Middle East and Central Asia

Regional Economic Outlook: Middle East and Central Asia

October 2019

Full Report

The impact on growth in the Middle East, North Africa, Afghanistan, and Pakistan (MENAP) region from global headwinds remains muted thus far, while growth in the Caucasus and Central Asia (CCA) region is stable. However, growth is too low to meet the needs of growing populations, while risks to the outlook have increased. They include global trade uncertainties, volatile oil prices, geopolitical tensions, and domestic vulnerabilities in some countries.

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    MENAP Summary

    The impact on growth in the Middle East, North Africa, Afghanistan, and Pakistan (MENAP) region from global headwinds remains muted thus far. However, growth remains too low to meet the needs of growing populations, while risks to the outlook have increased. They include global trade uncertainties, volatile oil prices, geopolitical tensions, and domestic vulnerabilities in some countries.

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    Oil Exporters
  1. Growth for MENAP oil exporters, excluding Iran and conflict countries, will soften to 1.3 percent this year on lower and more volatile global oil prices, geopolitical tensions, and the global slowdown.
  2. With slowing productivity and rising fiscal vulnerabilities in some countries, expansionary fiscal policy would have only a modest impact on growth while reinforcing risks from a volatile oil market and lower projected oil prices.
  3. Reducing fiscal vulnerabilities combined with enhanced emphasis on structural reforms would boost private activity and attract investment, thus helping to lift productivity and potential growth.

    Oil Importers
  4. While easier global financial conditions provide temporary relief to MENAP oil importers, the growth outlook remains muted, with growth projected at 3.6 percent this year and 3.7 percent in 2020. 
  5. Elevated public debt is holding down growth in the region and creating acute fiscal stress amid global headwinds, volatile oil prices, and sustained social tensions.
  6. Governments confront a difficult trade-off between reducing fiscal deficits and raising growth. Growth-friendly fiscal consolidation and structural reforms can help boost growth and spur job creation. 

  7. Analytical chapters: Capital Flows
  8. Economies in the Middle East and Central Asia have seen a recent surge in portfolio inflows, now accounting for about 20 percent of the total portfolio inflows to emerging markets, relative to merely 5 percent before the global financial crisis, while foreign direct investment (FDI) has more than halved since 2008.
  9. Portfolio flows to the region’s economies are nearly twice as sensitive to global market sentiment compared to other emerging economies, exposing the region to abrupt shifts in such sentiments. If the VIX were to double from its 2018 level, portfolio inflows to the region would be halved, with the impact being stronger in oil-importing countries.
  10. Revitalizing FDI by easing restrictions and promoting macroeconomic stability while deepening domestic financial markets can provide more stable sources of funding, thus mitigating the risk of volatile portfolio flows. 

    Analytical chapters: Fiscal Institutions
  11. Weak fiscal institutions in economies in the Middle East and Central Asia are associated with poor fiscal outcomes, rising debt and deficits, and procyclical fiscal policy. 
  12. Improving fiscal institutions, including adopting and implementing flexible fiscal rules with monitoring and enforcement mechanisms, could slow the pace of public debt build-up by 4 percent of GDP on average across the region. Improving transparency and establishing a credible medium-term fiscal framework could also help reduce procyclicality of government spending, especially in the region’s oil exporters.
  13. Greater transparency combined with strengthened procurement processes could lower the volatility of discretionary government spending by 13 percent and improve the predictability of fiscal policy.
  14. MENA Key Indicators

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    CCA Summary

    Global trade tensions and slowing growth in key trading partners are affecting the Caucasus and Central Asia (CCA) region. However, despite a decline in export growth, a looser fiscal stance and rising retail credit will maintain broadly stable growth for the region in 2019–20. To foster higher and more inclusive growth and raise living standards, CCA policymakers should strengthen competitiveness, leverage comparative advantages, and foster diverse sources of growth to reap the gains from trade and integration into global value chains.

    CCA Outlook

  15. Global trade tensions and slowing growth in key trading partners are contributing to a sharp fall in exports from the CCA region.
  16. However, increased fiscal spending is helping to offset the impact of slowing trade, providing a small boost, with overall growth projected at 4.4 percent in 2019-20.
  17. Strengthening competitiveness and diversifying sources of growth could help the region integrate into global value chains and reap the gains from higher trade.
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     Analytical chapters: Capital Flows
  19. Economies in the Middle East and Central Asia have seen a recent surge in portfolio inflows, now accounting for about 20 percent of the total portfolio inflows to emerging markets, relative to merely 5 percent before the global financial crisis, while foreign direct investment (FDI) has more than halved since 2008.
  20. Portfolio flows to the region’s economies are nearly twice as sensitive to global market sentiment compared to other emerging economies, exposing the region to abrupt shifts in such sentiments. If the VIX were to double from its 2018 level, portfolio inflows to the region would be halved, with the impact being stronger in oil-importing countries.
  21. Revitalizing FDI by easing restrictions and promoting macroeconomic stability while deepening domestic financial markets can provide more stable sources of funding, thus mitigating the risk of volatile portfolio flows. 

    Analytical chapters: Fiscal Institutions
  22. Weak fiscal institutions in economies in the Middle East and Central Asia are associated with poor fiscal outcomes, rising debt and deficits, and procyclical fiscal policy. 
  23. Improving fiscal institutions, including adopting and implementing flexible fiscal rules with monitoring and enforcement mechanisms, could slow the pace of public debt build-up by 4 percent of GDP on average across the region. Improving transparency and establishing a credible medium-term fiscal framework could also help reduce procyclicality of government spending, especially in the region’s oil exporters.
  24. Greater transparency combined with strengthened procurement processes could lower the volatility of discretionary government spending by 13 percent and improve the predictability of fiscal policy.
    CCA-REO-1029-Key-Indicators
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    Global Developments : Implications for the Middle East and Central Asia Region

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    Global developments continue to impact the Middle East and Central Asia (MCD) region. Average growth worldwide has once more been revised down and is anticipated to reach 3 percent in 2019, and 3.4 percent in 2020 versus projections one year ago of 3.7 percent for both of these years (see October 2019 World Economic Outlook). Although the reduction in global demand may be partly offset by the recent loosening of global monetary policy, concentration of the slowdown among key trading partners (especially Europe and China) has amplified the impact on the MCD region. Despite rising geopolitical tensions, including those related to Iran, recent disruptions to Saudi Arabia’s oil production, and ongoing conflicts in the region (Libya, Yemen), global oil prices have remained low and financial conditions relatively loose.

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    MENAP Oil-Exporting Countries : Transitioning to a Sustainable Fiscal Position and Higher Growth

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    Growth in the near term remains subdued for oil exporters in the Middle East, North Africa, Afghanistan, and Pakistan (MENAP) region, amid volatile oil prices, precarious global growth, elevated fiscal vulnerabilities, and heightened geopolitical tensions. In addition, declining productivity is dampening medium-term growth prospects. To reduce dependence on oil prices and pave the way for more sustainable growth, fiscal consolidation needs to resume, underpinned by improved medium-term fiscal frameworks. In parallel, structural reforms and further financial sector development would boost foreign direct investment (FDI) and domestic private investment and foster diversification, thus contributing to improved productivity and potential growth.

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    MENAP Oil-Importing Countries : Addressing Fiscal Challenges amid Social Pressures

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    Growth in oil-importing countries in the Middle East, North Africa, Afghanistan, and Pakistan (MENAP) region is expected to be muted in coming years, and lower than comparators. High public debt levels and associated financing costs are not only holding back growth in the region, but also pose a source of acute fiscal stress. Yet a mix of sustained social tensions, unemployment, and global headwinds leave policymakers facing a difficult trade-off between rebuilding fiscal buffers and addressing growth challenges. For now, supportive global financial conditions and lower oil prices are helping to ease this trade-off. But managing high levels of public indebtedness will require fiscal consolidation and policies to deliver higher, more inclusive growth.

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    Caucasus and Central Asia : Boosting Competitiveness for Higher and More Inclusive Growth

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    Global trade tensions and slowing growth in key trading partners are affecting the Caucasus and Central Asia (CCA) region. However, despite a decline in export growth, growth will remain broadly stable in 2019–20, supported by a looser fiscal stance and private sector credit growth. Nevertheless, a slowdown in total factor productivity—especially in the region’s oil and gas exporters—points to lower potential growth and underscores the challenge of creating enough jobs for new workers. To foster higher and more inclusive growth and raise living standards, CCA policymakers should strengthen competitiveness, leverage comparative advantages, and foster diverse sources of growth to reap the gains from trade and integration into global value chains. This will include promoting private-sector-led growth, improving the efficiency of state-owned enterprises, and ensuring a well-functioning labor market. Macroeconomic policies should focus on addressing weak banking sectors, strengthening fiscal institutions, investing in infrastructure and human capital, and upgrading monetary policy frameworks to sustain stable and low inflation and support greater exchange rate flexibility.

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    Capital Flows to MENAP and the CCA : Opportunities and Risks

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    Capital flows to the Middle East and Central Asian countries have been resilient even as global financial conditions tightened in 2014–16. Such flows have helped finance current account and fiscal deficits, allowing for more gradual policy adjustments. As the region has become more integrated into global financial markets, portfolio and bank flows have nearly doubled over the last decade; foreign direct investment (FDI) has almost halved, however, reflecting weaker fundamentals. Governments need to seize the benefits of capital inflows while mitigating risks stemming from global financial market volatility, especially global risk sentiment, to which the region is twice as sensitive compared to other emerging market economies. This means revitalizing FDI by easing restrictions and promoting macroeconomic stability in the near term and boosting potential growth over the medium term. Ensuring fiscal sustainability, utilizing macroprudential tools, and, where appropriate, allowing for more flexible exchange rates can help contain the risks from capital flow volatility. Deepening and developing domestic financial markets, especially through strengthening legal frameworks, remains a key priority.

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    Fiscal Institutions and Fiscal Outcomes

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    Countries in the Middle East and Central Asia are facing significant fiscal challenges, amid volatile oil prices, subdued growth, and conflicts. Weak fiscal institutions have contributed to spending inefficiencies, rising debt and deficits, and procyclical fiscal policy, especially in countries in the Middle East, North Africa, Afghanistan, and Pakistan (MENAP) region. Improving fiscal transparency, establishing credible medium-term fiscal frameworks (MTFFs), strengthening public financial management (PFM), enhancing procurement, and moving toward fiscal rules would help mitigate these vulnerabilities over time.