Following yesterday's budget (deficit) and the 'sacrifice-the-people's-comfort-for-the-death-of-US-Shale' plan that we detailed here [6], it appears market concerns about Saudi Arabia's forward-looking health are rising. As Bloomberg reports, USDSAR 12-month forwards jumped 250pts (the most since December 2007) to 725bps (the highest level since March 1999) implying expectations of a looming de-pegged, devaluation. Perhaps just as worrying is this is the same pattern that played out in August as Yuan weakness sparked HIBOR stress, leading to SAR forward weakness and then US equity market collapse.
Earlier today, we parsed Saudi Arabia’s budget report [7] in order to determine if the kingdom’s fiscal nightmare was better or worse than market expectations.
As it turns out, it was better. This year’s deficit is expected to come in at around 15-16% of GDP, considerably below the 20% some analysts feared. For 2016, it looks as though the number should be somewhere in the neighborhood of 13%, broadly in line with expectations.
Be that as it may, the Saudis are boxed in as long as they insist on, i) keeping oil prices depressed, ii) maintaining the riyal peg, and iii) holding subsidies steady. If something doesn’t give with at least one of those imperatives, then the kingdom will continue to burn through its SAMA reserves which fell by $12.55 billion in November from October.
The problem is that deviating from any of the points outlined above has consequences. Allowing oil prices to rise risks putting uneconomic US production back online, dropping the riyal peg would be a significant black swan event for markets and would represent a landmark break with three decades of precedent, and easing up on the subsidies risks creating the type of social unrest that occurred elsewhere in the region during the Arab Spring.
Well it looks like when it came time to choose, the Saudis decided that the people will have to suffer because today, Saudi Arabia raised the price of domestic fuel by up to 40%.
And that’s not all.
Prices for gas, diesel, kerosene, water and electricity were also raised.
But now it seems the market is pricing in the probability of breaking the peg too...
Saudi Riyal Forwards blew wider (implying weaker Riyal relative to the USD) by the most since 2007 and to the weakest since 1999...
[8]
And, more worryingly, we have seen this pattern of global pass the illiquidity hot potato contagion before...
[9]
Deja vu all over again? Or more blowback from The Fed's liquidity withdrawal as it ripples around the world's collateral chains?
Charts: Bloomberg
