Iraq conflict could deal blow to Saudi economy

War against Iraq could spell trouble for Saudi Arabia.

Analysts say that while the chances are high it will find a political role in the conflict its people can accept, longer-term risks arise if a US strike against its Arab neighbour hurts its oil-dependent economy.

Much depends on whether a war against Iraq ushers in a prolonged period of low crude oil prices, a factor that could play into a further erosion of living standards in Saudi Arabia, diplomats and analysts here say.

Any added pressure on the government to provide for the needs of a 22 million-strong population threatens to strain the basic social contract in a tribal society where rulers acquire loyalty in return for creating prosperity.

This becomes especially true at a time when the government must undertake painful reforms to reverse a steady decline in real growth by reducing its role in favour of the private sector and attracting investment from foreigners and Saudis alike.

"Politically, the real issues internally are economic and things are always on a slow boil," said one Western diplomat.

"A war, if it starts a slide in oil prices, would shorten the time to make changes... and the support mechanisms Saudis have like extended families and a tribal structure are already under pressure," he said.

Analysts say the potential political fallout of an Iraq war is probably not a major concern since the ruling al-Saud family is attune to popular opposition against any open involvement.

They say the conservative Muslim kingdom has therefore refused to take a clear position so far on whether they will allow the country to be used as a launch pad for a strike.

"They (the ruling family) will defy their public opinion on issues they think are of immediate regime security interests, but (Iraqi leader) Saddam Hussein is not an immediate regime threat," said Gregory Gause of the University of Vermont.

"Why put yourself out on the limb to do something for the Americans that you don't think is particularly important to you right now and stirs up your people?" he asked.

"They can play it like Afghanistan," said the diplomat, referring to Saudi Arabia's stance during the US-led bombing campaign against the Muslim country, which began last year following the September 11 attacks on US cities.

At the time, Riyadh refused to allow US planes and forces heading to Afghanistan to use its Prince Sultan Air Base, but provided intelligence and assisted in the war against so-called terror financing.

Analysts say the real danger of an Iraq war for Riyadh would be economic, which they say could feed into politics in general.

While they note that "regime change" in Iraq could be in Saudi Arabia's interest by reducing the need to keep unpopular US troops on its soil, and possibly by providing Saudi entrepreneurs access to Iraqi business, some say the benefits are outweighed by the threats to the oil-reliant economy.

Saudi Arabia, the world's biggest oil exporter, remains uniquely vulnerable to movements in oil prices that are, in turn, hostage to a variety of uncontrollable factors from the weather to the strength of the world's economic recovery.

A drop in oil prices, especially if it persists in the medium term, could have serious consequences for the Saudi budget given that interest payments on domestic debt and government wages eat up 85 per cent of oil revenues, which provide roughly three-quarters of total state income.

Saudi Arabia's de facto ruler Crown Prince Abdullah first issued dire warnings about the economy in 1998, when benchmark Brent crude oil fell below $12 a barrel and the kingdom saw a sudden drop in revenues.

Then, he bluntly told his subjects that the oil bonanza was over, launching reforms that have crept along ever since.

"Were there to be a prolonged drop in oil prices, it would have a detrimental effect here," said Bishr Bakheet of Bakheet Financial Advisers in Riyadh.

Analysts here have warned oil prices would fall anywhere between $5-$9 a barrel once the Iraq issue is resolved and could drop further if Iraq attempted to maximise its market share after years of constraint under sanctions.

A key factor behind forecasts of lower oil prices in a recent Reuters poll is that Opec and non-Opec producers are pumping more barrels to cash in on currently higher prices.

More oil from Iraq would come on top of supplies already forecast to materialise, pushing down prices.

The need to reform and diversify the Saudi economy is no secret in this kingdom once renowned for unimaginable wealth.

A staggering public debt estimated at 95 per cent of gross domestic product has grown over the years as volatile oil prices failed to keep up with rising expenditures and has left the government little room to manoeuvre.

The government's ability to provide jobs is already under pressure, with unemployment among Saudis estimated anywhere between eight to nearly 12 per cent.

"There is no imminent explosion here. There is a cushion of many years in the economy, but reform is still essential," said Brad Bourland, chief economist at Saudi American Bank in Riyadh.