War spending outruns oil windfall

The oil-price windfall that briefly padded Saudi Arabia’s finances in the opening months of the war has already unwound, leaving the Kingdom worse off than before the fighting. The early rise in oil revenues narrowed the budget deficit and flipped the current account into its first quarterly surplus in two years. But in the weeks after the US-Iran peace memorandum of understanding, crude slid back below USD 80 a barrel and erased most of that windfall, according to a note from EFG Hermes.

What is left is a fiscal picture that looks structurally weaker than the pre-war baseline: a deficit that barely narrows, a budget breakeven oil price that has blown out, and an economy the firm now expects to shrink in 2026.

Why it matters: Riyadh needs oil trading near USD 117 a barrel to balance its budget at a time when it is nowhere close, and the war has done two things at once. It has created new spending needs in logistics, energy infrastructure, and security, and it has made the foreign capital meant to relieve fiscal pressure harder to attract, according to EFG.

BUT- The picture is more nuanced: Argaam Investments’ Ahmed Ramzy tells EnterpriseAM the accounting figure is closer to USD 90-95 and only nears USD 115 once you fold in off-budget megaproject spending.

SOUND SMART- The fiscal breakeven is the oil price a government needs to cover its spending without borrowing. There is no single Saudi figure because it depends on what spending you include: the formal budget alone points to the low USD 90s, but load in the off-budget bns flowing through PIF and the gigaprojects and it climbs toward and past USD 115.

The windfall was real, and brief. EFG projects the 2026 fiscal deficit narrowing only marginally to 5.6% of GDP from 5.8% in 2025. Set that against the 2.3% the government budgeted and the 4.4% EFG itself was forecasting earlier this year. The first quarter told the story in reverse: a 20% annual jump in spending, with capex up 56%, produced the largest nominal quarterly deficit on record at SAR 126 bn. The second quarter looked far healthier, as higher oil prices fed through, with oil revenues rising 22% y-o-y and the deficit narrowing to SAR 34 bn. EFG treats that 2Q improvement as a one-off. With prices back below USD 80 and production stuck near 7 mn bbl / d, the boost has already faded.

Both readings start from the same recent data. The second-quarter deficit narrowed sharply, by roughly 73%, as revenues jumped from SAR 261 bn to almost SAR 339 bn. Ramzy is emphatic that this was a revenue story, not austerity, as spending fell only about 3.5%, and the improvement reflects the Kingdom’s collection capacity rather than any belt-tightening. EFG reads the quarter the same way and treats the boost as a one-off, with oil back below USD 80 and production stuck near 7 mn bbl / d.

On the full year, Ramzy says the government’s original SAR 165 bn deficit target now looks hard to hit, and the gap may widen slightly, though holding near that line amid the current tensions would still count as a strong outcome. EFG is projecting the deficit narrows only marginally to 5.6% of GDP from 5.8% in 2025, against a budgeted 2.3%.

The financing choice underneath the deficit is its own signal: The entire first-half gap was covered by borrowing, with no drawdown on reserves. Reserves are the buffer for a genuine shock, he says, and worth preserving precisely because of the current regional risk, Ramzy says, adding that the Kingdom’s high credit rating gives it market access its peers lack, letting it spread long-lived infrastructure costs across varying debt maturities rather than draining a single pool of banknotes. The caveat, he argues, is that the approach only works with tight control over financing costs and the quality of what the debt actually pays for.

The real economy is wearing the war more visibly than the budget. EFG forecasts real GDP contracts 1% in 2026, with oil GDP shrinking around 11% on a 25% drop in crude output and non-oil growth slowing to what it calls an “anemic” 2.0%. Non-oil growth had already decelerated to 2.9% in 1Q, the slowest since the pandemic, with flash estimates putting 2Q at just 0.6%.

The logistics bind is where it turns strategic: Saudi’s eastern, Gulf-facing ports are the ones exposed to disruption around the Strait of Hormuz, and the Red Sea fallback at Jeddah cannot yet absorb the volume. EFG points to rerouted shipping, cargo transferred to smaller vessels to run the Red Sea amid higher ins. costs, and a port lacking the container-handling, trucking, and road capacity to cope, with May sea freight down 23% y-o-y.

Ramzy is more positive on the export side, stressing that the East-West pipeline and Yanbu’s Red Sea outlet let crude reach Europe via the Suez Canal without passing the contested Bab Al Mandab chokepoint to the south. Disruption raises transit costs and cuts flexibility, but does not shut Saudi export capacity.

The binding point for both is financing. The PIF flagged the direction weeks ago with a five-year plan leaning less on direct equity injections into its subsidiaries and more on private money, and it is reportedly planning to merge the ports, rail, and shipping companies it already owns into a single logistics entity large enough to attract outside capital. EFG’s worry is that the same sustained geopolitical risk driving the new spending also makes private capital, especially Western, harder to court, which is why it expects a second round of project reprioritization.

What’s next: EFG assumes some normalcy from September, an assumption it concedes carries clear downside risk after the Houthis announced a maritime blockade on the Kingdom and struck energy facilities in the July escalation.