JEDDAH: Saudi Arabia’s inflation fell slightly in May but is likely to average 11-12 percent this year and is expected to ease to around 10 percent in 2009. With government spending brisk, and the prospect of an early US interest rate hike receding, domestic liquidity growth is likely to remain pronounced, according to Samba Financial Group’s monthly monitor for August which was released yesterday.
Recent official figures put 12-month consumer price inflation at 10.4 percent in May, down slightly on the 10.5 percent registered in April.
The continued buoyancy of food prices and rents remains the most immediate cause of inflation. For Saudi Arabia, the key food variable is the price of rice, which has soared this year as a result of climatic events and export bans by key producers, though it has begun to moderate somewhat.
Meanwhile, the cost of construction inputs — particularly steel — has continued to surge. Global composite steel prices increased by 62 percent in the year to June, while the local price of steel rebars doubled over the same period. Spiraling construction costs quickly feed through into higher housing prices and rents, with demand supported by robust population growth in major urban areas.
The Samba report said inflation in the Kingdom is not solely attributable to exogenous factors, however. The monetary backdrop remains extremely permissive: After retreating somewhat in April, the twelve-month growth rate of broad money rebounded to just under 22 percent in May.
The driver of the build-up in liquidity remains government spending, underpinned by the robust balance of payments position. The authorities have continued to sterilize a large portion of their oil earnings by building up assets abroad. The Saudi Arabian Monetary Agency’s (SAMA’s) net foreign assets totaled some $362 billion at the end of May, and are likely to reach some $420 billion by year-end. Nonetheless, the government is also continuing to inject a substantial amount into the local economy through its massive infrastructure investment program, as well as through subsidies and additional benefits for public sector workers.
In Saudi Arabia, domestically sourced fiscal revenues account for a very small proportion of total revenues. The Saudi non-oil fiscal deficit has grown from 40 percent of non-oil gross domestic product (GDP) in 2003 to a forecast 60 percent in 2008, with clear implications for broad money growth, which is set to exceed 25 percent this year.
The Samba report added these fiscal injections, in conjunction with the broader investment boom, have also galvanized commercial bank lending to the private sector. Private credit grew by 32 percent in the twelve months to May, a new record.
Since November, commercial banks have been required to set aside an additional SR22 billion as reserves, equivalent to 1.8 percent of commercial bank total assets. SAMA has also stepped up its issuance of treasury bills in a bid to mop up excess liquidity. By end-May, outstanding treasury bills had risen to SR56.8 billion, up from only SR4.6 a year earlier.
The continued strong growth of private sector credit in spite of SAMA’s efforts reflects the robust expansion of commercial bank deposits. These grew by 23 percent in the year to May, giving banks ample scope to increase lending, particularly to corporate clients. The fact that deposit growth has remained brisk despite negative deposit rates is indicative of the weak performance of the Saudi stock market so far this year.
The government has committed itself to a “high growth” strategy, designed to make Saudi Arabia the industrial hub of the Gulf region. Investment projects planned or underway currently amount to about $490 billion, equivalent to 90 percent of forecast 2008 GDP.
“Firmer liquidity growth is likely to offset the impact of an anticipated softening in global food prices and we have decided to maintain our previous forecast for consumer price inflation at around the 11 percent mark this year,” Howard Handy, general manager and chief economist of Samba, said in the report.
“US policy tightening should take the heat out of inflation in the course of next year, and with the dollar strengthening and global food supply set to increase, average Saudi inflation should ease to around 10 percent in 2009,” he added.