Kuwait's decision to delay the introduction of VAT (value-added tax) untill 2021 signals a credit-negative slowing of reform efforts amid rising oil prices, said a report by top ratings agency Moodys.

The top oil exporter had last week announced its decision to delay VAT until 2021, three years after the implementation date it originally agreed.

Although the recent rise in oil prices will more than offset the net fiscal effect of the delayed implementation, the decision clearly illustrates how if oil prices remain around their current levels, the resolve for reform among some Gulf countries is likely to weaken.

Kuwait’s challenges in moving the VAT through its legislature also highlight idiosyncratic weaknesses in its institutional capacity that hindered a more robust response to the oil price shock, said the report by Moodys.

GCC governments originally struck a region-wide agreement to implement a 5 per cent VAT to reduce their dependence on oil-related revenue following the oil price shock in 2015. The tax implementation was initially planned for January 2018, but so far only Saudi Arabia (A1 stable) and the UAE (Aa2 stable) have implemented it, it stated.

The remaining countries have notionally agreed to implement the VAT at some point in 2018 or at the start
of 2019.

"In our view, Kuwait’s decision significantly increases the probability that some GCC countries may also delay or even cancel their VAT plans," said the top ratings agency.

"We estimate that the decision to delay the VAT’s implementation could cost the Kuwaiti government up 1.6 per cent of GDP in foregone revenue. However, the net fiscal effect will be more than offset by the recent rise in oil prices, because we estimate that a $5 per barrel increase in oil prices generates more annual fiscal revenue than the VAT," it added.

The Kuwaiti government’s decision is not entirely surprising. The government’s fiscal position is one of the strongest in the GCC, underpinned by some of the lowest fiscal and external breakeven prices in the region, and the vast sovereign assets of the Kuwait Investment Authority.

These considerations have meant that the urgency for fiscal reforms is weaker compared with other sovereigns such as Saudi Arabia and Oman (Baa3 negative).

Nonetheless, the government’s inability to implement new non-oil revenue measures has prevented Kuwait from making more meaningful progress in insulating government revenue from future oil price volatility and is therefore credit negative, said the statement from Moodys.

The Kuwaiti government has reaffirmed its commitment to introduce an excise tax on sugary drinks and tobacco when parliament starts its next session in October (Saudi Arabia and the UAE introduced similar measures last year), but the government estimates that revenue will be around KD200 million ($659.4 million) - less than one-third of that generated by the VAT.

According to Moodys, the negotiations around the VAT’s implementation have also highlighted some of the institutional challenges to reform that Kuwait’s economy faces.

In particular, Kuwait’s parliament – which has consistently blocked most non-oil revenue proposals – has been staunchly opposed to the introduction of a VAT from the outset.

Moreover, even if the government ultimately introduces the VAT, it is unlikely to have a major effect on the Kuwaiti economy, stated the top ratings agency.

Its introduction in Saudi Arabia and the UAE in January so far has had its inflationary effect softened by various exemptions, which we estimate comprise around 40 per cent of the consumer basket, said the report.

Retailers also have shown a willingness to absorb some of the costs on their margins. Furthermore, high per-capita income levels in Kuwait provide an additional degree of resiliency to the introduction of
measures such as a VAT, it added.-TradeArabia News Service