Kuwait: The dire need to diversify

Without doubt, riding on the back of high oil prices, Arabian Gulf countries are expected to post budget surpluses, but this does not make an economy dynamic enough or successful in terms of functionality; Kuwait being an example. Inclusive policies, reforms in the capital markets and the banking sector, solid support for the SME sector, political will and stability to devise long-term growth 
strategies are key to any fully functional economy, say analysts.
With almost 60 years of remaining crude reserves, Kuwait has to diversify its oil-based economy and the political and business players of this small country will have to take some strong decisions.
The International Monetary Fund has said that Kuwait’s oil revenues in 2011 supported the strong macroeconomic outcome, but the pace of recovery of non-oil economic activity continued to be moderate. Kuwait ranks relatively low on essential elements for competitiveness and lags in the quality of its physical and social 
infrastructure, relative to its GDP per 
capita level, it said.
The IMF also said Kuwait’s GDP growth would slow to 6.6 per cent in 2012 from 8.25 percent in 2011. Senior vice-president of Kuwait’s Global Investment House, or Global, said: “Yes, we subscribe to the same notion given that average oil prices will, at best, remain at the same levels or slightly higher than those in 2011, while no increase in oil production is 
anticipated.
“As a result there will be little input from this segment to incremental GDP. Moreover, due to the suspension/non-implementation of much-needed government capital expenditure plans, in the wake of political deadlock within the country, the economy will suffer as a result,” Faisal Hasan of Global told TRENDS.
Examining the latest figures from Kuwait, one can say the Opec member posted record budget surplus and revenues in the 2011 to 2012 fiscal year, ending March 31, on the back of high oil output and price.
The Gulf state posted a historical budget surplus of KWD13.2 billion 
($47bn) for the 13th consecutive fiscal year, the Al-Shall Economic Consultants said in a report citing official figures.
The previous highest surplus of $33.2bn was posted in the 2007 to 2008 fiscal year, when oil prices skyrocketed to a record $147 a barrel.
Kuwait had projected a deficit of $21bn for 2011 and 2012, because it calculated oil income at $60 a barrel, compared to the actual $110 a barrel and oil output at 2.2 million barrels per day compared to the actual production of three million bpd.
Kuwait has projected a deficit in each of the past 13 fiscal years, but ended in surplus mainly for calculating oil income at a very conservative price. During that period, it has accumulated approximately $250bn in budget surpluses, and is also expected to end the current year in the black, if oil prices remain high.
Under Kuwaiti law, 10 per cent of revenues are deducted every year in favor of its sovereign wealth fund, the assets of which are estimated at approximately $400bn. Returns on the fund are not included in the budget.
Revenues in the past fiscal year hit a record $107.5bn, Al-Shall reported, more than twice the budget projections 
of $47.7bn.
Official figures say that Kuwaiti oil revenues also reached a record $101.7bn, making up 94.5 per cent of total income and more than twice the budget projections. Spending was $60.5bn in fiscal year, ending March 31, 2012, down 12.5 per cent on budget projections, but a small five percent rise from the previous year.
The oil-rich state adopts a cradle-to-grave welfare policy where a majority of citizens, out of a total of 1.2 million, in addition to 2.5 million expatriates, are employed by the government, receive handsome salaries, pay no taxes and 
receive services at low charges or for free.
Naturally, the IMF’s recommendation in its 2012 report of levying taxes to boost government income did not go down too well with the Kuwait politicians. A local newspaper reported that former lawmakers of the nullified 2012 Parliament Riyadh Al Adsani, Bader Al Dahoum and Dr Khaled Shukhayyer unanimously disapproved the IMF suggestion to impose taxes on citizens as they did not consider this an appropriate solution to the problems in Kuwait economy.
The lawmakers said taxes would only add to the financial burdens of the citizens, particularly the middle class.
They added that the inability to support the private sector is the key reason behind the deterioration of the country’s economic situation besides the political unrest that is negatively influencing the country’s economy, reported Al Rai daily.
The government, in the past, has also waived loans taken by nationals, and this does not set a good example. In addition to this, local banks are highly exposed to government-related entities. “It [the outcome] will be negative and might create a bad precedent. Also, it might have an inflationary effect,” said Hasan of Global.

Faisal Hasan, senior vice-president of Global Investment House
Faisal Hasan, senior vice-president of Global Investment House

Political developments aren’t encouraging either. One of the highest rated banks in the Middle East, the National Bank of Kuwait, whose majority shareholder is the Kuwaiti government, blamed the actual political environment of the country and of the region for the bank’s below-expected results.
A statement form the bank pointed at the Kuwaiti crisis for the poor results as the country has got eight governments in just six years due to conflicts between the government and the parliament.
The bank’s chief executive Ibrahim Dabdoub said negative outlook was because “government spending remains dormant, tendering of new projects significantly lags and asset values continue contracting as the local stock market considerably underperforms. Add to that the geopolitical developments that are putting further pressures on both the local and regional economic activity.”
The political problems continue as 
the country prepares for elections. The crises have delayed all major investment decisions because no government has stayed long enough to implement socio-economic and development strategies, although the country has been alerted to embark on economic reforms because it risks spending all of its oil savings in five years’ time, read the statement.
About the political struggle, Hasan of Global, said: “The Kuwaiti economy is not in its best state. If oil prices fall, as world economies brace for another severe downturn, Kuwait’s economy which is highly dependent on oil revenues, will be caught. Increasing current 
expenditures, amid political deadlock has only burdened the economy further without creating any jobs or increasing 
productivity.
“International investors who place a lot of weight on political stability have shied away from investing in local projects and stock markets, exacerbating the situation further. Investment companies and banks which are generally directly linked to economic conditions and are substantial contributors to the GDP are therefore hurt,” he said.
One of the positive signs among the negative factors was the announcement of the new corporate governance rules by the Central Bank of Kuwait. Even IMF said that the Kuwaiti banking sector’s financial soundness indicators remain strong as there has been a substantial improvement in liquidity, a decline in non-performing loan (NPL) ratios, and robust capital 
adequacy and leverage ratios.
The fall in the NPL ratio was attributed to an increase in write-offs associated with loans to Kuwait’s investment companies, but vulnerabilities remained on the asset side of the balance sheet, the IMF said. Notably, a decline in the domestic stock market, a lack of improvement in the real estate sector and continued financial difficulties faced by the investment firms have forced banks to set aside higher provisions.
However, the new CBK’s rules are likely to bring bank governance regulations in line with international best practices and replace rules issued in 2004. Mohammed Al Hashel, the governor of the CBK, said that the newly released regulations incorporate findings from a variety of international sources, including a 2010 paper from the Basel Committee on Banking Supervision, the Financial Stability Board’s principles on allowances and a 2010 World Bank report on governance criteria for Kuwait’s banks that was commissioned by the CBK.

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The new regulations centre on the role of the board of directors, stressing that the board must define strategic goals, improve governance standards, take an active part in management, protect shareholder interests, focus on risk management and improve systems for 
internal and external auditing. Independence of the board is emphasized to ensure decisions are made objectively and without compromising the interests of minority shareholders. The new rules also stress that profitability is not the sole raison d’être of bank management, but that interests of depositors and monetary stability must also be taken into 
consideration.
According to Al Hashel, the CBK conducted two surveys of local banks to give them a chance to review the new rules, with the feedback indicating that the proposed regulations were workable. The new guidelines will be effective as of June 1, 2013, but as of September 2012 banks will be required to present the CBK with quarterly reports on policies, measures and adjustments that are being taken to comply with the 
new criteria.
In Global’s view, there are challenges that need immediate attention. Hasan said: “Diversification of the economy and less dependence on oil, quick implementation of a developmental plan that would kick-start the economy, political stability, and cutting down on non-productive expenditure” are some of the things that need to be sorted out quickly.

-By Atique Naqvi, Dubai