FY 2020/2021 budget draft draws broad, healthy debate
World Bank believes global economy will improve
General Budget Draft FY 2020/2021
■ Theoretical Dimension
The FY 2020/2021 budget draft drew a broad and healthy debate most of which could have been reduced had the Public Administration been aware to deal with it from the perspective of the State sustainability and in accordance with the principles of public finance science and its scientific basis, and to clarify this, we use two examples from reality. In public finance fiscal deficit is well defined; revenues which finance its expenditures should come from a sustainable economic activity, says Al-Shall Economic Report prepared by Al-Shall Consulting Co headed by Jassem Al-Saadoun.
According to this definition, most of the oil revenues come from selling or replacing an exhaustible asset, either by its consumption ie its exhaustion or by scientific longevity i.e. less significance.
Oil is subject to pressure from both elements. The above definition which places the state’s sustainability before its administration’s is what Norway adopted by its public administration-both the government and the parliament – which allows using only 4% of oil revenues to finance the public finance and only when necessary, first oil selling is only a substitution of an asset and not a revenue and second to avoid being struck by the “resources curse” and undermine its economic competitiveness as it did to The Netherlands before. The other opposite example that adopted the administration’s sustainability by consuming the state’s resources is Venezuela, which possesses the largest conventional oil reserves in the world with more than 300 billion barrels which is now deemed a failed state.
If Kuwait, which we have mentioned repeatedly, adopts the principles of public finance to switch its budget classification, then the main source of financing its public expenditures becomes the income of the alternative source for oil, i.e. the income of its sovereign fund whose function should change from an unknown target to an average return that achieves the largest amount of financial balance. Then, expenditures must be controlled by halting their waste and corruption because the Council of Ministers becomes obligated to commit itself to a high coverage rate for them from renewable or sustainable investment income.
Then, it becomes necessary to have a tax system on high incomes and profits even if it starts at a low level to represent a second financing source. Its importance lies in the difficulty of passing waste and corruption if it comes from tax revenue. Then comes directing support to those who deserve it, i.e. the support may increase to those who really need it but it should not go to those with high net worth because it simply becomes a negative and reverse tax and not due. The public budget expenditures that cannot be covered by its revenues can be covered by part of oil revenues provided that this contribution decreases by time, with their percentage decrease declared and complied with throughout its entire stages because the country contains a group of young women and men who will face massive unemployment unless we secure them with the financial sustainability. In addition, oil is subject to huge pressures for reasons of scientific longevity and environmental concerns. It suffices to mention that its barrel is sold now for about half of its 2013 price without taking into account the inflation impact, thus a programmed decrease in oil dependency will only save the country’s public finance and its employment.
Returning to the definition of both the “International Monetary Fund” and credit classification agencies and their conclusion that Kuwait will not achieve a fiscal deficit, these conclusions are valid from their point of view but are wrong from our point of view and from the point of view of public finance science. They are not concerned with what happens to Kuwait beyond the short term. Their audience is different and is limited to those who wish to deal with Kuwait, and not Kuwait itself. The shortcoming in our public administration is its inability to formulate visions that guarantee economic and financial stability for the sake of the country’s sustainability
General Budget Draft FY 2020/2021
The Minister of Finance provided a presentation on the features of draft general budget for the coming fiscal year 2020/2021. The most important assumption was the targeted production of oil will drop from 2.8 million barrels per day to 2.7 million barrels per day, or about 3.6%, coinciding with the increase in its production costs by about 8.8%, or from about KD 3.42 billion, to about KD 3.72 billion.
This means that when assuming a price per barrel for the Kuwaiti oil at around $55 a barrel, costs of its production will reach about 20% of its export price; it is likely that it will continue to rise and pressures to reduce the price and production will continue.
Those pressures on the revenues side are offset by pressures and lack of flexibility of public expenditures estimated at KD 22.5 billion without any change despite all promises to reduce them, 71% of them include salaries, wages, and subsidies. What remains is about 29% which represents the minimum level required under Kuwait’s economic conditions to go to the real capital formation, specifically in order to create new job opportunities for about 450 thousand citizens coming to the labor market until 2035, and distributed among other requirements within the current spending and construction projects most of which are irrelevant to any developmental goals. Indeed, what is left is insufficient to upgrade the necessary services such as education, health, and housing; neither is it sufficient to maintain the large and bad-quality projects that have been built such as non-functioning hospitals for lack of labor and material equipment. Nor is it sufficient to the infrastructure such as roads and bridges whose creation was not linked creating jobs or any of the declared goals of development.
In the overall estimates, public revenues decreased by 6.5%, while public expenditures remained the same as mentioned. Accordingly, estimates of financial deficit before deduction of 10% for future generations increased by 15.3% or to KD 7.7 billion from KD 6.7 billion the level of the current budget estimates. The alternative for financial sustainability project requires to diversify and increase revenue sources, the forthcoming budget project estimates a decrease in non-oil revenues by about 3.8%, coinciding with the large and unsustainable size of public expenditures whose effectiveness and flexibility are reduced.
Figures in our opinion are not important. The hypothetical deficit may increase or decrease according to the average actual oil price and according to more or less spending than the estimated when the final account is issued. The important thing is the continuation of the same risky and unsustainable approach.
Contrary to all those who announce the intentions of economic and financial reform and reform of the employment balance, both economic and fiscal policy work to further undermine the sustainability of all of the above. Production imbalance is rooted in the dominance of the oil sector and the fiscal imbalance is rooted in the dominance of oil revenues both of which are incapable of sustainability which threatens the employment balance with Kuwait entering an unbearable stage of unveiled unemployment. Most dangerously still is the call for tolerance with the government in order to issue the borrowing law in order to add to all of the aforementioned problems, the problem of the loan trap. It seems that the new government is following the path of previous governments, promises of reform but with no actions, and it is not assumed that a new government will start its work with a negative performance balance. Responsibility is in par with authority which controls the interests of the country and it is the one who assumes the liability for that loss.
Global Economy Performance
In its January 2020 report, World Bank believes that the global economy will improve in the current year contrary to a more pessimistic view that prevailed during the past year. After the lowest average rate in the past four years, the last of which was around 2.4% for 2019, it is believed that the global economy will achieve growth by about 2.5% in 2020. This less pessimistic outlook appears to be consistent with the visions of the US Federal Reserve which on Dec 11, 2019, stopped continuing its expansionary monetary policy when it kept the base rate steady at 1.75%. Its last reduction was a quarter percentage point in October 30th meeting after a similar reduction on July 31st and September 18th, 2019.
Despite some decline in pessimism level, World Bank still acknowledges that there are high risks that may fully reverse the growth direction if they are achieved including the return to fueling the trade war and the relapse in the performance of major economies by more than expected, or facing financial problems – high loans – in emerging and developing economies by $253 trillion as of the end of last September, according to the Institute of International Finance. The report states that growth in debt has gone through four waves of rising during the past fifty years.
The first three of which ended in financial crises and the last one that started in 2010 is the largest and most widespread. It is not ruled out to end with a crisis unless it is dealt with prudent monetary and financial policies.
The global economic growth will not be balanced in 2020; advanced economies will continue to lose their growth rates and their expected growth rate will not exceed 1.8% for the United States of America and will not exceed 1% for the Eurozone. But some major emerging and developing economies will compensate for that loss. The expected growth of emerging and developing economies is estimated to rise from 3.5% in 2019 to 4.1% in 2020 despite the report’s expectation that Chinese economic growth will for the first time break the 6% barrier downward to 5.9% for the current year.
In the Middle East region, the report presents three different estimates of growth for the potential growth of three major economies. While it estimates weak expectations for the Iranian economy or potential growth in the range of zero, 1% and 1% for the years 2020-2022, it expects comfortable growth rates of 5.9%, 6% and 6% for the three years for Egypt. Its forecasts are in the middle for the Saudi economy at 1.9%, 2.2% and 2.4% for the three years in a row. He expects positive but weak growth rates for Kuwait economy. After growing by 0.4% in 2019, the report predicts that it will reach 2.2%, 2% and 2% for the next three years, respectively.
The importance of the report lies in the fact that it is issued at a time when expectations vary greatly. There are those who expect a 2008 Crisis repetition and perhaps a great depression similar to what happened in 1929 but the report’s expectations are better than those who believe a lighter scenario, i.e. small and short-term negative growth, i.e. recession, It adopts the weak positive growth scenario and acknowledges the existence of risks.
Sovereign Credit Rating
■ Standard & Poor’s
Last week, Standard & Poor’s Agency published its report on Kuwait’s sovereign credit rating, which was a continuation of its good level at “AA” with a stable outlook. As we mentioned repeatedly, that is a credit rating that has nothing to do with the financial or economic stability of Kuwait in the medium to long terms. It is good because it lowers the cost of financing when the country or its private institutions need to borrow from the global market but it does not judge the safety of using borrowed funds at the sovereign level but only confirms the ability of lenders to recover what they lent due to the availability of financial reserves in the state.
In the agency’s report, there is an explicit text that states that the stable outlook for internal and external balances will remain strong over the next two years due to the state’s ownership of sovereign foreign assets that are enough to compensate for Kuwait’s inability to diversify its income sources and its continuing overwhelming dependence on oil. Oil, according to the agency, dominates about 90% of the proceeds of exports and public revenues, and this is its position since the sixties of the last century, despite the fact that all development plans since then have adopted diversification of income sources as their main goal. This means that the agency knows that it is an unsustainable economy. Reading its report does not give any impression of the sustainability of the financial situation of the country as the time span of the report does not cover the element of sustainability and the report audience is only concerned with recovering its money within the limits of the short term.
The agency did not hide its pessimism about the growth of Kuwait economy as it estimated it has weak growth for 2019 and only by 0.5%, and it estimates that this weak growth will continue in 2020 to remain within 0.5% also contrary to the expectations of World Bank. On the fiscal side, it estimated a rate for oil production lower than that estimated in the 2020/2021 budget draft and around 2.65 million barrels per day, that is, about 50,000 barrels per day less than the budget draft estimates, and an oil price is estimated at about $60 a barrel and then it drops to $55. That is, equal to the estimate of the next budget draft.
We must repeat what we have mentioned repeatedly that the agency’s report is correct as it addresses an audience that has a completely different interest from the interest of the local reader. Unless we read it locally in line with our goals and the requirements of the local economy, we will continue to misunderstand its conclusions.
The Weekly Performance of Boursa Kuwait
The performance of Boursa Kuwait for last week was mixed, where the traded value, traded volume and the number of transactions decreased, while the general index (AlShall index) increased. AlShall Index (value weighted) closed at 562.4 points as of last Thursday, showing an increase by 1 point or by 0.2% compared with its level last week. Also, it increased by 9.2 points or by 1.7% compared with the end of 2019.