Saudi Arabia is one of the worst performing markets globally but concerns about currency devaluation are “misplaced”, a report concluded on Wednesday.
Rial devaluation would destabilise the country’s economy but, in its latest research on the kingdom, Credit Suisse said there was “negligible” risk of such an event.
The research said earnings downgrades have kept valuations from becoming “outright cheap” and added that Saudi Arabia has enough tools at its disposal to avoid any devaluation in the foreseeable future.
While foreign exchange reserves are 15 percent lower year-on-year and 23 percent lower than their mid-2014 peak, at about $550 billion, they are still close to 100 percent of GDP and provide adequate cushion for defending the peg, said Credit Suisse.
It noted that the figure does not include Saudi Arabia’s holdings of US treasuries totaling $96 billion (down from recent peak of $124 billion in January 2016) – “We believe this number significantly understates Saudi Arabia’s full holdings of treasuries, much of which are likely to be with external managers.”
The report said: “We believe concerns about the peg are misplaced and that the risk of devaluation is negligible. There are two primary reasons for our conviction.
“First, the political and economic costs are far too high. A devalued riyal would certainly reduce fiscal deficit, but at the cost of significantly higher imported inflation. Keeping consumer prices under control has always been a priority in Saudi Arabia… and we would therefore expect the government to avoid any policy that could result in basic necessities becoming materially more expensive
“We also note that the USD peg also plays an important role in the credibility of the central bank and its monetary policy. A devaluation could destabilize the financial framework of the country (and by extension, of the broader Gulf region as well) and, in a worst case scenario, it could trigger significant capital flight.”
Meanwhile, the kingdom enjoys one of the lowest debt-to-GDP ratios in the world, which is expected to jump to a 10-year high of 17 percent this year as Saudi Arabia issues its first international bond, expected to be $15 billion, the report said.
Debt-to-GDP levels are expected to reach almost 50 percent by 2020/21, translating to a “heady issuance” of around $400 billion since the end of 2015. While appetite for Saudi papers remains robust, such a huge pipeline of issuance in a relatively short timeframe will undoubtedly push up the cost of borrowing.
“However, we believe the increased debt will be sufficient to cover budget deficits in the coming years,” Credit Suisse concluded.
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