Moritz Kraemer, Managing Director and Head of EMEA Sovereign Ratings, Standard & Poor’s, on Kuwait’s rating upgrade

Moritz Kraemer, Managing Director and Head of EMEA Sovereign Ratings, Standard & Poor’s, on Kuwait’s rating upgrade

 

In recognition of its high per-capita GDP and strong external and fiscal balance sheets, Kuwait’s long-term foreign and local currency ratings were recently upgraded to AA from AA- under Standard & Poor’s revised methodology for rating sovereign governments. Under the revised criteria, GDP per capita and fiscal and external balances carry more weight in the overall assessment. Kuwait’s strength in these areas balances our assessment of its weaknesses, which include an underdeveloped private sector, heavy dependence on oil revenues, slow progress thus far on carrying out structural reforms and geopolitical risks, which are shared by most of the countries in the GCC region. Having benefitted from buoyant oil prices in recent years, Kuwait’s public finances remain exceptionally strong, with the budget surplus remaining at double-digit percentages of GDP for almost a decade. It is estimated that the 2010/11 budget year – which ended on March 31, 2011 – concluded with a budget surplus of 20% of GDP, following 28% in 2009/10. Budget revenues stem overwhelmingly from oil and investment income, which accounted for a combined 95% of government revenue in the fiscal year 2010/11. Surpluses have remained sizable and Kuwait’s policy is to put 10% of government revenues into the Future Generations Fund and the remaining surplus into the General Reserve Fund, both of which are managed by Kuwait Investment Authority. The government has accumulated a robust net asset position, estimated at 211% of GDP at the end of 2010. However, disclosure on the size and structure of government assets is extremely limited and constitutes a rating weakness. In most scenarios, we feel large fiscal surpluses and the sizable net asset position give Kuwait more fiscal and external flexibility than many of its peers in the AA category. As a result of high oil prices and an expected gradual increase in output, we project the budget surplus to exceed 25% of GDP on average over the next four years. This would result in the government’s net asset position reaching 235% of GDP by 2014. In the case that a weakening global economy contributes to lower oil prices, we would expect Kuwait’s fiscal and external balances to register smaller surpluses, concomitant with slower accumulation of government assets.

Kuwait was largely shielded from the political instability that has rocked parts of the Middle East and North Africa. In our view, this is partly explained by Kuwait’s more open society, in terms of freedom of expression, political participation and political accountability, compared with many of its regional peers. There has been no challenge to the role of the generally popular emir and the ruling family. Relations between the government – effectively appointed by the emir – and the elected National Assembly remain tense. This was underlined when the government resigned in April 2011 to avoid cross-examination of ministers through parliament. Following the prime minister’s reappointment in May, he is now leading the seventh government in five years. Given its hardly changed composition, we expect the policy stalemate between the government and parliament to remain a salient feature of Kuwaiti politics and a deterrent to the reform process.

The political stalemate will likely hamper implementation of the five-year development plan that envisages $100bn-125bn in investment to help make Kuwait an international trade and financial centre. The plan also aims to strengthen the role of the private sector, which accounts for perhaps a quarter of GDP and an even smaller share of employment of Kuwaiti nationals.

Regional geopolitical risks remain, but are mitigated by Kuwait’s international alliances and social stability. The stable outlook for Kuwait’s ratings reflects the balance between its strong fiscal and external positions, and its gridlocked political system, undiversified economy and lack of progress on reform. An improvement in the relationship between the government and parliament, along with a political consensus that helps accelerate private domestic and foreign investment, could support long-term diversification of the economy, which would eventually be positive for the rating.

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Moritz Kraemer

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The Report: Kuwait 2012

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