Moody's issues annual sovereign report on Kuwait

"The ratings were last upgraded in July 2007, from Aa3, chiefly to reflect the growing strength of the government's balance sheet as oil-driven fiscal surpluseps are channelled through the state-owned Kuwait Investment Authority to accumulate financial assets abroad.

Mostly invested in non-hydrocarbon sectors, these assets provide an 'oil hedge' and their returns increasingly contribute to the country's gross national income," explains Tristan Cooper, a Moody's Vice-President / Senior Analyst and author of the report.

Kuwait's non-oil sector is also growing strongly, especially in the area of services, recording the second fastest rate of non-oil growth in the Gulf Cooperation Council in 2007, according to IMF estimates.

Moody's notes that, with consensus forecasts indicating that oil prices will remain at elevated levels over the medium term, the country's already high level of prosperity is set to rise further.

"Kuwait's ratings are constrained mainly by political and institutional factors, which are given comparatively more weight in the Aa rating category.

The quality of governance in Kuwait tends to be weaker and the regional geopolitical environment more hazardous than is the case with higher-rated countries.

Although the country's foreign assets provide an increasingly important source of capital diversification, the economy remains highly dependent on hydrocarbons and hence its performance is far more volatile than is the case with larger, more diversified economies," Mr Cooper explains.

"As in many other countries, the most important short-term economic challenge is inflation, which threatens competitiveness, creates market distortions and could raise social tensions. Inflation is being exacerbated by negative real interest rates and very strong growth in government expenditure," Mr Cooper cautions.

On the one hand, Moody's recognises the relative financial strength of Kuwait's banks.

However, the rating agency has some concerns with regard to their aggressive growth in lending, particularly for purchases of local real estate or equities, as well as the moral hazard that could ensue from the recent establishment of a government fund to assist
overextended debtors.

In relation to recent political developments, Mr Cooper explains "We recognize the negative consequences of the fractious relationship between the government and the parliament in terms of the very slow legislative process, the constant churning of cabinet members, and the constraints this places on economic development. However, we consider it highly unlikely that such tensions could escalate into a disruptive crisis that seriously threatened the core pillars of the country's sovereign ratings -- the flow of oil exports, the country's wide twin surpluses, the government's proven willingness to repay, and the prudent management of the government's prodigious financial assets."

The issuance of this credit report by Moody's Investors Service is an annual update to the markets and is not a formal action to alter the credit rating of the issuer.