The Economics of the Arab Spring

An Egyptian girl sits atop the shoulder of a relative and waves an Egyptian flag at a rally marking one week since the resignation of Hosni Mubarak. This gathering in Tahrir Square was half celebration and half ongoing protest for change.

To explore the economic implications of recent events in the Middle East, we interview Adeel Malik from Oxford University as he shares his insights from his research on “The economics of the Arab Spring.”

CFA Institute: Will the Arab Spring lead to substantial economic reform in the Middle East?

Dr. Adeel Malik: It should, but it is not necessarily true that it will. After the dust begins to settle on the political process, policy makers in the Middle East will be faced with the tough economic challenge of creating opportunities for its teeming millions. There is a risk the local elites will endure; they can reverse change or mold it in their favor. The current impasse in Egypt best illustrates this institutional dilemma. Real change requires not just a political opening, but also a change in the distribution of economic power.

How does the youthfulness of the region impact the economics of the Arab Spring?

An overwhelming proportion of the Middle East’s population now consists of young people under the age of 30, many unemployed. During the period 1996-2006, the labor force in Middle East and North Africa grew three times as much annually as in the rest of the developing world, resulting in one of the largest rates of youth unemployment in the world. In Jordan, for instance, more than 70 percent of the unemployed are under the age of 29 years. But while the demographics are evolving the economic structure remains rigid, unable to generate productive employment opportunities for new entrants to the labor force. An estimated 100 million jobs need to be created in the MENA region over the next decade or so.

What is the role of the private sector in creating these jobs?

The employment challenge facing the Middle East cannot be addressed without a strong private sector. The number of registered businesses per 1,000 people in the Middle East is less than a third of that in Eastern Europe and Central Asia, and the average age of firms in MENA is almost ten years older than those in East Asia or Eastern Europe. An independent private sector will also serve as a vital political function: it can generate a middle class that can serve as a powerful constituency for political reform. Within the private sector, the focus has to be on manufacturing because that is where the jobs are. The region suffers from a dangerous dearth of manufacturing: in 2003 the combined manufactured exports of the entire Middle East were less than those from just one South-East Asian nation, the Philippines. The conventional wisdom of the World Bank and IMF cannot address the problems of the private sector in the Middle East.

Why are the ideas of the World Bank and the International Monetary Fund not suitable for the Middle East?

When it comes to the Middle East, the limit of their recipes is evident. Private sector development is not simply a matter of improving investment climate, reducing the cost of doing business, offering cheap credit, or introducing market-friendly economic reforms. It is also a political problem, since a private sector can create income streams independent of the patronage network of the regime, thereby challenging the ruler’s position. This does not fit with the mandate of the Bank and the Fund.

Is the absence of a robust financial sector important for explaining a weak private sector?

Well-developed financial services are crucial for enhancing access to credit which has been particularly difficult for younger, less connected private sector firms in the region. A recent study shows that bank loans to SMEs in the MENA region do not exceed 8 percent of total lending operations. The bulk of bank lending goes to larger and more connected borrowers. While trade opening has been resisted, Arab countries have become more financially connected through growing cross-border investment flows. The region’s oil exporters have become an important source of foreign capital for their relatively poorer neighbors. Foreign Direct Investment (FDI) into several resource-scarce and labor-abundant countries of the region has crossed 70 percent of GDP. Regional trade opening has been politically more palatable, led by liberalization of banking and telecommunications, because it has provided a source for lucrative contracts and licenses for insiders.

Do you see any parallels between the Middle East and Africa?

Unlike the Middle East, Africa is divided by ethnicity and geography. Africa’s ethnic fractures and adverse geography, through landlocked regions and sparsely distributed populations, limit the possibilities for trade. If sub-Saharan Africa is divided by ethnicity and geography, the Middle East is divided by history and policy. Historically, merchants have not faced a particularly hospitable environment to operation. And the division of the Arab world into separate geographic units after the end of the World War further weakened the merchants as a constituency. Subsequently, Arab governments erected powerful barriers to the movements of goods, people and capital across borders. Today, the MENA region is one of the most protected and fragmented regions of the world. Overcoming these regional economic barriers constitutes the single most important step forward for the Middle East.

Why do you think regional economic integration is the single most important step for the Middle East?

Regional trade is massively favored by geography. Regional trade integration can also generate more powerful economies of scale for a private sector that desperately needs a bigger market to operate. Regional trade is integral to reducing reliance on hydrocarbons and diversifying local economies. The geography of resources and conflict can be a retrogressive influence, since it generates rents that establish the primacy of patronage over production. The future of the region hinges on how policymakers grapple with this clash of geographies. Will they harness their natural geographic strengths to build a future based on trade and production, or will they fall back on the geography of rents and patronage? The economic hopes of the Arab Spring lie in regional integration.

Please note that the content of this site should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute.

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