Money and Finance in the Middle East: Missed Oportunities or Future Prospects?: Volume 6

The Middle East and North Africa (MENA) has witnessed much change over the past few decades. It has experienced the difficulties of post-colonial independence marred by a number of wars. This political instability coupled with too much government control and regulation caused much of the international financial and business community to shun this region for emerging superstars of Southeast Asia. Fund managers estimated that out of a total of US$65 billion of capital floated into emerging markets in the peak year of 1993, only 0.3% trickled to Arab markets. Yet, this region is rich in human capital and natural resources. It is the home of 6% of the world's population with a wealth of highly skilled workers and a gross domestic product (GDP) of over US$600 billion. The region also has some of the world's largest oil reserves. This volume sets out to offer a reappraisal of the performance of international financial arrangements in the MENA region over the past two decades. Reappraisal offers much insight into how countries in the MENA region have been attempting to restructure their financial markets over the past two decades in hopes of attracting and utilizing international capital more effectively. It also proffers an analysis of the future prospects of international capital flows in this region as well as examining a number of case studies for insights into how financial markets operate in the Middle East.

This chapter studies the properties and characteristics of the Middle East and North African (MENA) stock markets, and the prospects and implications of enhanced financial liberalization in the region. It also explores whether these markets can offer international investors unique risk and returns characteristics to diversify international and regional portfolios. Johansen co-integration tests reveal that the Gulf Cooperation Council equity markets still offer international investors the portfolio diversification potentials mainly through mutual funds, while other emerging MENA stock markets like those of Turkey, Egypt, Morocco, and to a lesser extent Jordan have matured, and are now integrated with the world financial markets.

The aim of this study is to determine whether Tunisia could expect an increase in Foreign Direct Investment (FDI) flows in response to the establishment of a Free Trade Agreement (FTA) with the European Union (EU). While the conditions necessary to stimulate the flow of FDI have received considerable attention from economists in recent years, the relationship between trade policy and FDI has not been the subject of in-depth research. The study finds that the partnership agreement between Tunisia and the EU can play a catalytic role in increasing not only the openness of the Tunisian economy, but, subsequently, increasing FDI to Tunisia.

This chapter looks at the development of contractual savings and institutional investors in Egypt, Jordan, Morocco, and Tunisia (EJMT), and their links with the development of equity markets. The chapter identifies four major potential contributions of contractual savings to capital market development as well as “impact pre-conditions” that can help them obtain. It concludes that contractual savings and institutional investors are neither necessary nor sufficient for the development of equity and bond markets. Nevertheless with certain conditions in place they can have a large impact. The presence of these conditions in EJMT are assessed.

Over the last two decades Middle East and North African (MENA) countries like much of the developing countries have experienced a wave of liberalization of their financial sectors. There have been expectations that financial liberalization would enhance economic growth by stimulating savings and investment. The purpose of this chapter is three-folds: (1) to review the literature on the rationale for financial repression; (2) to examine the theoretical and empirical literature on the links between financial liberalization, savings, and investment; and (3) to assess empirically the effect of financial reforms on economic performance in the specific case of MENA countries.

This chapter investigates the relationship between private savings and a broad range of macroeconomic aggregates in the Middle East and North Africa (MENA) over the period 1981–1994. Private savings are explained by the growth rate of income and strong inertia. Public savings crowd out private savings only partially. A financial depth measure suggests that countries with deeper financial systems will tend to have higher private savings. Private credit and real interest rates capture the severity of borrowing constraints and the degree of financial repression. Inflation captures the macroeconomic volatility and has a positive impact on savings.

We investigate the profitability and risk management in banking in two prominent countries in Middle East and North Africa (MENA), Egypt and Lebanon, where banks operate under market-oriented economic regimes. The study covers the 1990s which witnessed banking sector reforms towards a more efficient financial system. Noting the differences in the structure of the banking system and the monetary changes in Egypt and Lebanon, we investigate the impact of liquidity, credit, and capital on bank profitability in each country's banking sector. Based on our findings, we draw conclusions on the strength of risk management practices and enforcement of banking regulations.

This chapter explores various aspects of mergers and acquisitions in the banking industry within a simple model that allows explicit comparison of sector performance before and after the mergers and acquisitions. The industry structure we look at involves a few dominant banks and a competitive fringe, which we take as the structure most likely to resemble the Turkish banking industry in the aftermath of the ongoing restructuring process. Using a reasonable set of parameters to simulate the model, we perform comparative statics exercises regarding the impact of mergers among domestic as well as with foreign banks on equilibrium outcomes.

After reviewing the theoretical and empirical literature on currency substitution, a model is used in this chapter to empirically examine the state of dollarization in Middle East and North African countries, using Lebanon and Egypt as case studies. For Lebanon, despite the decline in inflationary expectations, the expectations of currency depreciation, and an increase in real interest rate differentials between domestic and foreign currencies, dollarization did not decline by the anticipated amount. For Egypt, unlike many Latin American Countries, currency substitution was successfully reversed for a period when the government managed to peg the value of the Egyptian pound to the dollar.

This chapter examines several viable monetary regimes including the introduction of a Palestinian currency operating under a managed float, a Palestinian currency operating under a currency board, a monetary union with Jordan, the status quo that permits the Jordanian dinar, Israeli shekel, and U.S. dollar as legal tender, and finally, dollarization coupled with the introduction of Palestinian coins. Each of these options is compared on the basis of whether or not it enhances macroeconomic stability, provides the benefits of seignorage, deters inflation, stimulates investment, and encourages fiscal and monetary discipline.

This chapter explains dollarization process in Turkey by an extended portfolio model where dollarization is determined by the relative rates of return of domestic and foreign currencies denominated assets, expected change in the exchange rate, exchange rate risk, and credibility of current economic policies. The econometrics results are in line with the intuitive predictions of the model. We have found that interest rate differential and the expected exchange rates are the dominant variables in determining dollarization. This chapter also provides evidence of inertia in the process of dollarization in Turkey.

After investigating debt sustainability in Lebanon, this chapter examines the conduct of monetary policy during the last decade. The empirical section looks at the long-run relationship between the nominal exchange rate and the inflation rate by employing Johansen co-integration technique. The resulting coefficient estimates suggest that while the Lebanese monetary authority has succeeded in containing inflationary pressures by adopting a monetary policy rule targeting the nominal exchange rate, it should have adopted a real exchange rate targeting policy to dampen the effects of its current policy on interest rates, public debt and budget deficits, and the growth in gross domestic product.