Jun 6, 2017
Cutting Cakes in Kuwait: What Lenders Should Learn from the Wealth of Nations
Kuwaitis often cry out for their piece of the cake. Today, many sons of her stomach exhibit an oleaginous appetite that the country’s welfare state system has struggled to keep in check.
The modern economy grows thanks to our trust in Allah (more on this later) and the willingness of capitalists across the Entrepreneurial Life Cycle to reinvest their profits into further production.
But that has not always been the case, for most of the 7,000 years of recorded human history, the global economy has remained stagnant at roughly the same size. Yes, world production has increased but this has been due mostly to demographic expansion and the settlement of news lands outside of the Fertile Crescent. Today, many investors and lenders in Kuwait are still stuck in a Babylonian mentality; they believe the cake has been baked and that it won’t grow. Banks typically expect to issue fresh capital only if the SME has a certain revenue (e.g. a 100,000 KD loan for 100,000 KD in revenue) or if the loan itself is backed up by a certain asset (think an industrial loan on CAPEX).
Throughout history (and to a certain extent just like modern oil dominant Kuwait) production, on a per capita basis has remained static. But that has changed in our modern age (and insha Allah will change soon in Kuwait). Just as little as over 500 years ago, the global production of all goods and services was roughly equal to $250 billion (the exact same amount of cash as Apple has in the bank today). This represented $550 annual per capital production on a population of roughly 450 million. According to the World Bank, total global production today is closer to $60 trillion representing a staggering $8,800 average per capita production for each of the seven billion citizens of Earth Corp. The global cake has been growing and so have the Dubai, Qatari and even more recently the Saudi cakes. Sure they have their 2020 expos, their 2022 world cup and their 2030 vision, but Kuwaiti’s have a fifty year head start due to our democracy, rule of law and trading legacy. We have been there, done that and will continue to do so insha Allah.
Pundits mistakenly discount our SME sector in Kuwait, calling it a “Cupcake Economy.” Remember, this is the sector that has produced some of the region’s largest Series A rounds and the region’s largest exits, with limited government support mind you that has been mitigated by an entrepreneurial zeal that cuts deep through layer upon layer of red taped bureaucracy. As the vanguard of the future Kuwaiti economy, we must believe that the cake itself will continue to grow and that the main catalyst of this growth are the SMEs.
A Trip Back in Time
Let’s quickly time travel back to a more entrepreneurial era. Say at the time of when oil was first struck in Kuwait. Since our grandfather was a famous nokhitha, the state has graciously granted us a banking license to establish the First Camel Bank of Kuwait (FCBK). As the proceeds of petroleum exports start flooding back into the country, our brother Mubarak decides to set up a contracting firm named after our grandfather and tribal patriarch. Yeddi General Trading and Contracting Co. is established and immediately wins a government tender (واسطه بعد شنو) to help build up a modern Kuwait (yes, our eldest brother also simueltaneous became the Head of Kuwait’s first Parliament). Mubarak’s first million KD payment to help move the airport from Nuzha to Magwa is celebrated and the amount is transferred quickly to the company (since back then our government paid all its bill on time). Mubarak decides to “keep it in the family” and deposits the payment directly into a new account at FCBK. Our bank now has 1 million KD worth of capital.
In the meantime, our cousin Saud (sorry I ran out of brothers), wants to set up (what else but) a bakery called BakeHouse W.L.L. (which stands for With Limited Liability a term which deserves its own article later) to curb the growing number of sweet teeth in Kuwait. But Saud doesn’t have the funds necessary to set up an industrial kitchen, cover the initial food (Valrhona chocolate from France can be so expensive), packaging and staffing costs.
لا كابيكس ولا اوبيكس ولا هم يحزنون
In case you’re wondering, we are still living in mud huts by the sea in Shuwaikh so Saud cannot start selling cupcakes from home on Instagram, plus remember were back in June 2nd, 1938, only 100 days after oil was discovered at Burgan and about 72 years, four months, one week and one day until Instagram would be launched on the App store.
So Saud decides to visit his local FCBK branch and take out a 1 million KD loan (Kuwaitis do love their cookies). Keeping it in the family, twice, Saud hires Yeddi General Trading and Contracting Co. to build a state-of the art central bakery and two flagship retail locations (one for Qibla and one for Sharq obviously since the Kuwait beyond the Soor has yet to be built). The habibi price (watch the last three minutes of the video of you’re in a rush) to build the Empire of Sweet? 1 million KD.
Saud gladly pays Yeddi contracting company with a cheque drawn on BakeHouse’s account, Mubarak deposits it in the Yeddi account at FCBK.
So how much money does FCBK now have in its bank account? Right, 2 million KD.
So how much money, cash, is actually located in FCBK’s physical (hump-like) safe? Yes, 1 million KD.
Wait, the plot is about to thicken. As contractors are so fond of doing (even more so today), Mubarak informs Saud that due to the unexpected rise in steel prices (yes, our other cousin has the monopoly on steel imports into Kuwait) the total bill for building Saud’s baking empire will actually be 2 million KD. Saud is obviously distraught, but he is determined to turn his vision of becoming Kuwait’s Cookie King into a reality.
Saud pensively walks back to his local FCBK branch and takes out another 1 million KD loan. Besides, the country is growing and so are Kuwaitis appetite for red velvet.
So, how much money is actually in Mubarak’s account now? Yes, 1 +1 + 1 equals 3. Three million KD.
But again, how much physical (fiat) money is sitting in FCBK’s vault? (which is rumored to be hidden underwater just beyond the Seif shoreline) You guessed it, still just 1 million KD. Yes, it’s exactly the same 1 million KD the contracting company got from winning its first government tender. Remember, the one our big brother hooked up our little brother Mubarak with even though he, Mubarak, had never built anything before in his life.
Believe it or not, Basel III, the gold standard (figuratively not physically, don’t get me started Bretton Woods) international regulatory framework allows our lovely camel bank to repeat the above exercise seven more times. This means that Mubarak could easily have 10 million KD in his Yeddi account even though the bank only has 1 million KD stashed in its underwater vault. Welcome to the world of fractional reserve banking.
Unfortunately as I mentioned earlier, our banks in Kuwait do not do enough of this (they barely do the bare minimum in my opinion) and no it’s not because the majority of them believe in the Islamic Financial Principle of an asset backed murabaha credit vehicle. What may sound to many of us critical theoreticians as a pyramidal Ponzi scheme is the actual essence of how most well diversified and innovative western economies are built. Yes, our entire global financial network is built on the one simple inter-subjective phenomenon known as trust.
Back to the BakeHouse example, the discrepancy between Mubarak’s account statement and the amount of money actually in the bank is simply the potential of Saud’s bakery business. We as the board of FCBK have put the bank’s money into the asset (BakeHouse W.L.L.) and we trust that Saud is a master-baker and businessman in the making. We also trust in the market demand for cakes, cookies and cronuts in Kuwait and we trust that BakeHouse will soon be selling sweets to desert dwellers beyond the Soor. Saud’s business will grow and then be able to turn a profit, become cash flow positive allowing him to pay back his bank loan…with interest…sorry murabaha fees. Even if Mubarak decides to withdraw his cash from our bank, FCBK must still be able to come up with the cash (probably from some other company’s deposit, or the collective deposits of thousands of cake cutting citizens). Our entire economic enterprise is thus founded on trust in an ideal sequential chain of future events that start with our entrepreneur Saud; followed byour trust in the market demand, followed by the trust that Saud has in our bank loan and the trust that our brother Mubarak has in the future solvency of our bank.
Sadly today, the actions of our banks and other lenders show that they in turn have little trust in our Kuwaiti economy. Their actions point to a solemn disbelief. They believe that the cake in Kuwait will not continue to grow. They are calling every entrepreneur’s fake-it-until-you-make-it bluff. My plea to our banks and one certain government sponsored SME fund is, to paraphrase Arnold Schwarzenegger, do not be economic girlie-men! Give entrepreneurs a chance, believe in their undeniable strength of will and continuous tacitus for innovation. Trust that the cake will grow.
Could Saud have built his baking empire without this trust? Could other Kuwaiti entrepreneurs grow their marketplace application or e-commerce website into Saudi Arabia and beyond without this trust? Two of the largest venture capital exists in the history of the MENA region have come from Kuwait, how much more faith do we really need? To take our cake example to the max, the proof is already in the pudding!
During the year of American Independence, legendary Scottish economist Adam Smith published probably the most important economic manifesto of all time — The Wealth of Nations. In Volume 1, Chapter 8, Smith described a concept which today may as well remain alien to many lenders in Kuwait as it was novel some almost 250 years ago. When a capitalist or industrialist generates greater profits that he or she needs to maintain his/her own family, he/she should then use those surpluses to employ more workers in order to further increase his/her profits. The more profits he/she has the more workers he/she can employ and so on and so forth.
This may sound a bit too intuitive (although some of you may still rightly remain skeptic) but Smith’s claim that the selfish human urge to increase private profits as the basis for collective wealth and national economic development is revolutionary not just from an economic perspective but even more so from a moral and political perspective. Smith might as well have been paraphrasing Gordon Gekko (the infamous protagonist from Oliver Stone’s 1987 classic Wall Street (which turns 30 this 11th of December)…Greed is Good.
A Capitalist’s Conclusion
The promise every entrepreneur must make is simple. We should all promise to seek wealth not for the sake of wealth but for the sake of social development.
As Matthew 19:24 states ‘it is easier for a camel to pass through the eye of a needle thank for a rich man to enter into the Kingdom of Heaven.” Even the ancient Greeks believed in the sinful nature of excess, people who were full of “the yellow sinful tissue” we now call fat, would have have to endure a bariatric purgatory before crossing the River Styx into the underworld. This should cause pause in the most obese country on Earth.
A crucial part of the modern capitalist economy first proposed by Smith was the emergence of a new ethic (at least in the West) — of profits reinvested into production. This is of course nothing new in Islam, where the concept of the Zakat or 2.5% alms giving on stagnant money treasured (كنز الاموال) i.e. money that is not reinvested into economic production, was made obligatory and added as the Third Pillar of Islam during the second year after the Hijrah (623 AD). Take that Adam Smith! Indeed, I am of the opinion that Islamic Finance provides the perfect balance between capitalism and optimism.
Regardless of our source, entrepreneurs must promise lenders and equity financiers that they will reinvest their profits into increased economic production which should in turn bring about more profits which should once again be reinvested into further production which will generate yet more profits, et cetera ad infinitum insha Allah.
These investments can be made many ways, upgrading the MVP of that embarrassing first website or application, enlarging a factory, adding more retail outlets, funding research and development, funding basic scientific research, investing in crazy moonshot ideas developed by newer SMEs thus creating a positive economic trickle-down effect or simply building a bigger oven. This is why capitalism is called capitalism. Capitalism distinguishes ‘capital’ from ‘wealth.’ Capital consists of money, goods, services, intellectual property and resources that are invested in economic production. Wealth, on the other hand, is buried in the ground (or in the case of many Kuwaiti investors…is the ground) and wasted on unproductive activities (again in the case of many Kuwaitis…fixing the decrepit clutch of a shiny new sports car).
Entrepreneurs must follow this example of reinvesting profits, our lenders and venture capitalists must have a full trust in them and that they will continue to do so, as they continue to help expand the cake of our economy.
Instead our bankers and fake-it-until you make it entrepreneurs seem to be stuck on another verse from a different Heavenly Book -
إِنَّ الَّذِينَ كَذَّبُوا بِآياتِنَا وَاسْتَكْبَرُوا عَنْهَا لا تُفَتَّحُ لَهُمْ أَبْوَابُ السَّمَاءِ وَلا يَدْخُلُونَ الْجَنَّةَ حَتَّى يَلِجَ الْجَمَلُ فِي سَمِّ الْخِيَاطِ وَكَذَلِكَ نَجْزِي الْمُجْرِمِينَ الأعراف:400
Kuwait is the original financial fountainhead of innovation in our region. Our country invented the world’s first sovereign wealth fund, the region’s first constitution, the region’s first international development fund — the Kuwait Fund, the region’s first central bank and the region’s first stock market (and stock market crash).
If we are reminded of Adam Smith, if we then focus on growing the economy, if we remember and our own beautiful Islamic principle of — تفاءلو بالخير تجدوه — then Kuwaitis can certainly eat their cake…and have it too.
