Kuwait faces the risk of running out of oil revenues by 2017 if it continues its spending policy, the IMF has warned.
The wake-up call from the fund comes as public finances deteriorate from rising public sector wages, pension costs and rapid population growth.
"The mission estimates that government expenditure will exhaust all oil revenues by 2017, which means the government will not be able to save any portion of these revenues for future generations," the IMF wrote in a statement concluding its annual mission to the country last month.
The IMF advised Kuwait to cut its spending, diversify its economy, and improve its infrastructure and investment environment to stay in robust financial health.
The country needed to cut its fiscal deficit excluding oil and debt servicing by at least 7 billion Kuwaiti dinars (Dh91.97bn) by 2017 to guarantee long-term fiscal sustainability, it said. Under current projections, the government plans to raise its spending to more than 25bn dinars in 2017.
The IMF statement reflects the tricky task facing the government as it tries to balance conflicting calls about its spending plans. Thousands of workers at Kuwait's customs and airline staged strikes in March calling for higher pay despite a recent 25 per cent rise in wages.
But Sheikh Salem Abdulaziz Al Sabah, the country's previous central bank governor of 25 years, resigned in March in protest at rapid increases in public spending.
The central bank needs to be more strongly independent to help it make decisions, the IMF said.
It painted a gloomy assessment of the challenges facing government finances.
The average growth rate of public-sector wages in real terms had more than doubled in the past six years to 8 per cent, estimated the IMF.
Higher wage payments, government pension contributions and a rise in the unfunded liabilities of the pension system would put "significant pressures" on government finances and be difficult to reverse if oil prices dipped, it warned.
"The cost to the pension system is onerous for Kuwait, particularly given its low retirement age and generous benefits," the statement said.
"Rapid population and labour-force growth - about 60 per cent of the population is under 24 years - is likely to put increasing pressure on public-sector employment and the provision of public services."
Kuwaitis form only about 7 per cent of the private-sector labour force, with many nationals favouring the better pay and conditions in the public sector. The government will have to absorb a further 56,000 to 95,000 young Kuwaitis in the next five years, further straining public finances, the IMF forecast.
In the short term, the IMF expects the higher government spending to support the country's economic recovery. This year GDP will rise by 5.5 per cent, with a fiscal break-even oil price of US$44 per barrel below current crude prices, it said.
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