## Trade and Foreign Investment

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---

### Executive summary and introduction
- Most GCC countries have made limited progress in diversifying away from hydrocarbons.
- Regional averages, 2000–2017:
  - Oil revenues: close to 80 percent of government revenues.
  - Oil exports: 65 percent of total exports.
  - Oil GDP: 42 percent of total GDP.
- Rationale: Diversification and higher openness to trade and foreign investment can support higher, sustained, and more inclusive growth by improving resource allocation, creating jobs, triggering technology spillovers, promoting knowledge, enhancing competitiveness, and raising productivity.

### Recent trends in foreign trade and investment
- Trade expansion:
  - Since 2000, GCC trade in goods and services grew at an average real rate of 7.5 percent, almost twice global real GDP growth.
  - Global averages cited: 4.8 percent (trade) and 3.8 percent (GDP).
  - Trade openness: ratio of exports and imports of goods and services to GDP exceeded 100 percent in 2017, compared with an average of 50 percent for emerging economies.
- FDI:
  - After surging in the early 2000s, FDI inflows have stalled and remained on average below 2 percent of regional GDP.
- Trade composition and quality:
  - Shares of oil and gas in total exports reach between 70 to 80 percent in Kuwait, Qatar, and Saudi Arabia.
  - Non-oil exports (including re-exports) rose from 16 percent of non-oil GDP in 2000 to 32 percent in 2017.
  - Re-exports account for about a fifth of total GCC exports of goods and services (largely due to the UAE).
  - Product complexity: the least complex products (lowest quintile) accounted for more than 90 percent of the value of exports in 2013; the share of the most complex products (top quintile) was close to zero.
- Imports and trade balance:
  - Main imports: machinery and transport equipment (34 percent), manufactured goods and articles (24 percent), food (9 percent).
  - Non-oil trade balance: persistent deficit of about 11 percent of non-oil GDP in 2017.
- Intra-GCC trade:
  - Intra-GCC non-oil trade was modest at only 10 percent of total non-oil trade in 2016.
  - Total intra-GCC trade in 2016: $85 billion; UAE accounts for the largest share.
- Services trade:
  - Services exports increased from around 5 percent of non-oil GDP in 2000 to 12 percent in 2017.
  - Services imports increased from 20 percent to 23 percent of non-oil GDP over the same period.
  - Composition: travel (tourism) ≈ 50 percent of services exports in 2016; transportation ≈ 35 percent. UAE and Saudi Arabia account for more than 75 percent of travel receipts in the GCC.

### FDI trends, sectoral concentration, and sources
- FDI inflows have weakened in recent years reflecting the lingering effect of the global financial crisis and regional uncertainties.
- FDI characteristics:
  - Greenfield investments dominate; 60 percent of inflows concentrated in three sectors — real estate, petroleum, and chemicals.
  - Saudi Arabia and the UAE have attracted almost 80 percent of total FDI inflows.
- Cumulative FDI flows by sector, 2012–2016 (Percent of total):
  - Real estate 25.0
  - Chemicals 18.3
  - Petroleum 16.7
  - Tourism 9.7
  - Other 30.3
- Cumulative FDI flows by source, 2012–2016 (Percent of total):
  - Other 36.5
  - USA 15.0
  - UAE 14.3
  - India 11.6
  - UK 6.5
  - France 6.1
  - Singapore 4.0
  - China 3.4
  - Saudi Arabia 2.7
- The US and India account for more than a quarter of recent FDI inflows; the UAE is a sizable intra‑regional investor.

### Trade policy, tariffs, and integration
- Institutional/regional milestones:
  - GCC founded in 1981; Customs Union (2003); GCC common market (2008).
  - Customs Union Agreement (2003) established a common external tariff of 5 percent on most imported merchandise and 0 percent on essential goods (roughly a fifth of total imports).
- Tariff trends:
  - Average Most Favored Nation applied tariff rate: 8.2 percent in 2000–04 → 5.9 percent in 2006–09 → about 4 percent in 2016.
- Memberships and agreements:
  - All GCC countries are WTO members; Saudi Arabia joined in 2005.
  - GCC active in PAFTA and has bilateral/collective FTAs (example: GCC–Singapore FTA signed in 2008; went into effect in 2013).
- Barriers and heterogeneity:
  - Tariffs generally low; non-tariff barriers (NTBs) and indirect barriers (preferential public procurement, subsidies, customs border controls) persist.
  - Trade facilitation and NTB prevalence vary: UAE ranks among least restrictive; Kuwait ranks among the most restrictive on several dimensions.
  - Restrictions on foreign ownership of land remain in several countries (examples: Bahrain — limited to government-designated zones; Oman — tourist areas; Qatar — housing areas; Kuwait — non-GCC citizens may not own land).

### Special Economic Zones (SEZs), incentives, and institutional measures
- SEZs and incentives:
  - SEZs offer 100 percent foreign equity, import/export tax exemptions, repatriation of capital/profits in several jurisdictions.
  - Country highlights:
    - Kuwait: free trade zone at Shuwaikh port (1999) allowing 100 percent foreign ownership; unit to approve licenses in 30 days; new FDI law with tax benefits, customs duties relief, land allocations, permission to recruit foreign labor.
    - Oman: five-year renewable tax holiday, subsidized facilities/utilities, customs relief for first ten years; three free-trade zones at ports.
    - Bahrain: Khalifa bin Salman Port free transit zone; 2016 relaxation allowing full foreign ownership except for a few sectors.
    - UAE: more than 20 SEZs with up to 100 percent foreign equity; recent major relaxation of foreign ownership restrictions.
    - Saudi Arabia: plans to build new economic cities.
- Policy note on SEZs: SEZs can attract FDI by offering better infrastructure and regulatory environment but are second-best and temporary until business-friendly frameworks are extended nationwide. Ultimate benefits depend on integration with the local economy.

### Governance, legal regime, corporate governance, and dispute resolution
- Observations:
  - Inconsistent interpretation, arbitrary application of rules, opportunities for corruption, and public sector dominance can impede trade and FDI.
  - Investor protections needed: protection from expropriation, fair and equitable treatment, enforcement of rule of law, dispute settlement mechanisms, and good corporate governance.
- Corporate governance and legal protections:
  - Weak corporate governance: lack of independent boards, insufficient oversight, and weak transparency and disclosure practices (S&P Global, 2017).
  - Recent reforms in Saudi Arabia in corporate governance and dispute resolution.
  - Investment treaties provide MFN treatment, national treatment, free transfers, expropriation standards, and access to international arbitration; regional arbitration center exists but few cases to date.
  - Court efficiency concerns and entrenched local business interests with government influence remain obstacles.
- Recent governance/legal developments:
  - Bahrain: procurement law (2003) with criminal penalties up to 10 years imprisonment for official corruption.
  - Saudi Arabia: high-level anti-corruption committee (2017); new public procurement law nearing completion; whistleblower protection framework being put in place.
  - Kuwait: Anti-Corruption Agency developing a national strategy; corruption criminalized with investigations and trials underway.
- Recommendation: further reforms to strengthen rule of law, safeguards against corruption, and government transparency to support exports and FDI.

### Competition policy, public sector dominance, and privatization
- Competition policy:
  - All GCC countries have passed competition laws but often exempt government entities; enforcement mechanisms are weak.
  - Country examples:
    - Saudi Competition Protection Council: most advanced but law exempts public corporations and wholly-owned state companies.
    - Qatar: law grants exemptions to sovereign ventures and entities under State direction.
    - Bahrain: no formal competition law or specialized agency.
    - Kuwait: Competition Protection Bureau established but not fully operational.
    - Oman: passed Competition and Anti-Monopoly Law and recently established a competition protection agency.
  - Casoria (2017): competition law application and authorities' role remain at a rudimentary stage.
- Public sector dominance and privatization:
  - Large public sector and state-owned enterprises (SOEs) in key sectors impede private and foreign investment.
  - Preferential government procurement creates uneven playing field and disincentivizes FDI.
  - Privatization momentum increasing:
    - Kuwait (2016): nearly 60 percent of public sector companies earmarked for privatization; private sector allowed to acquire up to $9 billion in public sector firm shares.
    - UAE: announced plans for privatization of much of UAE services.
    - Oman: many state-owned energy companies slated for privatization.
    - Saudi Arabia: published a privatization program in 2018 and issued a draft private sector participation law.
  - Challenges: long history of state intervention, implicit role as employer of first resort for nationals, and vested interests can slow privatization and opening to FDI.

### Infrastructure, logistics, labor market constraints, and human capital
- Logistics Performance Index (LPI) (World Bank, 2018): Qatar and the UAE perform at or above high-income countries’ average; Kuwait lags.
- LPI scores cited: 4.0, 4.0, 3.5, 3.5, 3.2, 3.0, 2.9, 2.9, 2.6 (index scale 1=low to 5=high).
- Human capital and education:
  - Availability of a well-educated and skilled workforce is key for trade diversification and FDI.
  - Education quality in science and mathematics lags advanced economies despite similar or higher income and spending.
  - Raising education quality to the top 20th percentile of advanced economies could substantially boost non-oil exports; potential gains largest for Bahrain (around 6 percent of non-oil GDP), followed by the UAE and Oman.
- Labor market regulations:
  - Governments have tightened regulations for hiring foreign nationals and restricted public-sector employment to accommodate domestic labor entrants; restrictions especially binding for higher-skilled jobs.
  - Hiring restrictions can constrain FDI, dampen efficiency and competitiveness, and slow economic diversification.

### Empirical determinants of exports, FDI, and growth (selected quantitative findings)
- Determinants of total and goods exports (non-commodity exporters):
  - Key positive determinants: population, GDP per capita, and human capital.
  - REER is a significant negative determinant of total exports.
  - Selected coefficients (Table A1, selected):
    - Population: 0.812*** (Total exports, (1)); 0.921*** (Goods exports, (2)); -0.063*** (Diversification, (3)); 0.058*** (Sophistication, (4)).
    - GDP per capita: 0.933*** (1); 0.943*** (2); -0.039 (3); 0.124*** (4).
    - REER: -0.376*** (1); -0.343** (2); 0.135** (3); -0.102* (4).
    - Human capital: 0.127** (1); 0.124 (2); -0.046** (3); 0.053** (4).
  - Sample and period:
    - Number of countries: 112 (columns (1) and (2)), 152 (3), 151 (4).
    - Observations: 1510 (1); 1512 (2); 1775 (3); 1783 (4).
    - Sample period: 1989-2015 (columns (1) and (2)); 1989-2013 (columns (3) and (4)).
- Determinants for commodity exporters (non-oil exports):
  - Quality of legal system, non-tariff barriers, and education quality are statistically significant determinants when included for commodity exporters (Table A2).
  - Selected coefficients (Table A2):
    - Quality of legal system: 0.330** (1); 0.536** (3).
    - Non-tariff barriers: 0.446* (1).
    - Education quality: 0.456** (2); 0.467** (3).
    - REER: -0.543** (1); -0.292*** (3); -0.238*** (4).
    - Tariffs: -0.146** (1); -0.126** (2); -0.126* (3).
- Gravity-model estimation of potential intra-GCC trade (PPML):
  - Selected bilateral trade coefficients (Table A3, PPML):
    - Log exporter population: 0.841*** (3); 0.845*** (4).
    - Log importer population: 0.787*** (3); 0.790*** (4).
    - Log exporter GDP per capita: 0.683*** (3); 0.688*** (4).
    - Log importer GDP per capita: 0.779*** (3); 0.782*** (4).
    - Log distance: -0.519*** (3); -0.519*** (4).
    - Free-trade agreement dummy: 0.314*** (3); 0.321*** (4).
    - Observations: 388939 (PPML column (3)); 521237 (PPML column (4)).
- Regression analysis of FDI potential (Table A4):
  - Determinants with positive and significant impacts: trade openness, economic growth, quality of legal systems (mixed), human capital.
  - Capital account restrictions have negative impacts.
  - Fixed exchange rate has some positive impact in some specifications.
  - Selected coefficient examples:
    - Openness: 0.014* (1); 0.032*** (5); 0.018*** (7).
    - Capital account restriction: -0.989*** (5); -2.104*** (6).
    - Real GDP growth rate: 0.118*** (1); 0.150*** (5).
    - Human capital: 0.021** (1); 0.030*** (2); 0.049*** (3).
    - Minority investor protection (logged): 7.920*** (specified column); interaction with non-commodity exporter: -10.448***.
  - Sample and observations vary by specification (e.g., 1,110; 652 observations).
- Regression analysis of growth (real per capita GDP growth) (Table A5, System-GMM):
  - Trade openness ((EX+IM)/GDP) positive and significant: 3.191*** (1); 2.761*** (2); 2.478*** (3).
  - Inflows of FDI/GDP positive and significant: 0.370***; 0.412***; 0.350*** in columns where included.
  - Export sophistication positive and significant: 5.419*** (where included).
  - Infrastructure positive and significant in several specifications: 1.958*** (1); 2.417*** (4).
  - Initial GDP per capita negative and highly significant (convergence): -4.217*** (1); -3.909*** (2).
  - Observations: ranges from 726 to 800; number of countries: 89 to 96.

### Export and FDI gaps, potential gains, and growth impact
- Export gap findings (benchmarking non-oil exports to fundamentals):
  - Kuwait, Oman and Saudi Arabia estimated to have the largest total export gaps; Qatar follows.
  - Bahrain and the UAE appear to export more non-oil goods and services than implied by the model (negative total export gaps).
  - Excluding services: Kuwait, Oman, Saudi Arabia, Qatar show notable export gaps; UAE still negative.
  - Bahrain’s overperformance in total non-oil exports appears attributable to services (large financial sector).
- Intra-GCC export gap estimates (percent of non-oil GDP, gravity-model Box 2):
  - Oman ~7 percent, Kuwait ~4 percent, Qatar ~4 percent; Saudi Arabia smaller positive gap; Bahrain and the UAE large negative gaps.
  - Closing gaps for the four countries can generate additional exports of about 4 percent of non-oil GDP on average.
- FDI potential vs actuals (2016):
  - On average, GCC countries could attract additional around 2 percent of GDP.
  - Biggest 2016 gaps: Bahrain and Qatar, at around 3 percent of their GDP.
  - UAE 2016 gap: 0.4 percent of GDP.
  - Averages for 2011–16: Bahrain’s gap narrows to be the smallest; gaps widen in other GCC countries with Oman and Qatar’s gaps becoming the largest.
- Estimated growth gains from closing gaps (using conservative coefficients):
  - FDI coefficient used: 0.35 (from sub-model (6)).
  - Trade openness coefficient used: 2.48 (from sub-model (4)).
  - Closing FDI gaps could raise real non-oil per capita GDP growth by up to one percentage point in most countries.
  - Closing export gaps could add between 0.2 and 0.5 percentage point for Kuwait, Oman, Qatar, and Saudi Arabia.
  - Country-specific largest gains from closing FDI gaps: Qatar, Bahrain and Kuwait gaining around one percentage point in non-oil real per capita GDP growth; rest of GCC vary from 0.1 to 0.5 percentage point.

### Policy recommendations and priorities
- Human capital:
  - Continue investments to raise educational quality and provide knowledge and skills upgrades; raise education quality in science and mathematics.
- Labor market reforms:
  - Improve productivity, reduce unit labor costs, and boost competitiveness of the non-oil economy; lower restrictions on mobility of foreign workers.
- Legal and institutional frameworks:
  - Ensure predictability and protection, including enhancing minority investor protection and dispute prevention and resolution mechanisms; implement anti-bribery and integrity measures; address conflicts of interest.
- Business climate and market openness:
  - Further liberalize foreign ownership regulations; strengthen corporate governance standards and practices.
  - Reduce role of the public sector and accelerate privatization where feasible to open tradable sectors.
- Trade facilitation and non-tariff barriers:
  - Reduce NTBs by streamlining and automating border procedures and administrative processes for issuing permits; strengthen regulatory cooperation with main trading partners; engage in trade negotiations with countries with high trade complementarity and no FTA.
- SEZs and public investment:
  - Use SEZs judiciously as temporary instruments; ensure integration with the local economy.
  - Raise efficiency of public investment and focus on upgrading key infrastructure that facilitates trade and investment.
- Dispute resolution and governance:
  - Increase use of arbitration and mediation mechanisms to reduce court caseloads and improve dispute resolution efficiency.
  - Improve public procurement based on transparency, accountability, and equitable treatment for potential suppliers.

*Prepared by a team led by Vahram Stepanyan, comprising Botir Baltabaev, Anastasia Guscina, Mohammed Zaher, Ling Zhu, and Tucker Stone, under the supervision of Bikas Joshi (all MCD). International Monetary Fund — Trade and Foreign Investment (excerpts).*

### EXECUTIVE SUMMARY __________________________________________________________________________ 3

### EXECUTIVE SUMMARY

### Introduction
- Most GCC countries have made limited progress in diversifying away from hydrocarbons.
- Regional averages, 2000–2017:
  - Oil revenues: close to 80 percent of government revenues.
  - Oil exports: 65 percent of total exports.
  - Oil GDP: 42 percent of total GDP.
- Rationale: Diversification and higher openness to trade and foreign investment can support higher, sustained, and more inclusive growth by improving resource allocation, creating jobs, triggering technology spillovers, promoting knowledge, enhancing competitiveness, and raising productivity.

### Recent Trends in Foreign Trade and Investment
- Trade expansion:
  - Since 2000, GCC trade in goods and services grew at an average real rate of 7.5 percent, almost twice global real GDP growth.
  - Global averages cited: 4.8 percent (trade) and 3.8 percent (GDP).
  - Trade openness: ratio of exports and imports of goods and services to GDP exceeded 100 percent in 2017, compared with an average of 50 percent for emerging economies.
- FDI:
  - After surging in the early 2000s, FDI inflows have stalled and remained on average below 2 percent of regional GDP.
- Trade composition and quality:
  - GCC countries predominantly export hydrocarbons; shares of oil and gas in total exports reach between 70 to 80 percent in Kuwait, Qatar, and Saudi Arabia.
  - Non-oil exports (including re-exports) rose from 16 percent of non-oil GDP in 2000 to 32 percent in 2017.
  - Re-exports account for about a fifth of total GCC exports of goods and services (largely due to the UAE).
  - Export value-added and diversification remain relatively low; export quality has increased but remains below emerging market averages.
  - Product complexity: the least complex products (lowest quintile) accounted for more than 90 percent of the value of exports in 2013; the share of the most complex products (top quintile) was close to zero.
- Imports and trade balance:
  - Main imports: machinery and transport equipment (34 percent), manufactured goods and articles (24 percent), food (9 percent).
  - Non-oil trade balance: persistent deficit of about 11 percent of non-oil GDP in 2017.
- Intra-GCC trade:
  - Intra-GCC non-oil trade was modest at only 10 percent of total non-oil trade in 2016.
  - Total intra-GCC trade in 2016: $85 billion; UAE accounts for the largest share.
- Services trade:
  - Services exports increased from around 5 percent of non-oil GDP in 2000 to 12 percent in 2017.
  - Services imports increased from 20 percent to 23 percent of non-oil GDP over the same period.
  - Composition: travel (tourism) ≈ 50 percent of services exports in 2016; transportation ≈ 35 percent. UAE and Saudi Arabia account for more than 75 percent of travel receipts in the GCC.

### Foreign Trade and Investment Environment (Key Observations)
- Openness vs FDI:
  - While tariffs are relatively low, non-tariff barriers persist.
  - Substantial restrictions remain on foreign ownership of businesses and real estate.
- Sectoral concentration:
  - FDI inflows concentrated in a limited number of countries and sectors.
- Export structure:
  - Region is establishing capacity in petrochemicals, aluminum, and some minerals (examples: SABIC, ALBA, Oman gypsum), but overall participation in later stages of global value chains is limited.
- Integration constraints:
  - Large hydrocarbon endowments, low diversification, and low export sophistication partly explain limited integration into global value chains.

### Growth Impact of Enhanced Foreign Trade and Investment
- Estimated potential gains from closing gaps:
  - Closing the FDI gap could raise real non-oil per capita GDP growth by up to one percentage point in most countries.
  - Closing export gaps could provide an additional growth dividend in the range of 0.2-0.5 percentage point.

### Policy Recommendations (Priorities to Boost Non-Oil Exports and Attract FDI)
- Human capital development:
  - Continue investments to raise educational quality and provide knowledge and skills upgrades.
- Labor market reforms:
  - Aim to improve productivity and boost competitiveness of the non-oil economy.
- Legal frameworks:
  - Ensure predictability and protection, including enhancing minority investor protection and dispute resolution; implement anti-bribery and integrity measures.
- Business climate reforms:
  - Further liberalize foreign ownership regulations and strengthen corporate governance.
  - Reduce non-tariff trade barriers by streamlining and automating border procedures and administrative processes for issuing permits.

*Prepared by a team led by Vahram Stepanyan, comprising Botir Baltabaev, Anastasia Guscina, Mohammed Zaher, Ling Zhu, and Tucker Stone, under the supervision of Bikas Joshi (all MCD).*

### 16.      FDI inflows have weakened in recent years (Figure 9). While reforms have been

### 16.      FDI inflows have weakened in recent years (Figure 9). While reforms have been

### FDI trends and recent performance
- FDI inflows into the region have weakened in recent years, reflecting the lingering effect of the global financial crisis and rising uncertainties and geopolitical tensions in the Middle East region.
- Even though the GCC countries are capital-rich, attracting FDI can bring access to foreign markets, better management practices and technical know-how, thus enhancing workforce skills and increasing productivity (World Bank, 2013).
- FDI inflows have largely financed green field investments with 60 percent of the inflows concentrated in three sectors — real estate, petroleum, and chemicals.
- Saudi Arabia and the UAE have attracted almost 80 percent of total FDI inflows.

### Sectoral and country concentration of FDI (2012–2016 cumulative shares)
- Cumulative FDI Flows by Sector, 2012-2016 (Percent of total):
  - Real estate 25.0
  - Chemicals 18.3
  - Petroleum 16.7
  - Tourism 9.7
  - Other 30.3
- Cumulative FDI Flows by Source, 2012-2016 (Percent of total):
  - Other 36.5
  - USA 15.0
  - UAE 14.3
  - India 11.6
  - UK 6.5
  - France 6.1
  - Singapore 4.0
  - China 3.4
  - Saudi Arabia 2.7

### Sources and intra-regional patterns
- The US and India have been the origin of more than a quarter of FDI inflows in recent years.
- The UAE represents a sizable portion of FDI inflows into other GCC countries.
- During 2003–16, intra-GCC FDI flows were concentrated in the real estate, hydrocarbon and tourism sectors.

### Regional integration, trade policy and tariffs
- The GCC was founded in 1981 and progressively developed harmonized legal and economic systems, coordinated external commercial policies, the Customs Union (2003), and the GCC common market (2008).
- The Customs Union Agreement (2003) established a common GCC external tariff of 5 percent on most imported merchandise and of zero percent on essential goods (roughly a fifth of total imports).
- The average Most Favored Nation applied tariff rate dropped from 8.2 percent in 2000–04 to 5.9 percent in 2006–09 and to about 4 percent in 2016.
- All GCC countries are WTO members; Saudi Arabia joined in 2005. The GCC is active in PAFTA and has bilateral and collective free trade agreements, including a GCC–Singapore FTA signed in 2008 (went into effect in 2013).

### Trade and FDI policy indicators, impediments, and heterogeneity
- Intra-regional tariff barriers are generally very low; non-tariff barriers have been progressively lowered, although indirect barriers remain (preferential public procurement, subsidies to domestic producers, customs border controls).
- Prevalence of non-tariff barriers and enabling-trade performance vary widely across GCC countries: the UAE ranks among the least restrictive and top performers in trade facilitation, while Kuwait ranks among the most restrictive on several dimensions.
- Common constraints across the GCC include time and cost (documentary and border compliance) to import and export.
- Restrictions on foreign ownership of land remain in several countries and may act as impediments to FDI (examples: Bahrain — limited to government-designated zones; Oman — tourist areas; Qatar — areas for housing purposes; Kuwait — non-GCC citizens may not own land).

### Reforms, incentives, and Special Economic Zones (SEZs)
- GCC governments have implemented reforms to reduce red tape and administrative burdens and have actively promoted their business image abroad.
- Incentives offered to attract FDI include assistance with registering and opening businesses, financial incentives, exemptions from import duties on raw materials and equipment, and duty-free access to other GCC markets.
- Country-specific incentives and institutional measures:
  - Kuwait: unit to streamline registration and licensing procedures for foreign investors with a goal of approving licenses in 30 days; new FDI law allows for tax benefits, customs duties relief, land and real estate allocations, and permission to recruit required foreign labor.
  - Oman: incentives include a five-year renewable tax holiday, subsidized plant facilities and utilities, custom duties relief on equipment and raw materials for the first ten years; Oman has established three free-trade zones at strategically located ports.
  - Bahrain: Khalifa bin Salman Port free transit zone and international investment park that gives foreign-owned firms the same investment opportunities as Bahraini companies; in 2016 Bahrain relaxed its foreign ownership restriction to allow full foreign ownership of business except for a few sectors.
  - UAE: has established more than 20 SEZs where foreigners may own up to 100 percent of the equity in an enterprise, have 100 percent import and export tax exemption and repatriate 100 percent of capital and profits; the UAE recently announced major relaxation of foreign ownership restrictions.
  - Kuwait: established a free trade zone at Shuwaikh port in 1999 allowing for 100 percent foreign ownership and tax exemptions; Kuwait is creating two new zones.
  - Saudi Arabia: has announced plans to build new economic cities.
- Policy note on SEZs: SEZs can attract FDI by offering better infrastructure and regulatory environment but their ultimate benefits depend on integration with the local economy; SEZs should be viewed as second-best and temporary until more business-friendly frameworks are extended nationwide.

### Indirect barriers, governance, and legal regime
- Rules and regulations on trade and FDI do not fully capture the trade and investment climate; inconsistent interpretation and arbitrary application of rules, opportunities for corruption and gate-keeping, and public sector dominance can impede trade and FDI.
- A conducive climate requires investor protection from expropriation, fair and equitable treatment, enforcement of the rule of law, dispute settlement mechanisms, and good corporate governance, as well as adequate infrastructure and a well-educated/trained workforce.
- Governance and legal developments:
  - Bahrain: a law to revamp government procurement procedures went into effect in 2003 and mandates criminal penalties (up to 10 years imprisonment) for official corruption.
  - Saudi Arabia: a high-level anti-corruption committee was established in 2017; a new public procurement law is nearing completion; a “whistleblower” protection framework is being put in place.
  - Kuwait: corruption is criminalized with several investigations and trials underway; the Anti-Corruption Agency is developing a national strategy for anti-corruption efforts.
- Further reforms are needed to strengthen the rule of law, build safeguards against corruption, and improve transparency in government decision making; these reforms would support improved export performance and FDI inflows.

*International Monetary Fund — Trade and Foreign Investment (excerpt)*

### 31.      Another important aspect of the business environment is whether corporate

### TRADE AND FOREIGN INVESTMENT

### Corporate governance, legal protections, and dispute resolution
- Findings:
  - Weak corporate governance in the GCC can discourage international investors: lack of an independent board, insufficient oversight and scrutiny of key enterprise risks, and weak transparency and disclosure practices (S&P Global, 2017).
  - Important reforms have recently been enacted in this area in Saudi Arabia.
  - GCC countries have signed several investment treaties providing most-favored nation treatment, national treatment, free and prompt financial transfers, international law standards on expropriation and compensation, and access to international arbitration.
  - Legal ambiguity in GCC legislation can create excessive regulatory discretion affecting trade and investment even without explicit discrimination (Heuser and Mattoo, 2017).
  - Courts are perceived as slow and inefficient; entrenched local business interests with government influence can create problems for foreign companies (2017 EU‑Gulf Cooperation Council Investment Report).
  - The regional GCC Commercial Arbitration Center exists but very few cases have been brought to arbitration so far.
  - Kuwait: unresolved financial disputes with local partners can lead to travel bans for nationals and foreigners.
  - Saudi Arabia: introduced specialized commercial courts in three major cities in 2017 to expedite dispute resolution and boost investor confidence.

### Competition policy and market openness
- Findings:
  - All GCC countries have passed specific competition laws, but:
    - These laws often do not apply to the government or entities controlled by the government.
    - Enforcement mechanisms are weak (Daudpota, 2015).
  - Country-specific details:
    - Saudi Competition Protection Council: most advanced in monitoring anti-competitive conduct, but law exempts public corporations and wholly-owned state companies, and even commercial operators dealing with state-owned companies, from competition rules.
    - Qatar’s law: grants exemptions to sovereign ventures and to all entities subject to State direction and supervision.
    - Bahrain: has neither a formal competition law nor a specialized agency to monitor competition-related issues.
    - Kuwait: established a Competition Protection Bureau but it is not yet fully operational.
    - Oman: passed the Competition and Anti-Monopoly Law and only recently established a competition protection agency (Casoria, 2017).
  - Casoria (2017) finding: application of competition laws and the role and powers of competition authorities in all GCC countries remain at a rudimentary stage of development.

### Public sector dominance and privatization
- Findings:
  - Public sector size is an important impediment to private domestic and foreign investment; key sectors (oil and gas production, electricity, transport, telecoms to some extent) remain dominated by state-owned companies and protected from foreign competition.
  - Preferential treatment in government procurement creates an uneven playing field and disincentivizes FDI.
  - Public procurement practices lag those in advanced economies (Figure 13).
  - Public procurement scoring methodology: score is an average of 6 indicators based on questionnaire responses; indicators should be interpreted with caution due to limited respondents and coverage.
- Recent reforms:
  - Privatization momentum is picking up; a number of SOEs are earmarked for privatization.
  - Country examples and figures:
    - Kuwait (2016): announced nearly 60 percent of public sector companies are earmarked for privatization and allowed the private sector to acquire shares of up to $9 billion in public sector firms, such as Kuwait Petroleum Corporation.
    - UAE: announced plans for privatization of much of the UAE services.
    - Oman: declared many state-owned energy companies are slated for privatization.
    - Saudi Arabia: published a privatization program in 2018 and issued a draft private sector participation law for public comment.
  - Challenges: long history of strong state intervention, implicit state role as employer of first resort for nationals, and vested business interests can slow privatization and sector opening to FDI.

### Infrastructure, logistics, and labor market constraints
- Findings:
  - World Bank Logistics Performance Index (LPI) results (2018): Qatar and the UAE perform at or above high-income countries’ average; Kuwait lags behind other GCC countries.
  - LPI scores cited: 4.0, 4.0, 3.5, 3.5, 3.2, 3.0, 2.9, 2.9, 2.6 (index scale 1=low to 5=high).
  - Availability of a well-educated and skilled workforce is key for trade diversification and FDI; human capital is a key determinant of export performance and FDI (empirical analysis in Section IV).
  - Governments have tightened regulations for hiring foreign nationals amid pressures to accommodate new domestic labor entrants and restricted public-sector employment; regulations are especially binding for higher-skilled jobs.
  - Hiring restrictions can constrain potential FDI, dampen efficiency and competitiveness, and slow economic diversification.

### Case study: Singapore (Box 1) — lessons for attracting FDI
- Findings on Singapore’s FDI strategy and outcomes:
  - As of end-2016, Singapore’s gross FDI stock was almost three times its GDP.
  - Singapore ranks highly in international comparisons: World Bank Doing Business (2nd in 2018), World Economic Forum Global Competitiveness Report (3rd in 2017-2018), OECD’s PISA (1st in 2015 survey).
  - Singapore shifted FDI strategy over decades: 1960s tax incentives → 1970s–1990s promote higher-value-added production and labor skill upgrades → 2000s emphasize knowledge-based industries, innovation, R&D (e.g., pharmaceuticals and biotechnology).
- Composition of Singapore’s FDI stock (exact shares reported):
  - 2016: Financial & Insurance Services 48%, Wholesale & Retail Trade 23%, Manufacturing 13%, Professional, Scientific & Technical, Administrative & Support Services 8%, Real estate & Construction 3%, Information & Communications & Transport & Storage 4%, Others 2%.
  - 1990: Financial & Insurance Services 34%, Wholesale & Retail Trade 12%, Manufacturing 41%, Professional, Scientific & Technical, Administrative & Support Services 2%, Real estate & Construction 6%, Information & Communications & Transport & Storage 3%, Others 1%.
  - Manufacturing share declined from 41 percent of total FDI stock in 1990 to 13 percent in 2016.
- Policy note: responsible investment considerations prompted enactment of the Environment Protection and Management Act and inclusion of labor rights and environmental protection terms in various bilateral trade and investment agreements.

### Growth impact: potential to expand non-oil exports and FDI
- Analytical approach:
  - Empirical model identifies export determinants in a sample of non-commodity exporters; used to estimate a “benchmark” level of non-oil exports for GCC countries based on current fundamentals (education, non-oil income, etc.).
  - Determinants found important for non-oil exports: country size, income level, human capital, macroeconomic stability, and real effective exchange rate (REER).
  - Trade openness (proxied by average tariffs) is not found to be a significant determinant of non-oil exports.
  - For export diversification and sophistication, the level of infrastructure development is an additional significant determinant.
- Export gap findings:
  - Kuwait, Oman and Saudi Arabia estimated to have the largest total export gaps; Qatar follows (Figure 15).
  - Bahrain and the UAE appear to export more non-oil goods and services than implied by the model, resulting in negative total export gaps.
  - Excluding services: the same four countries (Kuwait, Oman, Saudi Arabia, Qatar) continue to show notable export gaps; only the UAE still shows a negative export gap.
  - Bahrain’s overperformance in total non-oil exports appears attributable to services (large financial sector with substantial international linkages).
- Export diversification and sophistication gaps:
  - Kuwait, Saudi Arabia, Qatar, and Oman can benefit from reducing export diversification gaps.
  - The four countries also have gaps in export sophistication, though the sophistication gap appears smaller for Oman.
  - Bahrain’s actual goods export diversification and sophistication indices are significantly better than fundamentals would suggest; the UAE’s actual indices are at levels predicted by the model.
- Quantified potential from boosting intra-GCC trade (Box 2):
  - Gravity-model analysis finds intra-GCC export gaps (percent of non-oil GDP): Oman ~7 percent, Kuwait ~4 percent, Qatar ~4 percent; Saudi Arabia has a smaller positive gap; Bahrain and the UAE have large negative gaps.
  - Closing the gaps for the four countries can generate additional exports of about 4 percent of non-oil GDP on average.
- Policy implications and levers:
  - Raise labor productivity and improve the quality of human capital.
  - Enhance the business climate and reduce legal/regulatory ambiguity.
  - Reduce non-tariff barriers and enhance integration into regional and global value chains to increase tradable non-oil sectors.
  - Diversify economies toward tradables to boost intraregional trade given similar economic structures across GCC members.
  - Increase use of arbitration and mediation mechanisms to reduce court caseloads and improve dispute resolution efficiency.

*International Monetary Fund — Trade and Foreign Investment (excerpts).*

### 42.      Beyond closing existing exports gaps, GCC countries have significant scope for

### Beyond closing existing exports gaps, GCC countries have significant scope for boosting non-oil export potential by improving economic fundamentals

### Improving non-oil export potential
- Real effective exchange rate (REER) depreciation traditionally raises exports; REER and human capital could be particularly important.
- Argument for more depreciated REERs in GCC economies, especially where REERs are assessed to be overvalued, is noted; but:
  - Fixed exchange rate regimes have delivered monetary policy credibility and low and stable inflation.
  - Costs of changing nominal values of GCC currencies will most likely outweigh the benefits.
  - Competitiveness gains can instead be achieved by lowering unit labor costs through increasing productivity and containing relatively high average wages.
- Education quality in science and mathematics lags advanced economies despite similar or higher income and spending on education.
- Raising education quality to the top 20th percentile of advanced economies could substantially boost non-oil exports:
  - Potential gains would be largest for Bahrain, at around 6 percent of non-oil GDP, followed by the UAE and Oman.
- Higher quality human capital would expand job opportunities and make growth more inclusive.

### Determinants of export gaps
- Identified factors related to export gaps include public sector dominance, business climate, and non-tariff barriers.
- Lower-than-predicted non-oil exports tend to occur in economies with a high share of non-tradables in non-oil GDP (construction, public administration, health services), associated with identified export gaps.
- Non-tariff trade barriers and weaker business climates are associated with larger total export gaps.
- For commodity exporters, re-estimation found:
  - Quality of legal system (proxy for business climate) and non-tariff trade barriers are statistically significant determinants of non-oil exports.
  - Trade openness (proxied by average tariffs) became a statistically significant determinant.
- Policy implication: in addition to competitiveness and human capital, improving quality of legal systems and reducing non-tariff barriers can boost non-oil exports.

### Attracting more FDI
- Empirical determinants of FDI inflows (non-commodity exporters): trade openness (share of exports and imports in GDP), economic growth, quality of legal systems, and human capital have positive and significant impacts; capital account restrictions have negative impact.
- Fixed exchange rate is found to have some positive impact on FDI inflows.
- Estimated FDI potential vs. actuals (2016):
  - On average, GCC countries could attract additional of around 2 percent of GDP.
  - Biggest 2016 gaps: Bahrain and Qatar, at around 3 percent of their GDP.
  - UAE 2016 gap: 0.4 percent of GDP.
- Averages for 2011–16:
  - Bahrain’s gap narrows to be the smallest among the GCC.
  - Gaps widen in all other GCC countries with Oman and Qatar’s gap becoming the largest.
- Recent reforms strengthening minority investor protection (e.g., Saudi Arabia: disclosure, accountability, dispute resolution) are expected to help close some FDI gaps.
- Potential uplift from reforms: continued improvements to legal environment and education quality, and further liberalization of FDI restrictions could increase FDI potential by an average of ½ percentage point of GDP across the GCC if brought to advanced economy averages.

### Boosting growth from closing gaps
- FDI and trade openness contribute positively to real per capita GDP growth.
- For growth potential estimation, the smallest coefficient estimates were applied:
  - FDI coefficient used: 0.35 (from sub-model (6)).
  - Trade openness coefficient used: 2.48 (from sub-model (4)).
- Assumption: increases in trade openness are driven by reductions in identified export gaps.
- Estimated non-oil real per capita GDP growth gains from closing gaps:
  - Biggest boost from closing FDI gaps: Qatar, Bahrain and Kuwait gaining around one percentage point in non-oil real per capita GDP growth.
  - Growth gains in the rest of the GCC vary from 0.1 to 0.5 percentage point.
  - Closing export gaps could add between 0.2 and 0.5 percentage point for Kuwait, Oman, Qatar, and Saudi Arabia.
- Summary quantified impacts:
  - Closing FDI gaps: up to one percentage point increase in real non-oil per capita GDP growth.
  - Closing export gaps: additional increase in the range of 0.2-0.5 percentage point.

### Policy priorities and recommendations
- Continue to invest in human capital by strengthening education systems to provide knowledge and skills needed for the modern economy.
- Implement labor market reforms to improve productivity, reduce unit labor costs, and boost competitiveness of the non-oil economy.
- Put in place legal frameworks that ensure predictability and protection, including for minority investors; provide dispute prevention and resolution mechanisms; implement anti-bribery and integrity measures in public governance; address conflicts of interest.
- Improve the business climate:
  - Further liberalize foreign ownership regulations.
  - Strengthen corporate governance standards and practices.
  - Lower restrictions on mobility of foreign workers to enhance competition and promote trade and investment.
  - Reduce trade costs by streamlining and automating border procedures.
- Further reduce non-tariff barriers to trade and strengthen regulatory co-operation with main trading partners; contribute to multilateral reduction of such barriers; engage in trade negotiations with countries with high trade complementarity and no free trade agreement.
- Reduce role of the public sector in the economy to help boost FDI and develop tradable sectors.
- Raise efficiency of public investment and focus it on upgrading key infrastructure that facilitates trade and investment.
- Improve public procurement based on transparency, accountability, and equitable treatment for potential suppliers.

*International Monetary Fund — Trade and Foreign Investment (selected excerpts).*

### 2.      The results indicate that the size of the country, per capita income, REER and

### 2.      The results indicate that the size of the country, per capita income, REER and 

### Determinants of total and goods exports (non-commodity exporters)
- Key positive determinants of total exports: population (country size), GDP per capita, and human capital (Table A1, sub-model (1)).
- REER is a significant negative determinant of total exports (Table A1, sub-model (1)).
- Inflation (proxy for macroeconomic instability) reduces total exports only marginally.
- Tariffs and fixed telephone lines have expected signs but are not statistically significant in sub-model (1).
- Comparable results obtain when dependent variable is goods exports instead of total exports (sub-model (2)).
- Export diversification and sophistication can be partially explained by the same variables; regressions for diversification and sophistication (sub-models (3) and (4)) were run on a sample of both commodity and non-commodity exporters with commodity-exporter dummies included.

Key coefficients and significance from Table A1 (selected):
- Population: 0.812*** (Total exports, (1)); 0.921*** (Goods exports, (2)); -0.063*** (Diversification, (3)); 0.058*** (Sophistication, (4)).
- GDP per capita: 0.933*** (1); 0.943*** (2); -0.039 (3); 0.124*** (4).
- REER: -0.376*** (1); -0.343** (2); 0.135** (3); -0.102* (4).
- Human capital: 0.127** (1); 0.124 (2); -0.046** (3); 0.053** (4).
- Inflation: -0.020* (1); -0.042*** (2); 0.005 (3); 0.004 (4).
- Infrastructure (fixed telephone lines): 0.017 (1); 0.015 (2); -0.037** (3); 0.062*** (4).
- Commodity exporter dummy: 0.368*** (Diversification, (3)); -0.617*** (Sophistication, (4)).
- Number of countries: 112 (columns (1) and (2)), 152 (3), 151 (4).
- Observations: 1510 (1); 1512 (2); 1775 (3); 1783 (4).
- Sample period: 1989-2015 (columns (1) and (2)); 1989-2013 (columns (3) and (4)).
- Note: All variables in Table A1 are in natural logs.

### Determinants of non-oil exports in commodity exporters (shorter sample; quality of legal system, non-tariff barriers, education quality)
- Regressions including quality of legal system (proxy for business climate), non-tariff barriers, and quality of education (dropping gross tertiary enrolment) were not statistically significant in the non-commodity exporter sample but are statistically significant for commodity exporters (Table A2).
- When separately included for commodity exporters, quality of legal system, non-tariff barriers (GCI prevalence of trade restrictions), and education quality (GCI higher education sub-component) have expected positive signs.

Selected coefficients from Table A2 (commodity exporter regressions):
- Population: 0.722*** (1); 0.734*** (2); 0.687*** (3); 0.638*** (4).
- GDP per capita: 0.605*** (1); 0.329*** (2); 0.663*** (3); 0.534*** (4).
- REER: -0.543** (1); 0.418 (2); -0.292*** (3); -0.238*** (4).
- Tariffs: -0.146** (1); -0.126** (2); -0.126* (3); -0.083 (4).
- Quality of legal system: 0.330** (1); 0.536** (3).
- Non-tariff barriers: 0.446* (1).
- Education quality: 0.456** (2); 0.467** (3).
- Number of countries: 37 (1); 29 (2); 35 (3); 32 (4).
- Observations: 279 (1); 126 (2); 246 (3); 224 (4).
- Sample period: 1991-2015 (1); 2007-2015 (other columns).

### Gravity-model estimation of potential intra-GCC trade
- Gravity model regressions use PPML (Poisson Pseudo Maximum Likelihood) to handle zero bilateral trade values, estimated on non-commodity exporters, covering 1989-2014 (equation (2)).
- Bilateral trade and gravity data sourced from CEPII (Mayer and Zignago, 2011).
- PPML results reported in Table A3, sub-model (4).

Selected bilateral trade coefficients (Table A3, PPML columns (3) and (4)):
- Log of exporter’s population: 0.841*** (3); 0.845*** (4).
- Log of importer’s population: 0.787*** (3); 0.790*** (4).
- Log of exporter’s GDP per capita: 0.683*** (3); 0.688*** (4).
- Log of importer’s GDP per capita: 0.779*** (3); 0.782*** (4).
- Log of distance: -0.519*** (3); -0.519*** (4).
- Contiguity dummy: 0.554*** (3); 0.549*** (4).
- Common-language dummy: 0.324*** (3); 0.323*** (4).
- Landlocked-exporter dummy: -0.122*** (3); -0.120*** (4).
- Landlocked-importer dummy: -0.302*** (3); -0.301*** (4).
- Free-trade agreement dummy: 0.314*** (3); 0.321*** (4).
- Observations: 388939 (PPML column (3)); 521237 (PPML column (4)).

### Regression analysis of FDI potential
- Determinants of FDI inflows/GDP estimated using equation (3) on 64 non-commodity exporters (including 41 EMDEs), covering 1995-2016.
- Explanatory variables include education, trade openness, institutional quality, capital account openness, real GDP growth, and exchange rate regime; all explanatory variables lagged by one period.
- Sample restricted to non-commodity exporters to estimate FDI potential for GCC if more diversified. Results reported in Table A4.

Selected findings and coefficients from Table A4:
- Openness: coefficients vary across specifications, e.g., 0.014* (1); 0.032*** (5); 0.018*** (7).
- Quality of legal system: mixed significance; e.g., 0.629*** (2); 0.696*** (4); in some specifications not significant or negative.
- Capital account restriction: negative coefficients in several specifications; e.g., -0.989*** (5); -2.104*** (6).
- Real GDP growth rate: positive and often significant, e.g., 0.118*** (1); 0.150*** (5).
- Fixed exchange rate dummy: 0.755** (1); other columns mixed.
- Human capital: positive and often significant, e.g., 0.021** (1); 0.030*** (2); 0.049*** (3).
- Minority investor protection (logged): 7.920*** (column where included); its interaction with non-commodity exporter is -10.448*** (large negative interaction).
- Non-commodity exporter dummy: 43.005*** and 45.429*** in specifications where included.
- Observations and samples vary by specification: Observations reported as 1,110 (columns where specified) and 652 (some columns); Number of countries ranges (e.g., 64, 41, 44, 18, 81 depending on column).
- Regressions (1)-(6) exclude commodity exporters (CE); human capital proxied by secondary school enrollment.

### Regression analysis of growth (real per capita GDP growth)
- System-GMM estimator used on five-year averaged data covering 1960-2013 for non-commodity exporters (equation (4)); regressors treated as endogenous with lags used as instruments.
- Regressors include initial GDP per capita, human capital (labor force education), infrastructure (fixed telephone lines), trade openness ((EX+IM)/GDP), export diversification index, export sophistication index, and inflows of FDI/GDP.
- Results reported in Table A5.

Selected coefficients and diagnostics from Table A5:
- Initial GDP per capita: negative and highly significant across specifications, e.g., -4.217*** (1); -3.909*** (2); -3.652*** (7).
- Labor force education: coefficients generally negative but not significant in most specifications (e.g., -0.451 (1); -1.041 (2)).
- Infrastructure: positive and significant in several specifications, e.g., 1.958*** (1); 1.429** (2); 2.417*** (4); 2.598*** (5).
- (EX+IM)/GDP (trade openness): 3.191*** (1); 2.761*** (2); 2.478*** (3); 2.482** (7).
- Export diversification: -5.232** (column where included); other columns show mixed significance (-2.623; -4.435*).
- Export sophistication: 5.419*** (column where included); 5.515*** and 3.960*** in other columns.
- Inflows of FDI/GDP: 0.370***; 0.412***; 0.350*** in columns where included.
- Number of observations: ranges from 726 to 800 across specifications.
- Number of countries: ranges from 89 to 96 across specifications.
- Hansen test p-values: e.g., 0.287 (1); 0.623 (2); 0.399 (3); indicating instrument validity in reported columns.
- p-value of AR(1) statistic: e.g., 0.0436 (1); p-value of AR(2) statistic: e.g., 0.431 (1).

*International Monetary Fund — pp120618gcc-trade-and-foreign-investment (excerpts from section 2 and accompanying appendices and tables).*

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_Source: https://www.imf.org/-/media/files/publications/pp/2018/pp120618gcc-trade-and-foreign-investment.pdf_