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02 March 2020

Kuwait: Fashionably late

Kuwait's massive reserve has always allowed its economy to absorb geopolitical risks and oil price volatility. However, these macroeconomic shocks have finally given the government a nudge to implement long-overdue reforms to diversify the country's sources of revenue. We take a look at this wealthy nation's agendas

Kuwait is also ranked at the third-highest investment grade level by Moody’s, S&P Global and Fitch Ratings, the three major credit assessors

by Kudakwashe Muzoriwa

Despite the strain on Kuwait’s finances, the country’s wealth still sets it apart. According to the International Monetary Fund (IMF)— boosted annually by mandatory transfers of 10 per cent of total revenue to the Future Generations Fund (FGF)—assets in the Kuwait sovereign wealth fund has amounted to over $400 billion.

Kuwait, OPEC's fourth-largest oil producer, has been the slowest reformer in the GCC, partly due to government-legislator frictions and exceptionally large sovereign assets, which could finance decades’ worth of fiscal deficits. According to S&P Global, despite Kuwait's baby steps towards fiscal reforms, the economy remains tightly bound to oil.

The country derives around 55 per cent of its GDP, more than 90 per cent of exports, and about 90 per cent of fiscal receipts from hydrocarbon products.

Global oil prices will continue to determine growth, but other economic sectors are picking up. In 2019, Kuwait recorded a three per cent non-oil revenue growth and the IMF projected a 3.5 per cent growth this year.

Kuwait approved its 2020/21 budget last month projecting a KWD 9.2 billion ($30 billion) deficit, another huge deficit for the sixth year in a row due to lower oil prices and production curbs in line with the country’s commitment to the Organisation of Petroleum Exporting Countries (OPEC).

The parliament has delayed the passing of a new debt law after the previous one expired in October 2017, blocking any debt issuance in 2018 and 2019. The tensions delaying Kuwait’s fiscal reforms have stalled the country’s economic transformation efforts.

Lawmakers have resisted efforts by the government to reclaim access to debt, accusing it of mismanaging public finances and demanding a fix before it can borrow again, said Moody’s.

Fitch Ratings stated that government resignations and subsequent cabinet reshuffles point to political frictions that could delay new debt issuance and weigh on broader fiscal and economic reforms.

However, despite the tumultuous relationship between the government and politicians, Kuwait introduced financial and structural reforms to boost private sector growth and employment. The World Bank stated that Kuwait is undertaking reforms to improve the business climate, strengthen competition, reduce the role of the state in the economy, deepen capital markets, and foster the development of SMEs.

The Economics of Kuwait Vision 2035

When the Emir of Kuwait opened the parliamentary session last year, he urged lawmakers not to allow higher oil prices to hold back economic reforms needed to protect future generations. For years Kuwait benefited from having the third-largest oil reserves in the world by investing in lucrative oil discovery projects.

Now the government is eager to capitalise on human capital. Kuwait is taking bold steps towards a bright future with Kuwait Vision 2035 that is aimed at bolstering the country’s financial status to include a variety of income resources other than oil revenues. The government plans to privatise around 40 assets over the next 25 years.

By privatising national assets, Kuwait is handing the private sector a stake in the country’s future. The Kuwait Vision 2035 was launched by HH the Amir Sheikh Sabah Al-Ahmad Al-Jaber Al-Sabah some two years ago to transform the country into an international hub for business and commerce.

Its ultimate aim is to wean the country off from dependence on hydrocarbons, cut the red tape that hurts innovation, trim Kuwait’s massive public sector spending and spur private sector investment.

The Financial Times reported that the government’s grandiose infrastructural spending plans, alongside wideranging investment in energy, healthcare and education feed into the country’s long-term development vision. In 2019, the finance ministry said that $60 billion has already been injected into the economy as part of the reform plan, with another $100 billion set to be deployed through 2035.

According to ProTenders, a Middle East construction market research company, there are $429 billion in planned projects in Kuwait, of which $239 billion in contracts are under construction. Kuwait’s Mubarak al-Kabeer port is the centrepiece of the country’s development plans. Located on Bubiyan Island near Kuwait’s northern border with Iraq, the Silk City project is planned as a free-trade zone.

Backed by China, the North Gulf Gateway project is designed to attract a range of high-tech industries and tourism and create between 200,000 and 400,000 new jobs. The government has positioned the project as a means to prepare Kuwait for an era of declining oil revenues.

The project would fuse Kuwait into China’s Belt and Road Initiative, a 21st Century take on the Silk Road made up of a ‘belt’ of overland corridors and a maritime ‘road’ of shipping lanes. Kuwait is the first GCC country to sign up to China’s efforts to tie Southeast Asia to Eastern Europe and Africa, a swath of the globe that accounts for 71 countries, half the world’s population and a quarter of global GDP.

In December 2019, the Capital Market Authority said that the sale of its stake in Boursa Kuwait to Kuwaiti citizens was more than 8.5 times oversubscribed, in the last stage of the company’s privatisation process.

The first phase of Kuwait Stock Exchange's initial public offering took place in February 2019 through an open bidding process in which a consortium of domestic and international investors, including Hellenic Exchanges-Athens Stock Exchange Holding acquiring a 44 per cent stake in the company.

Financial cushion

Although Kuwait is being confronted by a KWD 9.2 billion deficit as projected in the 2020/21 budget, the government will likely draw from the state reserve fund to finance the deficit. The country has long enjoyed the trappings of the world’s first sovereign wealth fund, which Sheikh Abdullah Al-Salem set up in 1953.

The exact sum of the sovereign wealth fund remains a secret, as its assets are not disclosed. Kuwait has a law that prohibits the Kuwait Investment Authority (KIA) from revealing the size of its holdings. According to IMF estimates, KIA’s assets surpassed 420 per cent of GDP by end-2019, as the Future Generations Fund continues to receive mandatory transfers from the government and generated strong returns on its assets.

This affords Kuwait significant buffers to respond to any potential future shocks. S&P stated that at 420 per cent of GDP, Kuwait’s net general asset position was the highest of all rated sovereigns at the end of 2019. Kuwait is also ranked at the third-highest investment grade level by Moody’s, S&P Global and Fitch Ratings, the three major credit assessors.

Kuwait’s other financial cushion is the FGF created in 1976 to provide financial security for when Kuwait’s oil reserves finally dry up. The government has never wavered on its promise to deposit 10 per cent of all oil revenues into the fund, which is now believed to be worth $420 billion, according to Fitch Ratings.

Kuwait’s General Reserve Fund (GRF) holds the accumulated government surpluses after transfers to the FGF, and the government draws on its assets for financing, including to pay for maturing debt. Fitch said that the GRF could sustain the country for five years before it runs out, however, the investment vehicle’s value is thought to have fallen for the fourth year in a row in 2019.

Leaning on banks

One of the country’s pillars of growth is a strong banking sector which comprise 23 banks, including 11 local lenders, according to the National Bank of Kuwait (NBK).  CBK reported that banks dominate the domestic financial sector, with $221 billion of assets in 2018 or 89 per cent total disclosed financial assets.

Furthermore, the banking sector has also shown resilience in the face of the oil price decline, notching compound annual growth in assets of 4.7 per cent from 2014 through 2018. According to PwC, the Kuwait banking sector’s profile is expected to continue growing, with lenders positioning themselves as key partners for infrastructure projects and public-private partnerships.

Vision 2035 also offers opportunities for banks to develop new corporate offers and credit facilities. Last year, credit growth in Kuwait accelerated, spurred by the central bank’s decision in 2018 to increase ceilings on personal loans and supported by favourable monetary conditions.

The Central Bank of Kuwait (CBK) deployed various monetary policy instruments to support lending to the economy while maintaining the attractiveness of the dinar, said Moody’s.

The World Bank lauded CBK’s plans to conduct a comprehensive inventory of macroprudential tools to ensure that they continue to promote financial sector resilience, prevent a build-up of systemic risks, and balance financial stability and growth objectives. Despite the challenging operating environment, S&P Global said that the Kuwait banking sector remains resilient with stable profitability and improved asset quality.

Boosting FDI

To facilitate foreign direct investment (FDI), the government launched the Kuwait Direct Investment Promotion Authority (KDIPA) in 2013. Kuwait has also passed laws allowing 100 per cent foreign ownership of companies approved by the KDIPA and instituting tax holidays and customs exemptions.

The merits of these policies are $3.2 billion in foreign investments between January 2015 and March 2019. According to KDIPA’s latest annual report, the investments were concentrated in the services sector such as information technology, oil and gas, construction, training, health, energy, consultancy, market research and entertainment services.

KDIPA also said that the investment came from 37 global companies representing 16 foreign and Arab countries from developed and emerging economies. Kuwait is also opening up its bond market to foreign investors.

Despite KIA being among the world’s largest sovereign wealth fund—with almost $548 billion (420 per cent of GDP) held in assets abroad—the state-issued $8 billion in five- and 10-year bonds in 2017. The debt issuance authorisation expired in October 2017. However, Kuwait is in the process of drafting a new law to allow issuance of 30-year bond. The new legislation would also let the country raise its debt ceiling from KWD 10 billion to KWD 25 billion and allow the issuance of sovereign Sukuk.

Hydrocarbons income

Data from Kuwait’s statistics bureau shows that hydrocarbons remain the backbone of Kuwait’s economy, although their share of GDP has dropped to 55 per cent from 61 per cent in 2014. As of 2018, Kuwait was estimated to be the world’s eighthlargest crude oil producer, with the ninth-largest oil reserves, said S&P.

Assuming current production levels, the total proven oil reserves are equivalent to around 100 years while the cost of production is among the lowest globally.

The physical nature of Kuwait’s oil and gas reserves means that the country enjoys some of the lowest costs of production of any oil province in the world. As such, it is hardly surprising that the country’s economic performance will remain largely determined by oil industry trends.

Oil dependence worked in Kuwait’s favour in 2017/18 when oil prices were higher, lifting growth and bettering fiscal and external balances. However, 2020 might be a different story. S&P expects Kuwait’s oil production to average about 2.65 million bpd in 2020 compared to the 2.8 million bpd originally planned and included in the 2019/20 budget.

Due to production curbs in compliance with OPEC+, Kuwait’s overall economy is projected to expand by a modest 0.5 per cent this year, similar to that of 2019 where the country’s real GDP was held back by OPEC+ decision to cut oil production.

Unresolved issues

Kuwait has an unpredictable monetary policy unique for an Arabian Gulf state and recently appointed the first female finance minister in the region. The country has an elected legislature but the acrimonious relationship between lawmakers and the government has resulted in eight administrations.

Bloomberg reported that the fallout on fiscal policy is also becoming harder to contain because of the disputes between the legislators and appointed government. In her 2019/20 budget presentation, Mariam Al-Aqeel, the Kuwait Finance Minister, said that the debt law which was previously blocked by the lawmakers is now in parliament.

The finance minister is expecting the government to fight for the law to be approved since the cost of borrowing is less than the cost of withdrawing from the reserves. The lack of a new public-debt law has made it impossible for the government to finance its deficit by borrowing, forcing it to rely on the GRF’s assets instead.

Kuwait plans to plug its 2020/21 deficit through withdrawals from the GRF. According to Moody’s estimates, GRF assets has declined by KWD 14.7 billion from 2015-2016 to 2018-2019 fiscal years. Fitch Ratings expected parliamentary authorisation to issue or refinance debt to be approved in the fiscal year to end-March 2020 but given continued political acrimony, the rating agency said that it will be delayed until 2020/21.

The pace of the decline in GRF assets slowed in 2016/17 on the back of heavy international and domestic bond issuance, but this largely changed in 2017/18 after the expiration of the public debt law. The parliament also blocked some crucial reforms, such as the introduction of value-added tax (VAT) and excise taxes in Kuwait.

The prospect of new levies such as VAT might be even more remote this year as lawmakers gear up for parliamentary elections, with popular issues at the forefront. Nevertheless, in spite the various challenges the government is grappling with, Kuwait remains in a strong financial position independent of external help and is on the right course in developing it’s economy

RELATED STORIES: National Bank of Kuwait Central Bank of Kuwait FDI Kuwait Direct Investment Promotion Authority Sukuk Mariam Al-Aqeel VAT OPEC Kuwait General Reserve Fund Kuwait Investment Authority



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