The Saudi Handout that Wasn't

March 4, 2011 Topic: OPECEconomic DevelopmentEnergy Region: Saudi Arabia

The Saudi Handout that Wasn't

Weaning the House of Saud from its oil love.

Last week, just before King Abdullah returned to Riyadh after a long absence for medical treatment and recuperation, he authorized a $36 billion ‘handout’ in pay increases to help less well-off citizens cope with inflation and to provide unemployment benefits and affordable housing. Some interpreted this as a gesture to diffuse protests. While some Saudi dissidents pleaded for jobs, others dismissed it as an effort by the Al-Sauds to save their skin. If anything, this so-called handout will only remind Saudis of their servitude—at the very moment other Arabs, and the world at large, are putting the royals under a magnifying glass.

King Abdullah knows full well that there is almost nothing in Saudi Arabia that truly belongs to him. Most everything in Saudi Arabia is financed by oil depletion. Oil is not his to ‘hand out.’ Its depletion and all ensuing handouts to buy support can only be the fuel for uprisings. Let me explain.

In most countries, exhaustible resources belong to the state and are, in turn, the birthright of current and future generations. The state has the responsibility to preserve equal benefits from all exhaustible resources for all generations.

Has the House of Saud preserved the heritage of all generations of Saudis? The answer is an emphatic no. Is the waste of oil a main source of grievance against the House of Saud? The answer is an emphatic yes. If the Al-Sauds are to have any chance of survival at a time when rulers all around them fall, there are a number of things that they will have to do, and quickly.

Broadly speaking, Saudi oil revenues should not finance consumption—as a number of economists, most notably Robert Solow have pointed out, this is a key tenet of managing exhaustible resources. Imagine that Saudi Arabia produces only oil. If the oil is used to finance consumption, then eventually the Saudi economy will fall off the cliff when oil runs out, that is, with a GDP of zero.


Worse, every prince in Saudi Arabia gets a monthly check from a special department of the Ministry of Finance, which is run by loyal subjects from Mecca. This might normally be overlooked, but in Saudi Arabia there are 7,000-8,000 princes and the size of the checks, though varied, run sometimes into the millions of dollars for the senior princes. But this is not all. A handful of princes take what they want from the Ministry of Finance. Many of them act as middlemen for lucrative government contracts.

Although using oil money to finance consumption is not economically sound and financing the lifestyles of the Al-Sauds is robbery, military expenditures are arguably even more wasteful. Saudi Arabia has been the largest importer of arms in the world. These imports are accompanied by enormous payments to corrupt senior princes. Military hardware requires maintenance expenditures in the future, draining more resources. No one really believes Saudi Arabia could defend itself against Iranian or Iraqi military aggression; if anything military hardware is likely to be used against an internal uprising—right now it rewards the the United States and Great Britain, the Al-Sauds' foreign backers.

Let’s cut to the chase. There is only one efficient and just way to administer oil revenues. First, wean the government (and immediately cut off the Al-Sauds) from oil revenues over a period of say ten years (a period of time to develop an efficient and equitable tax system to provide revenue for the government). Place oil revenues into a well-managed sovereign wealth fund (SWF) and give an equal real payout directly to each citizen, in perpetuity. The management of such a fund must be transparent and outside of the personal control of the Al-Sauds and must be designed to afford appropriate incentives to individuals to live productive lives and to contribute to economic and social prosperity. This may sound like a difficult task, but it is not. The real payout could be readily calculated and updated, as a moving average, to reflect changes in the oil and gas markets and population. Such an approach would bypass wasteful government expenditures, be they subsidies or military expenditures. Individuals would be in a position to spend their money as they wished, just as is done in Alaska. The government would be forced to become more efficient and accountable. The House of Saud would have to abandon corrupt rent-seeking activities that impede the development of good institutions, a prerequisite for sustainable private-sector growth.

If King Abdullah is serious, then such a fundamental turnaround, not handouts, is the way to go. It would show the citizenry that he is willing to truly reform, share the wealth of the country equitably; to address corruption; and establish a system that would provide financial support equitably to all while supporting a private sector that could create badly needed employment opportunities. He might even save the Al-Sauds from regime change and humiliation, their destiny if they don’t change their ways quickly, and set a helpful precedent for their neighbors in the Persian Gulf. Now is the time for the US administration to smother King Abdullah with tough love if Washington wants to save its most important Arab ally.