MENA

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Tunisia’s Testing Turnaround Trickle

2019 August 10 by

Tunisia joined other Middle East frontier markets Jordan, Lebanon and Morocco with flat to negative results on the Morgan Stanley Capital International Index through mid-year, as the composite gauge was up 8.5%. Despite billions of dollars in international community support since the Arab Spring eight years ago, it has not escaped lackluster 2-3% gross domestic product growth and now heads into another election cycle with political party unity also stalling. Tourism has recovered from a spate of bombings, but recent terrorist attacks on police posts renewed fears at the same time the over 90 year old president was rushed to hospital before his term ends in November. If incapacitated, the octogenarian parliamentary speaker would assume the position. Legislative polls are slated for October, with the Ennahda wing of the splintered ruling coalition pulling 15% in opinion surveys, and the prime minister’s new party only single digits. An outsider wealthy media executive is ahead in popularity, but may be disqualified since no candidate can use foreign funds. The election code also bars challenge to the basic tenets of the 2011 constitution enshrining secular principles and women’s rights, and strict Islamic candidates have complained.

The IMF in June released another $250 million slice of its latest 4-year $3 billion program, amid “high risks to socially-balanced economic stabilization.” It noted energy price hike backsliding after union and business protests last year, with the powerful workers’ federation a main political force. Its strikes stifled phosphate exports, as official unemployment is over 15% and an estimated 30-40% for youth. Inflation and the central bank policy rate are both around 7.5%, with credit growth also at that pace in the first quarter. The fiscal deficit is under 5% with public debt above 75% of GDP, as dinar depreciation swells the latter. The 11% current account gap in 2018 was the highest in decades as agricultural, electrical and textile exports slumped, leaving reserves under less than three months import cover. Medium-term growth could reach 4-5% with the external payments balance halved under an optimistic reform and donor aid scenario, but the immediate picture is grim. Europe slowdown will further dent foreign investment and remittances, as debt peaks at 100% of output at end-decade, the Fund predicts. It warned against civil servant salary hikes in election promises and further state enterprise borrowing, as value added tax is due to rise 5% inviting popular anger.

 On monetary policy the central bank aims for positive rates after inflation, and has reduced commercial bank refinancing. Capital adequacy is sufficient, but the bad loan portion nears 15% and liquidity ratios are strained. Tightening and exchange rate weakness will continue, with the latter at risk of overshooting with more competitive interbank auctions. Small business funding remains constrained pending credit register and collateral changes, including implementation of a new secured transactions law promoted under a US Agency or International Development initiative. Future donor support is a key variable, especially from the Gulf as it tails off from the immediate Arab Spring aftermath, and sources reevaluate investment prospects, the Fund comments.

A Saudi Arabia Article IV consultation at the same time listed domestic priorities that have assumed urgency in the past decade of actual or threatened regional ruling regime overthrow. The IMF calculated mere 2% growth this year on double-digit unemployment, and worsening fiscal and current account balances. Deflation has set in and credit growth will be in single-digits, as banks grapple with deteriorating loan portfolios and capital markets are unable to fill the funding hole. The sovereign wealth Public Investment Fund has successfully borrowed tens of billions of dollars in high profile external debt operations, but the demonstration effect ended there amid longstanding official and corporate governance doubts. The so-called Vision 2030 has yet to take shape amid chronic internal labor and private sector deficiencies, according to the analysis.

The richest sovereign wealth fund and another Tunisia backer, Abu Dhabi’s ADIA, published its 2018 annual report in July estimating lower 5% yearly returns. Its Middle East/ Africa portfolio was 7% of the total, with developed equities outstripping by 10% emerging market ones as the largest exposure. Allocation responsibilities remain split between internal and external managers, who have begun to follow environmental, social and governance criteria. Tunisia’s anti-corruption efforts still lag as measured in the Fund checkup, testing investor eligibility and patience election reshuffling has yet to grasp.

Iran’s Battered Bank Switch Spirits

2019 July 28 by

Amid worsening stagflation, currency depreciation and the comprehensive US sanctions campaign moving the past month from oil to other exports and Supreme Leader Ayatollah Ali Khameini’s multi-billion dollar religious foundation controlled assets, the Tehran stock market index recently reached a record 240,000 after poultry and chemical company initial public offerings. In dollar terms it still had outperformed the Morgan Stanley Capital International Frontier Index at the end of April with a 7% loss versus MSCI’s 12% on an annual basis, with  price-earnings ratios at eight times or half the broader emerging market universe average. In the earlier stages of the Trump Administration’s self-described economic “maximum pressure” for renegotiation of the anti-nuclear pact, banks long struggling with undercapitalization and double-digit bad loan portfolios were still relative stock exchange buys. President Hassan Rouhani had campaigned on a re-election platform of modernizing and strengthening the sector, including through more independent central bank oversight and capital market diversification.

 In March four banks linked to the powerful military were merged, following a move last year to bring unregulated credit providers, some associated with the Revolutionary Guard (IRGC), under supervision after poor practice triggered depositor runs. Toward the end of the last fiscal year through March system deposits rose one-third to over $150 billion at the prevailing exchange rate, with even Ansar Bank, newly targeted by Washington as IRGC-owned, reporting steady inflows. However the full onslaught since, including the Guard’s official designation as a terrorist organization placing financial institution holdings at greater risk, has reinforced the domestic “resistance” revolutionary philosophy originally driving bank nationalization four decades ago. Instead of recognizing and incrementally addressing a “slow motion crisis,” in the words of a June analysis from the Washington-based Peterson Institute for International Economics, the regime has indefinitely shelved reform. It will be difficult to revive even after the siege passes, and may invite outright collapse that neither the Rouhani nor Trump administrations planned for in ratcheting the confrontation.

Iran’s official statistics reported that gross domestic product shrank 5% last fiscal year and inflation was almost 40% in June, with staple food and medicine prices rising even more. The International Monetary Fund and World Bank predict worse output contraction and 50%-plus inflation this year, in part due to nonstop currency devaluation. The government rate is around 40,000 for defined essential imports, and the parallel one it has tried to muffle with dealer raids has fluctuated between three and four times that level in recent months.

 Oil sales with the end of waivers to US allies were an estimated 500,000 barrels/day in May, one-quarter the total after ramping up in the immediate aftermath of sanctions relief two years ago. The Treasury Department added steel shipments to the prohibited list, in a push championed by White House national security hardliners when separately applying tariffs on China. Unemployment figures have not been updated, with the youth rate already 30%, as big European carmakers Daimler and Peugeot shut local operations. France, Germany and the UK devised a non-dollar alternative payment structure, Instex, to allow cross-border commerce, but it has not yet been tested and will focus initially on pure humanitarian transactions.

The Peterson Institute paper points out that inflation is also due to 20% annual money supply growth, mainly from central bank liquidity injections to state and private lenders over the past year’s sanctions-aggravated crunch. Its lines also fund the budget deficit, estimated to exceed 3% of GDP this year in contrast with previous balance. Central bank head Abdolnasar Hemmati has considered issuing bonds to outside retail and institutional investors as another outlet, as he also received new authority several months ago to experiment with open-market operations in monetary policy. However his priority now is on tightening the central bank’s grip on the payment and foreign exchange systems, and wholly or partially state-run institutions to overcome US pressure magnifying the “bad situation already” into 2018 according to the Peterson research. Capital adequacy at 4% of assets is half the Basel recommended standard, and nonperforming loans are conservatively estimated at 20-30% of the total if international classification norms apply. Iran has relatively low domestic debt at 30% of GDP, and critics argue that it may be able to throw money at the problem, as reform chances are also thrown away for the foreseeable future in the renewed sanctions squeeze recoil.

Sudan’s Dire Deployment Design

2019 July 5 by

After ousting three-decade ruler Omar al-Bashir and beginning negotiations for civilian government transition with demonstrators loosely grouped under a “professionals association,” Sudan’s generals reverted to their harsh stance against opposition forces with widespread attacks and killings. Reports circulated of sweeping arrests and dozens of bodies dumped in the Nile River by the military’s notorious Rapid Deployment Force, also recruiting soldiers for Gulf allies’ fight against the Houthi rebels in Yemen. Saudi Arabia and the United Arab Emirates had pledged $3 billion in assistance to the interim regime before the crackdown, with the budget coffers empty from years of subsidies and underwriting the army and intelligence apparatus. The estimated deficit at 20% of gross domestic product was plugged by central bank lines, releasing a liquidity wave and 50% inflation.

The independence of South Sudan providing 75% of oil revenue, with China as a prized customer, and years of US sanctions imposed after Darfur atrocities otherwise decimated the economy. Banks are near collapse amid a draconian hard currency shortage, as the sovereign is cut off from traditional multilateral funding with its poor human rights record and accumulated $50 billion arrears. Commercial debt is in default trades on “exotic” secondary markets at pennies on the dollar. Holders envisioning eventual global financial reintegration under a peaceful post-Bashir succession had begun organizing a creditors’ committee, before the latest events pre-empted near term “Nile Spring” political and business reforms.

At the same time Khartoum confrontations worsened the International Monetary Fund came out with a dire Article IV consultation on South Sudan, which still must regularly transfer a portion of oil earnings north under the autonomy agreement. It has been in civil war along ethnic lines since 2013, with 40% of the population displaced internally or fleeing to neighboring countries as refugees. Since independence in 2011 real income is down 70%, and a tentative peace agreement signed in late 2018 for power-sharing between the President and Vice President and their rival factions has not yet been implemented under a May deadline. Output shrank over 20% the past three years, although oil production recovered to 150,000 barrels/day early in 2019. In fiscal year 2017-18 almost all petroleum earnings went to repay Sudan and collateralized loans from China and elsewhere. Central bank borrowing covered the budget deficit, as arrears increased an estimated 3% of GDP.

Exchange rate depreciation continues, as commercial banks must surrender holdings in multinational company and international organization “special accounts” to the central bank. The parallel market dollar premium over the official rate was 80% in April, and South Sudan is in “debt distress” with external and domestic backlogs. With peace and a national unity government growth could reach 3.5% this fiscal year, under the reopening of damaged wells that can increase output to 200, 00 barrels/day over the next five years. However the state oil company Nilepet has no financial statements so balance sheet and operating performance is unknown, according to the Fund review. It urges currency market liberalization, bank recapitalization, and economic diversification in agriculture/fishing, and officials agree in theory but insist on gradual moves to cushion volatility with the security situation likewise fluid. The South’s evolution may have presaged Khartoum’s backward slide, and argues against quick reform breakthroughs as Chinese and Gulf companies try to maintain investment values.

In Yemen where Sudanese forces enlisted for combat with the Riyadh-backed internationally recognized government in Aden, a May meeting in Jordan under UN auspices with Houthi representatives over budget and central bank conduct broke down in discord. The Houthis control Hudaydah port, where fierce clashes erupted until a cease-fire. It is a critical food import hub generating tens of millions of dollars in annual revenue. Aden authorities insisted they should be in charge of the money with better administrative capacity to pay overdue civil service salaries, and that Houthi central bank official appointments in the area were illegal. The sides tried to strike a compromise text, but in the end took no action other than to commit to further dialogue. The Sana’s Center for Strategic Studies, whose experts attended the Amman sessions, pointed out the meager result may have been a reflection of the UN Special Envoy having only one dedicated economic staffer amid broader conflict resolution demands, as both Sudans threaten to repeat the pattern.   

Bahrain’s Contradictory Conference Agendas

2019 June 22 by

Bahrain stocks, on a 20% roll through April on the MSCI Frontier index, looked for further grounding as the oil and offshore banking hub will host a regional economic development conference with the long-awaited US aid and diplomatic blueprint for Mideast peace as a centerpiece. It was chosen in part as a relative success story with commodity diversification after launching a global financial services sector decades ago recently reinforced with a new bankruptcy law and full foreign ownership scope. The state aluminum company is a heavyweight accounting for 5% of GDP, on 5% unemployment with two-thirds of workers in the private sector. A government fund offers loans to startup small businesses, as migrants are increasingly steered to low-wage jobs nationals shun. However official positions continue to pay a premium and the Shia majority demand entry as a chronic source of sectarian violence and tension against the ruling Sunni elite. Oil is still half of exports and two-thirds of budget revenue, as last year’s deficit topped 10% of GDP, with neighboring Saudi Arabia leading a $10 billion rescue to seal the hole. A 5% value added tax was introduced in the package, but corporate and income levies and utility subsidy cuts are largely off the table for fear of social unrest. The island ranks high in the Gulf in the World Bank’s Doing Business list with manageable bureaucracy, but education and skills training lag for technical services professionals, according to human resources surveys.

In May MSCI began elevating Saudi stocks to the core index, but large global funds hesitate to raise exposure beyond a fraction of assets, with price-earnings ratios at 20 times and lingering human rights and geopolitical concerns. BlackRock and HSBC unveiled dedicated vehicles at an April gathering in Riyadh, which marked the end of boycotts since the killing of international journalist Khashoggi. It was organized in part to drum up excitement for the Aramco $12 billion external bond instead of the original equity placement, with the proceeds to go toward buying a 70% stake in listed petrochemical giant Sabic. The offer was ten times oversubscribed, but the price fell soon after launch as overseas debt hit 30% of GDP. With the load accumulating local retail investors are new targets for sukuk issuance despite unfamiliarity with the product. With Gulf sovereign bonds now in the benchmark EMBI index after an admission wheeze by sponsor JP Morgan, attention has turned to the trade’s other side, with portfolio managers taking short positions in Oman and Qatar in particular as well in credit default swaps.

Jordan shares were slightly in the red through May, after the country met with donors in London and agreed to extend the $725 million IMF program another year. The King dismissed the previous prime minister and cabinet last June after anti-austerity street protests, and despite a tax amnesty the fiscal deficit will come in over 4%, with public debt at 95% of GDP on continuing state electricity and water company losses. A 10% current account gap leaves usable reserves at $15 billion, and dependence on $10 billion in bilateral and multilateral lines through 2020 alongside Eurobond taps. As host to a million and a half refugees outside the original Palestinian displacement, it looks to an unlikely conference breakthrough to create an alternative   economic and political stability hub.

Iran’s Offsetting Oil Anguish Salve

2019 May 19 by

The Tehran Stock Exchange local index hit the record 200,000 mark despite harsher US sanctions aiming to eliminate oil exports and branding in full the Revolutionary Guard (IRGC), which controls listed companies accounting for an estimated one-fifth of the economy, as a terrorist organization. Investors preferred equities over the battered currency and gold markets as they sought refuge from deepening stagflation, with gross domestic product down 4% on 30% inflation through the last fiscal year ending March, according to government figures. The International Monetary Fund predicts greater output contraction over the next year to 6% as consumer prices rise 40%. Oil earnings fund around half the budget, with last year’s deficit at an historic $15 billion. The central bank, which has just begun formal open market operations, is responsible for 20% money supply expansion to further embed inflation, as it tries to kick-start growth and ensure banking system liquidity.

 Economic and financial sector health is at its worst since 2012, when previous global as opposed to unilateral sanctions pushed Tehran into relief talks with outside powers in exchange for nuclear weapons development monitoring. While Washington has withdrawn from the deal, Europe and Asia are still in, as they look for cross-border payment structures to allow continued trade without drawing US Treasury Department ire. France and Germany championed a special-purpose vehicle for barter exchange in essential goods, but it not yet in effect and may be confined to highly-restricted humanitarian purposes with the Trump Administration’s intended ban on all oil exports and Revolutionary Guard-connected transactions. Iraq is the only country to get permission for a waiver on petroleum shipments, and China and Turkey criticized the decision and may phase them out over time, but their banks and companies are clearly in enforcement cross-hairs. The Bank of Kunlun, a well-known Chinese intermediary, has already faded from the scene, and policy banks leading the bilateral Belt and Road initiative are also on the alert. However domestic retail investors have factored in these outside worst-case scenarios and see local currency value only in shares, with the rial in parallel trading free fall toward 150,000, compared with the 42,000 official rate, after the IRGC’s terrorist designation.

Iranian oil sales through March plunged around 60% from the 1.5 million barrels/day projected in the budget, before the Trump Administration’s zero target was finalized. Non-oil exports slipped 6% to $45 billion, reversing the previous year’s 12% increase. The squeeze’s fiscal hole is exacerbated by widespread tax evasion, estimated at 30-40% of the eligible base according to a parliamentary commission. It also jeopardizes the traditionally positive current account balance and international reserve position, which analysts believe is now below $75 billion, with only a fraction held at home immediately accessible and liquid. Iranian officials claim the stash is ample and that their heavy crude is not readily replaceable by major Gulf producers, and secret transaction channels are in place for backup. However recession was reported across the board in the last September-December 2018 quarter, including agriculture, mining and industry, which plunged 9%. Flooding the past month added economic damage with losses put at $2.5 billion, and catapulted meat and vegetable prices 100% into the Persian New Year, government statistics showed.

The World Bank’s Middle East/ North Africa outlook released for the Spring Meetings forecasts another year of near 4% contraction, a 5% of GDP fiscal deficit, and slight current account surplus. It will be the only country in the region in recession, with unemployment also expected to worsen to 15% on youth joblessness double that figure. Multilateral agency observers cite promised banking sector reforms, including central bank monetary policy conduct through benchmark Islamic finance instruments, bond and interbank market deepening, and stricter independent regulatory oversight as pathways out of crisis. They have long advocated exchange-rate unification, shelved indefinitely a year ago when emergency import measures and an informal dealing crackdown were imposed when the US left the nuclear agreement. Iran’s Budget and Planning Organization head admitted in April that the “ approach is not working” with fraud and embezzlement and offshore flight allegedly pervasive. The multi-tier system may be simplified in an open electronic platform, as central bank governor Abdolnasser Hemmati also points to “psychological factors” in currency panic due to linger without broader economic policy sanity.

Israel’s Blunted Blue and White Whirl

2019 May 11 by

Israeli stocks and bonds now featuring in developed world indices maintained solid gains with Prime Minister Netanyahu’s surprise coalition re-election victory, after the opposition Blue and White alliance headed by former military chief Ganz first claimed triumph. He becomes the longest-serving in the post following bargaining with small right-wing parties that may shield him from prosecution on corruption charges while in office. The contest was largely run on the force of the two personalities, with US President Trump also throwing his weight behind the incumbent with recognition of Golan Heights control taken from Syria 40 years ago. The challenger’s economic policies were unclear, but income disparity and high housing costs regularly surfaced as issues despite 3.5% GDP growth and unemployment near that number. Consumption, investment and exports have been strong despite the shekel’s 5% rise to 3.5/dollar this year. Inflation is only 1% with the central bank’s benchmark rate barely positive, but the fiscal deficit has doubled to 3.5%, with public debt close to 65% of output. The Prime Minister signaled no major budget changes during the campaign, after previously backing big state enterprise privatizations through the stock exchange. The investment-grade sovereign rating could be further elevated with such steps, while stocks should continue to advance on good bank and technology listing earnings. Investors also await possible business incentives and capital infusions under a promised US proposal for a fresh Palestinian conflict approach. Netanyahu’s new arrangement has ruled out a formal two-state solution, so the search for creative constructs has become urgent especially with half the population in poverty in the West bank and Gaza, according to World Bank analysis.

Across the border Lebanon is at the other end of the ratings scale at a B minus/C with its MSCI component off 3% in the first quarter, and big Eurobonds maturing in April and May. A cabinet was formed finally, with heavy Hezbollah participation slammed by US Secretary of State Pompeo during a visit. The move will allow over $10 billion in international aid pledged at a conference in France to flow, as Iraq and Syria rebuilding plans are also contemplated. The cabinet cobbling may again be short-term on meager 1.5% growth and double-digit fiscal and current account deficits. A tax crackdown and partial privatizations are expected, but major budget reform like electricity price hikes are off the table. Saudi Arabia lifted its travel ban to help revive Gulf tourism, but oil is still not at the break-even level at home curbing discretionary spending. Both Saudi and Qatari sovereign funds have committed to buying Lebanese bonds, with $5 billion in foreign debt service this year. Both foreign reserves and non-resident bank deposits recently dipped $1 billion, as officials reaffirmed the exchange peg. The former pool covers over a year of imports, and the latter is a vital fixed-income investor base largely drawn from wealthy expatriates. Along with the Hezbollah presence, the government risks alienating donor agencies with a harder line against the estimated million Syrian refugees arriving since the civil war. They are barred from formal employment and receive limited education, as authorities have begun to urge a return home despite dire infrastructure and security embrace.

Egypt’s Punctuated Lavish Praise

2019 May 5 by

Egyptian bonds and stocks, the latter up 15% on the Morgan Stanley Capital International core emerging markets index in the first quarter, continued to draw strong foreign investor inflows around the spring International Monetary Fund-World Bank gathering. Government officials fanned out to promote an economic comeback and political stability narrative to public and private sector counterparts, with President Abdel Fattah El-Sisi showered by US President Donald Trump’s “great job” praise in a White House meeting. The former army chief won a landslide 97% election victory last year, and is on track to secure constitutional extensions that could keep him in the post another 15 years. He agreed to a $12 billion IMF program in 2016, due to expire later this year, which floated the currency and cut fuel subsidies to win sovereign ratings upgrades to “B” and “positive.”

 The stock exchange prepared for another wave of state bank and enterprise partial sales following burst decades ago, and with the pound finally settling at its market level, overseas portfolio managers snapped up local Treasury bills with double-digit yields. Foreign reserves have tripled to $45 billion from their precarious position before the Fund package, with offshore natural gas discovery joining tourism rebound to boost external accounts. However inflation is almost 15% and the fiscal deficit is stuck in high single digits in relation to gross domestic product. Improving indicators otherwise may have come at the cost of runaway public debt, over 90% of GDP, to invite a “great job” rethink on the President’s longer-term performance and reform path.

GDP growth in 2019 is set at 5.5% as a Middle East-North Africa region leader, aided by “megaprojects” such as Suez Canal widening and the $45 billion Cairo relocation to a new administrative capital. The government’s “Vision 2030” charts a diversification strategy for the coming decades that also slashes poverty to meet the United Nations’ Sustainable Development Goals. Banks have been directed to earmark one-fifth of loans over time to small and midsize business to support that sector. A foreign direct investment push is designed to increase the current $7 billion take, equal to 3% of GDP, after new bankruptcy, profit repatriation, and residency laws were passed. In their Washington rounds, officials noted that US company total commitments around $25 billion represented 40% of their Africa total, and that Suez Canal modernization will complement the continent’s nascent sweeping free trade zone.

The fiscal targets in the $12 billion Fund agreement have been met despite the steep headline deficit, with a 2% primary surplus expected this year on higher tax collection. Food prices, and electricity and fuel tariff hikes with subsidy reduction, are the main inflation drivers. The currency is firm at around 17.5/dollar, and the central bank recently cut interest rates 100 basis points. The inflation goal is 9% by year-end with additional 3% leeway, and foreign investment in local government paper may double to $20 billion should it be within reach, but the more likely scenario is position unwinding that in turn weakens the pound. The current account gap will come in around 2% of GDP despite Zohr gas field production and tourism revenue approaching its pre-Arab Spring peak, with slumping Gulf remittances and expanding import appetite. Egyptian representatives conceded these points during the Bretton Woods meetings week, but countered that the domestic consumption could draw on a large 85 million population as reported unemployment fell to a decade low 9%. Standard Chartered Bank echoed these views in a January review predicting Egypt’s ascent to a top 10 global economy in 2030, with $8 trillion in output as Africa’s giant.

Bank balance sheets revived the past five years with Moody’s Ratings assigning a positive outlook, with a 15% increase projected this year. Bad loans at 4.5% of portfolios are one-quarter the amount a decade ago, and capital adequacy is 15% of assets, according to 2018 figures. The loan/deposit ratio is low and local currency deposits are three-quarters of the total. Only 30% of citizens have formal accounts, and greater financial inclusion is to be achieved through digital and technological outreach under a joint industry-regulatory framework. Retail and Islamic lending are promising lines to match trends in neighboring countries, with the youth demographic inviting consumer credit. However one-third of bank assets remain concentrated in government securities, and default or restructuring as widely feared before the IMF program may again be contemplated with exit over the coming months.

Algeria’s Layered Liberation Lament

2019 April 14 by

Thirty years after a popular revolt against one-party military-guided rule that may have been an Arab spring precursor, Algerians took to the streets to demand the 80-year old stricken President not seek another term and that competitive elections be held against the backdrop of long-promised political and economic reform. The late 1980s uprising led to civil war, resulting in tens of thousands of deaths and a harsh army crackdown after an Islamic party election victory was annulled. A state of emergency lasted the next two decades, until the 2011 regional protests, when the authorities also boosted social spending to quell double-digit youth unemployment with vital oil export prices still high. The state hydrocarbons monopoly Sonatrach by then had diversified with Asian partners beyond traditional European ones, with almost all foreign direct investment at less than 1% of GDP in the sector with post-independence access and ownership restrictions in local banks and industries lingering. Foreign exchange in turn has always been strictly controlled despite an active parallel market, while domestic capital market plans dating from the 1990s stalled despite a legal stock exchange launched with World Bank technical advice. President Bouteflika’s brother is also a member of the ruling clique, and business cronies benefiting from import curbs and government contracts have resisted breakaway from the National Liberation Front’s mercantilist and protectionist policies. The regime has suggested a compromise with technocrats in place until a legitimate fresh poll can be organized, but this capability has often been on display at the central bank and finance ministry while influential generals and politicians pull the strings behind the scenes.

Since the 2014 oil price decline, the economy has grown only 2-3% annually and foreign reserves halved to $95 billion, as the IMF’s 2018 Article IV report cited urgent fiscal, monetary and structural overhauls still on the back burner. The current account and budget deficits approach 10% of GDP, and inflation is projected in the 7.5% range this year, aggravated by liquidity injection from central bank borrowing. State banks are sufficiently capitalized and profitable, but the bad loan ratio is in double digits and the government is in arrears to client suppliers. Originally it was to embark on fiscal consolidation through raising fuel and electricity taxes and introduce business climate and currency hedging changes in 2019, but the agenda is off the table with the popular unrest. With public debt at 40% of GDP and constrained domestic bond markets, the Fund proposes external issuance along with modest exchange rate depreciation to address overvaluation. Interest rate subsidies should be phased out, and bankruptcy and creditor rights modernization could aid small business financing.  Allowing overseas majority control in joint ventures, and more flexible and inclusive labor markets are other overdue steps. Increased Treasury bill issuance and maturity extension, and bid-ask spread introduction on the official currency market to shrink the estimated 50% parallel premium should be priorities following the central bank’s recent clarification of non-energy earnings surrender mandates. Bank supervisors are behind in beginning to implement the old Basel II rules, and lack crisis preparation and intervention blueprints. Adjustment strategy before the mass demonstrations predicted budget balance early in the next decade, but political accommodation is now the undefined feature of the larger liberation formula, the report intimates.

The Middle East’s Integrated Introspection

2019 March 10 by

Unlike most other emerging stock markets enjoying a bounce this year, as reflected in Bank of America’s latest asset allocation survey where they were a record overweight, Middle East components Jordan, Lebanon, Morocco and Tunisia have limped through February under international development agency criticism and investor ambivalence. An International Monetary Fund report underscored the lack of trade and financial integration among Maghreb countries Algeria, Libya and Mauritania alongside Morocco-Tunisia despite union proclamation three decades ago. Only the last two are not exclusively focused on commodity exports and are out of conflict and in democratic transition, with group average gross domestic product growth only 2.5% on 25% youth unemployment.

 A separate World Bank analysis examines the economic and social dynamics of possible Syrian refugee return from Jordan, Lebanon and Turkey, which together host the greatest population of the 5.5 million registered outside the country. It dissects the so-called “mobility calculus’ to weigh factors beyond hostility end, such as job, land, and infrastructure access in deciding on repatriation. The study finds these considerations remain overwhelming deterrents along with basic security, and explain why only 100,000 have gone back from neighbors. Damascus’ $400 billion reconstruction price tag, with scant expected Western donor support, is another argument for extended displacement both externally and internally, with equal numbers at large.

In 1989 the five Maghreb members established a free trade area again agreed by representatives in 2010, but it was never ratified.  In contrast Morocco and Tunisia inked pacts with Europe, Turkey and the US and they also joined the World Trade Organization and China’s Belt and Road Initiative. Over one-tenth of imports were Chinese in 2016, although trade openness declined overall with limited progress on product quality and export diversification. Intra-Maghreb commerce is less than 5% of the total, and mostly gas and oil, iron and steel, and clothing. Bilateral direct investment statistics are sparse but flows are “insignificant,” the IMF comments. The main example is Moroccan banks’ cross-border expansion, in the North as well as Sub-Saharan Africa. Number one Attijariiwafa Bank is in Tunisia and Mauritania and a dozen other countries, as the region continues to struggle with weak state-owned lenders. Financial technology has spread, with digital and mobile money regulations now in place. A new Maghreb Bank for Investment and Foreign Trade was created in 2017 with $500 million in capital to promote institutional and payments network integration, but the founders warned the process will be slow amid a spike in global financial volatility.

Tariff, non-tariff and geopolitical barriers persist, with the average 15% duty a departure from the 5% -10% in advanced and developing economies. Cross-border trading rankings in the World Bank’s Doing Business publication are low, reflecting poor logistics performance. Capital movements are typically restricted, with only Morocco’s account relatively liberal, although it still controls currency conversion for profit repatriation. Its more flexible pegged regime against a dollar-euro basket is far from a competitive float, a goal envisioned over a 15-year time horizon. Further Maghreb steps to closer ties as originally promised could forge a single block of 100 million consumers with combined $350 billion GDP, and facilitate global value chain inclusion through positioning as a hub between Europe and Sub-Sahara Africa, the Fund suggests. Trade is complementary and capital markets would benefit from internal reforms and cross-listing arrangements with existing regional zones in West Africa and elsewhere. Morocco embarked on this path with an application to join the English-speaking ECOWAS, and invited banks and brokers to locate in the nascent Casablanca Financial Center for broad geographic reach.

In the eighth year of the Syrian refugee crisis Jordan remains under intense fiscal and social pressure, as the latest IMF program and the World Bank’s mobility reviews point out. Growth was just 2% last year on 4% inflation, as the budget deficit again exceeded the target ahead of the London donor conference at end-February. Tax evasion and state enterprise losses remain widespread, as subsidies stay intact to mitigate the pain of near 20% unemployment. At international community urging, the government issued more work permits to Syrians to allow them formal jobs. However extreme poverty still affects half that population there, the identical rate as at home with reduction urgent in both places, the World Bank concludes.

Lebanon’s Battered Bank Bulwark

2019 February 24 by

Following a year with Middle East stock markets down aside from tiny Tunisia, ratings agencies repeated a gloomy banking sector forecast for 2019, with Lebanon in particular now on a related sovereign debt restructuring precipice as the ratio to gross domestic product tops 150%. S&P Global Ratings in a January report predicts tighter liquidity, falling currencies and geopolitical unrest, while oil importers they should get balance of payments relief. For the region including Turkey annual loan growth will average 7-8%, with Jordan and Lebanon stagnant from a combination of Syrian war refugee and trade spillover and depressed consumption and tourism. Tunisia has upcoming elections and understates bad loans in the absence of international financial reporting standards, as it tries to keep another International Monetary Fund program on track. Banks in Egypt and Morocco depend on expatriate transfers, while Turkey’s must roll over volatile external funding as $40 billion comes due in the next twelve months. Return on assets will fall further to 1.2% despite higher government bond yields, with most countries implementing strict Basel III capital adequacy criteria.

Egypt was removed from the riskiest category on projected medium term 5% GDP growth with rising gas production and tourism. Loan expansion is set at 15%, but double-digit inflation will hurt borrower debt servicing ability. The loan-to-deposit ratio is a conservative 40%, and private sector credit is only 30% of output as banks prefer state company lines and Treasury bill holdings. In Jordan only leader Arab Bank has a cross-border presence for diversification, and amid steady profitability sovereign debt exposure at one-fifth of assets is steep. Morocco’s automotive and phosphate exports will pick up through end-decade, but high unemployment and income inequality stoke social tensions. Banks face increased commercial real estate developer losses to lift bad loans to 7% of the total, and they will turn to domestic capital markets for financing beyond customer deposits, S&P believes. The recent dirham band widening against the currency basket will have negligible balance sheet impact, with the free-float transition timetable extended to 15 years. Tunisia’s economy shows meager 2-3% growth on an uneven reform record to shrink fiscal and current account gaps, with the political cycle likely to again freeze progress. Banks must draw on central bank refinancing, with one-fifth of loans non-performing on glaring asset-liability mismatches, the rater notes.

Lebanon was demoted to the top risk “10” group mainly due to the central bank’s “distorting” stimulus and swap operations. Public debt will hit 155% of GDP at year-end and burdens the sector after an official spate of “financial engineering” deals swapping local for foreign currency obligations. Real estate and construction credit will sour without subsidies, but banks have a solid 70% US dollar and euro- denominated non-resident deposit base and a broader regional footprint. Despite parliamentary elections in 2018 for the first time in a decade, government formation remains in limbo, with billions of dollars in donor pledges suspended as a result. With double-digit budget and current account deficits, and the Finance Minister explicitly raising the restructuring option, Eurobond yields spiked to over 900 basis points over US Treasuries the past month. This year respective totals of $7.5 billion domestic and $3 billion foreign bonds must be rolled over, and the central bank and commercial banks hold 85% of that amount. Gulf allies Qatar and Saudi Arabia are in line to buy paper, as growth is estimated at a meager 2%. Almost $35 billion in reserves supports the 1500 exchange rate peg to the dollar, but the prospect of bond write-downs could unravel the delicate balance and spur severe capital outflows and balance sheet damage.

Debt service will absorb one-quarter of GDP this year, and the central bank will likely have to strike more arrangements such as the “soft leverage” one in place with commercial lenders since 2017, which generated short-term profits on favorable regulatory terms, to preserve buyer appetite. The $11 billion in bilateral and multilateral assistance pledged at last year’s CEDRE conference would almost equal the requirement, but even if accessed with a functioning coalition are soft loans demanding repayment and disbursed with delays. Foreign investors controlling over 10% of Lebanese debt are underweight since early 2018, and default scenarios with 25% haircuts would pare capital positions at leading banks like Blom and Audi to simultaneously tarnish their overseas appeal.