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Kuwait’s Frustrating Socio-Economic Transformation

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Why Kuwait's public and lawmakers don’t buy into economic reforms yet Kuwait’s Frustrating Socio-Economic Transformation Dr. Leif Rosenberger Chief Economist, ACERTAS Introduction: At first glance, Kuwait appears to be a role model for other countries in the world. Kuwait is the most democratic Arab country in the Middle East. Kuwait mediates conflicts in this troubled region. And since World War 2, oil wealth has made Kuwait one of the world’s richest countries. Kuwait has 6% of the world's oil reserves, making it the country with the 6th largest proven oil reserves worldwide. These oil reserves are expected to last 86 years and its gas reserves are expected to last over 100 years. Kuwait is also the 9th largest oil producer in the world, producing at a rate of 3 million barrels a day in

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Why Kuwait's public and lawmakers don’t buy into economic reforms yet

Kuwait’s Frustrating Socio-Economic Transformation

Dr. Leif Rosenberger

Chief Economist, ACERTAS

Introduction:

At first glance, Kuwait appears to be a role model for other countries in the world. Kuwait is the most democratic Arab country in the Middle East. Kuwait mediates conflicts in this troubled region. And since World War 2, oil wealth has made Kuwait one of the world’s richest countries.

Kuwait has 6% of the world's oil reserves, making it the country with the 6th largest proven oil reserves worldwide. These oil reserves are expected to last 86 years and its gas reserves are expected to last over 100 years. Kuwait is also the 9th largest oil producer in the world, producing at a rate of 3 million barrels a day in 2016.

And Kuwait had the good sense to save at least 10% annually of government revenue in the Fund for Future Generations. It also created a Sovereign Wealth Fund of $592 billion. And starting in 1999, Kuwait enjoyed 16 years of budget surpluses.

Vulnerable

That said, the IMF and other skeptics used to warn the Emir that Kuwait’s prosperous oil economy was like a one trick pony. The economy was unbalanced and way too dependent on oil and gas and therefore vulnerable to external financial shocks. In this regard, oil accounted for 90% of government revenues and 92% of export revenues.

Even if a sudden external shock did not hit Kuwait’s economy, there was a demographic time bomb waiting for it. One quarter of Kuwait’s population was under 17. Kuwait needed to create 400,000 to 600,000 new jobs in the labor market over the next 15 years. Oil was not going to help much since it was capital intensive and thus not a job creator.

Another problem is Kuwait has created an oil funded social contract that includes a bloated public sector with jobs for life.16% of the budget goes for non-essential subsidies and 54% of the budget goes for government salaries, many of which are redundant and unnecessary.

The bloated public sector has served to marginalize the private sector. Kuwait has one of the least competitive private sectors in the region. The private sector is over-regulated, with lots of administrative red tape and heavy, unnecessary bureaucratic mistakes. The World Bank ranks every country in the world in terms of its Doing Business rankings. The World Bank rates Kuwait near the bottom at 97. In contrast, the World Bank rates the United Arab Emirates, Kuwait’s Arab neighbor in the Gulf, near the top at number 11. Kuwait’s problems are also ranked the lowest in the Persian Gulf in terms of the quality of its primary schools and the skill sets of its graduates. The private sector says it’s impossible to hire Kuwaitis graduating from school because they lack the skill sets needed.

Oil Price Nosedive

The possible external shock the IMF warned Kuwait might happen someday occurred in 2014. [1] In the past, Wall Street used to worry about inflation. This was particularly true after the global financial crisis when the US Federal Reserve (Fed) bought a trillion dollars’ worth of global assets to boost weak global demand. That spooked Wall Street, which felt the Fed was creating runaway inflation. As a hedge against inflation, Wall Street investors bought vast quantities of oil in the futures market. That distorted the market and drove oil prices sky-high, but investors guessed wrong. Inflation never happened. Long positions in high oil prices began to unwind, and that caused oil prices to nosedive.

Rising oil supplies, weak demand, financial shifts on Wall Street and a strong U.S. dollar all put downward pressure on global oil prices. To the horror of Kuwait, global oil prices fell about 50 percent in December 2014 from their peak in mid-July 2014.

The real “game changer” was the sudden discovery of 30 more years of unconventional oil. The global oil market is now swimming in one trillion more barrels of oil that was not included in the world oil supply a few years before. This new oil supply broke down into three types of unconventional extraction of oil: deep water oil, 317 billion barrels; shale oil, 345 billion barrels; and oil sands, 388 billion barrels. To sum up, the combination of 30 more years of unconventional oil supply and weaker demand for oil was putting downward pressure on global oil prices for the foreseeable future.

The Fed Responds to Global Financial Crisis

After the 2008 financial crisis, the Fed (under Ben Bernanke) needed to boost GDP growth. The Fed cut interest rates and printed trillions of dollars’ worth of new currency via “quantitative easing (QE).” This huge growth of the money supply increased the desirability of hard assets such as oil (and other commodities) as a hedge against the expected risk of a falling U.S. dollar and rising inflation.

After the global financial crisis in 2008, institutional investors poured into the crude oil market, which caused prices to soar 140 percent from their post-financial crisis lows. Large institutional investors that placed a record bullish bet on high oil prices typically captured the middle part of large market moves. Not surprisingly, as late as June 2014, money managers, including hedge funds, continued to place record bets on rising U.S. and Brent oil prices.

That said, institutional investors were often wrong at important market turning points. The massive inflation and a weak dollar that they expected to occur as a result of the Fed’s loose monetary policy turned out to be an ill-advised assumption and unlikely to occur in the near future. The increasing awareness that this assumption was off the mark finally shook up Wall Street. There was a massive sell-off and the result was a nosedive in oil prices.

Negative Impact on Kuwait.

The fall in oil prices hit Kuwait hard, just as the IMF warned Kuwait it might someday. Kuwait’s gross domestic product (GDP) fell from $174 billion in 2013 to $141 billion in 2018 – a 13% fall that equates to the Great Depression in US history.

After 16 consecutive years of budget surpluses Kuwait suffered a budget deficit of 16.5% of GDP in 2015. The Maastricht criterion in the EU says that any budget deficit over 3% of GDP is financially unstable. Kuwait’s national debt as from 3% of GDP in 2013 to 15% of GDP in 2018 and is projected to hit 20% of GDP by 2020. While this figure is still relatively low, the trend is certainly moving in the wrong direction given demographic realities cited earlier. And for a country which depends so much on oil revenues, Kuwait’s current account (which measures the trade balance in goods and services) fell from an average current account surplus of 33% of GDP in the 2000-2014 time period to a current account deficit of 4.6% of GDP in 2016.

Needless to say, the nosedive in global oil prices and the subsequent economic collapse in Kuwait was a wakeup call for the Emir of Kuwait and caused Kuwait’s government to finally address its economic vulnerabilities.

New Kuwait Vision

The government created what it called the New Kuwait Vision in 2017. [2] The overall objective of the vision was to rebalance the economy and make it more sustainable by reducing the relative size of the government sector in the economy from 90% to 30-40%. The vision is based on seven pillars of the New Kuwait Vision are: A Global Position, Infrastructure, Human Capital, Public Administration, Healthcare, the Economy, and a “Living Environment.”

The private sector in Kuwait would be empowered to diversify the economy. In order to develop a diversified and prosperous economy, Kuwait must first become less dependent on the oil sector. Economic diversification strategies include privatization, creation of a favorable business environment and support for a knowledge-based economy.

The Primacy of Education

Regarding this knowledge-based economy, the vision identifies investment in human capital as critical to its success. Consequently, the vision seeks to reform the education system to better prepare youth for a more competitive world. Samar Al Ahmadieh and Abdullah Al Nabhan recommend revamping the Kuwaiti educational system to meet the demands of a high-tech economy in four ways. [3]

First, a new educational system must deliver social and economic value. The world no longer cares what students know, the world cares about what they can do with what they know. Kuwait’s educational system should prime students for a workforce with changing business needs and market trends. The education system should focus on project-based learning and involve collaboration and problem solving. It should replace “head-down studying with experiential learning. Second, raise the status of teachers. Empower teachers to be a bridge between the classroom and the outside world. Third, use data and technology to complement education, not as an end itself. And fourth, commit to educational reform.

In addition, Harvard Professor David Perkins still has powerful ideas.[4] First, Kuwait must move beyond “memorize and spit back” rote learning. Kuwait needs thoughtful learning. Students need to think about and think with what they are learning. Second, teachers need to provide clear information, thoughtful practice and informative feedback. Teachers need to coach and create a Socratic, interactive learning environment. Third, teachers need to cover less but ensure students understand more. The goal is not just acquiring facts. Students must be given an opportunity to think critically and creatively with the curriculum they receive. Fourth, use social media as a friend, not an enemy. Promote cooperative learning. Empower students to think with one another. Finally, teachers need to motivate rather than bore their students.

Three Challenges

Antonio Carvalho et al point out that the New Kuwait Vision face three challenges. First, the vision goes nowhere without a clear and persuasive communication challenge. This requires a public awareness campaign. Getting buy-in from the public which wants to keep living in the past does not happen overnight. The public is accustomed to the benefits of a bloated welfare state. They are complacent and see the economy bouncing back recently. They view the problems facing Kuwait as cyclical rather than structural. These folks need to be persuaded rather than ignored. Don’t expect instant conversion.

Second, is the political challenge. If you gloss over the public awareness campaign and leave the public in the dark and full of anxiety, politicians pick up on this and stonewall the good idea. But once public opinion is onboard, politicians tend to follow.

Third is the operational challenge. This is the nuts and bolts of implementation. If you don’t get the public and politicians onboard, this part is impossible without protests and social unrest. Once you get the public and politicians onboard, this challenge is relatively easy to implement.

Nick Butler who writes a guest column about energy in the Financial Times talks about how slow Kuwait’s policy implementation has been in implementing solar and wind energy. The tendency is to blame a fractitious political system in Kuwait or an entrenched bureaucracy for the slow progress in implementing the vision. All of this is true. But slow progress is no reason to give up. It’s more reason to come up with more persuasive ways to get the public and lawmakers onboard.

[1] See Leif Rosenberger, The Strategic Importance of the Global Oil Market, The Strategic Studies Institute, US Army War College, Carlisle, PA, June 2015.

[2] This section draws from the excellent study written by Antonio Carvalho, Jeff Youssef, Joel Ghosn and Lara Talih, Kuwait in Transition: Towards a Post-Oil Economy, Tri International Consulting Group, Al Safat, Kuwait

[3] This section draws from Samar Al Ahmadieh and Abdullah Al Nabhan, How Kuwait can Transform its Education to Meet its Economy’s Demands in-depth, Palladium, 30 May 2019

[4] This section draws from David Perkins, Smart Schools, Simon and Schuster, New York, 1995.

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