The Breakeven Oil Price Is a Poor Guide to Saudi Arabia’s Fiscal and Oil Production Policies

Around the time of OPEC+ meetings, discussion of the oil price that Saudi Arabia and other major oil producing countries need to balance their budgets increases. This “fiscal breakeven oil price” is often used as a barometer of the fiscal situation in an oil exporting country – if the breakeven oil price is above or below the prevailing market price, this is seen as a sign of fiscal weakness or strength. Sometimes analysts imply that production decisions for the alliance of OPEC and non-OPEC oil producers are driven by a desire of large producers to push the oil price to its breakeven level. While the fiscal breakeven oil price has the advantage of simplicity, it has too many drawbacks to be a useful guide to Saudi Arabia’s fiscal and oil production policies.

The Fiscal Breakeven Oil Price

The fiscal breakeven oil price is the oil price that balances the government budget (i.e., revenue equals expenditure, so there is neither a surplus nor deficit) given actual or projected oil production, non-oil revenue, and expenditures. There is an equivalent external breakeven oil price that balances the external current account, where exports of goods and services plus income credits equal imports of goods and services plus income debits. The International Monetary Fund publishes estimates of the fiscal (and external) breakeven oil price for countries in the Middle East and Central Asia region in its twice-yearly “Regional Economic Outlook” report.

Pitfalls of the Breakeven Oil Price

The attraction of the breakeven oil price is clear – one number provides a simple and headline-grabbing snapshot of a country’s fiscal position. Comparing the market oil price to the breakeven price indicates whether the budget will be in surplus or deficit. It does have its uses. For example, when the government accounts for the year are closed, the breakeven oil price can be calculated, and its trend over time sheds light on how budget pressures are evolving. A trend increase indicates the budget is becoming more reliant on oil prices and therefore more vulnerable to any future price reversal.

There are, however, at least three important weaknesses with the fiscal breakeven oil price calculation that undermine its usefulness.

First, oil production, non-oil revenue, and expenditures are constantly changing and difficult to predict. As these factors change, so does the breakeven oil price, so it can look very different in six months than it does today. Lower oil production, additional government spending, and cuts in non-oil tax revenue will all push the estimated breakeven oil price up (and vice versa).

For Saudi Arabia, oil production and expenditure often change substantially and quickly. With considerable spare oil production capacity and a demonstrated policy of actively adjusting production depending on demand and supply conditions in the global market, oil production is more variable for a country that always produces at full capacity. Historically, government spending has also tended to increase as oil prices rise, meaning that the market and breakeven oil price often move together.

In the IMF’s fall 2022 “Regional Economic Outlook,” Saudi Arabia’s breakeven oil price for the year was projected at $73.30 per barrel, but by spring 2023, this had risen to $85.80/bbl, as oil exports underperformed projections, and government spending surged late in the year. Indeed, since 2018, the IMF’s estimate of the fiscal breakeven oil price has risen from first to final estimate for each year except in 2020.

Source: International Monetary Fund “Regional Economic Outlook”

The “first estimate” is from the spring “Regional Economic Outlook” of the preceding year and “actual” is taken from the spring “Regional Economic Outlook” of the subsequent year. For example, for 2018, the “first estimate” is from the spring 2017 “Regional Economic Outlook” and the “actual” is from the spring 2019 “Regional Economic Outlook.”

Turning to 2023, the fiscal breakeven oil price was estimated at $80.90/bbl in the May “Regional Economic Outlook,” based on average production of 10.49 million barrels per day. Saudi Arabia cut production by 500,000 b/d beginning in May (as part of OPEC+ cuts) and then announced a further 1 mb/d unilateral cut for July (extended to August). If these additional cuts are maintained for the rest of 2023, the breakeven oil price would rise to around $88/bbl. This illustrates the “dog chasing its tail” logic of thinking that Saudi Arabia’s oil production decisions aim to move market prices to match the fiscal breakeven oil price. As oil production has been cut in recent months, the fiscal breakeven oil price has risen.

A second weakness is that, contrary to the underlying assumption of the breakeven calculation, the government does not need to balance its budget each year. A surplus, deficit, or balance may be appropriate depending on the economic situation and longer-term sustainability needs. Saudi Arabia has one of the lowest government debt-to-gross-domestic-product ratios in the G20 and has considerable financial assets. Given this enviably strong fiscal position, the government has considerable policy flexibility and can easily run and finance fiscal deficits. At a time when it is looking to drive private non-oil growth and diversify the economy, a fiscal deficit can make sense, particularly if sound investments are being made in physical and human capital.

Finally, calculations of the fiscal breakeven oil price usually focus on the central government budget. This is not a comprehensive measure of fiscal policy in countries where public entities carry out a lot of spending on behalf of the government. In Saudi Arabia, public sector spending is increasingly taking place outside the central government through the Public Investment Fund and National Development Fund. Such off-budget spending should be considered in addition to on-budget spending in any analysis of fiscal policy. Coverage of the central government will underestimate fiscal needs – effectively the breakeven oil price will be underestimated.

A Fuller Analysis is Needed

Rather than looking at the fiscal breakeven oil price, a thorough analysis of the government budget, debt, and net asset positions is needed to understand the fiscal situation in Saudi Arabia and any implications this may have for oil market policy. This analysis will need to be based on projections of the economic situation and the announced revenue and expenditure policies of the government while taking account of how effectively these policies have been implemented in the past. It will also need to consider how oil revenue will evolve. Oil revenue depends not only on price and output but also the specifics of the revenue transfer from the oil company to the budget through taxes, excises, and dividends. Ideally the analysis will also be based on broader measures of the public sector that include the Public Investment Fund rather than just the central government. These projections can then be used to assess the sustainability of fiscal policy given the current debt and financial asset position and the vulnerability of the government budget to unanticipated developments, such as the coronavirus pandemic.

Such a detailed analysis would make clear that, even if the market oil price is well below the fiscal breakeven price, there is no need for concern about fiscal sustainability in Saudi Arabia at the present time. The fiscal position is very strong with low debt levels, significant financial assets, and an increasingly well-developed debt and sukuk (Islamic bond) market from which the government can borrow. It therefore has considerable capacity to run fiscal deficits and finance its diversification plans in the near term and has no need to make oil production decisions that focus on trying to balance the budget at upcoming OPEC+ meetings.

The views represented herein are the author's or speaker's own and do not necessarily reflect the views of AGSI, its staff, or its board of directors.