Sovereign Rating Cuts Amid Parliamentary Gridlock

In January of this year, with a new parliament and cabinet just sworn-in, hopes were high, especially among perpetual optimists, that the two vital arms of government — the executive and legislative — would put feuds and ideologies aside and work together for betterment of people’s lives and the country’s growth and progress.

But seven months down the line, not only has the anticipated partnership failed to materialize, there are also no signs that the executive and legislative can reach consensus any time soon, on legislation pertaining to key economic and administrative reforms, or on reorienting the economy away from its reliance on hydrocarbon revenues. If anything, both sides appear to have hardened their stances on long-running political and economic issues, with the stalemate between government and opposition lawmakers leading to repeated disruption of parliamentary proceedings.

Parliament has now gone into recess and is slated to reconvene only in October, for what is likely to be yet another contentious session. In the meantime, there is a growing realization among the public that this parliament, like so many others in recent past, will prove incapable of solving the country’s myriad problems, or meeting the needs and aspirations of citizens. International rating agencies have already downgraded Kuwait’s sovereign ratings, citing among others the persistent parliamentary gridlocks that have thwarted the implementation of serious and meaningful economic and financial reforms in the country.

Though higher oil prices in recent months have given the government’s fiscal position a much-needed respite, the General Reserve Fund (GRF), which serves as the state treasury, continues to dwindle due to the unexpected financial exigencies brought on by the COVID-19 crisis and its repercussions on the economy, as well as from the state’s increasing expenditures. Attempts by the government to alleviate the liquidity crunch and plug widening funding shortfalls by dipping into the Future Generations Fund’s (FGF) massive wealth of over $600 billion have been vehemently opposed by the National Assembly.

The government has also been unable to approach international debt markets as the necessary legislation to do so in the form of a public-debt law has remained bogged down in parliament since October 2017, when the previous debt bill expired.

Over the past four years, legislators have cited varying reasons for their objection to passing the law, including the government’s incompetence in managing the state’s finances, the absence of transparency and the presence of corruption in financial dealings, the lack of seriousness or commitment to diversify the economy away from its reliance on oil revenues, and its inability to implement necessary economic and financial reforms in a timely manner.

The lawmakers’ stance on the government ending graft and increasing transparency before accumulating more debt, is a reasonable and necessary demand that certainly needs to be implemented. However, the same cannot be said of the opposition’s insistence on financial and administrative reforms, seeing how they are the ones fervently opposed to many relevant reforms that impinge on citizens’ pockets. On various occasions, legislators have opposed restructuring of public sector salaries, introducing efficiency and efficacy in government entities, rationalizing state subsidies, or implementing taxes such as the long-delayed value-added tax.

Recent estimates by the IMF show that in order to meet its financing needs over the medium-term, Kuwait’s debt would have to rise to 74 percent of GDP by 2025. For its part, Moody’s international rating agency has projected that the country would need nearly KD30 billion in debt to meet its funding needs between 2020 and fiscal year ending in March 2024. But even before contemplating issuance of debt, the government will need to concede that piling debt on future generations by borrowing to meet current exigencies is not an economically viable or morally appropriate option, without first implementing fundamental reforms to its mode of functioning.

Among basic changes to its operations, the government needs to urgently rein-in wanton expenditures, rationalize current spending, stamp-out corruption, increase transparency in financial transactions, reorient the labor market, and realign Kuwait’s economy away from its over-dependence on hydrocarbon revenues. In addition, the authorities will also have to guarantee that monies made available through any new borrowings will be used to capitalize development and infrastructure projects that boost growth and create jobs.
Borrowing from the international market, based on the assumption that oil revenues would continue to service the debt in future, is inherently a risky proposition.

Given the potential for global oil demand to taper and prices to soften in the years ahead, an increasing debt burden could impede the country’s future growth and development. Any sustained fall in oil-demand or a sharp decrease in international oil prices in the years ahead could erode Kuwait’s ability to service its mounting debt pile and repay its borrowings.

The likelihood of the country delaying or defaulting on commitments to service or repay its debt, could lead to a sharp fall in Kuwait’s sovereign ratings and increase its current borrowing costs. Parliamentary objections to issuing a new debt law and the continued liquidity crunch that constrains effective functioning of government, could also risk additional credit downgrades that raise borrowing costs.

This scenario has already begun to play out with all three major international rating agencies — Moody’s Investors Service, Fitch Ratings and S&P Global Ratings — already downgrading Kuwait’s sovereign ratings over the past one year. Last week, Kuwait was downgraded by S&P Global Ratings for the second time in less than two years, after a fall in oil revenue and increased spending mounted pressure on the country’s fiscal outlook. The sovereign credit rating was cut one level to A+ from AA-, according to a statement by the ratings agency, which first cut the country’s ratings in March of last year.

The agency now rates Kuwait two notches lower than Fitch Ratings and on par with Moody’s Investors Service. “The downgrade reflects the persistent lack of a comprehensive funding strategy despite the central government’s ongoing sizable deficits,” said S&P analysts in a statement clarifying the cuts. The agency added, “We consider that these persistent delays could ultimately leave Kuwait more vulnerable to potential future terms-of-trade shocks.” In February of this year, Rating agency Fitch cut its outlook on Kuwait’s sovereign debt rating to ‘negative’ from ‘stable’, warning of near-term liquidity risks associated with the state treasury fund. In September 2020, citing a “significant escalation in brinkmanship” between the two government branches, especially over the deadlock on the debt law, Moody’s downgraded Kuwait’s rating for the first time.

The persistent gridlock between the executive and legislative branches in parliament cited by rating agencies for downgrading Kuwait’s ratings, and prevailing political impasse have also impacted the government’s ability to deliver an effective response to the COVID-19 crisis. Besides infecting hundreds of thousands and claiming the lives of over 2,260 people so far, repercussions from the pandemic also caused a significant downturn in the country’s economy.

The government’s ability to provide a robust stimulus package to revive the economy and support businesses were hampered by a liquidity crunch. The funding shortfall brought on by years of sustained low oil prices that resulted in lower state revenues and recurring budget deficits led to near-depletion of the state treasury, the General Reserve Fund. But attempts by the authorities to raise additional funding through borrowing on international markets have been thwarted by repeated opposition to the public debt bill in parliament.

Despite the triple shocks from prolonged low oil prices, the prevailing health crisis and the economic downturn during the past year and a half, parliament appears oblivious to these health and economic reverberations rocking the country. Even when parliament reconvenes in October, it now looks highly unlikely that the two sides will get their priorities right and cooperate on implementing imperative economic reforms or introducing required funding options by the end of fiscal year in March 2022.

In April, following the end of their virtual visit to Kuwait for Article IV Consultation, the International Monetary Fund (IMF) said, “The COVID-19 pandemic, together with oil price shock and cuts to oil production, weighed heavily on economic activity and fiscal balances in Kuwait in 2020.” The Fund also pointed out that the country’s overall fiscal balance deteriorated significantly relative to the previous year, with growth in 2020 estimated at minus 8 percent, while non-oil growth contracted by minus 6 percent. In June, Central Bank of Kuwait Governor Mohammad Al-Hashel clarified that Kuwait’s gross domestic product in 2020 contracted even lower than that estimated by the IMF, and in fact contracted by 9.9 percent.

The precipitous fall in crude oil prices following the pandemic’s impact on oil markets in 2020, led to oil export revenues, which constitute nearly 90 percent of the country’s total exports, almost halving to KD1.8 billion in the second-quarter of 2020 (2Q20) relative to 1Q20. The price of Kuwait Export Crude fell to $25.8 per barrel in 2Q20, from $52.1 per bbl in Q1. At the same time, oil production plummeted to a (quarterly average) nine-year low of 2.48 million barrels per day in 2Q20 due to supply cuts mandated by OPEC +, the new grouping that brings together members of the Organization of Petroleum Exporting Countries (OPEC) and its allies among oil-producing nations.

Given that non-oil investment is primarily driven by government spending, which in turn is dependent on international oil prices, the significant fall in global oil prices resulted in a minus 6 percent contraction of non-oil growth. The fall in investments in growth-enhancing areas such as infrastructure, deprived the economy of the all-important multiplier effects that generally stimulate the non-oil private sector. Sustained higher spending on capital-intensive projects is necessary to tackle the country’s acute under-investment in infrastructure projects. But in the face of repeated budget deficits and overwhelming fiscal burden on current expenditure, the government has only meager funds to set aside for infrastructure.

Incoherent spending priorities and inability to rein-in wasteful expenditures have led to public sector salaries, allowances, and subsidies consuming over 70 percent of the total budget expenditure. Higher wages along with generous perks and privileges, as well as guaranteed employment, and shorter working hours, have combined to make public sector jobs the first, and in many cases, the only choice for most nationals. Currently over 80 percent of citizens in the working age group are employed in government jobs, and estimates suggest that in the next five years more than 100,000 more nationals will enter the job market. But the already bloated public sector will obviously be unable to accommodate the majority of the new job aspirants in the coming years.

Repeated attempts by authorities to encourage young nationals to join the private sector and prod private businesses to employ more citizens, have both failed to transpire over the years. A viable option to unravel this deadlock is for the government to implement financial and administrative reforms designed to restructure and rationalize salaries and subsidies in the public sector, and push ahead with privatization of many state-run enterprises while ensuring compatibility in pay structure between public and private sectors. For its part, the private businesses and enterprises will also have to take on a more proactive stance with regard to creating employment opportunities for citizens, by engaging in public-private partnerships that encourage nationals to seek private sector employment.

However, amid downgrades to Kuwait’s sovereign ratings and a steadily worsening economic situation, parliament seems in no rush to push through much-needed economic and financial reforms that had been placed on the back-burner for over a year and a half due to the ongoing COVID-19 crisis. Confronting and countering the challenges the country faces requires parliament to implement consolidated and coordinated efforts to introduce requisite reforms in a timely manner and introduce measures to bolster financial and economic stability.

In the absence of such relevant and impactful financial and economic reform measures, Kuwait’s economy and financial conditions could deteriorate to the extent that it puts long-term stability, sustainability and prosperity of the country and its people at risk. Not a very happy prospect to contemplate as the country returns from the Eid Al-Adha holidays.

 

 

SOURCE  TIMESKUWAIT

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