Fitch Ratings - Hong Kong: Fitch Ratings has affirmed Saudi Arabia's Long-Term Foreign-Currency Issuer Default Rating (IDR) at 'A+' with a Stable Outlook.

A full list of rating actions is at the end of this rating action commentary.

KEY RATING DRIVERS

Balance Sheet Strength: Saudi Arabia's ratings reflect its strong fiscal and external balance sheets, with government debt/GDP and sovereign net foreign assets (SNFA) considerably stronger than both the 'A' and 'AA' medians, and significant fiscal buffers in the form of deposits and other public sector assets. Oil dependence, low World Bank governance indicators and vulnerability to geopolitical shocks remain relative weaknesses. Nonetheless, governance is improving with social and economic reforms and efforts to bolster effectiveness across government institutions.

Formidable External Finances: Saudi Arabia has one of the highest reserve coverage ratios among Fitch-rated sovereigns, at 16.5 months of current external payments. Foreign reserves excluding gold declined moderately in 2023, to USD437 billion, as financial account outflows in the form of investments abroad outweighed the current account surplus, which narrowed to an estimated 4.5% of GDP, around USD100 billion smaller than in 2022, due to lower oil revenue and high imports.

We forecast reserves to decline to an average of USD420 billion in 2024-2025, as the current account surplus narrows on the assumption of lower oil revenue, but that outward investments by large institutions such as the Public Investment Fund (PIF) and pension funds moderate. We forecast SNFA to remain above 50% of GDP in 2024-2025, large relative to the 'A' median (6% of GDP) and the 'AA' median (34% of GDP), although substantially lower than regional peers in the 'AA' rating category. SNFA include central bank foreign reserves as well as the estimated foreign assets of pension funds and the PIF, minus the foreign liabilities of the government, Saudi Central Bank (SAMA)and the PIF.

Government Debt Rising but Low: Gross government debt/GDP rose to 26.5% of estimated GDP in 2023, but remained low, at roughly half the 'A' median of 50%. We forecast that government debt/GDP will increase to 28% in 2024 and 30% in 2025. This assumes that Brent crude oil prices average USD80/bbl in 2024, USD70/bbl in 2025, contributing to budget deficits and constraining nominal GDP. We assume deficits are funded by borrowing, rather than asset drawdowns.

We estimate that government deposits at SAMA, comprising the government current account and the fiscal reserve, were close to SAR450 billion (11.4% of GDP) at end-2023. This represents a significant fiscal buffer and puts net government debt at 15.1% of GDP.

Looser Fiscal Policy: Saudi Arabia's 2024 budget projects fiscal deficits over the medium term, of around 2% of GDP, marking a shift away from the previous set of medium-term figures that projected annual surpluses and a decline in government debt/GDP. Spending ran 14% ahead of budget in 2023 and in the latest projections spending in 2025 will be 15% higher than previously planned. This policy recalibration reflects a decision to make more use of the fiscal space to support strong non-oil economic growth and press ahead with economic and social priorities under the Vision 2030 strategic development plan.

We forecast a budget deficit of 2.3% of GDP in 2024, similar to 2023 and slightly ahead of the 1.9% of GDP budget plan. We expect spending 3.5% above budget, at SAR1.3 trillion on higher capex and procurement. We also assume revenue to be higher than budgeted and higher than in 2023, despite our assumption that average oil production and prices will be lower. Revenue will be supported by performance-related dividends from Aramco. We forecast a wider budget deficit of 2.8% of GDP in 2025, assuming spending in line with budget plans, lower oil prices and higher oil production (10 million b/d).

Oil Dependence High: Oil dependence remains a rating weakness. Oil revenue will account for around 60% of total budget revenue in 2024-2025 (albeit down from 90% 10 years ago) and oil GDP 30% of total nominal GDP. Saudi Arabia's fiscal break-even oil price for the budget has risen in recent years and we forecast it will remain above USD90/bbl in 2024 before falling to USD85/bbl in 2025. A USD10/bbl movement in oil prices impacts our budget forecast by 2%-2.5% of GDP, holding other factors constant. A change in oil output by 500,000 b/d impacts the budget by around 1% of GDP.

Non-Oil Economy Developing: An increase in public sector investments, combined with a raft of social and economic reforms has boosted the non-oil economy. We project real growth of 4.5% in the non-oil sector (excluding government) in 2024-2025, following an average of around 5% in 2022-2023. Growth will be supported by public sector investments, business environment reform, gradually lower interest rates, robust credit growth, ongoing development of retail and tourism sectors and employment gains among Saudis and expats.

Risks to the outlook include supply side constraints that could slow the pace of public sector investments and lower oil prices, which would complicate financing plans, in Fitch's view.

Vision 2030 Risks and Returns: Rising public-sector spending outside the budget, including on ambitious giga projects, and the potential for higher debt of state-owned and government-related entities (GREs), as Saudi Arabia presses ahead with its national investment strategy as part of Vision 2030, is a medium-term risk to the sovereign's balance-sheet strengths, in Fitch's view. However, leverage is currently low across the public sector and investments may bring returns, in the form of sustained higher non-oil GDP growth, job creation to meet the expanding national labour force and productivity gains.

Regional Stability Risks: Saudi Arabia has sought to deescalate regional tensions in recent years, including a degree of détente with Iran and efforts towards a formal ceasefire in Yemen. This has helped build confidence in the Kingdom, which is important for attracting greater foreign investment and tourism flows.

The Israel-Gaza war has caused an increase in regional instability since 7 October. Saudi Arabia is not being directly impacted so far, but risks of escalation persist from the ongoing nature of the conflict in Gaza, the involvement of the Houthis from neighbouring Yemen in disrupting Red Sea transit, the activity of other groups with links to Iran and US reprisals against these groups in Yemen, Iraq and Syria.

ESG - Governance: Saudi Arabia has an ESG Relevance Score (RS) of '5' for Political Stability and Rights and '5[+]' for the Rule of Law, Institutional and Regulatory Quality and Control of Corruption. Theses scores reflect the high weight that the World Bank Governance Indicators (WBGI) have in our proprietary Sovereign Rating Model. Saudi Arabia has a medium WBGI ranking at the 50th percentile with low scores for Voice and Accountability, and Political Stability and Absence of Violence constraining the average.

RATING SENSITIVITIES

Factors that Could, Individually or Collectively, Lead to Negative Rating Action/Downgrade

-Public Finances: Deterioration in the overall public finance position, reflected in government debt/GDP trending firmly above our forecasts or marked drawdowns of government assets, including government deposits at SAMA.

-Public Finances: Significant increases in contingent liabilities that undermine the strength of the public-sector balance sheet offsetting improvements in narrower government measures, for example, as a result of a sustained rise in GRE debt, particularly if this might not result in productive investments in the economy.

-Structural Features: A major escalation of geopolitical tensions that affects key economic infrastructure and activities over an extended period.

Factors that Could, Individually or Collectively, Lead to Positive Rating Action/Upgrade

-Public Finances: Fiscal reforms that increase the budget's resilience to oil price volatility, for example greater non-oil revenue generation or lower expenditure, while also maintaining the strength of the wider public-sector balance sheet.

-Structural Features: A marked trend of improvement in governance scores, helping to boost prospects for greater economic diversification.

SOVEREIGN RATING MODEL (SRM) AND QUALITATIVE OVERLAY (QO)

Fitch's proprietary SRM assigns Saudi Arabia a score equivalent to a rating of 'A' on the Long-Term Foreign-Currency (LT FC) IDR scale.

Fitch's sovereign rating committee adjusted the output from the SRM to arrive at the final LT FC IDR by applying its QO, relative to SRM data and output, as follows:

- Public Finances: +1 notch, to reflect the large government deposits held with the central bank as well as other public-sector assets, including state pension funds, that could be mobilised to support government funding.

Fitch's SRM is the agency's proprietary multiple regression rating model that employs 18 variables based on three-year centred averages, including one year of forecasts, to produce a score equivalent to a LT FC IDR. Fitch's QO is a forward-looking qualitative framework designed to allow for adjustment to the SRM output to assign the final rating, reflecting factors within our criteria that are not fully quantifiable and/or not fully reflected in the SRM.

COUNTRY CEILING

The Country Ceiling for Saudi Arabia is 'AA-', 1 notch above the LT FC IDR. This reflects moderate constraints and incentives, relative to the IDR, against capital or exchange controls being imposed that would prevent or significantly impede the private sector from converting local currency into foreign currency and transferring the proceeds to non-resident creditors to service debt payments.

Fitch's Country Ceiling Model produced a starting point uplift of +1 notch above the IDR. Fitch's rating committee did not apply a qualitative adjustment to the model result.

REFERENCES FOR SUBSTANTIALLY MATERIAL SOURCE CITED AS KEY DRIVER OF RATING

The principal sources of information used in the analysis are described in the Applicable Criteria.

ESG CONSIDERATIONS

Saudi Arabia has an ESG Relevance Score of '5'' for Political Stability and Rights as World Bank Governance Indicators have the highest weight in Fitch's SRM and are therefore highly relevant to the rating and a key rating driver with a high weight. As Saudi Arabia has a percentile rank below 50 for the respective Governance Indicator, this has a negative impact on the credit profile.

Saudi Arabia has an ESG Relevance Score of '5[+]' for Rule of Law, Institutional & Regulatory Quality and Control of Corruption as World Bank Governance Indicators have the highest weight in Fitch's SRM and are therefore highly relevant to the rating and are a key rating driver with a high weight. As Saudi Arabia has a percentile rank above 50 for the respective Governance Indicators, this has a positive impact on the credit profile.

Saudi Arabia has an ESG Relevance Score of '4'for Human Rights and Political Freedoms as the Voice and Accountability pillar of the World Bank Governance Indicators is relevant to the rating and a rating driver. As Saudi Arabia has a percentile rank below 50 for the respective Governance Indicator, this has a negative impact on the credit profile.

Saudi Arabia has an ESG Relevance Score of '4[+]' for Creditor Rights as willingness to service and repay debt is relevant to the rating and is a rating driver for Saudi Arabia, as for all sovereigns. As Saudi Arabia has track record of 20+ years without a restructuring of public debt and captured in our SRM variable, this has a positive impact on the credit profile.

The highest level of ESG credit relevance is a score of '3', unless otherwise disclosed in this section. A score of '3' means ESG issues are credit-neutral or have only a minimal credit impact on the entity, either due to their nature or the way in which they are being managed by the entity. Fitch's ESG Relevance Scores are not inputs in the rating process; they are an observation on the relevance and materiality of ESG factors in the rating decision. For more information on Fitch's ESG Relevance Scores, visit www.fitchratings.com/topics/esg/products#esg-relevance-scores.

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