Sovereign funds role in achieving fiscal stability and sustainable development examined

PIF ranks 8th among the world’s largest sovereign wealth funds

August 27, 2020

RIYADH — A new commentary by King Abdullah Petroleum Studies and Research Center (KAPSARC) examines the potential role of sovereign funds, both short-term stabilization and long-term savings funds, in achieving fiscal stability and sustainable development in Saudi Arabia.

The paper is aligned with the Public Investment Fund (PIF), which is ranked 8th among the world’s largest sovereign wealth funds with a net worth of $360 billion, and with the center’s initiative of Evaluation of Public Investment.

The commentary, published by Nader AlKathiri, a researcher in the Energy and Macroeconomics program, identified three challenges of managing oil revenues.

First, oil provides uncertain revenue streams due to oil price fluctuations in the global market. Second, it is a non-renewable resource that is constantly being depleted. Third, the oil industry is capital-intensive and creates fewer jobs compared with other industries.

KAPSARC’s commentary emphasized that sovereign funds reduce the risks of oil revenue volatility by stabilizing government expenditure in the face of oil price fluctuations.

They generate a sustainable source of income to replace the depleted resource’s revenues, in addition to improving intergenerational equity and isolating the economy from the adverse macroeconomic effects associated with the dependence on oil revenues.

KAPSARC’s commentary seeks to investigate the impact of various factors on managing investment funds and how much to save during oil boom cycles, and how much to withdraw from it when prices are low.

These factors include future oil revenue expectations, the size of the fund, and the ability of the country to borrow in downturns to finance its fiscal budget.

The commentary explains the appropriate investment strategy for stabilization funds and the role of debt financing. Stabilization funds’ assets have to be liquid enough and readily available to meet their objectives of protecting their respective economies from fiscal instability.

In particular, the proper management of these funds is crucial for their success in mitigating macroeconomic volatility, and they require integrating with alternative sources of financing fiscal deficits.

KAPSARC’s commentary concluded that Saudi Arabia was able to decouple government spending from fluctuating oil revenues by using the government’s reserves held by the Saudi Arabian Monetary Agency (SAMA) as a buffer against oil price shocks.

In addition, a stabilization fund provides short-run protection against oil revenue volatility, reduces fiscal uncertainty, and creates a more predictable climate.

The commentary emphasized the importance of the integrative role that the management of a stabilization fund plays with alternative sources of financing, including domestic and international debt issuance, to minimize the total cost of borrowing.

Establishing a sovereign wealth fund contributes to transforming oil wealth underground into other forms of wealth above the ground. By investing in foreign assets, the fund transforms oil assets into foreign assets that yield financial rents rather than oil rents.

KAPSARC made progress in the list of the best research centers regionally and globally, as it jumped 14 ranks in the ranking of the Middle East and North Africa (MENA) research centers.

It ranked 15th out of 103 research centers regionally, and 13th out of 60 research centers globally specializing in energy policy. — SG

August 27, 2020
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