## DEBT CLOUDS OVER THE MIDDLE EAST

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### Overview
- Debt across parts of the Middle East and North Africa (MENA) has been climbing, reaching very high levels in several countries.
- Egypt, Jordan, and Tunisia are described as being in a precarious situation, "teetering" as they grapple with prospects of a debt crisis.
- Lebanon has defaulted and is cited as "one of the worst economic crises in the world," highlighting acute debt-related challenges and broader ramifications.
- The rising tide of debt is compounded by scarcer low-interest financing, shifts in external financing behavior by wealthy MENA oil producers, global economic headwinds, and recent shocks (the pandemic and spillovers from Russia’s invasion of Ukraine).

### Crisis origins and country specifics
- Common structural problems across high-debt MENA countries:
  - Governance and regulatory weaknesses.
  - State-controlled economies and bloated public sectors that stifle private-sector growth.
  - Low domestic revenue mobilization and poorly targeted subsidies.
  - Reliance on fixed exchange rates and debt financing.
  - Societal challenges and distrust in government that impede equitable distribution of adjustment burdens.
- Country vignettes:
  - Egypt:
    - Years of economic stagnation, partly due to pervasive military control of the economy.
    - Pandemic losses in tourism and surging food import costs after Russia’s war in Ukraine aggravated the situation.
    - Persistent budget deficits and maintaining a fixed exchange rate led to substantial financing needs met partly through short-term capital inflows.
    - As noted in the IMF’s April 2023 Fiscal Monitor, Egypt’s gross financing needs in 2023 amount to 35 percent of its GDP, leaving it highly susceptible to interest rate hikes and rollover risks.
  - Jordan:
    - Low growth linked to an overvalued fixed exchange rate, geopolitical and economic disruptions, large influx of Syrian refugees, and trade disturbances from the Syrian civil war.
    - Burdened by hefty subsidies, public enterprise transfers, and security expenditures; heavily dependent on official aid.
    - Has a more effective policymaking framework and is performing well under its current IMF program, but high debt leaves it vulnerable to adverse developments.
  - Lebanon:
    - Crisis driven by an unsustainable system built on fixed exchange rates and weak public finances that required high interest rates to attract foreign inflows—a "classic Ponzi scheme."
    - Persistent political deadlock and undue banking sector influence precipitated multifaceted economic and social crisis, culminating in default on domestic and external sovereign debt.
  - Tunisia:
    - Initially made strides toward enhanced democracy and governance, but the government grew as an employment and subsidy provider.
    - The COVID-19 shock and insistence on exchange rate stability despite unaffordability increased dependence on external official inflows.
    - Recent political upheavals undermining democratic progress and refusal to implement necessary reforms have eroded debt repayment capacity and pushed Tunisia toward debt distress.

### Historical context and the new debt reality
- Past MENA debt episodes:
  - Debt distress in the 1980s and 1990s driven by conflicts and adverse global conditions, including commodity price shocks.
  - Creditors then included the Paris Club, regional bilateral creditors, commercial banks, and multilateral agencies; responses involved Paris Club agreements and "Brady deals" with private banks and structural adjustment programs.
  - 1990s–early 2000s saw further rescheduling (notably Egypt, Iraq, Jordan) with substantial international community and institutional support.
- New complexities in sovereign restructuring:
  - Collective action clauses in sovereign bond contracts have hastened Eurobond restructuring, but overall restructuring is more complex today.
  - Reasons restructuring is more difficult now:
    - Emergence of China and other non–Paris Club creditors fragmenting the official creditor base and politicizing the process.
    - Private creditors’ reluctance and tardiness in providing debt relief.
    - Significant domestic debt outstanding in some countries (Egypt cited) which could complicate and expand the restructuring perimeter; much domestic debt is held by local banks and pensions.
    - The Group of Twenty Common Framework applies only to low-income countries and is therefore not applicable to most MENA middle-income countries (exceptions noted: Sudan under HIPC; Yemen still in conflict).
  - Example: Sri Lanka’s restructuring ordeal exemplifies lengthy delays and trauma associated with modern restructuring.

### What next? — Risks, policy options, and recommendations
- Near-term constraints:
  - The world economy faces weak forecasts and continually downgraded growth prospects amid persistently high inflation.
  - Securing external financing will be challenging and, if available, will carry high interest rates.
  - GCC oil-rich nations have revamped aid strategy and now require borrowers’ concrete, credible commitment to structural reforms to make economies more attractive for foreign direct investment.
  - Fiscal consolidation is not guaranteed to reduce debt (IMF April 2023 World Economic Outlook) and is politically difficult in tense social and political climates; public acceptance of expenditure cuts—especially on subsidies—will likely be difficult.
  - Temptations include muddling through, relying on donors/multilaterals, or resorting to inflation surprises to ease domestic debt burdens (as flagged in IMF May 2023 Regional Economic Outlook for the Middle East and Central Asia).
- Recommended national priorities (country-specific and general):
  - All high-debt nations must address governance issues broadly and credibly commit to reform.
  - Egypt: dismantle overbearing regulatory systems; diminish the army’s role in the economy; carry out solid privatization that attracts foreign investment.
  - Jordan: implement deeper structural reforms to avert crisis.
  - Tunisia: quickly reverse recent erosion of democracy and embark on crucial reforms.
  - Lebanon: urgently form a government that transcends confessional divisions and steers the country toward reform.
- On restructuring:
  - Some form of debt restructuring may be unavoidable given dim prospects for requisite reforms and a favorable global economic climate.
  - Debt restructuring should be a last resort due to inevitable economic disruption and harm; if unavoidable, it is preferable to undertake restructuring preemptively as part of a broader set of corrective actions.
- Overall assessment:
  - The narrow escape route from impending debt crises requires growth-boosting policies, new financing, and some fiscal consolidation, but prospects appear grim.
  - Swift, pinpointed interventions, real reform, and readiness to face debt restructuring are necessary; time is of the essence.

### Key statistics and exact cited references
- "35 percent of GDP": Egypt's estimated gross financing needs in 2023 (as cited from IMF’s April 2023 Fiscal Monitor).
- Cited IMF publications: IMF April 2023 Fiscal Monitor; IMF April 2023 World Economic Outlook; IMF May 2023 Regional Economic Outlook: Middle East and Central Asia.
- Cited studies and institutions: Mazarei and Loungani 2023; Economic Research Forum (ERF) and Finance for Development Lab (FDL) 2022.

*Adnan Mazarei, F&D, SEPTEMBER 2023.*

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_Source: https://www.imf.org/-/media/files/publications/fandd/article/2023/september/mazarei.pdf_