Country Report Kuwait
Kuwait’s hydrocarbon dependent economy slowed in 2013, as oil output moderated. Prospects for 2014 are stable. The political focus seems to be shifting towards the crown prince succession, which might stall progress booked on economic reforms in the past year.
Strengths (+) and weaknesses (-)
(+) Strong external and fiscal position
High oil export revenues have resulted in fiscal and external surpluses for thirteen years in a row. Public debt is very low at 6% of GDP and the external position is very strong.
(-) Policy stasis due to a dysfunctional political system
Government and parliament derive their authority from different sources, as the government is appointed by the ruling family while the majority of parliament is elected. Continuous clashes between the two have resulted in a political deadlock and policy stasis.
(-) High dependency on oil
The hydrocarbon sector accounts for 63% of GDP, generates 94% of total export and 82% of total government revenues. Hence, Kuwait is highly susceptible to volatile global oil markets. Kuwait’s low fiscal breakeven oil price (IMF estimate is USD 70) is far below current prices, which provides comfort.
(-) Susceptibility to sectarian violence
While the majority of Muslims in Kuwait are Sunni (60-70%), the country also hosts a significant Shia community and is therefore prone to sectarian conflict related to this division. The fact that Shia’s are well represented in business and politics serves as a mitigant.
1. Lower growth on the back of moderating oil production
Despite a growing non-oil sector, moderating oil production has led to a slowdown of overall economic growth and the forecast for 2014 shows no improvement. The economic performance of Kuwait is determined by developments in the oil sector, given its high share in the economy. Consequently, fairly flat oil production in 2013 pushed growth down to 3%, from 8.3% a year earlier, despite the fact that growth in the non-oil sector accelerated. In 2014, growth is estimated to be stable at 2.7%, on the back of a small increase in oil production and growth in the non-oil sector picking up pace.
At 41% of GDP, government spending buttresses economic growth. However, the lion’s share of expenditure goes to recurrent spending, especially public wages and subsidies, while capital investments get postponed. Consequently, public spending is particularly channelled into consumption and does not lead to much needed improvements of infrastructure or progress with regard to economic diversification, which would enhance future economic potential. Moreover, the IMF estimated that, unless structural reforms are implemented, the high recurrent expenses will push spending beyond oil revenue by 2017/2018, thereby reducing the government’s capacity to boost the economy. It is positive that the authorities have started to reform the subsidy system. Also, capital investments related to the development plan are gaining traction, which should support growth in the non-oil sector. However, the risks to this scenario are tilted to the downside as political wrangling might once again hinder such plans.
2. Banking sector performance improves
In 2013, credit growth was highest since the global financial crisis hurt the sector in 2008, at 7.2% and up from 5.3% in 2012. In addition, profitability has been improving and non-performing loans (NPL) have been declining from 11.5% in 2009 to 3.8% in 14Q1. The government’s programme to buy out and restructure USD 2.6bn of consumer and instalment loans (10% of the total of these types of loans) also contributed to this. While it is reassuring that government support is strong and readily available, it also stimulates moral hazard behaviour amongst banks and borrowers. Luckily, the Kuwait banking sector has a strong loss absorbing capacity due to sound levels of liquidity and capitalization.
3. Hopes of less volatile politics could get dashed by focus on the crown prince succession
A more balanced parliament, elected in 2013, was expected to push economic policy out of paralysis. However, such hopes might be dashed in the near future, as the royal family seems to be focusing on the crown prince succession. Elections in 2013 led to fewer hardliners being part of parliament and, thus, raised expectations about increased political stability and progress on economic reforms. Since then, parliament has survived a whole year of political bickering and several economic measures have been implemented. However, recent allegations of coup plans and corruption among senior members of the ruling family indicate infighting in the royal family, related to the nomination of the next crown prince, has intensified. As the various branches of the royal family jockey for position, the parliament is poised to get caught in the middle. Consequently, it is increasingly likely that politics will revolve around the succession battle and that economic policy makes slides to the back seat again.
4. Islamic State becomes a threat
Kuwait is susceptible to contagion from conflicts in Syria and Iraq, especially as the country has become a hub for financing militant groups in the region. After al-Qaeda offshoot Islamic State (IS) expanded outside Syria and occupied large swaths of territory in North-West Iraq, Kuwait deployed troops along the Iraq border in an effort to keep any spill-over from the conflict in Iraq at bay. This represents the first deployment since the end of the Gulf War in 1991. However, the IS threat from within Kuwait might be even greater. In recent years, Kuwait has turned into a regional hub for financing militant groups in the region, particularly Syria, on the back of lax financial regulation and support campaigns by domestic public figures and clerics. In March 2014, US officials called Kuwait "the epicentre of fundraising for terrorist groups in Syria". Kuwait has taken action against Sunni radicals that facilitate such support ever since. But, years of turning a blind eye to such support has developed a significant degree of domestic sympathy for Sunni militants in the region. So ongoing clampdown could backfire, leading to terrorist activity at home or to higher tensions between the Sunni and Shia communities in the country.
Kuwait’s small and open economy is undiversified and almost fully based on the oil sector, which is a source of financial strength, but also a severe structural weakness. Kuwait holds the sixth-largest proven oil reserves in the world, enough to sustain current production of 3m bpd for 90 years. Kuwait is the world's eighth-largest oil producer. The oil sector is managed by the state and the degree of state intervention in general is high. Structural shortages of water and arable land imply that the prospects for Kuwait's manufacturing and agricultural sectors are extremely limited. 98% of the population lives in the cities and 69% of it consists of immigrants, which make up 80% of the labour force. High wages and favourable working conditions keep Kuwaiti nationals working in the public sector, where they account for 80% of employment. The private sector relies on immigrant labour workforce (95% of employment). The disparities in income and working conditions between Kuwaiti´s and immigrants are large. Kuwait also hosts 106,000 stateless Arabs, called bidoons, that do not have citizenship and do not enjoy the same benefits as nationals.
The al-Sabah dynasty has been ruling the country since 1899. The current Emir is head of state and wields executive power. He appoints the government and key ministers are from the al-Sabah family. Legislative power is held by 50 elected members of parliament (MPs) and 16 government appointed MPs. Political parties are prohibited, so MPs are independents. The original institutional framework of 1961 allows real effective power for elected MPs, making Kuwait’s political system the most democratic regime among the GCC. The US is an important ally, as it helped thwart the Iraqi occupation in 1991 and it maintains a military presence in Kuwait. This alliance makes Kuwait vulnerable to retaliation by Iran, should current nuclear talks fail and lead to an armed conflict with the US.