How volatility in the oil market and uncertainty shocks affect Saudi economy: a frequency approach

In this study, spectral Granger causality analysis is employed to investigate the spectral dynamics of uncertainty transmission and its impact on economic growth and financial development in Saudi Arabia from 1993 to 2020. We examine the relationships between crude oil volatility, geopolitical risk, global economic uncertainty, financial development (measured by market capitalisation, MCGDP, Financial Institutions Access Index, FIAIX) and economic growth. The empirical results show that negative shocks in crude oil volatility have a significant impact on financial development as measured by the MCGDP, with capital flight and reduced domestic investment playing key roles, despite the effective contribution of increased government spending to mitigate these effects. In this study, spectral Granger causality analysis is employed to investigate the spectral dynamics of uncertainty transmission and its impact on economic growth and financial development in Saudi Arabia from 1993 to 2020. We examine the relationships between crude oil volatility, geopolitical risk, global economic uncertainty, financial development (measured by market capitalisation, MCGDP, Financial Institutions Access Index, FIAIX) and economic growth. The empirical results show that negative shocks in crude oil volatility have a significant impact on financial development as measured by MCGDP, with capital flight and lower domestic investment playing a key role, despite the effective contribution of increased government spending in mitigating these effects. However, looking at the FIAIX, crude oil volatility has a different impact, with positive shocks having no significant impact on financial development. In contrast, negative shocks show long-term causal effects, which emphasises the vulnerability of the banking sector to oil price fluctuations. Geopolitical risk has a significant long-term impact on the MCGDP due to uncertainty shocks caused by regional and global geopolitical measures. For geopolitical risk, the results are mixed with a significant causality of negative shocks on the FIAIX over certain frequencies, emphasising the sensitivity of the banking sector to geopolitical tensions. In contrast, the world economic uncertainty has only a limited direct impact on the FIAIX, indicating the resilience of the Saudi financial sector to fluctuations in global uncertainty. In terms of economic growth, positive shocks have a greater impact than negative shocks due to the volatility of crude oil. However, shocks resulting from geopolitical risks, whether positive or negative, have little effect on economic growth. The industrial production index, a measure of the resilience of the Saudi economy, indicates that it is susceptible to positive shocks from fluctuations in oil prices over a range of time periods. Our study’s findings can assist Saudi Arabia’s authorities in fortifying the country’s financial and economic resilience against the spread of uncertainty. For strong financial development and sustainable economic growth, these uncertainty elements must be well monitored.