Saudi Arabia set an expansionary tone in its 2018 budget after three years of economic slowdown and fiscal austerity. The launch of a private-sector stimulus package, cash allowances to people on lower incomes, and increases to capital expenditures are expected to push up public spending by 5.6 per cent this year compared with the government's 2017 estimates.

Capital spending is set to rise by 14 per cent in 2018 and the stimulus will be complemented by additional investment from the Public Investment Fund and the National Development Fund in line with the country's Vision 2030 structural overhaul.

Despite the additional outlays, we expect Saudi Arabia's budget deficit to narrow to less than 8 per cent of GDP in 2018 – the lowest deficit since 2014 – as revenue growth exceeds increases in spending. This will partly mark a positive contribution from the introduction of VAT and subsidy cuts that took effect at the start of this year, as well as higher expat levies.

However, the bulk of the gain will come from higher oil revenues. Our estimates are based on oil selling at USD60 a barrel but it has already traded above USD70.

Despite this, we continue to have concerns over imbalances within public finances. The government missed its 2017 deficit target and the 2018 deficit would have been even higher without an assumption of higher oil receipts. Although budget spending is more transparent than ever, off-budget outlays and contingent liabilities remain hard to track.

The authorities have also extended their targets for balancing the budget and eliminating energy subsidies by three and five years, respectively. The planned freezing of public-sector wages already looks unlikely with extra pay announced in January for government staff.

This fiscal stimulus has modestly boosted our near-term forecasts for growth: we believe last year's 0.8 per cent GDP contraction was the low point of the growth cycle. However, the stimulus will take time to make its full impact felt, and modest gains in public-sector activity are likely to be countered by the impact of heightened regional political tensions and the uncertainties triggered by the anti-corruption drive on private sector investment.

Growth – at around 1 per cent in 2018 and 2 per cent next year – is likely to continue to lag behind both the five-year average, and the rate of demographic growth.

But despite the still challenging economic backdrop, we have every confidence that the Kingdom remains committed to, and can maintain, the dollar peg, with its foreign exchange reserves still covering more than 30 months of goods and services imports.

We also continue to believe Saudi Arabia's budget shortfalls will be readily funded, given that public debt is less than 20 per cent of GDP. However, we remain wary of the pace of capital outflow. Indeed, despite issuing USD21.5 billion in international sovereign paper and a current account surplus, foreign exchange reserves still fell by USD29 billion in 2017.

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