Standard and Poor’s (S&P) on Friday kept Kuwait’s credit rating at (AA) with stable outlook. S&P released a report about the credit rating of the State of Kuwait regarding rationale behind the rating.
It said Kuwait’s economy remained dependent on oil which accounts for 90 percent of exports, expecting muted economic growth given a recent OPEC+ decision to extend the oil cut production agreement until 2020, in addition to ongoing regional geopolitical tensions.
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OPEC+ is an agreement between OPEC and non-OPEC countries to cut production by over 1.2 million barrels per day (bpd) to push prices higher.
S&P said Kuwait has substantial savings of over 400 percent of Gross Domestic Product (GDP) accumulated within the sovereign wealth fund. It forecast Kuwait’s net general government asset position to reach 420 percent of GDP by end of 2019, considered the highest ratio of all rated sovereigns.
Kuwaiti government surpluses were set to continue even with lower oil prices ahead, bolstered by investment returns on the sovereign wealth fund assets, the global rating agency said. It said Kuwait currency, Dinar, would remain pegged to a US dollar-dominated currency basket. “The stable outlook reflects our expectation that Kuwait’s public and external balance sheets will remain strong over the next two years, primarily underpinned by sizable foreign assets accumulated in the country’s sovereign wealth fund,” it said.
“This should partly offset risks related to Kuwait’s undiversified oil-dependent economy. We could raise the ratings if wideranging political and economic reforms enhanced institutional effectiveness and improved longterm economic diversification, although we think such a scenario is unlikely over the forecast horizon to 2023.
“We could lower the ratings on Kuwait if we observed a sustained decline in economic wealth, for example due to a fall in oil prices beyond our current expectations or materially weaker rates of economic growth. We could also lower the ratings if Kuwait’s domestic political stability deteriorated, or if regional geopolitical risks were to significantly escalate,” it added.
The rating agency said that ratings on Kuwait remain supported by the country’s high levels of accumulated fiscal and external buffers. The ratings are constrained by the concentrated nature of the economy and relatively weak institutional settings compared with those of nonregional peers in the same rating category. “Kuwait derives about 50 percent of GDP, more than 90 percent of exports, and about 90 percent of fiscal receipts from hydrocarbon products. Given this high reliance on the oil sector, we view Kuwait’s economy as undiversified.” The December 2019 OPEC+ decision to further cut oil production constrains short-term growth while the recent escalation of US-Iran tensions poses risks.
Kuwait’s economy remains almost entirely dependent on oil, which accounts for an estimated 90 percent of exports and government revenue. The oil sector directly comprises close to 50 percent of the country’s GDP, although if other related activities are taken into account, that proportion is even higher, it noted. As of 2018, Kuwait was estimated to be the world’s eighthlargest crude oil producer, with the ninth-largest oil reserves.
Assuming current production levels, Kuwait’s total proven oil reserves are equivalent to about 100 years while the cost of production is among the lowest globally, it added. Given this high concentration, Kuwait’s economic performance will remain largely determined by oil industry trends. It estimated that real GDP increased by 0.5 percent in 2019, held back by the OPEC+ decision to cut oil production. OPEC+ initially implemented that agreement in January 2019 for a period of six months, but it expanded the agreement in December 2019 with additional cuts of 500,000 barrels per day (bpd).
“Consequently, we expect Kuwaiti oil production will average about 2.65 million barrels per day (mbpd) in 2020 compared to the 2.8 mbpd originally planned and included in the 2019-2020 fiscal year government budget. As a result, we project the overall economy will expand by a modest 0.5 percent this year, similar to 2019. We assume Brent oil prices will average $60 per barrel (bbl) over 2020 before reducing to $55/bbl thereafter,” it said.
Beyond 2020, growth rates are forecast to accelerate to an average of 2.5 percent over 2021-2023, basing this on expectation of OPEC+ oil production cuts ultimately being discontinued and Kuwait’s planned expansion of oil output and refining capacity, including via the restart of production within the Partitioned Neutral Zone (PNZ) between Kuwait and Saudi Arabia. “We understand that the two countries have reached an agreement to resume production, following years of PNZ inactivity. Oil production from the PNZ could amount to 0.5 mbpd once operational, although actual output will remain lower in the short term, partly because Kuwait will continue to comply with the new OPEC+ agreed cuts,” it noted.
Despite somewhat stronger institutional arrangements, Kuwait’s structural reform efforts have generally lagged behind other regional economies’ in recent years. Unlike Saudi Arabia, the United Arab Emirates, and Bahrain, Kuwait still has not introduced value-added tax. Without the debt law, the government is not able to issue new debt and thus continues to rely on large asset drawdowns to fund deficits at the central government level, it suggested. A significant escalation of regional tensions could have a detrimental impact on Kuwait’s economy if trade routes through the Strait of Hormuz are disrupted, it said.
On flexibility and performance, it said strongest net general government asset position of all rated sovereigns Kuwait’s formidable government assets, as a percentage of GDP, remain a key ratings strength. These result from historical savings of oil profits and are accumulated in the Kuwait Investment Authority (KIA), the sovereign wealth fund.
“Despite our forecast of a reduction in the oil price to $55 in 2021 from an average price of $60 that we project for 2020, we still expect Kuwait will continue to post headline general government surpluses averaging 8 percent of GDP over the medium term. This is primarily due to substantial investment returns generated through managing the existing stock of KIA assets. We do not expect any debt issuance for now because Parliament has not yet passed the new debt law,” it said. Consequently, the government will continue to rely on asset drawdowns from the GRF to finance deficits at the central government level. “Continued unchecked reliance on GRF assets to fund deficits at the central government level could ultimately lead to the GRF’s depletion, although we understand this is more a mediumterm risk rather than an immediate one.
Our baseline expectation is that Parliament will finally pass the amended debt law within the next two to three years, authorizing the government to borrow. The Finance Ministry has recently amended this new draft debt law but is yet to submit it to Parliament. The global rating agency expected Kuwait’s current account to remain in surplus in 2020, largely mirroring its fiscal performance, turning to only modest deficits from 2021 onward. Although it expected oil prices to moderate over the medium term, Kuwait’s plans to expand production will support its external position.
At the same time, growing domestic consumption at fixed exchange rates of the Kuwaiti dinar means imports will also rise, eroding current account surpluses. Kuwait’s exchange rate is pegged to an undisclosed basket of currencies. This basket is dominated by the US dollar, the currency in which the majority of Kuwaiti exports are priced and transacted. “In our view, Kuwait’s foreign exchange regime is somewhat more fl exible than those in most other GCC countries that maintain a peg to the dollar alone. For example, the Central Bank of Kuwait (CBK) decided to cut the key interest rate only once in 2019 by 25bps to 2.75 percent, while ignoring rate cuts by the Federal Reserve in July and September,” it said.
It believed that some degree of monetary- policy divergence between the Federal Reserve and the CBK is possible, in part due to the limited amount of portfolio fl ows between Kuwait and the rest of the world. Despite the challenging operating environment, the Kuwaiti banking sector remains resilient with stable profitability and improved asset quality. In our view, concentration in the commercial real estate segment remains a key credit risk for banks.
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