Kuwait has been an outlier among the GCC states in not approaching the debt market in 2018, instead choosing to draw down from its General Reserve Fund (GRF) to overcome budget deficits. The projected annual budget deficit of KD7.7 billion for the fiscal year ending March 2020, is once again expected to be covered by dipping into the GRF.
Over the years, the GRF managed by the Kuwait Investment Authority (KIA) has reportedly been depleting from government drawdowns. According to one report by Moody’s rating agency, the GRF’s assets are believed to have declined by KD14.7 billion from the 2015-2016 to 2018-2019 fiscal years. The agency cautioned in an internal note that most of the GRF’s liquid assets would be depleted under most plausible scenarios within the next four years, and that this could have implications for Kuwait’s sovereign credit worthiness.
Incidentally, the KIA also manages the country’s Future Generations Fund (FGF) which is off-limits for the government to draw on under normal circumstances. Though the volume of both funds and its investments are confidential, it is believed that the KIA manages over $590 billion in assets in both funds together.
Though the pace of GRF decline in assets slowed in Fiscal Year (FY) 2016-17 due to heavy international and domestic debt issuances, this has for the most part ceased in FY2017/18 after the expiration of the public debt law. A revised debt law, which would allow the government to raise the country’s debt ceiling, and authorize it to approach international debt markets for additional borrowings, is sadly still lying in parliament pending approval.
According to estimates at the start of the year by international ratings agency, S&P Global, sovereign long-term commercial borrowing in the Middle East and North African (MENA) region could increase by 25 percent to $136 billion in 2019, with commercial debt of sovereigns rated in the ‘AA’ category (Kuwait, Qatar and the UAE) in 2019 will be 18 percent of the total, significantly up from eight percent in 2018. But, S&P cautioned that its projections were based on expectations that the parliament in Kuwait would approve the long-pending new debt law.
For instance, the last time that Kuwait approached the international debt market was in early 2017 with a sovereign issuance for a record $8 billion. If the new debt law is approved, Kuwait could go from zero borrowing in 2018 to nearly $15 billion in long-term commercial borrowing in 2019.
Financial markets in the region have evolved at a fast pace by embracing more outward-looking policies aimed at integrating with global markets and thereby increasing the scope of financial instruments traded in the region. However, the six GCC states have not been uniform in their approach to funding from the debt market. While Bahrain, Oman and Qatar have for the most part focused on debt issuance rather than drawdowns of their sovereign assets, and Saudi Arabia has split its funding nearly down the middle between issuing debt and liquidating part of their assets, the UAE and Kuwait have only opportunistically approached debt markets and mainly concentrated on asset draws to fund their needs.
Governments in the six-nation Gulf Cooperation Council (GCC) states which borrowed heavily on international debt markets in 2017, pared it down in 2018 following higher oil prices easing short-term liquidity pressures. Now, with lower oil prices once again fueling a liquidity crunch, and with increasing need to fund growth plans and rein-in persisting budget deficits, most GCC states are expected to lean towards debt financing strategies.
In the past, GCC states rarely needed to issue debt relying instead on the copious inflow of oil revenues. However, the fall in oil prices in mid-2014 and the need to fund recurring budget deficits prompted nations in the six-nation block to borrow on the international bond market. Up until 2014, Bahrain used to be the sole GCC issuer of international debt, but since 2016, most GCC countries have resorted to tapping international debt markets to meet their funding needs, to widen their funding sources, and to reduce liquidity pressures in the domestic banking systems.
Last year, when emerging markets were overwhelmed by a period of sustained sell-off, GCC fixed income securities provided a safe haven for international investors. The scale of this attraction is evident from the fact that in 2018, a quarter of the US$151 billion in dollar-denominated emerging market sovereign debt was issued by GCC countries. The lure of fixed income securities from the region has continued in 2019 with GCC states delivering billions in issuances from both sovereigns and corporates during the first half of the year alone.
According to analysts, attraction for fixed income securities from many GCC states are supported by the region’s growing share in global GDP, which is expected to rise from 1.8 percent in 2015 to 2.0 percent in 2019, while its share of emerging markets GDP is expected to increase from 4.7 percent to 5.0 percent this year.
Despite Kuwait being hampered from approaching debt market, other GCC states led by Saudi Arabia gave gone on a debt issuing spree. Saudi Arabia, the largest economy in MENA, is expected to be the largest borrower in 2019 with $29 billion, accounting for 22 percent of gross commercial long-term borrowing in the region as a whole so far this year. The next largest borrower will be Egypt with $28 billion, or 20 percent of the total borrowings. The United Arab Emirates, Iraq, and Kuwait if it succeeds in passing the debt law are also likely to significantly increase their gross commercial long-term borrowing in 2019 compared with 2018.
Analysts at S&P said they expected absolute level of commercial debt for the region to increase by $85 billion to about $892 billion at the end of 2019, which would make it 11 percent higher than the level in 2018. Around 44 percent of MENA sovereigns’ $136 billion of gross borrowing this year will go toward refinancing maturing long-term debt, resulting in an estimated net borrowing requirement of $76 billion.
Debt has steadily been increasing in the region. Regional gross government debt as a percentage of GDP increased from 29.7 percent in 2014 to 44.4 percent in 2018, after the recent slew of issuances. Fiscal deficits for most countries in the region have been the reason for an increase in government debt, and this trend is expected to continue in 2019. On the plus side, recent reforms being implemented across the region, infrastructure spending, and expanding the non-oil sector through economic diversification plans, all add to the attraction of the GCC for global investors.
On the con side, risks in the region stem from further oil price volatility, increased issuance and geopolitical uncertainty. However, investors may benefit from attractive risk premiums, improving fundamentals and the benefits of index inclusion leading to efficient price discovery. Moreover, with most GCC currencies pegged to the US dollar, this reiterates an attractive relative risk premium amid weakening emerging market FX rates and a stronger US dollar.”
Default risk in the GCC remains relatively low despite volatility in oil prices. The GCC region has seen very few defaults or restructurings compared to broader emerging markets. Large reserves in the form of Sovereign Wealth Funds continue to offer support in times of distress and provide a liquidity cushion that can reduce default risk, which is considered a key differentiator from other emerging market countries.
-The Times Report