With a budget almost entirely dependent on petrodollars, a population forecast to rise to 5.4 million over the next two decades, and citizens who depend on the state for nearly 80 per cent of their employment requirements, Kuwait is in need of both economic diversification and new jobs.

This year is a litmus test for the viability of the schemes and how strong the political will is

Abdul Aziz al-Yaqout, DLA Piper

An ambitious scheme is in place to promote non-oil and private sector growth to address both needs, and for the first time in many years, there is a cautious optimism in the country that the government’s plans will not be frozen by its political opponents.

Two projects in particular – the privatisation of state carrier Kuwait Airlines Company (KAC) and the construction of the country’s first independent water and power plant (IWPP) – are set to reach major milestones in 2010, and the coming year promises to be a major test for both the government’s plans and Kuwait’s economic future.

Long-term concerns

At first glance, Kuwait’s economy is booming. Despite a year-on-year fall in nominal gross domestic product (GDP) of 22 per cent in 2009, the government expects to have run a current account surplus of KD8.2bn ($28.2bn) in the financial year to the end of March and has forecast economic growth of 13 per cent for 2010.

More than 19,000 Kuwaitis found new jobs in 2009, up from 15,000 in 2008, according to government figures, and this number is forecast to increase during the course of this year.

But the statistics mask a major structural deficiency in the country’s economy. Of the 338,800 Kuwaitis in employment in 2009, some 270,600 – 79.9 per cent of the total – were employed in the public sector. However, only 30 per cent of the country’s population were in work, while 50 per cent of Kuwait’s citizens are under the age of 20.

Meanwhile, the budget surplus did not come from efficient management of the country’s finances, but from a higher-than-forecast oil price. The state raised KD17.9bn in revenues during the year, with KD16.8bn of this coming from its oil exports and just KD1.1bn from the non-oil sector.

In effect, from employment to the generous state benefits they receive, Kuwaitis are supported by one thing: oil. And with its population set to rise 2.2 per cent a year until 2020, Kuwait can no longer afford to sustain its people through oil exports alone.

In a December 2009 report, Daniel Kaye, a senior economist at the National Bank of Kuwait (NBK), forecast the country’s population would grow to 5.4 million by 2029, with an increasingly young population putting a strain on the jobs market, while the number of state-supported retirees ballooned and oil output started to fall.

“The rise in the local population will put upward pressure on government spending by way of increased salaries for employees, subsidies and goods such as fuel and food, as well as housing and infrastructure costs,” he wrote, adding that this could lead to an annual rise of as much as 7 per cent in government spending.

This in turn would require an average oil price of $150-200 a barrel by 2029, he said.

State reforms

Clearly, something needs to be done, a fact which has not escaped Kuwait’s emir, Sheikh Sabah al-Ahmed al-Jaber al-Sabah, and his nephew, the prime minister Sheikh Nasser al-Ahmed al-Jaber al-Sabah.

In 2009, the government commissioned the UK consultancy Tony Blair Associates, run by the former UK prime minister, to prepare a framework for development in the country, including an overview of its current trajectory. The findings, which were published in early 2010, were uncompromising. “Put simply, Kuwait cannot sustain its present path,” Blair wrote in his foreword to the report. “It changes direction or it declines … there is no point in dressing this message up: there has to be a thorough, deep and radical set of changes introduced, for Kuwait and Kuwaitis to achieve the future they deserve.”

What has surprised many seasoned observers of the country’s economy and political system is that since the Blair report, change seems to be forthcoming. In February, Kuwait’s traditionally volatile National Assembly, or parliament, voted in a new $100bn-plus five year development plan, the country’s first since 1986. The Tony Blair Associates report forms the backbone of not just the five-year development strategy, but a series of developments being planned out to 2030.

At the heart of the plan is an expansive role for the private sector in the development of the economy. This will come through the privatisation of existing government assets and a series of multibillion dollar public-private partnership (PPP) initiatives, led by the country’s Partnerships Technical Bureau (PTB), which was set up in 2008, following the passage of the country’s first PPP law.

As of June, the PTB was assisting government ministries on 24 PPP projects, worth a total of $21bn.

To support the plan, parliament also passed a new privatisation bill in May, paving the way for the government to sell off state-owned non-oil assets. Other laws are in the pipeline to make it easier to do business in Kuwait.

But this does not mean that the country’s future is secure.

The involvement of private sector companies and the privatisation of government assets have been vociferously opposed by several groups of politicians, who in the past have managed to derail projects and have even caused Sheikh Nasser’s cabinet to resign on several occasions.

“[The government plans] have mainly been hampered by parliament, and the inability to overcome this reservation that they have with regard to privatisation and involving the private sector,” says Abdul Aziz al-Yaqout, regional managing partner at London-headquartered legal firm DLA Piper.

While the privatisation and PPP laws are steps in the right direction, the next step is turning plans into a reality.

“We need fundamental private sector reforms, but we haven’t seen that yet,” says Randa Azar-Khoury, chief economist at NBK. “There is a five-year plan, but the devil is in the details. We saw the private sector law passed for example, but with major deficiencies.”

Bankers and lawyers point to clauses in the privatisation law, which hands the government a controlling share in any assets, which it sells off, and a mandatory five-year period in which Kuwaitis retain their generous public sector packages.

“Because of a number of legal, political and cultural issues, the buyer is going to be required to run the company like a government organisation for 2-3 years before they can start making material changes,” says David Pfeiffer, managing partner at US law firm Denton Wilde Sapte’s Kuwait office. “They will have all these restrictions in place, but no real government support.”

Crucial test           

In the short term, the KAC privatisation and the $2.5-3bn IWPP at Al-Zour stand out as a key tests for the involvement of the private sector in the economy.

International developers were due to be invited to collect tender documents for a contract to build, own and operate the IWPP project on 24 June, while legal firms, which bid to advise on the privatisation of KAC on 8 June, expect to be told who the winner is before the end of the month.

Both contracts could be sealed before the end of the year. But equally, they could stall or prove unprofitable for foreign investors.

If the privatisation plans and contract awards are successful, international investors are likely to start taking greater note of the country. It would not take much for foreign investment in the country to increase significantly.

Kuwait only managed to attract a KD23m of foreign direct investment in 2009 in the wake of the cancellation of a $17bn petrochemicals joint venture agreement between the government and the US’ Dow Chemical and the cancellation of construction contracts for a $15bn refinery project.

“This year is an absolute litmus test for the viability of these schemes and how strong the political will is to push forward with these projects,” Al-Yaqout says. “At the end of the day, it depends on the political will of the Kuwaiti people and the Kuwaiti government to push these projects through.”