This Selected Issues paper analyzes energy price reform in Kuwait. It emphasizes that Kuwait should take advantage of current low global energy prices to strengthen efforts to reform domestic energy prices. In the longer term, this would benefit growth by increasing efficiency in the economy and creating space for higher public and private investment. In the short-term, one-off effects on inflation should be manageable. Productive activities more sensitive to energy costs, particularly the transport sector, would be able to adjust to higher energy prices more easily if the reform is gradual.

Abstract

This Selected Issues paper analyzes energy price reform in Kuwait. It emphasizes that Kuwait should take advantage of current low global energy prices to strengthen efforts to reform domestic energy prices. In the longer term, this would benefit growth by increasing efficiency in the economy and creating space for higher public and private investment. In the short-term, one-off effects on inflation should be manageable. Productive activities more sensitive to energy costs, particularly the transport sector, would be able to adjust to higher energy prices more easily if the reform is gradual.

Labor Market Structure and Reform1

Current labor market structures lack the right incentives for creating a dynamic, skilled workforce able to sustain an expansion of Kuwaiti nationals joining the private sector. Current policies to address labor market distortions, and keep unemployment among nationals low through public employment, quotas, and permanent wage subsidy programs in the private sector are neither effective nor sustainable in the long run. They need to be underpinned by educational and training reforms and labor policies to improve skills, pay, and productivity in the private sector. Empirical analyses suggest the existence of complementarities between expatriate and national labor that underscore the importance of treading gradually in any efforts to cap expatriate labor.

A. Introduction

1. Kuwait’s heavy reliance on foreign labor has been a significant pillar of its economic structure. Expatriate workers have played a crucial role over the past decades by helping address shortages in workers and skills, and cushioning the economy from overheating from wage pressures. The availability of cheap, low-skilled workers has, however, locked the economy in a low productivity growth pattern, and affected the skill development, career choices, and growth prospects of nationals. Over time, a dual labor market emerged in which expatriate workers predominately occupied private sector jobs, while the vast majority of nationals worked in the public sector. The labor market has also been divided along gender, age, and nationality lines, with striking wage gaps.

2. The authorities recognize that the current labor market model is neither sustainable nor conducive to supporting long-term economic development. Given the small size of the native labor force, unemployment has been kept low through public employment, although rates among youth and females have remained high. However, demographic imbalances continued to widen as rising numbers of educated Kuwaiti youth could no longer be absorbed in the public sector at the same rates of past years. Curtailing the growth of the foreign labor force is being considered and the long standing nationalization of jobs programs intensified in the recent year as part of what seems to be a paradigm shift not only in Kuwait but across other GCC countries.2

3. Changing the current labor market structure will have important economic implications. This paper provides stylized facts on Kuwait’s labor market to highlight the current demographic and labor market imbalances. It then gives an overview of the initiatives taken by government to address labor market imbalances. The next section analyzes the macroeconomic implications of continuing with current labor policies. It then makes an empirical assessment of the complementarities between expatriate labor and the employment of nationals. The last section presents policy recommendations.

B. Stylized Facts

4. Demographic imbalance. More than two-thirds of Kuwait’s 4.2 million population are foreign nationals residing there on a temporary basis. Except for a few years during and after the first gulf war, the share of foreigners has been rising constantly with the growth of expatriates outpacing that of nationals. Since 2000, the total population grew at an average rate of 3.9 percent, driven by annual growth of 4.6 percent in the expatriate population, compared to the national population growth of 2.9 percent (Figure 1). The age and gender structure of the two populations also varies markedly; about 37 percent and 64 percent of nationals are below 15 and 30 years old, respectively, compared to only 14 percent and 37 percent for expatriates in these age groups. And whereas females represent half of Kuwait’s population, expatriate females make up only one-third of the total expatriate population. Two economic implications of these facts are worth highlighting. At this size, expatriates are a key determinant of the economic structure not only in the labor market but also in the production and consumption of goods and services in the economy. For nationals, the age structure assures a continuous influx to the labor market in the years to come. This young population will exert pressures on physical and social infrastructure and on the government to generate more jobs.

Figure 1.
Figure 1.

Population Dynamics in Kuwait, 1965–2015

(Millions; unless otherwise specified)

Citation: IMF Staff Country Reports 2015, 328; 10.5089/9781513512266.002.A005

Sources: Central Statistical Bureau; and IMF staff calculations.

5. Rising labor force size. The increase in the labor force has been driven by the rise in the working age population, which doubled over the past 10 years to reach 3.3 million in 2015, compared to 1.6 million in 2005. This represents a robust annual growth rate of 7.2 percent. Expatriate labor contributes 5.6 percent of this growth, while the remaining 1.6 percent is due to growth in the national population. However, rising participation among nationals, especially among females, is taking on a greater role in driving labor force growth in recent years. While the participation rate of Kuwaiti females—37 percent–is high by regional standards, it remains significantly below 54 percent for males (Figure 2). Gender gaps are more apparent in lower education groups given the nature of jobs offered at these levels, which are either unattractive to females or prohibited completely.3 This suggests that there is ample room to expand the size of the national workforce and reduce dependence on expatriates if more females can become more active in the labor market.

Figure 2.
Figure 2.

National Labor Force Participation Rate, 2003–2014

(Percent)

Citation: IMF Staff Country Reports 2015, 328; 10.5089/9781513512266.002.A005

Source: Labor Force Survey 2014.

6. Highly segmented labor market. The labor market is highly segmented along sectoral, nationality, and gender lines. About 85 percent of working Kuwaitis are government employees, and those in the private sector are concentrated in a few highly paid sectors such as the finance, insurance, and mining sectors. The private and household sectors are the main employers for the non-Kuwaiti workforce. Expatriates are mostly unskilled with more than two-thirds having only intermediate or primary education, in contrast to employed nationals who are mostly above secondary education. However, about 69 percent of Kuwaitis enrolled in universities are majoring in humanities and arts, and only 31 percent are specializing in science, technology, engineering, and mathematics (Kuwait University). This indicates that Kuwaitis are acquiring skills that qualify them for government employment, rather than the private sector.

7. Striking wage gaps. The average wage of nationals is 5.7 times that of foreign workers, although the gap narrows the higher the education levels (Figure 3). For example, the average wage of Kuwaitis with a primary education is 8.2 times the average wage of non-Kuwaitis with the same level of education, while the average wage of Kuwaitis with a university education is 2.7 times the wage of expatriates with the same level of education. The distribution of workers by wage bracket shows that more than 90 percent of non-Kuwaitis are paid less than KD600 per month, compared to less than 2 percent for nationals (Figure 4). Moreover, wage levels in the public sector, for both expatriates and nationals, are much higher than in the private sector. It should be noted, however, that expatriates, especially in the lower skilled category in the private sector, usually enjoy other benefits, such as housing, that are not reported as part of their salaries, so gaps including such benefits would be somewhat smaller.

Figure 3.
Figure 3.

Average Monthly Wages by Sector, 2014

(In KWD)

Citation: IMF Staff Country Reports 2015, 328; 10.5089/9781513512266.002.A005

Source: Labor Force Survey 2014.
Figure 4.
Figure 4.

Labor Market Segmentation

Citation: IMF Staff Country Reports 2015, 328; 10.5089/9781513512266.002.A005

Source: Labor Survey 2014.

8. Low unemployment. The unemployment rate stands at 5 percent for Kuwaiti nationals and at 2.4 percent for expatriates. National unemployment is considerably low but it conceals significant age and gender discrepancies. Unemployent is as high as 22.9 percent among youth between the ages of 15 and 24. It significantly declines to 3.6 percent for the age bracket of 25 to 34. Young female unemployment stands at 33.5 percent while its male counterpart is 16.6 percent. In general, unemployment is higher among less educated nationals and decreases with higher levels of education. It is more pronounced among females with lower educational attainment. For example, the unemployment rate for Kuwaiti females with only primary education is 23.5 percent (Figure 4).

C. Government Initiatives to Address Labor Market Imbalances

9. The lack of a diversified skilled-based national workforce and wage differentials are major impediments to increasing private sector job creation for nationals. Policies were implemented to address these distortions focusing mainly on reducing the wage gap through a generous subsidy program and quota system to impose minimum employment standards for nationals in the private sector. To date, efforts to reforms the education and training programs in the replacement strategy have been limited.

10. The quota and wage subsidy programs to increase private sector jobs for nationals have achieved mixed results. Since 2001, the government has provided wage subsidies and unemployment benefits, which vary according to one’s education attainment and marital status (could reach up to $4900 a month for a university level education employee with a family of six). Kuwaitization (minimum share of Kuwaitis in total firms’ employment) programs have also been implemented during past decades with varying degrees of enforcement. Quotas in the private sector range from 3 percent in the agriculture sector to as high as 64 percent in the financial sector. While subsidies have bridged part of the wage gap, and the share of Kuwaitis in the private sector has increased over time, private sector absorption of nationals remains small and inadequate to reduce reliance on public employment, which continues to expand rapidly (Figures 5 and 6). The effectiveness of these programs could be undermined by potential abuse by both employers and employees and may have contributed to ghost employment and higher bargaining power and salaries of nationals.

Figure 5.
Figure 5.

Wage Subsidies and Unemployment Benefits, 2011–2014

(KD millions)

Citation: IMF Staff Country Reports 2015, 328; 10.5089/9781513512266.002.A005

Sources: Country authorities; and IMF staff calculations.
Figure 6.
Figure 6.

Share of Nationals in the Private Sector, 2000–14

(Percent)

Citation: IMF Staff Country Reports 2015, 328; 10.5089/9781513512266.002.A005

Sources: Country authorities; and IMF staff calculations.

11. Evidence regarding the effectiveness of wage subsidies in economic literature is mixed. Hamersma (2008) estimated the effects of the two U.S. employer subsidy programs—the Work-Opportunity-Tax-Credit (WOTC) and the Welfare-to-Work Tax Credit (WtW)—on the employment outcomes of disadvantaged workers.4 The study provides mixed evidence for the effectiveness of WOTC and WtW as there are positive effects in the short run but very little evidence of improvement in the long run employment rates of the target population or in job tenure. Another study evaluating the U.K. Government’s New Deal for unemployed youth found the productivity effects to be relatively modest compared to the size of the subsidies deemed necessary to get the group into jobs (Bell and others, 1999).

12. Wage subsidies work best if they are combined with training and skill enhancement programs.5 A better perspective of wage subsidies is to allow workers to acquire skills that improve their employability and labor market opportunities through work experience and on-the-job training. This will sustain the effect of wage subsidies even after they expire. In addition, wage subsidies should be targeted to first time job seekers or workers who have experienced long periods of unemployment (Almeida and others, 2014). A study in South Africa found that wage subsidy schemes had positive effects on employment compared to welfare programs due as wage subsidies drew more people into work and allowed them to gain experience, which raised the future employability of workers and increased labor productivity in the economy. However, wage subsidies might not be the most effective tool to create short-term job growth as the effect of wage subsidies on employment rates are modes and there can be important substitution effects. In general, empirical findings underscore the importance of overhauling education and vocational training systems to boost employment and not relying only on wage subsidies as permanent solutions to unemployment (Burn and others, 2010).

13. Subsidies can be made more effective in Kuwait. The generous and unlimited duration of wage subsidies, while still a cheaper option than public employment, are expensive, amounting to KD550 million ($2 billion) in 2014.6 Currently, subsidies increase with education levels, so high-skilled nationals receive higher subsidies despite having higher salaries in the private sector. The program can be usefully redesigned to support youth and female employment and affect nationals’ choices for education and the acquisition of certain skills; for instance, by providing larger subsidies for those in the technical and engineering fields.

Initiatives to Encourage Kuwaitis to Work in the Private Sector

In 1997, the government merged “Manpower Restructuring Project” and “Government Restructuring Project” into a unified program titled Manpower and Government Restructuring Program (MGRP) with the mandate of supporting the employment of Kuwaiti nationals in the private sector. Since 2001, MGRP has been successful in providing jobs in the private sector for more than 71,000 Kuwaitis.

In 2000, the government introduced Law No. 19, which regulates and encourages the employment of nationals in the non-government sector. This law has been the basis for other laws and regulations, including wage subsidies, other allowances, and a quota system. Article 12 of this law imposes a 2.5 percent tax on the profits of all listed companies to finance wage subsidies, allowances, and unemployment benefits.

Quota by Economic Activity, 2014

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Source: Country authorities.

In 2001, social and child allowances were introduced for technicians and artisans in the private sector. The social allowance varies based on qualification and marital status, while the child allowance is fixed at KD50 per child up to seven children.

In 2003, a teachers’ cadre was introduced, which is an allowance for teachers in the private sector to reduce the gap in the financial benefits between teachers in the private sector compared to their peers in the public sector.

In 2014, the quota system was revised to introduce new quotas for the

employment of Kuwaitis in each sector and profession. The highest quota is in the banking sector with 64 percent and the lowest is 3 percent in the agriculture and manufacturing sectors. In addition, there are quotas for certain professions within each economic activity. For example, in the hotel industry, 17 percent of managers must be nationals and 20 percent of clerical jobs must be filled in by Kuwaitis. These quotas are different between economic activities and professions.

In 2012, the Council of Ministers introduced wage subsidies for nationals working in the private sector. This subsidy varies based on qualifications.

The total support for non-government employees therefore includes wage subsidies, child allowances, social allowances, cost of living allowances, and other increases. This support could reach up to KD1400 a month including the child allowance, while the lowest level is KD534 a month, still a significant sum.

Unemployment benefits were introduced in 2001, which varies based on qualifications and marital status. This benefit could reach up to KD200 for married unemployed with a bachelor degree.

Financial Support for Non-government Employees (in KD)

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Source: Country authorities.

D. Macroeconomic Implications of the Current Labor Market Model

14. The availability of low-wage expatriate labor has played an important role in shaping macroeconomic outcomes over the past decades. Like other GCC countries, Kuwait has adopted a liberal expatriate labor policy as part of its economic development model since the oil price booms in the 1970s. During the early stages of development, this model helped remove constraints to private sector growth, while containing wage and price pressures during upswings in the oil cycle. It has, however, created a pattern of low productivity and disincentives for nationals to build the skills needed in the private sector. Further, public sector employment has not only resulted in high fiscal burden but also reduced incentives for nationals to seek jobs in the private sector.

15. Expatriates play a shock absorber role. Access to low-cost expatriates has helped maintain low inflation rates compared to other non-GCC oil-exporting countries. In addition, the remittance outflows decrease domestic demand for non-tradable goods and services. Recent empirical work has shown that the above-trend growth has little impact on inflation and employment growth of foreign workers partially offsets the inflationary impact of fiscal spending in the GCC countries (IMF, 2014). Analyzing a group of oil exporting countries, Espinoza and others (2013) provide evidence on the role of expatriates in containing real exchange rate appreciation, through remittance outflows.

16. Low productivity pattern. The current labor market structure is not conducive to supporting economic diversification and moving to a higher value added economic structure. The majority of the labor force is low-skilled; one-third of the workforce is illiterate or has an elementary-level education and two- thirds have less than a secondary-level education. A growth accounting exercise, augmented with human capital, shows that non-oil growth in Kuwait has been driven by factor input while the role of total factor productivity (TFP) has been negative. Labor productivity growth was negative, reflecting the abundant supply of low-skilled workers and lack of incentives for firms to invest in capitalization and for workers to invest in skill upgrading. Since 2000, the increased capital-labor ratio has improved labor productivity, while the role of human capital—measured by years of schooling of the national workforce—remains small despite increased investment in education (Box 2). This underscores the importance of increasing investment in physical and human capital and focusing on improving the quality of education.

Table 1.

Average Contribution to Non-Oil Sector Growth and Labor Productivity

(Percent)

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Source: IMF staff calculations.

17. High fiscal burden. Nationals have a strong preference for public jobs given the higher wages and better work conditions (such as job security, shorter work hours, and longer holidays) compared to the private sector. This has increased the reservation wage and distorted skill development by creating a disincentive for nationals to invest in skills that are important for the private sector. More nationals are acquiring education and training in areas to allow them to enter the public sector, mainly in human and social specializations.

Growth Accounting Exercise

The decomposition of output and productivity growth is based on Cobb-Douglas production function, Solow (1957).

Δln(Yt)=Δln(At)+αΔln(Kt)+(1α)Δln(Lt),(1)

where ΔLn(Yt) is output growth in period t, Δln(kt) is the capital accumulation rate in period t, ΔLnLt is employment growth in period t, and ΔLn(Δt) is the TFP growth. The cost share of capital, α is assumed to equal 0.4, a value that is commonly used in empirical work. The initial capital stock is estimated using perpetual inventory method (Harberger, 1978).

To estimate the role of education, an augmented Solow growth model with human capital is used, Mankiw (1994). The production function that includes human capital can be written as:

Y=A*Kα*(LH)1α(2)

Where H is human capital, measured by average years of schooling as a proxy for skills. By dividing equation (2) by L, labor productivity growth can be presented as a function of physical capitalization as measured by growth in capital-labor ratio and human capital as measured by improvement in years of schooling (similar to presentation in Espinoza et al. (2013):

ΔLn(yt)=ΔLn(At)+αΔln(Kt)+(1α)ΔLn(Ht)(3)

Espinoza, R., G. Fayad, and A. Prasad, 2013, “The Macroeconomics of the Arab Countries of the Gulf,” Oxford University Press and the International Monetary Fund.

Mankiw, N. Gregory, David Romer, and David Weil. 1992. “A Contribution to the Empirics of Economic Growth.” Quarterly Journal of Economic Growth 107, no. 2 (May): 407-38.

Solow, R. M., 1957, “Technical Change and Aggregate Production Function”, Review of Economics and Statistics, Vol. 39 (3), pp. 312-20

18. Unsustainable public employment policy. The government employs more than 85 percent of the national workforce, resulting in a high wage bill of 12.4 percent of GDP, the highest in the GCC (Figure 7). Staff estimates that the actual wage bill could be in the range of 15-18 percent of GDP under proper classification of wages in the budget.1 Keeping unemployment low among nationals through public employment will entail a high fiscal cost given the rising work-age population and participation rates among Kuwaitis.

Figure 7.
Figure 7.

Government Wage Bill, 2014

(Percent of GDP)

Citation: IMF Staff Country Reports 2015, 328; 10.5089/9781513512266.002.A005

Sources: Country authorities; and IMF staff calculations.

19. Staff projections, under certain assumptions, indicate that the number of new labor market entrants would be 136,000 during 2015–20, of which, under current policies, only 31,000 would be employed in the private sector. The government will face a trade-off between absorbing a small fraction of the remaining entrants to keep the wage bill under control at 12.7 percent of GDP, and therefore see the unemployment rate among Kuwaitis rise to more than 16 percent by 2020 (Scenario 1), or absorb a larger proportion to keep the unemployment constant but allow the wage bill to increase to more than 15 percent by 2020 (Scenario 2). While the current fiscal position would allow the government to choose Scenario 2, this would increase fiscal risks, unless the increase in the wage bill is offset by a reduction in other spending items, notably subsidies. But even if such a policy is fiscally sustainable, the government should be mindful of the long-term implications of public employment on the structure of the labor market and the development of national human capital. Labor market reforms that increase the employment of nationals in the private sector could help address these tradeoffs.

Table 2.

Kuwait: Labor Market and Wage Projections for Nationals

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Source: IMF staff calculations.

Assumptions: Labor force grow by 4.6 annually, as in previous years, public employment grow by 1.5 percent and wage by 3.3 percent, and share of Kuwaitis in the private sector increases by 2 percent annually as in previous years but at a slower pace given the more recent slowing trend.

Same as in baseline except public employment of nationals increases to 4.5 percent annually to keep unemployment constant.

E. Do Expatriates Support Job Creation for Nationals?

20. Most discussions on the GCC labor market, including Kuwait’s, have focused on the demographic and labor market imbalances created by the inflow of expatriate workers. The main economic concern arises from the lack of adequate and decent jobs for nationals despite strong economic growth. Wage levels are kept too low given the nearly perfectly elastic supply of unskilled labor, crowding out nationals who have high reservation wages. Labor import restrictions, quota systems, wage subsidies, and other active labor policies implemented by Kuwait and other GCC countries to address these imbalances are partly based on this understanding of labor market dynamics. They are implicitly based on the notion that there is some degree of substitutability between nationals and expatriate workforces. Indeed, labor market developments over the past decades—namely the growing size of immigrants in the population, widening wage gaps, and the declining share of nationals in the private sector—support these views. Government policies to reverse these trends have achieved some success in recent years.

21. However, the labor market structure has an element of complementarity between national and expatriate workers, suggesting that restricting the inflow of foreign workers could hurt growth and job creation for nationals in the private sector. Striking differences between expatriates and nationals across skill compositions, wage structures, and sectors suggest a low degree of substitutability. Kuwaitis with certain occupations like primary, plant, and machine operations, and skilled agriculture represent less than 5 percent of the total number of those employed with these skills, which are filled mainly by expatriates. Kuwaitis are concentrated mainly in clerical, managerial, and other government-focused occupations. Moreover, more than 90 percent of expatriates earn less than KD600, compared to less than 5 percent of Kuwaitis, suggesting little potential for substitution, especially given high reservation government wages (Figure 8).

Figure 8.
Figure 8.

Employment by Occupational Skills, 2014

(Percent of total)

Citation: IMF Staff Country Reports 2015, 328; 10.5089/9781513512266.002.A005

Source: Labour Force Survey.

22. Expatriates support investment and growth and therefore help create jobs for nationals. Kuwait has been able to expand its economy well beyond the size of its native population. This has a number of important economic implications. At shares of 68 percent and 83 percent of the population and workforce, respectively, expatriates are the main driver of growth, which in turn creates jobs for nationals. The availability of cheap labor facilitates the expansion of investment and keeps production and service provision costs low. They also create a considerable share of demand for non-tradable goods and services in the country, which help to create more jobs for both national and foreign workers. This scale effect could lead to higher employment for nationals, even in sectors where the degree of substitutability between nationals and expatriates is high.

23. The net impact of immigrants on local labor markets remains theoretically uncertain. Immigrants lower the price of factors with which they are perfect substitutes and raise the price of factors with which they are complements. However, besides this labor supply impact, immigrants are factors of input and consumers who increase demands and production and could therefore shift labor demand upward, leading to higher wage levels and employment in the economy (scale effect). The impact will depend on whether the host economy is open or closed to international trade and the degree of substitutability between immigrants and natives, Okkerse (2008) and Hunt (1995). In most countries, native workers and immigrants are imperfect substitutes as they are different in human capital, language fluency, professional networks, and social and cultural knowledge. Another reason why foreign workers do not displace native workers is that expatriates do not have access to the same jobs as native workers.

24. Empirical research does not provide much support to the general perception that immigrants have negative effects on native labor market outcomes. A study on the effects of immigration in the U.S. finds that there is little evidence of the effects of immigrants’ inflow on the employment or unemployment rates of less-skilled natives Altonji and Card (1991). Hong (2015) studies the effects of immigrants on local labor demand in U.S. cities, due to the increase in consumer demand for local services created by immigrants and finds that immigrants can raise native workers’ real wages. Grossman (1982), however, finds significantly negative effects of immigrants on the wages of natives. In Australia, Pope and Withers (1993) and Addison and Worswick (2002) concluded that there is no evidence of immigration raising the unemployment rate, while Chang (2003) finds that when separating immigrants into skilled and unskilled groups, unskilled immigrants have the potential to take jobs from local unskilled labor in Australia. Using data for Malaysia, a study by Wagner and Ozden (2014) finds that the scale effect outweighs the substitution effect and each immigrant could create more than one job. For a review of theoretical empirical research, see Friedberg and Hunt (1995).

25. Using GCC data, there seems to be varying short- and long-term effects of expatriates on the employment of nationals. To empirically assess the impact expatriates have on the employment of nationals, we construct a model relating employment of nationals in the private sector (EN) to the size of expatriate employment in the private sector (EXP), and non oil growth (GDP) to capture the impact of growth on total employment. We also add public sector employment of nationals (EG) as an explanatory variable given its importance in the employment of nationals in the GCC. In the absence of a long series on employment in Kuwait, we use panel data estimation techniques for four GCC countries (Bahrain, Oman, Saudi Arabia, and Kuwait where a complete set of data is available) to ensure enough observations and consistent estimates.

26. A VAR approach is used to addresses the endogeneity problem by allowing the endogenous interaction between the variables in the system. Unit root and cointegration tests using data during 1993-2014 indicate that these variables are non stationary of degree I (1) and cointegrated—one cointegrated relationship exists. A panel Error Correction Model (ECM) is therefore appropriate to estimate the model in difference and level forms. The ECM has the advantage of estimating short and long terms relationships between the variables and has been widely used in time series analysis of labor market and immigration.

We use the following ECM form:

Δ(ENt)=a+β1i×Δ(EN)ti+β2i×Δ(EXP)ti+β3i×Δ(GDP)ti+β4i*Δ(EG)ti+γi×(ECMi)+μ1…….(1)

Where a and βi are the short term coefficients, and γ measures the speed of adjustment to the long term equilibrium relationship, and ECM is the error term from the long term relationship in levels, and is the given by:

ϵ=ENtα1×(EXPt1)α2×(GDPt1)α3×(EXPt1)α3×EGt1(2)

Substituting 2 in 1 allow the presentation of the ECM equation with the short term coefficients (βi, and long term coefficients which are given by:

δ1=α1*β4i,δ2=α2*β4i,δ3=α3*β4i,andδ4=α4*β4i

The model is estimated using OLS method with a lag structure of 3 on data for the period 1993-2014. All data are expressed in log form, so differences represent growth rates in the variables.

27. Results indicate that expatriates significantly and positively affect the growth of employment of nationals in the private sector in the short term (coefficient of the EXP in difference form). The estimation results and the impulse response functions derived from the model are presented below. The positive impact may reflect the complementarities between the two workforces. It could also reflect institutional arrangements such as the sponsorship and quota system, which directly links the size of employment of nationals to that of expatriates in the private sector. The coefficient of EXP in level is however negative, indicating an inverse relationship between the size of expatriates in the labor force and annual growth of employment of nationals. This seems to be a logical result given that expatriates kept wage levels low and gradually crowded out nationals, leading to a largely segmented labor market over time, where nationals are predominantly employed in a small number of highly-paid private sector jobs and in the public sector. Over time, training and education preferences of nationals becomes tilted toward public sector-focused occupations away from the technical skills needed by the private sector. It is expected that, in addition to the wage effect, other social and cultural factors play a role in dividing the labor market, as nationals usually withdraw from occupations and sectors that are predominately occupied by expatriates.

Table 3.

GCC: Estimation Results from the ECM

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Source: IMF staff calculations.***, **, and * indicate significance at 1, 5, and 10 percent.Table reports significant lags.

28. The results also show a significantly negative relationship in the short term between the employment of nationals in the public and private sectors. This is consistent with recent international econometric evidence (Behar and Mok, 2013) which shows that, on average, the creation of a public-sector job comes at the cost of a private-sector job and therefore has no impact on total employment. This crowding-out effect can occur for three reasons: (i) reduced private sector economic activity; (ii) incentives for individuals to take public instead of private sector jobs; and (iii) skills acquisition by the labor force becoming geared toward what is needed to get a job in the public sector.

Figure 9.
Figure 9.

Response to Nonfactorized One Unit Innovations

Citation: IMF Staff Country Reports 2015, 328; 10.5089/9781513512266.002.A005

Source: IMF staff calculations.

29. The impulse response functions quantify the impact of a positive shock (one percent increase) in the variables on job creation for nationals. A 1 percent increase in expatriate growth leads tomore nationals being employed in the private sector by half a percentage point, while a similar shock in government employment reduces growth of jobs for nationals in the private sector by close to 1 percent after 4 years. Shocks to GDP growth have a small impact on the employment of nationals, confirming the weak link between growth and job creation for citizens in the GCC.

F. Policy Recommendations

30. Policies to address distortions and imbalances in the labor market structure should be implemented gradually to avoid negative implications on growth and hence, job opportunities for nationals in the short term. The results also confirm the need to control growth in public sector compensation and employment to encourage more nationals to take jobs in the private sector.

  • Heavy reliance on expatriate workers will continue and should be reduced gradually in tandem with growth in the national population and size of the labor force and development of skills of nationals. Staff projects that the size of the Kuwaiti labor force would double to about 0.8 million by 2034, which would represent just one-third of the 2014 total labor force level, implying that Kuwait would need to continue to depend on expatriate labor to achieve economic growth.2

  • Improving expatriate labor regulations can help reduce wage differentials between nationals and expatriates by improving the quality of imported labor and therefore enhancing productivity and increasing wage levels. This can be achieved by targeting specific skills through varying fees and visa issuance and renewal regulations. Allowing more mobility for expatriates, abolishing the sponsorship system, and improving work conditions would increase productivity and wage levels for expatriates.3

  • Public employment and may have reached its limits. Containing growth in compensation and public sector employment is crucial for encouraging more nationals to work in the private sector. Nationals have a strong preference for public jobs given the superior wages and work conditions (such as job security, shorter work hours, and longer holidays) compared to the private sector. This has increased the reservation wage and distorted skill development by creating disincentives for nationals to invest in the skills required by the private sector. More nationals are acquiring education and training to allow them to enter the public sector, mainly in human and social specializations. Recent international evidence shows that, on average, the creation of a public-sector job comes at the cost of a private-sector job, and therefore, has no impact on total employment4

  • Civil service reforms currently being considered by the government should be carefully designed to address the fiscal and labor market challenge of public employment. The proposed new civil service law aims to standardize pay structures across government agencies and increasing control and monitoring of wage growth in the public sector. While these reforms could increase average wages in the public sector in the short term, they could lower the wage bill in the long term. The new system could be further enhanced to address labor market segmentation by implementing a merit-based incentive system that aligns public and private sector employment and pay practices, rationalize entitlements to reduce reservation wage among nationals, and change the preference away from public sector jobs.

  • Improving the targeting of wage subsidies for nationals working in the private sector will reduce the fiscal cost, and provide incentives for skills development and make private sector employment of nationals self-sustaining.

  • Reforming the education system to improve the quality of education, and better match its outcome with private sector needs—especially for technical and vocational skills—would increase the employability of nationals and support a knowledge-based economy.

References

  • Almeida, Rita; Orr, Larry; and Robalino, David,Wage Subsidies in Developing Countries as a Tool to Build Human Capital: Design and Implementation Issues”, IZA Journal of Labor Policy, 2014.

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1

Prepared by Gazi Shbaikat and Ali Al-Reshan.

2

Addressing the demographic challenge is a strategy adopted at the GCC level in 1998; see “The Closing Statement of the Nineteenth Session of the GCC Supreme Council” (1998). Opinion surveys in the GCC including Kuwait show that restricting inflow of expatriates to address imbalances is top priority; see UN survey UN (2006) and IPSOS, Demographics Survey (2007).

3

With the exception of a few professions, women are legally forbidden from working at night, as well as from working in the industrial sector, or working in occupations deemed hazardous to their health.

4

The Work Opportunity Tax Credit (WOTC) is a Federal tax credit available to employers for hiring individuals from certain target groups who have consistently faced significant barriers to employment. The Welfare-to-Work Tax Credit (WtW) is designed to assist welfare recipients to obtain employment. These two programs are designed to encourage employment by reimbursing employers for a portion of wages paid to certain welfare and food stamp recipients.

5

Wage subsidies can be classified as employee-side or firm-side programs. The former grants workers a subsidy once they successfully obtain a job and is aimed to increase participation in the labor market when low-wages discourage labors from seeking employment. Firm-side wage subsidy scheme provides the firms with subsidy to lower the cost of employment and incentivizes firms to raise employment and output. This policy is deemed appropriate when labor is underutilized and there is high unemployment where job seekers cannot find employment opportunities

6

Subsidies are partly financed by a 0.5 percent tax on listed companies’ profits but this remains far less than the total cost of subsidies.

1

Military and independent central government bodies like the judiciary and parliament are misclassified in other items in the budget.

2

Average growth in the labor force for the period 2020-2034 is projected at 2.5 percent annually. Calculations are based on national labor force projections in paragraph 6 and assuming labor force growth will start to decline over time as the improvement in participation reaches limits and work-age population growth stabilizes with a relatively more mature demographic structure.

3

A sponsor acts as a guardian as well as guarantor and must undertake all administrative work on behalf of the foreigner, including applying for a work and residence visa, opening a bank account and signing a rental accommodation contract. Changing jobs within the country is not allowed without the consent of the sponsor.

4

Behar, A., and J. Mok, (2013), “Does Public-Sector Employment Fully Crowd Out Private Sector Employment?” IMF Working Paper WP/13/146, (Washington: International Monetary Fund.

Kuwait: Selected Issues
Author: International Monetary Fund. Middle East and Central Asia Dept.