Falling oil prices combined with the Covid-19 crisis have put unprecedented pressure on Kuwait’s economy. John Everington looks at how the country is preparing to survive. 


Kuwait’s banks began 2020 in a quietly confident mood. Despite a slowdown in the country’s economic growth in 2019, gross domestic product (GDP) was predicted to recover well in the new year. Banks’ profitability, capital adequacy and asset quality had all shown improvements in the past year, with the prospect of further strengthening in 2020.

Meanwhile, the government’s renewed commitment to infrastructure spending – under the umbrella of its Kuwait Vision 2035 economic transformation plan – presented the prospect of a healthy growth in credit, following an easing of restrictions on personal lending in late 2018.

Fast-forward to early April, however, and the picture facing local lenders, and the economy as a whole, looks considerably less rosy. The country is scrambling – along with the rest of the world – to come to terms with the social and economic devastation wrought by the spread of the coronavirus. Kuwait was one of the first countries in the Gulf Co-operation Council (GCC) to implement drastic restrictions on movement and businesses, in a bid to halt the spread of the virus.

On March 11 the Kuwaiti government ordered all banks closed between March 12 and 26, with just one branch allowed to remain in each of the country’s six governorates, with the wider non-oil economy largely grinding to a halt.

Oil worries

Making matters worse is the simultaneous collapse in the price of oil in early March, following the spectacular demise of a four-year agreement between Saudi Arabia and Russia to prop up prices.

With co-operation between the two countries suddenly turning into an all-out price war, Brent crude has fallen from a peak of $68 a barrel in early January to below $27 a barrel in mid-March, its lowest level in 13 years, with the sharp contraction in demand brought about by the impact of the coronavirus further undermining prices.

And while Kuwait – which derives more than half its GDP and 95% of government revenues from petroleum exports – requires a relatively low oil price to balance its budget in comparison with its GCC neighbours, the country’s lenders are sure to be affected by the collapse in prices.

“The knock-on effects of lower economic growth and oil prices will further slow lending growth and increase the overall stock of problem assets... at GCC banks,” warned S&P Global Ratings in a briefing note on March 11. “At the same time, interest margins will decline. Combined, these shifts will weaken banks’ profitability.”

Falling interest rates

Banks in the GCC face “a perfect storm” according to analysts at United Arab Emirates-based Arqaam Capital, with falling interest rates – prompted by the US Federal Reserve – damaging profitability.

Arqaam noted that Kuwaiti banks were better protected than their counterparts in the UAE and Saudi Arabia, which cut interest rates in lock-step with the Fed, leaving Kuwait free to pursue a more flexible monetary policy thanks to its currency not being pegged to the US dollar.

Yet Arqaam, in a note dated March 8, forecast a negative impact of 0.4% to 0.8% on return on equity for Kuwaiti banks for each subsequent 25 basis point (bps) cut in interest rates. The Central Bank of Kuwait (CBK) subsequently cut its discount rate on March 16 by 100bps to 1.5%, the lowest level in its history, following a similar deep cut by the US Federal Reserve.

Be prepared

Yet Kuwaiti banks enter the new era of uncertainty better prepared than most of their peers within the GCC and wider Middle East region, armed with strong capital adequacy levels, a prudent regulator and the prospect of government support as and when the crisis deepens.

Moreover, the crisis coincides with efforts by the CBK to further strengthen the sector by imposing new approaches in areas as diverse as digitisation, sustainability and corporate governance, in line with the reform principles laid out in the Kuwait Vision 2035 programme.

In January, the International Monetary Fund (IMF) praised the central bank for "prudent regulation and supervision which have helped keep the banking sector resilient”. The capital adequacy of Kuwait’s banking system stood at 18% at the end of September 2019, according to central bank data, in line with figures recorded 12 months previously.

“We expect the banking sector to remain sound and stable over the near term and our quarterly stress-testing exercise supports that view,” CBK governor Mohammad Y Al-Hashel told The Banker in late February, ahead of both the collapse in oil prices and the coronavirus outbreak.

Mr Al-Hashel said that asset quality was expected to remain healthy, although a rise in the overall non-performing loan (NPL) ratio from its historic current low of 1.5% could not be ruled out. “Still, high provisions would continue to support an active write-off policy, helping banks avoid any serious formation of [bad] loans on their books,” he said.

The NPL coverage ratio for the sector as a whole stood at 231.6% at the end of September 2019, compared with 213.2% 12 months previously, according to CBK data.

Supporting role

Further underpinning confidence in the Kuwaiti banking sector is the prospect of state support should lenders require it.

“We assume a very high likelihood of government support,” said Moody’s Investor Service in a report published in early March. “The government has provided capital to distressed banks in the past and can continue to mobilise its substantial financial assets to support banks again if required.”

Meanwhile profitability across the sector has posted improvements in the past year. Return on average assets came in at 1.3% at the end of September 2019, compared with 1.2% a year previously, while return on equity rose to 10.7% from 10.1%.

Strategic focus

Even ahead of the challenges posed by the oil price crash and the coronavirus, the CBK had taken steps to ensure that Kuwait’s banks are properly prepared for future economic and operational challenges, in line with the principles of Kuwait Vision 2035.

Mr Al-Hashel outlined the challenges faced by banks in a speech at an international banking conference in Kuwait in September 2019, summed up in five battles – for customer loyalty, value, efficiency, resilience and talent – that banks need to win in order to survive.

The CBK has subsequently mandated that all banks must come up with new strategies focusing on such areas, which they will be measured against in the future.

“Twenty-twenty is going to be the year of planning for the future, it is the start of a new era for the banking sector in Kuwait,” says Mr Al-Hashel. “We’ve instructed banks to do their own strategy, a strategy that takes into consideration the challenges that we’re facing, and plan for the future and how to overcome and attend to those challenges, and remain successful and remain independent without any support from the government.”

All banks, together with other stakeholders including payment gateway Knet and credit bureau CI-Net, must have a financial and operational five-year strategy, including key performance indicators and targets, approved by the central bank and in place by the end of June 2020.

Most banks submitted strategies towards the end of 2019. The CBK had asked many lenders for clarifications by the end of March, with face-to-face meetings due to happen in April subject to coronavirus restrictions.

What is expected

Banks’ strategies are expected to contain tangible outcomes in areas such as sustainability, support for the country’s small and medium-sized enterprise (SME) sector, corporate governance and digitisation.

The emphasis on sustainability, including measures on energy efficiency and environmental impact, is particularly novel for the region.

“This is something that’s become increasingly important for European banks, but it is still not so important for banks in the Middle East,” says Elham Mahfouz, CEO of Commercial Bank of Kuwait.

Each bank is required to institute a new unit for strategy headed by an independent manager at the corporate level, reporting directly to the bank’s chairman. “I’ve told banks this is a serious matter, as the endogenous and exogenous challenges that [the sector] faces are humongous,” says Mr Al-Hashel. “Everyone must step up and take the necessary action. Otherwise they will be irrelevant in the future.”

Count SMEs in

The CBK is particularly keen to see banks include the development of Kuwait’s SME sector in their five-year strategies. In January the IMF welcomed authorities’ efforts to promote SMEs and to launch a comprehensive assessment of barriers to SME development. The fund recommended that the CBK consider further relaxing restrictions on credit to SMEs and the corporate sector. Mr Al-Hashel told The Banker that it was considering such a move.

Yet lenders remain nervous about extending credit to SMEs and start-ups in particular.

“Banks would not lend to such businesses. We have to have a track record and cashflows,” says Mazin Saad Al-Nahedh, group CEO of Kuwait Finance House (KFH), the country’s largest lender by assets. “We provide financing if we see stability in the company’s cash flows, but in the case of greenfield companies, it is not a bank’s position to provide financing. On the other hand, we provide banking services for such SMEs. Once they become established and you have a track record of their performance, you have no issues in providing them with credit.”

The CBK’s Mr Al-Hashel insists, however, that the real challenge was not the lack of credit availability but to create a vibrant SMEs sector in an economy where the public sector is still dominant.

Retail lending

The move to ease lending to SMEs and the corporate sector is similar to a move undertaken in Kuwait in late 2018 to stimulate consumer lending. In the wake of improved economic conditions in Kuwait in 2018, the CBK lifted lending restrictions to retail customers to Kd95,000 ($305,000) from Kd70,000 previously, giving banks space to grow.

Ahead of the Covid-19 crisis, consumer and household loans were seen as the key driver of credit growth in the country in 2020, according to Moody’s Investor Service. “We expect domestic credit growth to remain about 5% in 2020 against an inflation forecast of about 3%,” it said in early March. “Lending will be largely driven by retail (consumer and household) loans, which remain a significant part of domestic lending (about 43% as of September 2019) compared with some of its GCC peers.”

Yet even with the worsening of the coronavirus crisis around mid-March, lenders sounded a cautious note regarding the prospect for consumer and real estate loans in 2020.

“The government seems at the moment to be the driver of credit growth in the country,” says KFH’s Mr Al-Nahedh. “We’re not seeing it on the consumer side or on the corporate side of Kuwait in the private sector. There is a risk of concentration in the real estate sector that has been seen in other countries as well. It becomes dangerous. You do not want to be concentrated in one economic sector. You have to be diversified.”

Commercial Bank’s Ms Mahfouz says that while the easing of restrictions has stimulated the consumer lending market, such growth came at a cost. “The lifting of the restrictions on consumer lending gave banks an extra cushion to be able to generate income, but you have to remember that the Kuwaiti population is very small,” she says. “It is an area that’s growing but it is very competitive and often with small margins.”

Consolidation on the cards?

The prospect of tougher operating conditions has once again raised the possibility of consolidation in Kuwait’s banking sector, in line with a swathe of such deals within the wider GCC region. Consolidation has been particularly prevalent in the UAE, with a series of lenders with common shareholders joining forces in the face of economic headwinds.

In January 2020, KFH shareholders approved the acquisition of Bahrain’s Ahli United Bank (AUB), creating an entity with assets of about $101bn. While the deal is the first cross-border bank acquisition in the GCC for several years, it also represents a significant consolidation within Kuwait, with AUB’s local subsidiary one of the biggest contributors to its overall loan book.

“If you look at the number of banks in Kuwait, you have 10 local banks, plus 12 to 13 foreign banks that are operating here,” says Mr Al-Nahedh. “The landscape does not [constitute] this number of banks.”

The CBK’s Mr Al-Hashel says that it would encourage further deals if appropriate for the sector and for the institutions in question, but would not impose such moves unnecessarily.

Commercial Bank’s Ms Mahfouz adds that while the shareholder structures of lenders in Kuwait are not as conducive to the types of mergers seen within the wider region, financial realities make further deals all but inevitable.

“I have a feeling that in the next five years there will be another merger,” she says. “The country’s four largest lenders control about 80% of the market, leaving the other six local banks to fight it out for the remaining 20%. At the end of the day the banks in that second tier have to do something, otherwise the big four will continue to increase their market share.”


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