ARAB COUNTRIES IN TRANSITION IN THE AFTERMATH OF THE GREAT RECESSION: THE

POLICY OPTIONS

Yiannis Kitromilides

SOME DEFINITIONS

A. ARAB COUNTRIES IN TRANSITION (ACT)

Egypt, Jordan, Libya, Morocco, Tunisia

and Yemen

B. TRANSITION ECONOMICS

Eastern Europe: Transition from a Centrally Planned Economy to a Market Economy.

Arab transition: from Dictatorship to ‘Democracy’.

C. POST-2008

The Great Recession exacerbated but was not the pivotal cause of Arab Spring popular uprisings in 2011. Both events were unexpected: Hindsight-foresight.

My main concern is not so much with the impact of the Great Recession on the ACT economies but on the policy narrative.

Has the policy ‘narrative’ changed?

A. ACT

• Part of larger group-MENA group of Arab countries. • Tunisia, Egypt, Libya and Yemen- ‘Arab Spring’

counties. Regime change, overthrown long standing dictators (Ben Ali, Mubarak, Qaddafi, Saleh)

• Jordan, Morocco are monarchies which weathered the storm but recognised the need for change.

• There is international support for the 6 transition countries by institutions like the IMF and G8 countries through the ‘Deauville Partnership’.

B. TRANSITION• Political Transition• Professor Robert Owen of Harvard describes a Revolutionary

Calendar: • New Constitution- Constituent Assembly- Elections- Draft

Constitution- Religious Parties win the elections.• Economic Transition

International institutions offer support to fill financing gaps/ job creation.

Economic transformation requires policy initiatives but help comes with strings attached:

The only game in town in terms of policy is neoliberal orthodoxy.

Political and Economic TRANSITION – problematic.

C. Post 2008-POLICY OPTIONS

• The recent global economic crisis has re-ignited the old debate, which had remained dormant for a number of years, regarding the workings of capitalism.

• In the aftermath of the global economic crisis of 2007 and the Great Recession of 2008 although the dissenting voices in economics have become more vocal and their criticisms of mainstream economic theory and policy more pertinent and credible, they do not appear to have had a significant impact on either the academic or the policymaking orthodoxy.

• The commitment to the basic axioms of neoliberal economics by academics and policymakers remains largely unshaken.

The Established Narrative.

• There are, in the IMF/World Bank language, significant ‘challenges’ facing Arab Countries in Transition. Some of these ‘challenges’ are long standing while others are newly created.

• Three challenges: • UNEMPLOYMENT, • INDEBTEDNESS, • STRUCTURAL REFORMS

The Challenges

• Most of these problems can be mutually reinforcing. Therefore they need to be addressed simultaneously.

• Unsatisfactory growth performance lies at the heart of most of these problems and therefore failure to tackle them simultaneously can lead to a vicious circle of economic stagnation.

• For example high public indebtedness may affect growth which may impact negatively on unemployment which may create more indebtedness, lower growth, higher unemployment and so on. Breaking this vicious circle is not always an easy undertaking.

UNEMPLOYMENT

• Prior to 2011 unemployment in the ACTs was high, running at more than double the average rate of EMDCs.

• Youth unemployment was among the highest in the world.

• Demographics and projections for growth since 2011 present a bleak prospect. According to the IMF:

• “Demographic pressures suggest that, under current baseline projections for GDP growth through 2018 of around4¼ percent in the oil-importing ACTs, unemployment is expected to continue rising.”

INDEBTEDNESS

• The debt problem in ACT has two components: an internal deficit in the government’s fiscal balance and high total indebtedness and an external deficit in the country’s current account.

• Many ACT countries carried substantial public debt and some were running high fiscal deficits prior to 2011 partly the impact of the Great Recession

• Post 2011- rising popular expectations combined with a downturn exacerbated the indebtedness challenge.

STRUCTURAL REFORMS

• ‘Structural reform’ is a generic term referring to the need for change in long standing activities, behaviour, practices and institutional arrangements that the IMF/World Bank do not like because it is considered that they are inimical to growth and development.

• Of all the ‘challenges’ this appears to be the one least amenable to short-term solutions.

• Yet some of these reforms, if quickly implemented, could produce the economic transformation that can make the task of managing the other ‘challenges’ of job creation and reduction in indebtedness considerably easier.

Cont.

• The list of structural reforms deemed necessary differs from country to country but they typically fall into three categories:

• Reforms in the public sector, reforms in the private sector and reforms in social security and welfare systems.

• The government is directly or indirectly involved in all three categories of the agenda for ‘structural reforms’.

Public Sector

• Reforms in the public sector usually involve demands for a reduction in its scope and size.

• These demands typically require a reduction in the number of public employees, changes in the composition of public expenditure away from generalized subsidies, modernization of the banking and financial system and privatization of public enterprises which may include public banks.

• There is also a general expectation that the government will promote a business friendly environment by cutting down on excessive regulations and bureaucratic red-tape in the public sector.

Private Sector

• The reforms in the private sector are mainly concentrated in efforts to reform the labour market.

• It involves the creation through legal and institutional reforms of what has come to be known as a ‘flexible labour market’. The familiar slogan supporting these reforms is: ‘if it is easy to fire workers it is easy to hire’.

• This means that under these reforms what workers regard as their hard earned rights come under threat.

Welfare Reforms

• The final category of expected structural reforms is closely connected with the implementation of reforms in the previous two sectors.

• Vulnerable groups in society must be protected from the adverse effects of structural reforms in the public sector and labour market.

• The gradual reduction of generalized subsidies or the introduction of a more ‘flexible’ labour market will result in severe hardship for ‘vulnerable’ groups and therefore an alternative ‘targeted’ system of support must be put in place. On the other hand the level of such support must not be too high as to discourage ‘job search’ among unemployed workers.

• In all three areas of required ‘structural reforms’ of paramount importance is, of course, the implementation of measures to root out ‘corrupt’ practices and ‘rent seeking’ behaviour in the economy and politics.

THE POLICY OPTIONS

• These are the USUAL SUSPECTS of ‘challenges’.• There is an equally familiar set of policy

prescriptions for tackling these challenges according to the established narrative.

• The range of policy options is limited and ought to be adopted voluntarily .

• The details are, of course, country specific but the generalities are very familiar. A typical ‘menu’ of policies usually includes the following prescriptions/conditions.

Cont.

• An austerity program aimed at rapid budget deficit reduction should be implemented immediately.

• Fiscal consolidation should preferably be achieved primarily through public expenditure cuts than tax hikes.

• The revenue raising capacity of the government should be enhanced through reforms to the tax collection systems.

• Loss making public enterprises should be privatized. • Priority should be given to structural reforms in the labour market and the

civil service. • The system of welfare support should be reformed and ‘targeted’ safety

nets should be implemented replacing generalized subsidies. • As far as possible a ‘business friendly’ environment should be promoted

and cumbersome and bureaucratic regulations discouraging business and FDI should be removed.

Cont.

• Such a program is expected to produce short-run macroeconomic stability which should, in turn, lay the foundations for rapid economic growth.

• Although not a sufficient condition, acceleration of economic growth is a necessary condition for job creation and reduction in unemployment.

• The underlying fundamental assumption in this policy agenda is that the primary engine that can bring about such an acceleration of economic growth in both advanced and emerging economies is the private sector of the economy

• It is the most efficient, dynamic, innovative and progressive sector capable of creating the conditions for acceleration of growth and lifting the country out of economic stagnation.

Cont.

• There is, it is claimed, a considerable body of theoretical arguments and empirical evidence that support this vision: that the best way forward is through the creation of the appropriate environment for private sector-led growth.

• The political transition from dictatorship to democracy offers Arab Spring countries a unique opportunity to set in motion a process of not only political and social but also economic transformation.

• What is meant by ‘economic transformation’ is perfectly clear: the creation of the conditions for private-sector led growth. The policy prescriptions outlined above follow from this vision.

An evaluation of the narrative

• This strategy- and the assumptions on which the strategy is based on- is considered to be appropriate not only for ACTs but for virtually all emerging and developing economies.

• What are the theoretical underpinnings of the strategy and is the claim of universal applicability justified?

• The dominant paradigm in the discipline of economics is generally known as ‘neoclassical’ or ‘neoliberal’ economics.

• Its central message is that a free market economy is superior to any other known economic system and the best route to growth and prosperity for a country is the adoption of economic policies that promote and support free markets.

Cont.

• Several tenets of neoliberalism have attained the status of ‘axioms’ or self-evident truths. To be fair, orthodox economists never described these tenets as ‘axioms’.

• Many so called ‘heterodox’ economists who had consistently questioned these basic tenets have been brushed aside and totally ignored by both the academic and the policymaking establishments. These tenets therefore appear to be self-evident truths whose validity nobody questions.

Neoliberal axiomsThe commitment to the basic axioms of neoliberal economics by academics

and policymakers remains largely unshaken. The following are some of the major ‘axioms’ of neoliberal economic theory:

• The public sector of an economy is inherently inefficient and the private sector inherently more efficient. This leads to the policy prescription of public sector cuts and privatisation of public enterprises. Nationalisation of any part of the economy is off the policy agenda.

• Markets, including financial markets, are efficient and can be relied upon to produce an optimal allocation of resources. This leads to the policy demand for ‘de-regulation’.

• High rates of income taxation and welfare payments create disincentive effects to work effort. Therefore both should be reduced. Alternatively demands for higher taxes for the rich should be rejected.

• Rising inequalities in income and wealth do not matter. There is a ‘trickle-down’ effect whereby although the rich are getting richer the poor are better off in absolute terms.

• By the same token reducing the power of trade unions by creating ‘flexible’ labour markets is also in the long term interest of the workers.

• At the macroeconomic level deficit spending by governments will ‘crowd-out’ private investment spending. Fiscal policy, therefore, advocated by Keynesians to deal with recessions is ineffective.

• By the same token policies of fiscal austerity to deal with public indebtedness can be expansionary.  

• The recent global economic crisis has rekindled the debate on the shortcomings of orthodox economics.

• The criticism and the questioning of the basic tenets of orthodox economic theory and the policy prescriptions that follow from these theories re-emerged and it has taken a variety of forms. Many critics argue that:

• The superior efficiency of the private sector can no longer be taken for granted after the sub-prime fiasco in the USA.

• The massive mismanagement of risk by the financial sector clearly demonstrates the folly of the strategy of de-regulation of the financial services sector and that ‘light-touch’ regulation can no longer be regarded as a credible and reliable policy tool.

• This on-going debate is significant, not because it will soon produce a definite resolution of all the theoretical and empirical disagreements in economics but because it raises doubts and uncertainties about the ‘status’ of these basic tenets of neoliberal economics. Axioms that are questionable cannot remain axioms or self-evident truths forever.

• The IMF/World Bank policy narrative can be seen in this light. It is a narrative which is based on some questionable axioms

Is there an alternative?

• Although fundamentally the IMF/World Bank policy narrative remains firmly based on the neoliberal paradigm there have recently been some shifts and changes in emphasis in certain aspects of the IMF position which are very significant and noteworthy.

• Mr. Masood Ahmet, Director of the Middle East and Central Asia Department of the IMF has recently declared that

• “with the benefit of hindsight, it has become clear that in past years we paid insufficient attention to growing socioeconomic imbalances and unequal access to economic opportunity…The Arab transitions have thus prompted us to step back and rethink our approach to economic policy recommendations for the countries undergoing transition”

• This rethinking is taking place also in the IMF’s economic research department.

• First, Olivier Blanchard, the IMF’s chief economist, has recently acknowledged that mistakes were made in the design of the Greek austerity program: the fiscal multipliers were much more powerful than expected.

• Second, a succession of very important IMF staff papers deal with issue of inequality in a novel way claiming that the effects of redistribution policies are on the whole pro-growth. Moreover in embracing the concept of ‘inclusive growth’ policymakers ought to utilize the work done on developing the so called quality of growth index: good quality growth is seen as growth that is “strong, stable, sustainable, increases productivity and leads to socially desirable outcomes, like improved standards of living, especially in the reduction of poverty”.

• Third the IMF has now recognized that program implementation in the ACTs is not a purely technocratic exercise. More focus is necessary on the political economy of reform. Political transition and economic transformation need to reinforce one another.

• Finally an interesting development is the emergence of massive Chinese lending to developing economies. Denied enhanced role in the IMF China is proposing the creation of the Asian Infrastructure Investment Bank. Could there be a rival to the ‘Washington Consensus’- a ‘Beijing Consensus’, whatever that might turn out to be?

• The neoliberal policy narrative might not be the only game in town.