Inflation in Saudi Arabia
Inflation in Saudi Arabia
Introduction
The country of Saudi Arabia is counted as one of the world’s strongest economies, ranking 20th after the world’s most powerful nations as per the GDP ranking 2016. As per Saudi Arabia’s GDP, it ranks third in the world after China and India. The country has seen a stark growth in its economy as public debt declined in the past decade and the overall economic growth showed a positive step toward Saudi Arabia establishing itself as a prominent economic strength of the world. However like every other country in the world, Saudi Arabia has inflation setback and the rate of inflation has increased in Saudi Arabia in the recent times, and it has become the cause of the serious economic problem in the country. Inflation is one of the leading economic problems of the world, and it causes a lot of social as well as policy issues in a country. Saudi Arabia has faced inflation since a long time, which did decline in the past decade, but rose again in recent times. The country faces inflation today as well, and it is rooted in many causes and concerns for the country. This paper will discuss the inflation in Saudi Arabia, the interest rates in Saudi Arabia, the inflationary boom in the country, the recent trends of inflation in the country and the inflation expectations in Saudi Arabia.
Inflation
Inflation is generally described in economics as the rate of increased prices on consumer goods and services in the market. In order to measure inflation, economists use terms such as Consumer Prices Index (CPI) and Retail Prices Index (RPI) (BBC News, 2014). These two means of measure are used to determine the differences in pricing that occurs over a period of time in things such as cinema tickets, good bought on a daily basis and any services that are used by consumers as a means of necessity for everyday life. Inflation rates are recorded as percentages; for instance of if the CPI is recorded as 4%, then on an average basis, the rates of the goods and services used by the people are 4% higher than they were the year before it. Or it could be said that an average person would have to spend 4% more the amount in order to buy the same service or goods that they bought 12 months ago (BBC News, 2014).
The RPI consists of the housing costs and price like mortgage amounts, interest rates or the council tax, from which the CPI is excluded. The basic difference between the CPI and the RPI is the formulation for calculating inflation which differs for the two (BBC News, 2014). However, both these values are important for economists and the government because they help to shape the economic policies of a country. Moreover, businesses also use them to set up their prices and rates and to run their system accordingly (BBC News, 2014).
Inflation is caused by several factors which cause a price hike and the values of goods and services to increase rapidly. There are basically two main kinds of inflation which can occur: Demand-Pull inflation and Cost-Push inflation (BBC News, 2014). Both these kinds of inflation cause an overall increase in the price of goods in an economy. Demand-pull refers to the overall increase in the demands of a certain good or service in the country that will cause to more purchase of that particular item. This makes the consumption of that item more rapid than the demand of the country to produce or cater for it. When a condition of shock occurs, the price of the good will rise rapidly that will help to establish equilibrium in the price of the good so that the demand and supply balance is maintained (BBC News, 2014).
Cost-push inflation is caused by the increase in the price of the production of the good that is produced for consumption (BBC News, 2014). The main example of this kind of inflation is the increase in the price of the raw materials or the increase in wages which result in an overall increase in the cost of the product. Also, rise in the energy cost and transport cost also results in inflation (BBC News, 2014).
Causes of Inflation in Saudi Arabia
Ever since oil was discovered in Saudi Arabia and it was exported in the form of petrodollars, the country has benefitted much from the export, and it led to a booming Saudi economy. When the dollar had its value, so did the Saudi economy but the downfall and inflation came with the depreciation of the dollar against the Euro in the year 2006 (Al Khathlan, 2011). The currency of Saudi Arabia has almost always been pegged to the U.S dollar. This system helped to stabilize and promote the oil exchange between the countries and kept the oil assets balanced against the price of the dollar. The increase in the dollar meant a higher price of oil, which meant the country was self-sufficient in the trade. However, since the recession and the downfall in the price of the dollar against the Euro in the market, the country faces today the predicament of inflation (Al Khathlan, 2011). After 2006, the rate of inflation reached 6% by the year 2007 and this number doubled by the year 2008. The rate of inflation was brought down to 5% by 2009 but in spite of the decrease, the amount is still quite high if compared to the Saudi Arabian economy of the 1990s (Al Khathlan, 2011).
The main reason for inflation in Saudi Arabia is the confined rate of exchange of the Saudi Riyal with the U.S Dollar (Al Khathlan, 2011). Hence, if the price of the dollar goes down, so does the value of the Riyal, and it ultimately causes a demanded increase in the price of goods and services to meet the other costs and expenses of the country. Furthermore, a direct effect of this exchange rate is the cost of imports rising higher than ever. Saudi Arabia imports less than 15% of its goods from the United States, but if inflation strikes, then the rates of imports from other countries increases and the prices hike to a great extent (Saudi Gazette, 2014). Saudi Arabia needs to import a lot of its goods and items because the country is unable to suffice in domestic production of these goods. Hence, automatically, when the import rates go up, the prices of the good being sold to the consumers also go up, and this is termed as inflation.
Interest rates in Saudi Arabia
As far as the interest rates of Saudi Arabia are concerned, they are managed by the Saudi Arabian Monetary Agency or (SAMA) (Saudi Gazette, 2014). However due to the peg of currencies with one another, a reduction in the interest rates by the U.S economy would mean a drop in interest rates in Saudi Arabia as well. For example, when the U.S brought down its interest rates in the U.S Federal Reserves from 5.25% to 2% in the year 2007, it caused Saudi Arabia to force to cut its interest rates in order to correspond with the U.S interest rates (Saudi Gazette, 2014). This became an important step because investors all over the world would then have turned to the country with their funds looking forward to a higher return on the investment due to the high-interest rates. This step was unfavorable for the country as it was already experiencing a high rate of inflation (Saudi Gazette, 2014).
However, Saudi Arabia being an Islamic country follows the rules of the religion where the people, businesses, and governments are forbidden to take an interest. SAMA could not make profits out of interest, and it could neither receive nor take interests. Several other prohibitions follow in this respect such as the prohibition of giving any form of credit to the government. This was however dropped in the year 1955 when the government was in need of funds, and SAMA had to finance about one-half of the government steeped in debt (Saudi Gazette, 2014).
The county then made a major breakthrough with a banking control law that regulated the strength of the banking system and the role of SAMA in it. There were still several restrictions in the policies such as the non-issuing and extension of credits to the banks and the discounts given because these all accounted as different forms of interests that were prohibited (Saudi Gazette, 2014). There was little flexibility in SAMA’s policies when it came to setting reserves and liquidity needs of the commercial banks, and it was using the commercial banks for placing credit based deposits (Saudi Gazette, 2014).
Inflationary boom in Inflation Saudi Arabia
The condition of inflation has been worse ever since the lessened demand for oil and reduction in oil prices. When oil was discovered in the country, the land was flooded with cash and Saudi Arabia became a very prosperous economy as per its ‘black gold’ resources (Mc Mahon, 2015). The main reason for the inflation in the country is its sole dependence on oil, and this does not only go for Saudi Arabia; analysts have predicted inflation in all Gulf countries whose sole income of revenue is oil exportation (Mc Mahon, 2015). The price of a barrel of oil reached $58 to $60 in the year 2015. The years 2012 and 2013 had seen a great rise in the price of a barrel where the prices were $91.17 and $92.40, and the prices were consistent with $85.80 and they remained so until the decline in the past year (Mc Mahon, 2015).
However, inflation has remained at a high from an average 4.17% from 2007 until 2013. The main sectors affected by inflation in Saudi Arabia were the living cost and housing. The food costs rose highly when it came to inflation because of the higher cost of imports. The food and non-alcoholic beverages division report that the average inflation in 2013 was the same as of the period when the rates also rose for 6% in housing, electricity, water, gas, fuel and other services where the inflation rate rose to about 7.9%. In the year 2011, the inflation rate for the same category of goods and services was at a peak rate, 11.4% (Saudi Gazette, 2014).
Also, an increase in the cost of living has been a result of inflation. The Saudi population raised its complaints and arguments up against the government with the non-profit organizations in the country where there were serious problems regarding the rate of inflation, living cost and the low wages of the people working on employment basis (Saudi Gazette, 2014). On the other hand, Saudi Arabia’s household consumption of goods is only one-third of its economic expenditure. In the year 2009, the household expenses rose to 36.8%. This happened as a result of the drop in exports that year as per the credit crisis of 2009. Then in the year 2012, household expenses were grown up to 22% which was higher than all the recent years in the country (Saudi Gazette, 2014). The result of this was an increased demand for goods and supplies which meant the country was suffering from a significant amount of inflation, although the calculated amount of inflation that year was 2.9%, which was half recorded than that of the year earlier (Saudi Gazette, 2014). Therefore, it is not possible to accurately judge the relationship between inflation and the household demands of the people because it is not possible to accurately ascertain that the need of the goods at home or the cost of living is directly proportional to the recorded rate of inflation. However the stronger consumption of goods by the consumers would evidently lead to inflation in the country, and it thus showed a higher growth of consumption in the year 2012 as per its relation with high inflation (Saudi Gazette, 2014).
Recent trends of Inflation Saudi Arabia
The recent trends of inflation in the country are correlated with several factors such as the government’s expenditure and spending in general. The growth of the spending has been increasingly high and with every year, it has only seen an increase (Saudi Gazette, 2014). For instance, in the year 2010, the increase amounted to 12%, in 2011 it was 22%, in 2013 it was 11%, increasing to 14% (Saudi Gazette, 2014 The way this was being achieved was by the government giving out grants to the people such as housing grants, unemployment benefits and its spending on infrastructure. The newer cities, they're built-up and industrial growth, as well as the focus on making them attractive for foreign investment, were a major task that had to be accomplished. Also, the government worked on increasing subsidies from 47% to 45% in the years 2012 and 2013, and this caused more money going into the hands of the consumers, which also caused the prices of goods and services to go up (Saudi Gazette, 2014). The government has also been forced to spend a large amount on security and defense that made up for 35% of its spending in the year 2013. As of 2015, Saudi Arabia is known to spend 35% of its budget on defense, making it $80 billion on its military (Saudi Gazette, 2014).
Future aspects of inflation in Saudi Arabia
Anticipating the future of the economy and inflation in Saudi Arabia, it is predicted that the country will improve its economic growth, but it will do so at a slower pace than usual. The lower oil production and demand is bound to pull down the GDP, and the lower rate will cause the non-oil or the private sector to bloom as well (SUSRIS, 2015). A larger fiscal deficit is bound to occur due to the lower oil prices and production as the country has been exporting at a very high rate in the past. According to analysts and economists, Saudi Arabia is bound to end up at 3.9% of inflation by the quarter of the year (April -2016) and the overall rate of inflation in the coming 12 months will be recorded at 15.48 (SUSRIS, 2015). The standing long-term prediction for the oil prices in the country are estimated to hang out at about 4.62% by the year 2020. A growth of the oil production is estimated to stand at 10% which will be the highest the country will see in the coming years (SUSRIS, 2015). The private sector, on the other hand, will see the growth of construction and infrastructure as its main strength. The country does face several challenges in the face of an absence of any alternative for the oil export and low production in the recent years (and the coming), the high growth in spending by the government the domestic energy production and a lack of overall diversity in its economic sector that could pull the country out of inflation (SUSRIS, 2015).
Conclusion
Overall, the Kingdom of Saudi Arabia faces an inflation dilemma because of its concerns with oil prices and its currency linked with the U.S Dollar and its ongoing rates. Although the country had a good oil production in the recent years, the price of the barrel dropped because of the U.S drop of the dollar against the Euro. The country has faced inflation due to the non-interest policies and a lack of exports of other goods other than oil. The rate of inflation is expected to decrease with a balance maintained with a better oil production in the coming decade.
References
Al Khathlan, Khalid. (2011). “Inflation in the Kingdom of Saudi Arabia: The bound test
analysis.” African Journal of Business Management. Retrieved from http://www.academicjournals.org/journal/AJBM/article-full-text-pdf/94DF4A214522
BBC News. (2014). “Inflation explained.” Retrieved from http://www.bbc.com/news/business-
12196322
Mc Mahon, Tim. (2015). “Historical Crude Oil Prices.” Retrieved from
http://inflationdata.com/Inflation/Inflation_Rate/Historical_Oil_Prices_Table.asp
Saudi Gazette. (2014). “Rising food costs drive Saudi inflation to 3.6%.” Retrieved from
http://english.alarabiya.net/en/business/economy/2014/02/03/Rising-food-costs-drive-Saudi-inflation-to-3-6-.html
SUSRIS. (2015). “Analysis- The Saudi Economy in 2015.” Retrieved from
http://susris.com/2015/01/19/analysis-the-saudi-economy-in-2015-jadwa/
