The Kuwaiti dinar’s peg to a basket of currencies is coming under scrutiny as concerns grow that one of the world’s richest nations is running short of cash.
Derivatives are showing signs of pressure after 12-month forward contracts on the Kuwaiti dinar rose to about 280 points in the offshore market Wednesday, the highest since June.
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Most other Gulf currency forwards have declined this year as the recent recovery in oil prices eases the risks to their energy-dependent economies.
While other Gulf Arab states tapped global debt markets to bolster strained finances amid the pandemic, Kuwait has been hamstrung by lawmakers’ resistance to approve a law that would enable the government to borrow. Concern over how Kuwait will cover its budget deficit has become more acute after the government transferred the last of its performing assets to the country’s sovereign wealth fund in exchange for cash.
Ultimately, analysts and investors say the government will be forced to act to shore up the nation’s finances, whether by breaking the borrowing deadlock or imposing taxes to increase revenue. As a last resort, the dinar could be devalued, but it’s not clear how effective that would be in terms of bolstering the economy, they say.
“Risks of devaluation are limited,” said Todd Schubert, head of fixed-income research at Bank of Singapore Ltd., which holds Kuwait’s sovereign, corporate and bank debt. The country could tap capital markets some time in the first half of 2021, he said.
“I expect the necessary reforms to be passed as the available options such as monetising sovereign wealth fund assets are limited.”
Fitch Ratings predicted the government would replenish its General Reserve Fund – the main source of budget financing – even without any new legislation by parliament. At the same time, it cut the outlook on Kuwait’s debt rating to negative from stable last week to reflect “near-term liquidity risk.”
That move contributed to a drop in the nation’s Eurobonds, sending the spread on $3.5 billion of sovereign debt due March 2022 to the widest since November. The country hasn’t tapped global debt markets since 2017 and the bonds’ scarcity value normally keeps prices stable.
In 2007, Kuwait became the first Gulf Arab state to abandon its currency peg to the dollar in favour of a basket, reacting to a decline in the US currency that had pushed up the cost of imports, fuelling inflation.
“I’m not aware of anyone speculating or hedging their Kuwaiti dinar exposure, though I wouldn’t be surprised if a hedge fund somewhere thinks it’s a trade,” said Ali Al-Salim, a Gulf-based co-founder of Arkan Partners, a consulting company for alternative investments including hedge funds and private equity.
According to Al-Salim, the central bank’s latest disclosures suggest its foreign-asset position remains stable.
“Kuwait’s economic challenges can’t be resolved via its currency alone,” he said. “It has a very narrow economy dominated by oil revenues, and expenses that are almost entirely imports. A weaker currency would create limited incremental demand for locally produced goods and services.”
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