III WISHFUL THINKING: SAUDI DEVELOPMENT PLANNING AND FISCAL REALITY, 1980-85

The 1980-85 Development Plan was announced in the spring of 1980, at a time when both the volume of Saudi exports and the price of oil were rising rapidly and when conventional forecasts expected a continuation of both trends. Inside Saudi Arabia, the deficits of the late 1970s were soon forgotten in the wave of new oil revenues and the soothing assurances of forecasters that the kingdom would begin to accumulate huge financial surpluses.

Based on these predictions, Saudi Oil Minister Sheik Ahmed Zaki Yamani stated in 1979 that he expected demand for OPEC oil to rise from 31 mbd (including Saudi output of 10 mbd) to 35 mbd in 1985 and 42 mbd in 1990, with Saudi output rising first to 15 mbd and then to 20 mbd, respectively. Moreover, in a 1979 article in the Journal of Energy and Development, he added a special note of caution:

Existing world oil and gas reserves will be depleted at an alarming rate ... and the [oil] crisis [of the late 1980s] will be of such magnitude as to make the current situation [the second oil shock] appear like a mere passing event of trivial importance.... [The West needs to make] intensified efforts [toward] the development of all forms of energy, eliminate inefficiencies in energy consumption and conserve [oil].

Undoubtedly, this was advice he would later regret, as within a few years Saudi Arabia was struggling to increase sales. The predictions of the near exhaustion of oil reserves also made at that time by some major oil companies were equally baseless.

The preamble to the development plan for 1980-85 reflects the supreme confidence of the Saudis in the early 1980s: "The Kingdom is now one of the world's foremost financial powers, in addition to its role as the major oil exporter of the free world.

The new plan called for total public spending of $390 billion, as compared with planned spending of $142 billion and actual outlays of $187 billion in the previous five years. A year later, in the spring of 1981, the deputy minister of planning stated that actual spending in 1980-85 would probably be about 15 percent higher ($450 billion, averaging around $90 billion per annum). The magnitude of planned spending can be gauged from the fact that maximum government revenues before the second oil shock were $38.5 billion in FY1976, while spending plans in the first half of the 1980s were to average $90 billion annually.

But just as foreign experts erred in ridiculing and discounting Saudi spending plans in the 1970s, so too did they repeat the same error following the announcement of the even more ambitious development plan for 1980-85. In December 1980, the U.S Senate Committee on Energy and Natural Resources concluded on the basis of "expert" testimony that "now the [oil] producers are cutting back on many of their economic development plans and import requirements. In other words, they projected that although the oil revenue of Saudi Arabia and others would grow massively, their expenditures would fall, and their financial surpluses would therefore be huge. Their predictions were made months after the Saudis announced their most ambitious development plan and other oil-exporting countries had already begun boosting their spending.

The broad goals of the new plan were similar to those of the previous plan, with an even greater emphasis on the diversification of the economy by developing large-scale industry and modern agriculture. Investment in infrastructure, health, education, and social services was to be accelerated and the armed forces were scheduled to receive even larger allocations. The main constraint foreseen by the planners was manpower. During the 1970s there was a large influx of foreign labor on all levels-professional, technical, skilled, and unskilled-that was creating social and religious problems in the kingdom. The development plans called for massive investments in education on all levels in order to minimize and eventually replace many or most of the foreigners. However, in the short run, the much larger scale of spending planned for 198085 implied an even greater influx of foreigners.

FROM BOOM TO BUST

The oil shock of 1979-80 raised Saudi government oil revenues to over $96 billion in both FY1980 and FY1981. This was triple the oil receipts of FY1977. During this period of euphoria in the early 1980s, the budget deficits of the late 1970s were viewed as aberrations. Government spending rose rapidly from $39 billion in FY1977 to $71 billion in FY1980-the first year of the 1980-85 development plan-and $84 billion in the following year. Initially the increase in public expenditures lagged behind the much higher level of oil revenues, and huge budgetary surpluses emerged-$34 billion in FY1980 and $25 billion the following year. This was a repetition, on a much larger scale, of developments that followed the oil shock of 1973-74.1

Since the government receives and spends the bulk of the national income, the balance of payments is very strongly effected by fiscal developments. The deficit of over $2 billion in the balance on current account in 1978 was soon overwhelmed by unprecedented surpluses of $42 billion in 1980 and $40 billion in 1981. Imports of goods and services rose rapidly from $42 billion in 1978 to $84 billion in 1981, but in the short run they lagged far behind the massive increase in oil export revenues, which had risen from $37 billion in 1978 to $111 billion in 1981. As a consequence, central bank foreign assets rose sharply from $60 billion in 1978 to $145 billion in mid-1982.2 From there on it was downhill.

The extremely sharp drop in government oil revenues from over $96 billion in FY1981 to $54 billion the following year was wholly unexpected. This is evident from the very wide gap between the finance ministry's forecast of revenues and actual receipts in FY1982. The government took some measures to reduce expenditures, but these were far from sufficient. The fiscal surplus was virtually wiped out in FY1982, and since FY1983 there have been budget deficits every year. The trends were similar in the balance of payments. Saudi oil production fell precipitously from 10 mbd in 1979-81 to 7 mbd in 1982 and the trend continued until 1985, when production averaged a mere 3.7 mbd.2 At the same time, oil prices were falling from $33 per barrel in FY1981 to $27 per barrel in 1985.3 The decline in both the volume of exports and prices reduced oil export revenues in 1985 to less than one-quarter of their 1980 and 1981 levels. The decline in government spending reduced imports but did not keep pace with the precipitous drop in oil export revenues, and there has been a deficit in the current account in the balance of payments every year since 1983. Until the late 1980s, deficits were covered by drawing down the foreign assets accumulated in the boom years.

AN INITIAL RESPONSE

Saudi public expenditures encompass the following categories: the projects budget, which focuses largely on the construction of infrastructure-schools, hospitals, roads, ports, airports, water, electricity, etc.; foreign aid; military outlays; and various current civilian expenditures including salaries, subsidies, educational and health services (which are provided free to all Saudis), various social services, operations and maintenance of the infrastructure, and others.

When revenues began to decline sharply after 1981, Saudi authorities began to implement cutbacks mainly in the large projects budget, where the major contractors and almost all the workers were foreign, in the expectation that these cutbacks would have little effect on Saudi nationals. In fact, they did have indirect recessionary effects that resulted in many bankruptcies of local contractors and other Saudi businessmen, as well as declines in the prices of real estate and rentals (because of legal restrictions only Saudis may own real estate). As a result, some local banks were stuck with worthless promissory notes. The projects budget was cut back strongly from a peak of $43 billion in FY1981 (including operations and maintenance) to $30 billion in FVI984 and $13 billion in 1989. Proportionately, foreign aid (at least the part that appears in the budget) was cut back drastically from an annual level of over $7 billion in the early 1980s to $3 billion in the mid-1980s and less than $2 billion in the late 1980s.1 Much of Saudi foreign aid is "off budget," including aid to Iraq during the war with Iran in the 1980s, some other militia related aid to other Arab countries, and at least part of Saudi arms imports.