblood.
Oil revenue accounts for 92% of Saudi Arabia’s budget.
It pays for free healthcare and free schooling. It subsidizes water, electricity, and gas. It’s poured into a fund that provides interest-free loans to help families buy homes and start businesses.
There is no income tax in Saudi Arabia. Oil pays for everything.
It also fuels everything.
Some 25% of the oil Saudi Arabia produces is kept at home and burned for electricity. (This is a costly, dirty, and inefficient process most the world has abandoned, mind you.)
The Saudi Electricity Company buys oil for about $4 a barrel, roughly the cost of production, and it sells electricity to the people for as little as $0.01 per kilowatt-hour. Gasoline costs just $0.50 a gallon. (The average American pays about $0.12 per kwh and $1.71 per gallon of gas right now.)
The World Bank estimates that Saudi Arabia spends more than 10% of its GDP on these subsidies.
Still, above all of this, the No. 1 thing oil provides for Saudi Arabia is jobs.
Remember, this is a totalitarian state we’re talking about. It’s helmed by one of the world’s last remaining royal families. But that ruling family will only be tolerated if it can provide subsidies and jobs for its people.
Without those things, the Saudi government has a huge legitimacy problem. And those two components of prosperity are being threatened by low oil prices.
The recently-released 2016 budget was one of the sternest the Kingdom has ever seen.
Riyadh has reduced fuel subsidies, raised electricity taxes, and bumped up water costs.
This has helped reduce its fiscal breakeven from over $100 in 2015 to an estimated $77.60 in 2016 — a reduction of $22.80.
However, going by what we’ve seen in Europe, every $1 of austerity costs about $1.50 of GDP when it’s not offset with interest rate cuts
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