To build a sustainable and competitive economy, Kuwait must overcome the challenges posed by over-reliance on hydrocarbon assets and look at diversifying its revenue base beyond the oil sector. Given the depetable nature of hydrocarbon assets and the volatility of its demand and price, the country will increasingly have to depend on the non-oil sector.

In order to facilitate this transition, the government needs to urgently implement regulatory reforms and boost privatization efforts, to improve the business climate and increase foreign direct investment, says a new report on Kuwait’s economy.

Government and policy makers in the country obviously do not need such a report to make the case for economic diversification. The authorities have for long been aware of what needs to be done, and the repercussions from not doing it. But gathering the political support and having the will and capacity to implement it in a timely manner, is the part where Kuwait has always struggled.

The new report titled ‘Economic Update’ and prepared by the London-based ICAEW and Oxford Economics warns that continued dependence on hydrocarbon revenues, at a time when oil demand is slipping and prices remain within a low narrow band, are likely to create negative repercussions for Kuwait’s economy.

The impact of continued downward pressure on oil demand and prices, is likely to be further amplified by lower production, due to the extension of supply cuts until March 2020 by the 21-member alliance of the Organization of Petroleum Exporting Countries (OPEC) and its non-OPEC partners. As a result, the country’s overall GDP growth in 2019 is likely to remain at around the same 1.2 percent pace registered in 2018, says the report.

The downward trend in oil also threatens the country’s external and fiscal dynamics, and leaves the economy even more vulnerable. Lower oil exports, are expected to challenge the government’s fiscal position, while the lower oil revenues are expected to widen the deficit in fiscal year 2019/2020. The deficit is once again likely to compel the government to drawdown from its General Reserve Fund, as parliament has still not passed a new debt law allowing Kuwait to issue sovereign bonds.  The one consolation is that expansionary government budget and accommodative monetary policies aimed at spurring non-oil activity, as part of the country’s economic diversification plan, appears to be bearing fruit. Non-oil activity strengthened to 4.1 percent in Q1-2019, significantly above the 1.5 percent growth recorded in the preceding quarter. But it is highly unlikely that the non-oil sector will be able to sustain economic development any time in the future, especially without the government’s support from its oil revenues.

Hydrocarbon industry remains crucial to the economic prosperity of Kuwait — energy sector accounts for around 90 percent of both revenue and exports, as well as 50 percent of the country’s output. Ironically, higher oil prices are needed to give the government leeway to pursue its diversification plans and move the economy away from oil.Though oil prices, on average, were 9 percent higher in the second-quarter (2Q) of this year relative to the first quarter (1Q), they have not been sustained going into the third-quarter.The price of Kuwait Export Crude (KEC), which peaked at about US$75 per barrel in late April and ended the second-quarter at $66 a barrel, has since been sliding.

Acknowledging the pitfalls that lie ahead, the government is keen to continue boosting production from its hydrocarbon reserves. In July, state-owned Kuwait Oil Company (KOC), which is responsible for upstream activities, announced the signing of a three-year deal worth $597 million with US-based oilfield services firm Halliburton, to drill six high-pressure, high-temperature offshore exploration wells at two sites in Kuwaiti waters off the coast. The first phase of this project is scheduled for completion in July 2020, followed by the second phase in January 2021. Projections made by KOC show that this offshore production could reach 100,000 bpd in the future. Another possible silver lining for Kuwait on the hydrocarbon front is the possible resumption of oil production from the neutral or divided zone. The 5770-sq-km neutral zone, which lies on the border between Kuwait and Saudi Arabia, has long been a bone of contention between the otherwise friendly neighbors. In 1922, when Great Britain in its infinite wisdom demarcated the border between Kuwait and Saudi Arabia, the neutral zone was left undefined.

The neutral zone would have remained just that, an unclaimed and forgotten piece of desert of no interest to both countries, but for the discovery of oil below its sands. And, not just a small trickle of oil, but over 500,000 barrels per day (bpd) of relatively easily recoverable oil. The neighbours previously operated two jointly run oilfields — Wafra onshore and Khafji offshore — in the area.

The Wafra field was operated by state-run Kuwait Gulf Oil Co and Chevron on behalf of Saudi Arabia, while the Khafji field was operated by state oil giant Saudi Aramco and Kuwait Gulf Oil. However, operations at Khafji were halted in October 2014 and Wafra in May 2015 due to environmental concerns and technical disputes over use of the land, respectively. Output was expected to resume in late 2016, but no action was taken.

Saudi Crown Prince Mohammad bin Salman’s visit and talks with His Highness the Amir Sheikh Sabah Al-Ahmad Al-Jaber Al-Sabah in September 2018 are reported to have led to a thaw in frozen status of the neutral zone. In July of this year, Prince Abdulaziz bin Salman, Saudi Arabia’s minister of state for energy affairs, visited Kuwait to discuss technical points related to reopening upstream activity in the zone between the two countries, and noted that major issues had been resolved. While a deal has yet to be struck, Khalid Al Falih, Saudi Arabia’s minister for energy, industry and mineral resources, is reported to have said that he expected to reach an agreement before the end of this year.

Since Kuwait remains committed to production cut quotas, any resumption of activity in the neutral zone would help to meet long-term aims of expanding the upstream segment.  The country is hoping to increase its current production of 2.7 mb/d to 4 mb/d by 2020 bpd. While this is no doubt a challenging target, if and when it is realized Kuwait hopes 350,000 bpd of the increased production will come from the neutral zone. Any oil that Kuwait can squeeze out of its sands or territorial waters is vital to sustaining the country’s economy, at least for the near future this remains the only viable alternative.

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