Addressing the longer-term impact of the Arab Spring, economist Moin Siddiqi discusses the opportunities Middle Eastern and North African governments have to break with the past and set course in a new direction.

The Middle East and North Africa (MENA) region, populated by some 340 million people, is witnessing a period of unprecedented change marked by political upheaval and surging commodity prices. The popular uprisings that started in Tunisia last January, swept quickly through Egypt and parts of the Gulf – notably Bahrain and Yemen – and continue to grip Libya and Syria today, are weighing on investor confidence, tourism and foreign and domestic investment.

Historically, political changes have invariably brought short-run challenges. Nonetheless, the transition from autocratic to democratic regimes could provide a significant growth premium across MENA and raise living standards in the medium term – so long, that is, as this democratisation promotes investment in physical and human capital, improves business environments and leads to a greater accountability and transparency in governance. The rule of law, political pluralism and institutional checks and balances to combat corruption, would help enhance competition and attract private investment while facilitating more rapid, inclusive, sustainable growth.

‘The rich experience from countries that have undergone political changes suggest that short-term disruptions to economic growth and social tensions are inevitable,’ says Shamshad Akhtar, World Bank Vice-President for the MENA region. ‘However, transition offers an opportunity to break with the past and set course in a newer direction. A first order of priority is to offer the right signals to restore public and private investor confidence, which calls for ensuring respect and citizen dignity through inclusive social policies, a fundamental change in governance frameworks and swiftly restoring macroeconomic stability.’ The Bank believes that if the transfer to democracy is orderly, then the MENA region can grow at 4.5 per cent in 2012-13, with a stronger upturn in economic activity projected for subsequent years.

Led by Saudi Arabia and Qatar, the Gulf Co-operation Council (GCC) countries are supporting the wider region; growth among them is expected at between 6-8 per cent in 2011, thanks to continued hydrocarbons expansion and mega infrastructure investments. Despite rising government spending, higher oil prices (projected to hit $107 a barrel) have underpinned healthy fiscal and trade balances. The International Monetary Fund (IMF) reckons that the combined current-account surplus of the GCC bloc could more than double to $303.7 billion in 2011, up from $135.5 billion in 2010. By contrast, growth for Middle Eastern and North African oil-importing nations as a whole could average 2 per cent or less.

Why, then, does the Arab world still lag behind overall? The majority of its population has access to basic infrastructure – in contrast, say, to Sub-Saharan Africa – however the quality and reliability of these services is a problem that affects economic competitiveness and regional growth prospects. Yet while the Arab Spring protests have highlighted frustrations with poor public services, state budgets in non-oil MENA are under pressure, and meanwhile the private sector perceives continued political risks, so for the time being it will remain difficult to finance labour-intensive infrastructure projects.

In recent years, the Arab region’s spending on basic infrastructure has averaged 5 per cent of GDP annually, significantly below the 15 per cent average across other developing regions (notably emerging Asia). That, in turn, gives Asian economies a comparative edge over rivals. The MENA economies need to double their spending in infrastructure up to 10 per cent GDP/year (equivalent to $75-100 billion) to sustain recent growth rates, whilst improving industrial competitiveness.  ‘With the added problem of one of the world’s largest youth populations, infrastructure is both a need and a tremendous opportunity for creating jobs and driving productivity,’ says The World Bank. Based on evidence from South America, Egypt could generate 87,000 new jobs and Tunisia up to 18,000 jobs in the short term by spending just 1 per cent extra of GDP on infrastructure projects in sectors such as transportation, energy and water supply and sanitation.

Throughout the region, feeble growth in recent decades has failed to cope with strong labour force growth. Consequently, MENA has the world’s highest youth unemployment rate, with young people aged 15 to 24 accounting for around 40 per cent of the unemployed in Jordan, Lebanon, Morocco and Tunisia and nearly 60 per cent of the unemployed in Syria and Egypt. An estimated 10 million new entrants are projected to join the labour market in non-oil MENA countries over the next decade.  The underlying reasons for this chronic regional unemployment are sluggish output growth, a failure to develop high-tech industries, the poor quality of higher education – despite achievements in primary and secondary education enrolments – and mismatches between the supply and demand of skills.

The government’s dominant role as an employer, particularly among the GCC countries, has distorted labour market outcomes while diverting resources from a potentially more dynamic private sector. This has led to a bloated public sector, which lures job seekers with its greater security, higher wages and more generous benefits. Most private-sector jobs, meanwhile, are filled by lower-paid expatriates. Moreover, there is a sense that cronyism blights business environments, benefitting a privileged few at the top. The region’s unfolding protests make it clear that structural reforms will not succeed unless they create more jobs and are accompanied by policies that satisfy the political and social aspirations of the general public.

The World Economic Forum’s ‘Global Competitiveness Report 2010-11’ finds that the MENA region ranks poorly in terms of business sophistication, labour market efficiency, higher education and vocational training. Furthermore, the World Bank’s ‘Doing Business 2011’ report identifies enforcing contracts, higher costs of business start-ups, registering property, dealing with construction permits and getting credit as the most problematic areas for small-to-medium-sized enterprises.

In the context of external trade, most MENA states perform badly in the World Bank’s worldwide survey of national trade barriers. Merchandise exports among non-oil MENA countries represent about 15 per cent of GDP, compared to an average of 25 per cent among emerging countries. Moreover, their product mix (ie their principal exports) and volumes have been relatively static compared to other regions. Overall, exports comprise mainly primary goods (fossil fuels and raw materials), intermediate goods (such as steel and petrochemicals) and basic consumer goods. Evidently, regional progress toward diversifying into higher value-added products has been disappointing.

Achieving both political harmony and prosperity hinges on nurturing rapid inclusive, broadly shared growth. Each MENA country needs to find its own path to socio-political transformation, but all of them share common objectives: facilitating a good environment and better rule of law for reviving confidence and attracting investment; generating private-sector jobs to cope with a rapidly expanding workforce; giving citizens equal access to opportunity while also providing a ‘safety net’ for the most vulnerable in society; and creating transparent and efficient state institutions that channel the nation’s resources towards productive economic sectors, thus reducing waste.

Concerted efforts are needed to improve the employability of young people. These include an emphasis on science and technology – particularly information and communications technology (ICT) in higher education – coupled with a strong focus on vocational training schemes; more labour-intensive infrastructure investments; tax incentives for small-and medium-sized enterprises, the engines of job creation; and dismantling labour market rigidities that discourage firms from hiring. Equally critical is more access to healthcare: a healthy workforce is key to raising productivity.

‘In today’s world, competitiveness depends on firms that employ a well-educated, technically skilled workforce that is capable of adopting new technologies and selling sophisticated goods – hence a priority on higher-level cognitive as well as non-cognitive skills,’ explains Ms Akhtar. It is estimated that the MENA region needs to create 50 million jobs by 2020 in order to keep up with the large influx of young people entering the labour market over the next decade. Already, people aged between 15 and 29 comprise around a third of the total population.

Over the long term, evidence from Central European countries that have embraced democracy – notably Poland, Slovenia and the Czech Republic – points to a short period of faltering growth followed by improved governance and a more robust recovery. Typically compared with pre-transition levels, average income growth tends to stabilise at a higher rate, and income volatility at a lower rate, in the decade after transition. But the short-term is challenging, as investors wait for uncertainties to be resolved before entering the market.

While transition presents significant difficulties, it also offers a tremendous opportunity to build a vibrant economic system in which key constraints to growth are removed and resources steered more effectively toward their most productive uses. However, the realisation of this depends very much on how swiftly and credibly governments can commit to reform. Let’s hope the MENA countries are able to follow the examples of successful previous reformers.

The World Bank’s recent ‘Regional Economic Outlook: MENA Facing Challenges and Opportunities’ report   concludes that there are ‘historic opportunities’ for greater openness and citizen participation if socio-economic changes are wisely managed over the mid-term. The report notes that turmoil is translating into feeble short-term growth, now forecast at 3.6 per cent for 2011 (down from 5 per cent), but emerging opportunities in the future offer optimism for inclusive and sustainable development that has never before been seen in the Arab world.

In contrast with both former communist Europe and Sub-Saharan Africa, the transition to genuine democracy in the Arab World could be painfully slow. At worst, it could trigger further civil strife and a violent response from some governments. The global community needs to support political transitions with technical and financial assistance in the form of a new ‘Marshall Plan’ for the MENA region involving billions of dollars for countries embarking on democratic reforms.