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New IMF chief good news for Arab world

New International Monetary Fund chief Christine Lagarde has promised to give emerging markets a greater role in the macroeconomic monitoring and emergency lending organization, a move that should be a positive for Arab countries.

The IMF lends money to ailing nations — mostly poor — based on a “Washington Consensus” of structural adjustment policies. The idea is that these SAPs will integrate nations into the global economy, which will boost employment, make goods cheaper and provide stability for those nations.

For nations with a poor regard for human rights, IMF’s conditions could possibly increase the income gap between the wealthy and poor. IMF conditions such as spending cuts in social services, massive public sector layoffs, wage freezes to attract foreign investment, weaken public sector rights, devaluing local currencies, abolish price controls on basic foodstuffs and promotion of export-oriented production all put pressure on nations’ poor.

In nations where human rights and democracy are not respected — like many in the Arab world — IMF loans have been widely abused. For example, since dictators ran many borrowing countries between 1972 and 1981, IMF loans were used to boost military spending from $2.5 billion to $29 billion. Developing nations turned to rapid industrialization, building airports and dams, rather than small-scale development projects to assist local economies.

The IMF, headquartered in Washington, D.C., has a “Western” economic philosophy of open trade, but open trade does not suit every nation. And given the recent financial troubles of interconnected, open economies in Europe and the United States, the timing could not be better for emerging market input.

The IMF applies its Washington Consensus because it believes that cocktail of macroeconomic reform will allow debtor nations to repay IMF loans faster. But I would argue this is a quick fix that provides a cosmetic spurt to GDP without actually creating a sustainable improvement of quality of life.

Many Arab nations — even a majority of those still engaged in the Arab Spring revolutions — are largely run by authoritarian figures that spend little on social services because there’s no political pressure, such as elections, to do so; rely on public sector employment because those figures build loyalty through those jobs; rely on military employment for loyalty; have undiversified economies; and institutionally-created income gaps through shoddy welfare systems and lack of homegrown business.

At the root of this problem is the lack of accountability for Arab leaders as a result of weak or nonexistent human rights. Without the threat of being voted out of office and with the military, business elite and public sector dependent on those rulers staying in power, there are few ways to force leaders to cycle the money they earn and keep for themselves back into the economy. As a result, most people remain poor, education becomes less attainable, those nations become less attractive for foreign investment to mine the talent living there and people do not have enough money to do things like become an entrepreneur.

India and China still have rampant income inequality and the latter has a suspect human rights record, but their economies are growing faster than anyone. They will undoubtedly have an increased influence in the Lagarde-led IMF. India built its economy through harnessing the loads of young talent it had at home, making it an attractive place for investment. China closed its economy, has manipulated currency and relied on its 2 billion residents to be its market.

Neither India or China should be a model for macroeconomic policies. Their input, however, could help craft a better model than what we have today.

 

 

 

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Bahrain Trouble Brewing

June 3, 2011 2 comments

UPDATE: Bahrain has rescheduled its Formula 1 Grand Prix for October. It had originally been planned for March, but was pushed back because of civil unrest. That dealt a significant blow to the nation’s tourism industry. It’s unclear what kind of event spectators will get in October — expect a lot of protests. I am sure plenty of devoted racing fans will still attend, but enough people could still be wary about that nation’s situation to provide less of an economic boost than anticipated.

Bahrain has not received the sexy news coverage of its Arab Spring counterparts in Egypt or Libya, but there’s definitely reason for concern in that country that has gone somewhat unnoticed.

A Miami Herald story from Monday sums up what is going on in that tiny island vacation destination:

On May 19, President Barack Obama criticized the Sunni Muslim government’s harsh crackdown on the country’s majority Shiite Muslim population. The crackdown has featured the destruction of Shiite mosques, the jailing and physical abuse of leading opposition political figures and journalists, and official harassment and intimidation of teachers, medical professionals and others.

This is economically significant for several reasons.

The single greatest aid to economic development, aside from education, are stable political institutions. Call me old fashioned, but I don’t believe most investors think a country where there is government-backed torture and killing of peaceful protestors is a safe spot to stash their money.

Bahrain’s situation is more unique because of its advanced banking and regulatory system. The Heritage Foundation ranks it as the freest economy in the Middle East, but that all can change if institutions are overturned. And what was once considered a stable and respectful government has turned out to be something quite different, thus making for some unpredictability. Significantly, the Bahrain Islamic Bank’s credit rating was cut to junk status this week.

To that effect, Moody’s Investor Services downgraded Bahrain’s credit rating to Baa1 with a negative outlook, saying “there seems little prospect of the underlying causes of the unrest being peaceably resolved, at least over the short term.” That is the third-lowest investment rating, which will make it much more expensive and difficult for Bahrain to borrow money, which could stall or prevent large projects and lead to underfunding of various services. It also sends a strong message to investors that the political fiasco in Bahrain is not likely to turn around soon. The International Monetary Fund also readjusted its prediction on Bahrain economic growth from 4.1 percent to 3.1 percent.

Out of a sense of panic or urgency, the Bahrain government responded to the Moody’s downgrade with the cosmetic fix of lifting its state of emergency. That announcement was met with continued protests, as if nothing had changed (because, let’s be honest, nothing did aside from a few tanks pulling out of cities).

Foreign direct investment accounts for $15.8 billion of Bahrain’s economy, putting it 10th in the region. But it falls behind powerhouses such as Saudi Arabia (oil), Israel (technology, stable democratic institutions), Egypt and Qatar. For a country of its size, Bahrain gets a substantial amount of foreign investment — for the time being.

Any domestic instability has to be troubling for international markets and foreign investors. Even before the government crackdown, beatdown, showdown, whatever you want to call it, Bahrain was ranked 36th worldwide in public debt. And while many Middle Eastern nations rely on natural resources — such as oil — for a bulk of its gross domestic product, Bahrain derives 11 percent of its GDP from oil, making it one of the smallest producers of the crude stuff in the Middle East.

So where does a bulk of Bahrain’s economy come from? Tourism. And unless your fanny-packed family of four had insurrection on the travel itinerary, I think Bahrain might be pushed down the list of Middle East hotspots.

Of course, tumbling tourism dollars has been a theme of the Arab Spring — after all, the people carrying out these revolutions are hardly concerned about what John Smith and his three redheaded children think.

If the country must rely on tourism for a sizable portion of its economy, has a large debt burden and still wants to pride itself on being a progressive business economy, it must address its social unrest. This type of instability sends a bad signal to foreign investors — especially if its ability to generate revenue from tourism decreases, which directly affects Bahrain’s debt level.

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