July 26, 2018 – This post was written by Nikki Doherty, MENA Research Intern
Last month, Kuwait’s parliament passed its budget for the 2018/2019 fiscal year – almost three months late– including a significant spending increase despite its sizeable fiscal deficit. Kuwait’s economic growth has been driven by the non-oil sector in Q1 2018, which expanded 2.7% YOY. Growth is projected to continue to rebound in 2019 as OPEC+ production cuts taper and oil output increases. But as falling oil prices loom and parliament refutes reforms, Kuwait will need to eventually face fiscal reforms and the tough socio-economic adjustments other countries such as UAE and Saudi Arabia are undertaking currently.
- Oil dependent but buffered: Kuwait’s high dependence on oil revenues (40% of GDP and 92% of export revenues) has led to a low degree of economic diversification. Yet it has allowed the country to accumulate strong fiscal surpluses and substantial foreign assets in its sovereign wealth fund, which is said to have grown more than 30% in the past five years. Kuwait has been able to use these buffers to keep the economy afloat and delay reforms after the oil price crash in 2015. However, despite these cushions, historically low debt is rising, and Kuwait recorded its first budget deficit in over 16 years in 2016.
- Key fiscal reforms have been delayed: Following the 2016 deficit, Kuwait introduced subsidy cuts on oil, water, and electricity (major burdens to public financing prior). The cuts dampened confidence of the Kuwaitis and raised living costs for the lower income population, with inflation rising to around 3.3% YOY. However, since then, fiscal reforms have largely been suspended. Kuwait parliament is increasingly sensitive to burdens on consumer budgets, postponing the imposition of the 5% VAT until 2021. Its opposition to bills introduced by the government, such as the VAT, has limited the country’s fiscal diversification. Yet, excise duties on tobacco, energy drinks and carbonated drinks are to be voted upon in October and are expected to be introduced sooner than 2021. The inability to implement more robust revenue measures prevents insulation from future oil price volatility. Friction between executive and legislature will persist in the near future, creating uncertainties around taxes and spending.Meanwhile, the government has proven committed to and has become increasingly aggressive with its Kuwaitizationpolicy, implementing ambitious targets for hiring, increasing the fees for expats in healthcare, banning the hiring of expats under the age of 30, and considering taxing expats on remittances and other services.
- Increased consumer spending:Despite uncertainties, Kuwaitis’ spending via point of sales transaction continued to improve since their 2016 dip, andconsumer confidence is increasing to near 2015 highs. VAT delays and eased inflation will stabilize consumption and help growth in 2018 but the upcoming need for fiscal reforms will limit future growth.
- New plan to support growth: Kuwait’s GDP growth has accelerated 1.6% YOY in Q1 2018, after contracting -2.9% YOY last year. The government, recognizing the importance of a clear strategy for continuing this growth amid an outlook for lower oil prices, has put forth a plan named “New Kuwait” to redefine its. It aims to develop the tourism, transportation and power sectors. Spending is forecasted to reach $71 billion, up 8.5% from last year; this will be used for massive infrastructure spending (such as Silk City) and for investment incentives. Lawmakers are further planning to introduce new foreign investment rules to generate a greater capital influx. The bulk of resources are allocated to industrial development and investment, especially in the high-potential chemicals and plastics segments.
Actions to be taken
- Monitor localization pressures and ensure distributors are preparing a local talent pipeline: Increasing localization pressures create uncertainty regarding expat regulations, increase human resources management costs, and complicate planning for companies.
- Target government spending: Local teams and channel partners should identify the exact areas and projects where government spending is being directed. Companies should adjust their offering to any government priorities that will make them more likely to win spending. They should also mind the sectors from which investment is shifting from.
- Enhance demand planning: Delayed reforms can be leveraged as an opportunity in the short-term, but consumers will be price sensitive when implementation nears. If excise taxes are implemented in 2019, this will result in a spike in their prices. Kuwait teams have the ability to observe varying consumer reactions to VAT and excise taxes in other GCC countries. While consumer behaviour will be different in Kuwait, teams will need to invest before reform implementation, to consolidate their brand position, increase customer loyalty, prepare their cost base for slightly lower margins. Monitoring appropriate indicators of demand is critical to setting accurate targets and avoiding disruptions regarding reforms
Significant fiscal buffers, recent investment incentives currently offset risks related to volatile oil prices and give Kuwait teams time to prepare for the implications of downward pressure on oil prices, and inevitable reform implementation. Companies that are better prepared with their local partners will emerge as the clear winners in this significant portfolio market for MENA businesses.