LONDON, 20 September 2004 — The analyst who wrote the latest Economic and Strategic Outlook on Kuwait at Global Investment House (GIH) must have been unduly optimistic. “With the geopolitical uncertainties nearly resolved,” stresses the analyst, “and corporate profits soaring last year, both the incentive and the means now exist for businesses and the government to invest in plant, equipment, technology and infrastructure.”
Yet, the geopolitics especially in neighboring Iraq and the intermittent bombs going off in Saudi Arabia, Turkey, Morocco, Palestine and Israel, at least on the ground, seem far from resolved. On the contrary, it seemed to be building up since the Second Gulf War to a crescendo in the wake of two approaching scheduled elections — the first in one of the oldest democracies, the United States in November 2004; and the other in post-Saddam Iraq scheduled for January 2005, to be the youngest democracy in the world.
So much so that the respected UK daily, The Independent, devoted its entire front page on Saturday to the virtual anarchy and civil war in Iraq, which claimed over 400 lives in a mere week, with the somber and devastating headline “Into the Abyss”.
The truth is that Middle East (particularly the GCC) economies will always be constrained by factors of governance — absence of democracy; over-dependence on oil and gas for revenues; corruption and patronage; a young demographic profile coupled with rising unemployment; and a propensity toward bubble economies, in which consumer and real estate booms are fuelled by high liquidity, which in turn are fuelled by economic windfalls such as the periodic rises in oil prices and in the equity markets; and nonexistent fiscal policies, that is the absence of personal income tax and national insurance.
The high liquidity and oil price windfalls in fact offer ideal smoke screens to the real structural challenges which all these countries are faced with — economic management shortcomings due to a decision-making process based seemingly on an arbitrary process; a culture of state subsidies and a welfare state in which citizens do not and are not expected to (at least for the foreseeable future) contribute anything through income tax or national insurance; a culture of non-transparency and non-disclosure and poor access to official information, which renders both citizen and expatriate helpless; and over-dependence on outside inputs — operations and maintenance, consultancy, technology, research and development, and even FDI — which renders the economies potentially hostages to fortune; a civil service bureaucracy, which is ill-equipped, under-educated, unmotivated; and an inability to forward think in terms of a long-term grand economic and financial vision or master plan complete with targets, budgets and implementation deadlines.
Yes, the international credit rating agencies such as Standard & Poor’s, Moody’s, Fitch and the emerging market ones such as Capital Intelligence, have been singing the praises of the GCC economies — higher than expected revenues, high liquidity, higher GDP growth rates, current account and budget surpluses, higher corporate profits and so on. Admittedly with the usual caveats in passing of geopolitical instability; the volatility of the oil markets and so on. These agencies have upgraded some of the sovereign ratings of Qatar, Saudi Arabia, Bahrain and Kuwait, and the UAE over recent months. Many corporates have similarly benefited such as Kuwait Finance House whose long-term foreign currency deposit rating, for instance, was raised at end July by Moody’s from A3 to A2. It has taken the more sober and non-financially driven institutions such as the IMF to warn about the structural deficiencies of the GCC economies, especially the lack of and poor fiscal policies; and worrying levels of internal public debt, which in the case of Saudi Arabia in relation to GDP is over 90 percent. The Fund in past years has also been outspoken in the haphazard way windfall revenues due to sudden rises in oil prices are being utilized. Kuwait, for instance, collected only KD189 million of taxes in 2003/2004 mainly corporation taxes. Customs revenues raised another KD146.6 million, mainly from supplies going to Iraq. In contrast, the government forked out KD4,697.7 million in fiscal expenditure for the same period.
Kuwait’s economy, according to the GIH outlook, is maintaining momentum in 2004, albeit not as high as in 2003, which effectively put it on the footing of a war economy as a result of the Allied action in neighboring Iraq. The Kuwaiti economy as such was the supply base for the Iraq War, just as much Japan was the supply base for the Korean War in the 1950s. Any further comparisons, however, must end there, because the chances that Kuwait will emerge as the “Japan of the Middle East” are indeed very remote.
Nevertheless, the GIH outlook does stress that the situation in Iraq “has acted as a temporary dampener”, and its is unlikely that the Kuwaiti economy will grow more than the 16.4 percent GDP growth recorded in 2003. Despite this, the value of Kuwaiti oil exports in 2004 is bound to increase due to rising oil prices and production. In 2003, oil exports totaled $26.9 billion compared with $23.6 billion in 2002.
Oil remains the engine of the Kuwaiti economy, although non-oil GDP growth totaled 5.8 percent in 2003, not significant enough to indicate the start of a major economic diversification process. This growth was largely fuelled by demand from the Iraq War. The real test will come when such demand can be sustained during normal times. After all, Kuwait is not the only neighboring country of Iraq. Turkey, for instance has been traditionally a major supplier of Iraq in the past. The net effect has been a rise in consumer confidence by 7.2 percent due to the removal of the threat of Saddam Hussein, and a resultant rise in domestic demand and government expenditure by 10 per cent. Consumer spending increased by 5.4 percent in 2003. The GIH outlook is a useful analysis of the Kuwaiti economy and the various dynamics at play. It has a cornucopia of information based on official sources, including its own scenarios for the economy in differing oil market and geopolitical conditions. Its best case scenario, for instance, sees oil prices remaining at around an average of $30 per barrel and production remaining at 2.1 million barrels per day. Government expenditures would be only 90 percent of budgeted amount, returning a comfortable surplus of KD 1,394.6 million.
All these projections must be put in the context of a macroeconomic perspective. While reforms have gained some momentum as in other GCC countries, the process has slowed down in 2003/2004. The government has drafted an income tax law (for varying types of corporations) but is still shying away from personal income tax. Privatization too is slow and structural problems regarding unemployment remain despite the introduction of the National Manpower Percentages (the Kuwaiti version of Saudisation). “The continued friction between the government and parliament (National Assembly) threatens to destabilize the political environment and reform that have been pending”, warns the GIH outlook report. Can one imaging the dynamics should Kuwait have a fully-fledged democracy and open economy?