Capital Intelligence (CI), the international credit rating agency, today announced that it has affirmed Kuwait’s Long-Term Foreign Currency and Local Currency Ratings of ‘AA-’, and its Short-Term Foreign and Local Currency Ratings of ‘A1+’. The Outlook for Kuwait’s Ratings remains ‘Stable’.
Kuwait’s ratings are underpinned by strong macroeconomic fundamentals and a large net external creditor position, which in turn reflects the government’s prudent management of the country’s substantial oil wealth. The ratings are also supported by the comparatively high level of GDP per capita of around $48,000 in 2013.
The public finances are strong. The consolidated central government budget, which includes estimated investment income, registered a large surplus of 32.8% of GDP in FYE 2014 and is on course to record another large surplus (the 22nd in a row) of around 27% of GDP in the current financial year, which ends in March 2015. The intermediate-term fiscal outlook is largely favourable, with the budget surplus expected to exceed 20% of GDP in FYE 2016 and 2017, buoyed by high oil production.
Central government debt is very low, at about 5.1% of GDP in FYE 2014, and is issued for monetary policy purposes as opposed to government financing. Government financial assets are substantial and include the investments of the two state oil funds. The actual level of government assets is uncertain as public disclosure of reserve fund assets is prohibited by law, but is typically reported to be between 150% and 250% of GDP. Even the most conservative estimates imply that the government’s net financial asset position would afford a substantial degree of fiscal flexibility in the event of an economic shock, including a large – but temporary – decrease in oil prices. Partly due to the strength of its budgetary position, the government increased its contribution to the Future Generation Fund (FGF) – the largest of the two funds – to 25% of total revenues in fiscal year 2013, from 10% previously.
Reflecting the sheer volume of hydrocarbon exports and returns on overseas investments compared to domestic absorption, Kuwait’s balance of payments position is also very strong. The current account surplus is expected to have exceeded 39% of GDP in FYE 2014, reinforcing the country’s large net external creditor position. Gross external debt, which is mostly owed by the private sector, is reasonably low at 10.5% of GDP, and is entirely dwarfed by the government’s external assets.
The sovereign’s ratings continue to be constrained by several factors, including overreliance on the oil sector – which accounted for an estimated 63% of nominal GDP, 93% of exports, and about 90% of general government revenues in FYE 2013 – as well as institutional shortcomings, and policy and political risk factors.
The government budget is structurally weak, reflecting a very narrow non-oil revenue base and significant expenditure rigidities, with the bulk of total spending geared to the payment of wages, social benefits and subsidies. The private sector of the economy is still rather small and heavily dependent on government spending. The business environment is somewhat challenging, corporate governance practices are below international standards, and Kuwait attracts relatively little foreign direct investment; these are weaknesses the government hopes to tackle as it presses ahead with its reform agenda, following the passage of key privatisation and investment laws.
Moreover, the structure of the Kuwaiti economy is not sufficiently flexible to cope with mounting demographic pressures, which, if not addressed over the coming years, could potentially result in serious labour market strains and the erosion of real income per capita in the medium to long-term. The capacity for the capital-intensive energy sector and state institutions to provide meaningful jobs for the fast growing indigenous population is approaching its limits, and a stronger reform effort is needed to promote faster and more self-sustaining private sector growth. CI notes that the vulnerability of the public finances to oil price shocks will gradually increase if the government continues to act as an employer of first (and last) resort.
Prospects for deeper economic reform in the intermediate term are clouded by the strength of opposition groups within parliament, and the pace of change is likely to remain slow. The ratings also take into account geopolitical risk factors, including risks relating to the worsening situation in neighbouring Iraq.
The Outlook for the ratings is ‘Stable’. This means that Kuwait’s sovereign ratings could remain unchanged within the next 12 months, provided that key metrics evolve as envisioned in CI’s baseline scenario and no other credit quality concerns arise.
The ‘Stable’ Outlook balances the strength of the country’s fiscal and external buffers against structural economic weaknesses and uncertainties relating to its policy making system. CI expects the budget and external current account to remain in surplus over the coming years, enabling the government to continue accumulating assets both for future generations and also as a financing buffer against future oil or other economic shocks.
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