Oil prices are plummeting -- and Saudi Arabia could devolve into chaos as a result. Since summer 2014, crude oil has fallen from over $100 a barrel to under $30, with global supply continuing to outstrip demand. The consequences for oil producers are of unprecedented significance.
While cheap oil is not a bad thing per se, it can trigger substantial economic disruptions. The United States is suffering job losses in the oil sector that ultimately outweigh the benefits of cheap energy, and a few oil exporters like Venezuela are visibly melting down.
Less visible, but more concerning, is the Kingdom of Saudi Arabia. There's a lot to suggest that oil will stay close to $30 a barrel for a long time (more on this below), and Saudi Arabia simply cannot weather this storm -- at least not without making major social and economic changes.
Cracks in the Armor
Saudi Arabia betrayed its fragility earlier this month when Deputy Crown Prince Mohammad publicly endorsed selling shares in Saudi Aramco (the Saudi national oil company), which controls over 15 percent of the world's proven oil reserves. The idea is still under review, but even considering it out loud is a first for the Saudi royal family and a clear red flag. Selling equity in Aramco is a stopgap arrangement that only makes sense in anticipation of a prolonged oil slump and fiscal shortfall -- a band-aid on a hemorrhage that really requires a tourniquet.
To put this news in context, the Saudi government is in the habit of spending about $260 billion per year providing the social benefits that keep its society stable. This requires oil selling at upwards of $96 a barrel. With oil tumbling, 2015 revenues came in almost $100 billion short at $162 billion. The gap is likely to be just as wide in 2016.
Put another way, an estimated 1.5 million Saudis work in the private sector. As for the other 19.2 million Saudi citizens, they depend on one form or another of government largesse. Moreover, most are under 30 years old, and youth unemployment (ages 16 to 29) stands at 29 percent. This kind of unemployment was a catalyst of the political upheavals of the Arab Spring, and similar forces could easily be unleashed in Saudi Arabia by disaffected youth if government can no longer afford sweeping support programs.
Adding to these vulnerabilities is the historically antagonized and marginalized Shia minority that makes up 15 percent of the population -- with most living where the oil wells are. Given their proximity, any Shia unrest could quickly destabilize the entire country. It's like the money tree is surrounded by dynamite, and Saudi leadership is playing with fire near the fuse.
One salve could be for oil prices to rise dramatically. But this is highly unlikely, as the House of Saud is well aware.
Consider the supply and demand dynamics: On the supply side, there is no significant shortage in sight. The major shale oil producers in the United States will keep pumping at $55 a barrel and falling -- they're now profitable at these levels due to much improved exploration and extraction technology. In the short term, supply will fall somewhat as $30 oil slows down some producers and shutters others. Longer term, if oil hits the $55 range, the spigots will open and oil will likely stabilize around that price level. With sanctions lifted, Iran's oil will also add to global supply as it rejoins the world economy.
On the demand side, oil is in secular decline. The world is gradually turning toward sustainable, cleaner sources of energy. This is admittedly a long-term proposition, but the interim isn't promising either. The economies that drive demand for oil - the US, Europe, and particularly China - are palpably slowing down. And any farsighted or coordinated economic policy aimed at bolstering demand remains unlikely.
Can Saudi Arabia Save Itself?
So far, Saudi Arabia is making ends meet by cutting fuel subsidies, introducing sales taxes, issuing sovereign debt, and dipping into its cash reserves. It may also begin selling down its vast holdings of US Treasurys, which would have negative implications for the US and global economy. In 2015, Saudi cash fell from $732 to $623 billion, on top of which it issued $26.5 billion in debt. This week it's planning to borrow another $5.3 billion in its first bond issuance of 2016.
This trajectory is simply unsustainable. Spending cuts and tax increases can only go so far before Saudi Arabia begins to destabilize. The current pace of borrowing and spending is only viable over the short term. The Saudi government could decide to devalue its currency, but that would be another temporary fix, fraught with serious downside.
What Saudi Arabia needs to do, in earnest, is take steps to diversify away from oil dependence. There are ample opportunities here -- in tourism, alternative energy, education, the arts, entertainment, entrepreneurship... And there's no better time than now, with $600 billion in cash still on hand to invest in other sectors.
One of the principal challenges is liberalizing the status of women, less than 15 percent of whom are employed. It's essential that they become more involved in the economic and political life of the country. The UAE and Qatar have done this, much to their benefit, and could serve as models.
Thinking of the substantial gains Saudi Arabia stands to achieve from greater inclusiveness, the film Wadjda comes to mind. It tells the story of an 11-year old girl from Riyadh, and her mother, who find outlets for self-expression despite several social impediments. I was fortunate to see this masterpiece -- written and directed by Haifaa al-Mansour, the first female Saudi filmmaker -- at the 2013 Abu Dhabi Film Festival. Saudi Arabia must recognize the value of creativity and enterprise like this, and move the society toward cultivating the full potential of every citizen.
In some significant respects, Saudi Arabia is already evolving in this direction. Progress so far is unsteady, and there are reasons to be skeptical about the Kingdom's agility or capacity for change. But faced with an existential crisis, transformations may well take place with surprising alacrity.