Kuwait, inflation a concern

When the FDI law becomes fully functional, on condition that it is not accompanied by the usual red-tape, wide-spread bureaucracy and over-taxation, the local market will most likely see an influx of additional liquidity in the form of FDI, thereby leading to further improvement in the local economy.

At the same time, government's long-term borrowing as depicted in table 08 above, which has continued to fall (the new issues of treasury bonds) from KD1,600mn in 1999 to KD910mn at the end of 2002 is set to pick up for 2003.

Thus far in 2003, the government has already issued KD1,030mn worth of T-bonds, already topping issues in 2002. The new bond issues which occurred in the third quarter of the current year, and specifically in August were met with strong investor demand.

The issues have been stated by the press to have been over subscribed nearly 65 times from local banks and listed companies. This strong demand is mainly due to the availability of high levels of liquidity with limited investment channels, mainly in the capital and real estate markets. Companies use such government vehicles as a diversification instrument to decrease the overall risk of portfolios.

To the contrary of 2002 when the government increased short-term borrowing to reach the highest issue rate after the invasion, treasury bill issues have gone through a change of momentum in the first nine months of 2003.

Maturing issues have thus far outweighed new issues which has turned around the growth in the outstanding balance of treasury bills, which unless becomes more active in the fourth quarter is set to close on a declining note.

At the end of September 2003, the balance of treasury bills stood at KD1,195mn. The total outstanding public borrowing at the end of the third quarter of the current year stood at the same level as in December 2002. But it seems the government has returned to long term borrowing as its preferred source.

With economists believing that the worst is behind and recovery is on the horizon, the average interest rate on 6 month treasury bills also depict a similar tale. After they had declined from 5.48% at the end of 2001 to 2.06% at the end of Dec. 2002, they started their ascent in the first quarter of 2003.

The interest rates on treasury bills increased from its Dec. 2002 level to reach 2.31% by March end and continued an ambiguous sideways trend through the third quarter to close at an average of 2.304%, above the closing in 2002. KIBOR rates show a similar fashion. After they had receded to close 2002 at 2.5%, they crawled up to 2.75% for 1 year and 3.18% for 3 years by the end of September 2003.

Consumer inflation which increased by 1.4% in 2002, has remained relatively stable in 2003 as well. Kuwait is generally seen to be a low inflation economy, although an upturn may be expected, largely due to the elevation in the imports of non-oil commodities whose average dollar price is set to pick up.

Continued weakness of the dollar, vis-à-vis other currencies which also forms a major part of Kuwait's imports, may also lead to higher levels of inflation, as the KD is currently pegged to the dollar.

The government, though, counters this strain by maintaining price subsidies on basic goods as well as constraining price growth. In addition, UNCC payments dispersed in 2003 will add to the liquidity of the domestic economy, placing a strain on prices.

The inflation level, as measured by the CPI, recorded a growth of 1.4% in 2002 compared to a growth of 1.7% the previous year. The Consumer Price Index reveals a slowdown in the inflation rate across all four quarters of 2002.

However, with the specter of a sharply weakening dollar, the forecasted rise in inflation has to some extent materialized as inflation has reversed its declining trend to pick up once again. Inflation in the first quarter of 2003 shows a year-on-year increase of 0.8% as compared to the fourth quarter increase of 0.4%.

It has further appreciated to 1% and 1.8% in the second and third quarter of 2003 respectively. Although inflation is currently not an issue of concern, even with the reversing trend, the high level of liquidity seems to be driving prices of stocks and real estate properties to unprecedented levels.

Inflation in producer prices (wholesale price index) which had observed an increase of 3.3% from 2001 to 2002, witnessed a 3% y-o-y increase for the first quarter of 2003. The manufacturing sector receives nearly 94% of the weight, therefore it is not surprising to see an increase/decrease in the inflation level almost exclusively due to increases/decreases in the prices of this sector.

The growth of inflation in producer prices has slowed since the end of the third quarter of 2002, and it may be expected that the end of the Iraqi regime which has resulted in reductions in insurance premiums may continue to drive slow growth in producer prices.

With risk premiums reduced, the cost of manufacturing will decline, as many of the capital goods as well as raw material are imported from abroad.

This hypothesis holds true for the second and third quarters of 2003 with the wholesale index growing at a slower y-o-y percentage of 2.7% and 1.5% respectively. It is of interest to mention here that mining & quarrying, which had been constant since the end of 2000, made a spurt of 9.7% in the third quarter to clock 170.0 in its index.

Despite the US federal reserve decreasing the discount rate again during August, Central Bank of Kuwait held firm to the current interest rates in the local market. Therefore, the discount rate has remained steady at 3.25% since last November's cut.

After having recorded a modest growth of 4.75% in 2002, the broad money supply as measured by M2 grew by 10.8% in the first nine months of 2003 to reach KD10.7bn. While the first three months of the year 2003 saw the M2 grow by only 1.2%, the second quarter of 2003 saw the money supply record nearly 7.8% growth over its first quarter level.

The third quarter saw a slowdown in the money supply growth rate with M2 growing only by 1.6%. Most of the YTD growth came about as a result of the nearly 31.4% growth recorded by the sight deposits. The currency in circulation had also gone up by nearly 4.8% by the end of the third quarter, although it has been contracting since it reached a high of KD516mn by the end of March 2003.

Cash with local banks had also shrunk to KD57mn by the end of the third quarter as compared to KD82mn at the start of the year, representing a decline of 30.5%. Also while the first quarter of the year 2003 saw the Quasi money decline, the second and third quarters saw the quasi money recovering and registering a growth of 6.8% over its 2002 level.

Keeping with the growth in the money supply the total banking assets in Kuwait increased by 10.1% to KD18.8bn at the end of September 2003. But the key aspect of this growth in the total banking assets was the growth in the credit facilities to the private sector which grew by 20.7%.