MENA

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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.

The Gulf’s Cracked Finance Facade

2019 January 14 by

Gulf stock markets were mixed, with Qatar, Saudi Arabia and Kuwait with 10-25% gains, Bahrain flat, and Oman and the United Arab Emirates with losses on the MSCI index. The OPEC meeting revealed further fractures as Qatar quit the group, and remaining members no longer in control of world oil price direction geared production toward the estimated $90/ barrel break even for budget balance. On the geopolitical front, Saudi and UAE support for the legacy Yemen government’s fight against Houthi rebels came under US and Europe diplomatic and military challenge, as the UN convened an initial round of peace talks in Sweden. As money managers consider their 2019 regional weighting beyond technical index changes, the International Monetary Fund also came out with dual studies on the financial sector and foreign investment climates. They highlighted gaps with emerging market peers that hamper growth, diversification and inclusion, and the findings reinforce near-term aversion that will persist after reallocations temporarily lift performance.

The IMF paper argues that outside Saudi Arabia financial system development lags economic fundamentals, with dominant banks and missing non-bank institutions like pension funds and insurers. Debt markets are nascent and equity activity is sizable but narrow, with large state companies the main participants. Small business and women’s credit access is minimal, in part due to limited knowledge. Overdue reforms include government bond yield curve creation, tighter corporate governance and investor protection rules, and wider international ownership scope.

 Total Gulf Cooperation Council bank assets are $3 trillion, about 200% of gross domestic product in line with other emerging economies, with the non-bank system share at 20%. The UAE sector is biggest and Oman the smallest, and only Bahrain has both wholesale and retail lending. Islamic finance has grown at a 10% clip the past decade, double the conventional rate, with large company funding the preferred business model. Saudi Arabia is an exception with a half dozen non-bank intermediaries, and aims to place sovereign wealth money in local hands now chiefly placed abroad. It is the leading stock market in terms of capitalization and turnover, but Qatar and Kuwait are ahead in relation to output. The GCC just started to issue government bonds to cover fiscal deficits the past five years, and private activity is negligible at 5% of GDP as corporates tap global markets instead.

Scaled by population, the number of equity listings is particularly meager in Oman, and in 2017 the region had just twenty initial public offerings worth $1 billion. Market concentration is high with banks and state-owned enterprises around half of capitalization, and buy and hold primary investors constrain share free float. Foreign ownership is around 5% overall, with Oman and Saudi Arabia still imposing minority company positions. Household borrowing relies on informal family and work channels outside banks, and 60% of youth have accounts compared with 80% of adults, and small firms get 5% of loans. This inclusion gap is identified as a policy priority, but officials must further expand credit bureaus, overhaul insolvency codes and introduce fintech innovations, the survey insists.

Stock market regulation improvement paved the way for the UAE, Qatar and Saudi Arabia to move from the MSCI frontier to core index, but implementation of governance and protection norms remains “weak.” Debt markets lack repos and competitive auctions, and robust disclosure and ratings systems. Currency instruments have been thwarted by the dollar exchange rate peg, and Bahrain has the only sizable mutual fund sector at one-quarter of GDP. Life insurance is “negligible” as a possible catalyst for long term fixed income allocation, and private pension plans are rare. A partial program to remedy these deficiencies would bring modernization benefits that raise per-capital income growth at least half a percent, the document concludes.

Broader trade and investment criticism was also pointed in a separate study, which noted “limited progress” in shifting from oil exports at two-thirds of the total and integrating into global supply chains. The intra-GCC amount was 10% of non-oil commerce and has further contracted with the Qatar embargo. FDI inflows have “stalled” despite rich natural resource endowments with lagging worker skills and productivity. Outside hydrocarbons they are skewed as a result toward real estate, where slowdown in the Dubai hub in particular may match the faltering financial market foundation.

The Middle East-Central Asia’s Wayward Aim

2018 December 24 by

Middle East and Central Asian financial markets are under immediate fire from souring emerging economy sentiment and the Turkey crisis in particular, and also lag on commodity diversification, fiscal discipline, and private business support, according to the International Monetary Fund’s November review. It pointed out that sovereign bond spreads increased 100 basis points through August to mirror the broad emerging market trend, with distinct Turkish banking and trade linkages. Parent banks in Qatar and Lebanon control over 5% of local assets, and Azerbaijan suffers from reduced import demand with lira depreciation. The US-Europe-China trade battle more generally hurts oil, mineral, auto and textile shipments from the area, and will aggravate gross domestic product growth and current account deficit worries already weighing on investor confidence, the IMF signals.

Gulf oil exporters will see 2.5-3% growth through 2019, but the medium term price forecast is for gradual decline to $60/barrel. Public infrastructure spending is the main driver, including Expo 2020 and 2022 World Cup preparations in the United Arab Emirates and Qatar respectively. Other petroleum powers Iran, Iraq and Libya are under international commercial sanctions or still experiencing internal conflict. The combined current account surplus is estimated at $120 billion, with the capital account also receiving inflows from $30 billion in sovereign debt issuance and Saudi Arabia’s MSCI stock market index upgrade. However state-owned companies face a large $135 billion maturity hump next year to warrant caution, the report stresses.

In Saudi Arabia, the UAE, Kuwait and Qatar the fiscal position is balanced or slightly expansionary, but sustainability will require public sector salary and subsidy cuts and tax collection such as recent VAT introduction. Bank liquidity is better but private credit is “tepid” with 5% range annual growth, on weak construction and real estate demand. Borrowing rates are higher in line with US Federal Reserve moves under the dollar exchange rate peg, and small business access is limited although fintech is opening new channels. Bankruptcy law, corporate governance, and credit bureau overhauls are overdue and local corporate bond market development should be a priority. More than one-quarter of employment is government-related, triple the emerging economy average, and domestic job creation is subject to numerous costs and distortions and poor professional education and training.

Arab world oil importers have double the growth at 4.5%, with Egypt and Pakistan leading the way as domestic consumption and remittances strengthen. Current account deficits still average 6.5% of GDP despite 15% export expansion, and Egyptian tourism has recovered with heightened security and resumed direct Russia flights. However reserves are under pressure in Jordan, Tunisia, Pakistan and elsewhere, with bilateral and multilateral financing needed for support. Banks are “stable and adequately capitalized,” but portfolios tilt toward government lending with public debt over 90% of GDP in half the group’s countries. More than 50% of the total is foreign currency-denominated, and interest payments take one-fifth of revenue. Energy subsidy reform is “critical,” but will worsen double-digit inflation that could spur further monetary tightening. Per-capita income growth has been lower than peers the past decade, and overriding challenges include reducing informality and raising productivity with “downside risks” to the outlook.

Central Asia and the Caucuses growth is also in the 4% range, but the rate will ebb over time from economic partner spillover and soft private investment. Exchange rates appreciated against the Russian ruble to help contain inflation, and allow easing in Azerbaijan, Georgia, Kazakhstan and Tajikistan. The negative fiscal balance improved to 4%, as stimulus programs like Kazakhstan’s Nurly Zhol housing plan end. Positive terms of trade and increased foreign direct investment help oil exporters, but current account gaps will widen in the Kyrgyz Republic, Tajikistan and Uzbekistan. Highly dollarized banking systems in Azerbaijan and Georgia are vulnerable to capital outflows and currency swings, and the region will not reach middle-income status for at least two decades. Officials pledge to slash government control and ownership but advance slowly, such as with the Kazakhstan stock exchange’s partial strategic company sales to maintain a positive MSCI return through October. Armenia and Georgia are among featured reformers on the World Bank’s Doing Business list and stiffer bank regulation has been promoted, but securities market infrastructure and oversight languish to investor chagrin, the survey warns in foreshadowing likely 2019 and beyond performance.

Yemen’s Bank Catastrophe Call

2018 December 17 by

As the US and UK call for a ceasefire and reconsider military support for the Saudi-backed Yemeni government’s campaign against Houti rebels, with fierce fighting now around the strategic Hudaydah port, the UN’s special envoy Martin Griffiths  underscored the scope of “economic warfare” accompanying hunger  for an estimated half the 30 million population. He cited “income famine” with years of unpaid civil servant salaries as split officials and central banks in charge in Aden and Sana’a clash over spending and banking and currency policies. The former, headed by President Abdo Rabbu Mansour Hadi operating from Riyadh, authorized fuel access to only licensed importers in September, while the latter spurned the decree and threatened retaliation against complying businesses, banks and money changers. The actions further reinforced fuel and exchange rate squeezes, as the rial slumped 50% against the dollar between July-September on the parallel market. In the view of experts on the ground such as the Sana’a Center for Strategic Studies, the established financial system and currency are at risk of outright collapse to add to the humanitarian catastrophe, without practical steps and policy reforms coordinated by international development institutions and private partners.

Yemen’s is the region’s poorest economy, and the latest International Monetary Fund projections are stark. Once a promising oil exporter, gross domestic product will contract 3% with the civil war, on 40% inflation from staple scarcity and rial depreciation. The fiscal and current account deficits are each estimated around 10% of GDP, and turnarounds next year are predicated on ebbing conflict. Output collapse since the outbreak of hostilities has been worse than in Libya and Syria, and the Fund notes “urgent needs” for food supply and public sector salary assistance. In the Gulf banking sector broadly private credit is “tepid” with state borrowing demand and commodity-related retrenchment in the construction industry, which was the mainstay in Yemen alongside hydrocarbons and agriculture. Saudi Arabia has provided fuel grants and deposited $2 billion to strengthen the currency, but transaction details are sketchy and confidence and substantive effects are so far minimal. In an October visit, special envoy Griffiths called for a collaborative emergency economic plan between local, foreign and regional parties, concentrated on exchange rate and central bank strengthening.

 The UN humanitarian chief, Mark Lowcock, in turn, emphasized that half the population was in pre-famine condition, and two-thirds were “food insecure,” for a once in a century disaster. The international community has a $3 billion appeal underway, with 70% of pledges met according to the latest tally. The Rethinking Yemen’s Economy project, a network of analysts and business and government leaders funded by the European Union, points out that 90% of products were imported commercially before the war, through conglomerates like the Hayel Saeed Anam Group, which now operates out of the United Arab Emirates. Food is still available, but with destroyed distribution channels and consumer purchasing power costs have skyrocketed. Children suffer the most, with over 2 million “acutely malnourished” and also prone to cholera and other preventable diseases. The World Bank has announced a trade finance facility for food shipments and a war risk insurance mechanism is under donor consideration for other cross-border commercial engagement.

Yemen’s banking system was cut off globally over money laundering and terror funding concerns, before the 2011 version of its Arab Spring precipitated the then-President’s ouster and the chain of events to renewed war. European and American correspondents severed all contact from 2015 and refused to accept physical cash common in business dealings, forcing traders into informal currency houses escaping central bank regulation. International reserves quickly depleted as oil revenue was also diverted through these channels, and the monetary authority became completely dysfunctional when the respective Houti- and recognized government rivals were set up in late 2016. Unified supervisory, liquidity management, and payment capabilities no longer exist, as state-owned and private banks must increasingly rely on the two with their own capital crunch. The UN has convened meetings between the sides outside the country in Jordan and Kenya, but beyond informal contact progress is scant. With the currency literally under the gun, the system may be unsustainable and abolition of the two-tier system, which breeds corruption under the official rate, and a shift to a pegged regime as in the rest of Gulf, is likely another unplanned war legacy.

Iran’s Premium Pressure Valve Valuation

2018 December 10 by

The Tehran stock exchange was up 40% in local currency terms in September, although its annual decline was the same magnitude in dollar terms with the rial’s 75% depreciation, as investors rushed into commodity-linked companies able to raise prices ahead of the US’ final round of resumed energy and banking sanctions. The State and Treasury Departments vowed “maximum pressure” to curb Iranian Revolutionary Guard regional adventurism, and trigger negotiations on a new anti-nuclear and terrorism pact to replace the unilaterally shelved 2015 JCPOA joint agreement. They allowed European and Asian signatories still honoring it to provisionally continue oil imports, with the eventual goal of full cutoff. In a “single biggest action” 50 Iranian financial institutions and their domestic and foreign subsidiaries were designated off-limits, including the central bank and well-known state-controlled commercial lenders Melli, Sepah, Saderat and Tejarat.

 The Brussels-based SWIFT cross-border payments network in turn disconnected the group without naming the specific list, as European backers of a “special purpose vehicle” led by France and Germany scramble to finalize a euro-denominated channel to maintain credit and trade links from the original deal. President Hassan Rouhani hailed this potential opening and continued oil shipments at least in the 1 million barrels/day range, as his government with a new technocrat Economy Minister reportedly organized a dedicated sanctions-busting unit. Rial devaluation leveled off before President Trump’s November order, and stock exchange price earnings ratios hit double digits as retail investors tried to preserve savings and access hefty dividend yields. Outside the blacklisted firms across an industry swathe including construction, insurance, mining and shipping they may still find decent prospects, as the country again girds for self-defined external economic onslaught as a regular Islamic Revolution feature.

This fiscal year first quarter from March to June registered over 1.5% gross domestic product growth, according to official statistics, but the International Monetary Fund now predicts contraction at the same level and an even greater 4% drop next year. Inflation is back in double digits with the rial crash and agriculture bad weather, and is projected to leap from 15% currently to 30% in the IMF’s view, with benchmark Islamic Treasury bill yields already near 20%. The government has set aside $4 billion from the sovereign wealth fund and granted foreign exchange preferences to pay for basic food and medicine, which the US pledges also to exempt from trade prohibition on humanitarian grounds. Reprising a program from previous sanctions and war episodes, citizens will receive baskets of staples that could help tip the budget into serious deficit.  Public debt will reach 40% of GDP, as the current account surplus shrinks with slashed oil exports. The President and his team claim ample international reserves to withstand the crisis, estimated at around $100 billion, and previously shifted to euro holdings, but the exact figure is unknown and access and liquidity could be constrained under the repeated US clampdown.

The bilateral confrontation may further delay compliance with the multilateral Financial Action Task Force’s anti-money laundering and terror funding standards, a gap which keeps big Asian and European banks away regardless of sanctions status. Iran has been on the Paris-based body’s “grey list” pending passage of enabling laws, and the deadline was recently extended again to February 2019. In October, lawmakers over hardliner objections approved drafts by a slight margin, which the clerical Guardian Council headed by Supreme Leader Ayatollah Khamenei then rejected as a Western-imposed regulatory and foreign policy threat. Rumors abounded that agreement could compromise incipient crypto-currency arrangements with Russian and Turkish counterparts to circumvent all forms of monitoring, as private foreign exchange traders facing arrest also dabble in that alternative.  However the odds are brighter for other bank reforms, such as a corporate governance bill to boost supervisory disclosure and reporting. After appointing Economy Minister Farhad Dejpasand when his predecessor lost parliamentary confidence, President Rouhani reiterated that financial sector modernization, including deep and diverse capital markets, was a priority. The stock exchange has an over-the-counter market to aid small and midsize companies which will suffer badly in recession, and he pressed also for more large state enterprise divestitures already at $150 million this fiscal year.  These moves may be incremental, but can serve as a partial sanctions antidote while shifting the domestic narrative to overdue structural fixes that seal investor interest.  

Tunisia’s Smothered Spring Scent

2018 November 19 by

Approaching the seventh anniversary of its Arab Spring leading dictator ouster and restoration of competitive democracy as a standout regional example, Tunisia with a rare initial public offering topped MSCI indices with a near 40% gain through the third quarter despite splintering of the longtime ruling coalition and International Monetary Fund criticism of fiscal, monetary and investment policies. The Fund agreed to release another $250 million under its latest program to bring the total disbursed to half the $3 billion committed in 2016, and the World Bank chipped in another $500 million on its own. The infusion should allow issuance of a delayed sovereign bond, which have featured partial guarantees from the US and Japan development agencies. Washington also launched a dedicated “enterprise fund” for the country, following an earlier post-communist transition model, with the aim of stimulating broader capital markets and private sector development. It may be absorbed or modified in the new development finance corporation Congress recently authorized with $60 billion in available lines, as proponents struggle to justify the track record to date and future prospects.

For the past five years the so-called veteran politician “two sheikhs” from the Islamic Ennahda and secular Nidaa Tounes parties headed a fractious unity government, before their pact dissolved in September over chronic economic policy discord and the unlikely rival popularity of appointed Prime Minister Yousseff Chahed, who holds a doctorate in agribusiness. He and allies moved to form their own “National Coalition” grouping ahead of presidential and parliamentary elections next year, as the two previous parties in charge field their own candidates vying for support from the powerful labor union federation. It opposes Fund nostrums from public finance reform to state enterprise selloff, with large scale strikes scheduled for October and November. They follow protests earlier this year in poorer regions over tax hikes, which were met with harsh security force response as tens of thousands of youth flee for Europe amid 25% unemployment.

Prime Minister Chabed promised this year would be the “last difficult one,” with gross domestic product growth just 2.5% and inflation triple that level in August. The 2019 draft budget foregoes additional individual taxes and halves them for tech, textiles, and drug companies, while raising charges on luxury items and bank profits. The Fund urges fiscal discipline with the deficit at 5% of GDP, and monetary tightening with the benchmark rate negative in real terms. Officials have moved slowly to curb energy subsidies and civil service spending, and the central bank continues to refinance commercial credit expanding at a double-digit pace. Tourism rebounded with a $1 billion 25% revenue jump through September, but it is only two-thirds the 2014 sum before the Tunis Bardo Museum and Sousse beach resort terror attacks.  Public debt is now 70% of GDP, and next year servicing will come to over $3 billion, almost double the amount in 2016 with the dinar’s 20% depreciation against the dollar the past two years, according to Finance Minister Ridha Chalghoum. Occasional intervention stemmed the tide, but international reserves are under four months imports against the backdrop of an almost 10% of GDP current account gap.

Despite a 20% export rise through August driven by agricultural, manufacturing and electrical shipments, the trade deficit hit a 60-year high at $4.5 billion with the currency trading at half the 2010 dollar level. Officials spurn Fund recommendations for more “flexibility” fearing outright collapse, as they imposed temporary import limits and introduced more competitive foreign currency auctions. Bad loans in the state-dominated banking system were close to 15% of the total in the first quarter, and new capital adequacy and collateral rules were recently finalized despite the inability to resolve failed institutions and pass anti-money laundering laws. Credit bureau and payment systems upgrades are pending and a Qatar-owned Islamic bank acquired a local counterpart. Corruption suspicions continue to plague these transactions as the Prime Minister and Anti-Corruption Agency declare “war” on the scourge, with the Energy Minister dismissed in August following an investigation. The tiny $10 billion Tunis bourse was admitted to the World Federation of Exchanges along with outperformance this year, but awaits breakthrough privatizations since a telecoms sale was cancelled with the Arab Spring outbreak as investors search for a next leg bounce.

 

 

 

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The Middle East’s Reshuffled Index Deck

2018 October 22 by

Middle East stock markets outperformed Asian and other regional rivals on the MSCI Index through the third quarter, as Gulf hydrocarbons exporters in particular benefited from rising prices and graduation and entry moves across benchmark equity and debt gauges. Following the recent elevation of Qatar and the United Arab Emirates from MSCI’s frontier to core roster, Saudi Arabia as the Gulf’s biggest market with $500 billion capitalization will repeat the pattern next year. Those three along with Bahrain and Kuwait will also soon enter JP Morgan’s EMBI sovereign bond index after issuing $125 billion combined the past two years, at an estimated 10-15% weighting.

Fund managers increased exposure ahead of the changes to support double-digit gains, and Egypt and Tunisia were embraced respectively for good marks on its International Monetary Fund program and a 40% frontier index-leading advance. However the rejiggering did not alter underlying dynamics of lackluster 3% average gross domestic product growth by the IMF’s latest forecast, and longer-term  equity market losses, often attributed to the lack of private sector competiveness and economic diversification. A World Bank report published over the summer highlighted the Arab world’s absence of a venture capital and business startup “ecosystem,” and urged thorough public and corporate governance overhauls even with favorable short-term investor positioning.

Saudi Arabia, which will join the MSCI top tier in May 2019, was a main focus as analysts unraveled the contradictory implications of Crown Prince Mohammed bin Salman’s future reform vision, indefinite delay of the Aramco international IPO with a shift to state petrochemical giant stake buyout, and diplomatic spats before the disappearance and alleged murder of a prominent journalist in Turkey, most notably in the cutoff of commercial and cultural ties with Canada over criticism of a women’s rights activist’s detention. MBS has plowed $45 billion into a tech fund run by Japan’s Softbank, and announced a bet ten times that size on a state of the art new Red Sea city during his global investor forum debut a year ago. Reportedly he was at the top of the acquirer list as electric car entrepreneur Elon Musk considered New York Stock exchange delisting. In the Gulf Cooperation Council, he spearheaded the blockade to isolate Qatar for presumed Iran sympathies,  as the 15% equity market jump there through September were identical. The fragmentation has hurt GCC corporate earnings barely increasing at a 10% annual pace, and disrupted banking ties as exposure from the neighboring Turkey crisis worsens.

GDP growth will only be in the 2.5% range through next year despite oil price rebound to $80/ barrel, on subdued construction from cancelled infrastructure projects and new taxes and subsidy cuts eroding consumption. Spending rose under revised fiscal targets which still project a 3% deficit, while the current account surplus will reach 10% of GDP as reserves improve to $525 billion. The $250 billion Public Investment Fund, the sovereign wealth vehicle where the Crown Prince seeks to boost assets to $400 billion by end-decade, did not completely draw on its holdings but instead borrowed $10 billion from an international bank syndicate so Aramco, rather than pursuing its landmark flotation, could purchase $70 billion ownership in the Sabic chemical group. Government officials, after touting an IPO in world financial centers, may have balked at rigorous disclosure despite hints in Hong Kong and elsewhere that rules could be adjusted.

Egypt was essentially flat as the top core index regional component through the third quarter, and Saudi Arabia and the UAE represent one-tenth of foreign direct investment and the overwhelming remittances source, which along with tourism doubled the services surplus to $10 billion, according to the latest figures. Exports from the new Zohr gas field should shrink the 2.5% of GDP current account gap. For the 2018-19 fiscal year growth is forecast at 5.5%, but inflation is almost 15% after another round of fuel subsidy cuts at IMF instigation. The central bank maintained an 18% policy rate which originally prompted $20 billion overseas allocation into local Treasury bills, but the amount fell $5 billion in August as President Abdel Fattah al-Sisi further cracked down on military, media and former regime opponents. Ex-President Hosni Mubarak’s sons were arrested for previous stock manipulation to underscore current enthusiasm risks with their own hint of orchestration.

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Iran’s Sanctions Pain Analgesic

2018 October 1 by

The Tehran Stock Exchange Index was up 10% in local currency terms in July for a 25% year to date gain, as retail investors desperate for outlets parked savings there, as the rial lost half its value against the dollar with the first stage of US sanctions reactivation. Valuations with low single-digit price-earnings ratios and double-digit dividend yields were attractive on the $150 billion market to offer the prospect of real returns, after inflation breached 15% in the immediate aftermath of exchange rate collapse as the unofficial rate blew past 100,000 to the dollar.  Oil and steel companies were popular as tighter global supply under Washington’s trade curbs served as share supports. Payment service and pension fund listings also got inflows with renewed external financial system cutoff as a result of the Trump administration’s nuclear pact denunciation.

France and Germany announced a possible alternative to the cross-border SWIFT payments network which could maintain Iranian bank correspondent relationships in euros, and Italy allowed smaller ailing banks to maintain ties as it works to resolve a debt crisis. However the US Treasury Department in meetings with foreign counterparts opposed creation of parallel structures, which will likely take years to launch, and suggested that participants would be at risk of dollar-access bans. China could offer its own workaround in the form of the CHIPS international channel started in 2015 to promote Yuan global acceptance, but Beijing is now ensnared in separate bilateral trade and investment tiffs to forestall action. From a simple money-laundering standpoint mainstream foreign banks are essentially sidelined from engagement since Iran’s parliament has not yet passed legislation to comply with basic Financial Action Task Force rules, with the October deadline for returning to the body’s black list imminent. Conservatives aligned with the religious-directed Guardian Council object that standards will compromise funding for terrorist allies like Hezbollah. President Rouhani and his “moderate” team have failed to win backing for broad banking cleanup and modernization into his second term, and the central bank head and labor and finance ministers were all ousted in August votes of no-confidence as real and monetary economy indicators spiraled out of control.

President Rouhani blamed a US “plot” for street protests and possible renewed recession with oil export and foreign investment curbs, after direct inflows fell short of target in 2017 at $5 billion, according to the United Nations. He announced that 10% will be drawn from the sovereign wealth fund to combat sanctions, and that an anti-corruption bill establishing a dedicated tribunal was a legislative priority to assuage public anger at reports of insider currency deals. A former deputy central bank governor was implicated in illegal transactions, and a trial was televised of importers who benefited from favorable rates. Independent banking analysts called on the administration to continue in this vein and release a list of individual and state business borrowers responsible for the bulk of bad debts put at 15% of the total, but officials have so far demurred. The new central bank head was previously a top commercial bank and insurance executive with no mandate for sweeping change.

The post-sanctions strategy stresses reliance on allies and trade partners in the region and Asia. An Iranian investor and manufacturer delegation visited Syria in August to tout reconstruction prospects as President Assad moves with regime help, reportedly amounting to billions of dollars in military and security assets through the Revolutionary Guard’s overseas arm, to defeat the last pockets of rebel resistance. Iran-China transactions were almost $20 billion in the first half, and export potential to neighboring countries is at the same figure, the Chamber of Commerce calculates. In the first quarter of the fiscal year through July, sales rose 25% to Iraq in particular, and devaluation could further aid competitiveness in the Chamber’s view. Iraqi Prime Minister Haider al Abadi initially agreed to comply with the resumed US clampdown, but shifted course to seek continued geographic and historic ties. He formally requested exemptions from Washington as daily trade in energy and agricultural commodities hit a record $50 million in August, according to bilateral sources. Iraqi depositors also insist that regulators maintain relationships to recover money lost to fraud and depreciation in Iranian banks, which have plagued them as relentlessly as decades of sanctions episodes.

 

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