How Kuwait will be affected as coronavirus impacts oil prices

Global markets are in turmoil as COVID-19 continues to spread to all corners of the globe. Our efforts to halt its progress have thus far failed, owing to certain characteristics of this new virus, such as its very high transmissibility and the way it is able to spread between persons even when the infected are asymptomatic.

Shocks to both supply and demand

Markets are currently scrambling to price-in the consequences of both the supply and demand shocks that are seizing the globe. Governments are proceeding - one after the other - to shut down all non-essential parts of their economies while encouraging their citizens to self-isolate in order to contain the virus. Crude oil has been hit more severely than many other assets in the wake of China shuttering its industry in the New Year. China is the world’s largest oil importer; the knock-on effects of the measures it has taken are far-reaching and will take many months to be fully revealed. West Texas Intermediate has gone from highs of over $65 per barrel at the start of the year, to lows just over $27, putting it firmly into bear market territory. At the time of writing the article it was trading at $31.99 per barrel.

OPEC+ breakdown

Crude oil prices fell 10 percent on Friday, March 6th when OPEC+ talks broke down as Saudi Arabia failed to convince Russia to increase production cuts. It fell again by over 33 percent on Monday, March 9th following an announcement by the Saudis that they would be slashing prices and increasing production. Leading the other Gulf states, Saudi Arabia is now engaged in a price war with Russia in an attempt to gain market share in this new environment of lower prices and curbed demand. Kuwait recently announced that it would also be cutting the price of its own April crude sales by $6 per barrel, the same amount as Saudi Arabia.

Libyan disruption

The recent blockade of Libyan export terminals by rivals to the country’s head of state, Fayez Al-Sarraj, initially supported the price of crude. By mid-February the country’s output had slowed to a trickle, going from 1.2 million barrels per day to just over 160,000. However, this supporting effect is already being nullified by the market’s reaction to the prospect of overproduction by the Gulf states and Russia. This new climate of reduced demand and increased supply is only likely to send prices even lower.

Kuwait’s oil dependence

It is estimated that Kuwait holds around 10 percent of the world’s oil reserves, a fact that has contributed to it becoming incredibly wealthy since it first started exploiting those resources in the middle of the 20th century. Despite being more open and liberal than its counterparts in the Persian Gulf, Kuwait’s economy is not as diversified as the other Gulf states.

In recent years, Kuwait has done an incredibly good job of increasing the contribution of travel and tourism to its GDP. The travel and tourism industry has gone from 3.5 percent of the country’s GDP in 2014 to an impressive 10.4 percent in 2018. While these changes are certainly encouraging, they are unlikely to insulate the country from the economic fallout of the coronavirus, as this is yet another sector that we are expecting to be hit particularly hard, at least in the first half of 2020.

Response to the crisis

Despite sharing a maritime border with Iran, which has been one of the four global epicenters of the outbreak, Kuwait has yet to see the virus spreading into triple digits. At the time of writing, Kuwait has reported a total of 80 coronavirus cases and no deaths. The country’s response to the crisis in the wake of the World Health Organization declaring Covid-19 a pandemic has been swift and uncompromising. All commercial flights in and out of the country have been cancelled except those evacuating Kuwaitis from abroad. Public gatherings are prohibited and employees have been given a two-week holiday and told to stay home.

The bottom line

The International Energy Agency has recently cut its base case for global oil demand by 1.1 million barrels per day. The agency expects that in 2020 oil demand will fall for the first time since 2009. Global demand will be down year-on-year by 2.5 million barrels per day, with China accounting for the lion’s share of this slump, its own demand set to fall by 1.8 million barrels per day.

Kuwait’s All-Share index was down 4 percent in February, despite its oil and gas sector being the best performer for the month. Nevertheless, the index’s losses haven’t been as pronounced as those of Qatar, Saudi

Arabia, Dubai and Abu Dhabi. We have to keep in mind that all markets are currently in panic mode, everything is being sold indiscriminately as investors vacate risky assets in favor of cash until the dust settles. Only when it does, will we be able to know what we’re dealing with.

One thing that most of the Gulf states have in common is relatively low debt to GDP. With the exception of Bahrain, all the Gulf states have debt to GDP percentages that are well-under 100. At 17.78 percent, Kuwait has the lowest debt to GDP percentage of all the Gulf states and one of the lowest in the world. So, while Kuwaiti oil may not have the lowest external break-even price, its fiscal break-even price is significantly lower than all the other Gulf states except Qatar. This means that Kuwait is able to tolerate selling oil at these reduced prices for a sustained period of time. This will be extremely important if the global economy dips into a prolonged recession, as many other players, particularly Canada and the US, have the onerous combination of both high debt and high break-even costs to contend with.

Finally, you can expect high oil-consuming nations to want to stock up at these low prices, which will also play into the hands of the Gulf states who are cutting their prices. It is rumored that Chinese officials are already considering beefing up the country’s strategic oil reserves at these discounted levels. Recently, Bloomberg announced that oil lobbyists in the US are also pressuring President Trump to do the same thing. China on its own is in a position to support oil prices were it to opt to buy this dip. If other large oil-consuming nations were to follow suit, it could provide a much-needed, if temporary, boost to oil producers.

Note: Giles Coghlan is chief currency analyst at HYCM