Femise Research Reports

FEMISE is pleased to announce the publication of 10 new Research Reports on its website. These researches have been carried out by members of the FEMISE network and financed by the European Commission. The new reports address issues related to social development and migration between the 2 shores, monetary policies and inflation targeting, liberalisation of services, developpement of firms and flows of capital.

Programme 2006-2007:

FEM31-25R : Efficiency of Monetary Policies in a Changing Macroeconomic Environment, directed by Mongi Boughzala, Université de Tunis El Manar, Tunisia

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Programme 2007-2008:

FEM32-02 : Liberalization of services in Poland and Turkey: A comparative analysis, directed by Subidey Togan, Bilkent University (Centre for International Economics, Ankara, Turkey) and  Jan Michalek, Warsaw University, Poland

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FEM32-05 : Economic Policies, Firms’ Entry and Exit and Economic Performance in Four MENA Countries, directed by Khalid Sekkat, Université Libre de Bruxelles, Belgium

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FEM32-06 : A dynamic long and short term approach to migration between MPC’s and the EU: Demographical framework and the role of economic and social reforms, directed by Alejandro Lorca and Rafael de Arce, Professors, AGREEM – UAM, Spain

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FEM32-12 : The Role of Business Services on Innovation, Productivity, Employment and Exports of Spanish, Turkish and Moroccan Manufacturing Firms, directed by José Antonio Camacho, University of Granada, Spain

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FEM32-14 : Private Capital Flows in Southern Mediterranean Countries : Determinants and Impact on Economic Growth, Domestic Investment and Wage Inequality, directed by Mondher Cherif, ESC Sfax, Tunisia

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FEM32-20: Unemployment, Job Quality and Labour Market Stratification in the MED Region: The cases of Egypt and Morocco, directed by Mona Said, The American University in Cairo, Egypt

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Programme 2008-2009:

FEM33-01: Regional Integration, Firms’ Location and Convergence: An Application to the Euro-Mediterranean Area, directed by Nicolas Péridy, Université de Nantes, Laboratoire d’Economie de Nantes, France

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FEM33-02: Income Inequality and Poverty after Trade Liberalization in MENA Countries, directed by Roby Nathanson, Macro Center for Political Economics, Israel

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FEM33-05: Social Cohesion Policies in Mediterranean Countries: an Assessment of Instruments and Outcomes, directed by Marco Zupi, CeSPI, Rome, Italy

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Currently, there are 3 reports available on 17 launched Studies

Theme 1 : Macroeconomy, Economies in Transition, Flows of Capital & Goods

Theme 2 : Liberalization of Agriculture, Trade in Services, Movement of Persons, and Energy and the Environment

Theme 3 : Development, Employment, the Informal Sector and Fight Against Poverty

Theme 4 : Euro-med Regional Integration and Cooperation and Integration among Southern Mediterranean Countries

Theme 5 : Education, Training and the Role of Women in Enterprises

Theme 3 : Development, Employment, the Informal Sector and Fight Against Poverty

FEM33-02: Income Inequality and Poverty after Trade Liberalization in MENA Countries (Full Report/Rapport Complet, PDF, GB, 178 p., 3,5Mo – Résumé FR – Summary GB)

Leader: Roby Nathanson, Macro Center for Political Economics, Israel

In collaboration with: Khalid Sekkat, University of Brussels, Belgium; Hagar Tzameret-Kercher, Macro Center for Political Economics, Israel; Oleg Glybchenko, Macro Center for Political Economics, Israel

FEM33-05: Social Cohesion Policies in Mediterranean Countries: an Assessment of Instruments and Outcomes (Full Report/Rapport Complet, PDF, GB, 133 p., 1,6Mo – Résumé FR – Summary GB)
Leaders: Marco Zupi, CeSPI, Rome, Italy; Elisenda Estruch-Puertas, CeSPI, Rome, Italy
In collaboration with: Ahmed Driouchi, IEAPS, Al Akhawayn University, Ifrane, Morocco; Marina Izzo, CeSPI, Rome, Italy

Theme 4 : Euro-med Regional Integration and Cooperation and Integration among Southern Mediterranean Countries

FEM33-01: Regional Integration, Firms’ Location and Convergence: An Application to the Euro-Mediterranean Area (Full Report/Rapport Complet, PDF, GB, 118 p., 2,4Mo – Résumé FR – Summary GB)
Leader: Nicolas Péridy (Université de Nantes, Laboratoire d’Economie de Nantes, France)
In collaboration with: Corinne Bagoulla (Université de Nantes, Laboratoire d’Economie de Nantes, France), Ahmed Ghoneim (Cairo University, Faculty of Economics and Political Science, Egypt)

Liberalization of services in Poland and Turkey: A comparative analysis

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Juin 2009

By: Subidey Togan, Bilkent University, Centre for International Economics, Ankara, Turkey; Jan Michalek, Warsaw University, Poland.

In collaboration with: Andżelika Kuźnar, Warsaw School of Economics, Poland; Can Şımga Mugan, Middle East Technical University, Turkey, Katarzyna Kowalska, Warsaw University, Poland; Jan Hagemejer, University of Warsaw, Poland; Tomasz Michalek, University of Warsaw, Poland;  Aleksandra Zieminska, University of Warsaw, Poland; Katarzyna Smiala, University of Warsaw, Poland; Sare Arıcanlı, Turkey

Note: This document has been produced with the financial assistance of the European Union within the context of the FEMISE program. The contents of this document are the sole responsibility of the authors and can under no circumstances be regarded as reflecting the position of the European Union.

Executive Summary

The project is on liberalization of services. Although the propositions regarding the gains from freer trade apply to both goods and services, the liberalization of services is quite different from that of liberalization of merchandise trade. For goods trade, most discussion of liberalization focuses on the elimination of tariffs and non-tariff barriers. On the other hand, barriers to trade in services are typically regulatory in nature, and countries often have little interest in other country’s regulatory regimes or have little confidence in their quality. Hence, liberalization of services in a particular country requires the alignment of regulatory regimes in different service sectors.

In principle, countries can choose to liberalize the markets for services unilaterally by adopting and implementing the international norms such as the ‘Energy Charter Treaty’, ‘Basel Core Principles’, “Basic Agreement on Telecommunications”, and “International Accounting Standards”. Thereby the countries hope to derive efficiency gains. But unfortunately a country cannot on its own gain improved access to larger foreign markets such as the services market of the European Union (EU). In this context, multilateral engagement through negotiations under World Trade Organization’s (WTO) General Agreement on Trade in Services (GATS) could help. But for the multilateral negotiations to be fruitful, the different countries have to recognize mutual interests in reciprocal liberalization. Recognizing these potential mutual gains will allow reciprocal “concessions” that would benefit all. In such a case adoption of WTO rules may lead not only to efficiency gains but also to improved access to larger foreign markets.

The achievement of multilateral liberalization of services seems to be possible in the long run. But liberalization of services through regional trade agreements may in essence be feasible even in the short run. As an example of regional trade agreement consider the EU’s European Neighborhood Policy (ENP). The ENP presents an opportunity to deepen the market integration of the Southern and Eastern neighboring countries of the EU with the EU and increase their participation in global production networks. The perspective of progressively participating in the Internal Market is the most far-reaching aspect of the ENP. To have free trade in services the neighboring countries of the EU are expected to adopt and implement the European Community’s (EC) rules and regulations in the specific service sectors. Here, we note that in the EU services are generally classified into traded and non-traded services. The traded services are further divided into regulated and non-regulated traded services. Among the regulated services we have the key backbone services such as network, financial and maritime transport services. These are all sectors regulated by specific EC Directives. On the other hand professional services such as accounting, legal and engineering services are regulated but are covered by the European Commission’s Services Directive (SD) 2006/123/EC. Finally, services such as tourism and wholesale trade are non-regulated sectors also covered by the SD.

The above considerations reveal that liberalization of services in any country is a challenging task. It involves the reduction of regulatory barriers to market access and discriminatory national treatment across all four modes of supply. The focus of trade liberalization in services is to ensure that existing regulations do not discriminate against foreign participation in the markets of domestic and foreign countries. Moving to a nondiscriminatory regulatory regime can require significant changes in how some service sectors are regulated in a particular country.

To emphasize the difficulties in the liberalization of services consider the case of a Turkish trucking company intending to carry freight to the EU, and the case of a German trucking company intending to carry freight to Turkey. These services will be liberalized if (i) there are no restrictions on Turkish and German trucks to carry freight between the two countries, (ii) no restrictions on Turkish and German trucks to carry freight between any two points within the EU and Turkey respectively, (iii) no restrictions on the establishment and operation of Turkish and German trucking companies within the EU and Turkey respectively, and (iv) no restrictions on Turkish and German road freight transportation service providers or employees of the respective companies to move freely for relatively short periods (temporarily) within the EU and Turkey respectively. Thus, under liberalization both Turkey and Germany would have to adopt laws that do not differentiate between domestic (or intra-EU in the case of Germany) versus foreign (or extra-EU) companies operating in respective countries and mutually recognize all required licenses and certificates. Such situation would allow for effective competition, better exploitation of economies of scale, increase in benefits stemming from network externalities and lower consumer prices. Here we note that Germany and Turkey over time have introduced all kinds of rules and regulations on market access, competition, prices, fiscal conditions, social conditions, technical conditions and safety in their road freight transportation sectors. The German rules and regulations are in general much stricter than the corresponding rules and regulations prevailing in Turkey. Germany in general is not interested in relaxing its rules and regulations. It expects Turkish trucking companies to observe the much stricter rules and regulations prevailing in Germany. As a result liberalization of road freight transportation services between the two countries can only be achieved if Turkey would adopt the German rules and regulations prevailing in the road freight transportation sector, and would enforce these rules and regulations within Turkey.

In this study we consider five types of services, namely accounting, health, air transportation, railway, and road freight services. The study analyzes the liberalization of each service sector in a separate chapter, and each chapter begins with consideration of the basic characteristics of the particular service sector. We study how liberalization of services in those sectors can be carried out by following the unilateral approach as well as the regional approach. When considering the regional approach we concentrate on the cases of Poland, a Member State of the EU, and Turkey, a candidate country for EU accession. We hope that the experiences of Poland and Turkey and the approach to liberalization of services adopted by these countries could serve as a useful model for other neighboring countries of the EU, where liberalization of goods and services is high on the agenda.  Thus, we study in the second section of each chapter the international rules and regulations and in the third section the regulatory regime in the EU in the respective service sector. The fourth and fifth sections in each chapter analyzes the regulatory framework in Turkey and Poland respectively. Finally, after these five chapters on liberalization in different service sectors we assess the effects of liberalization of services in the final and sixth chapter of the study. In this sixth chapter we first try to determine the tariff equivalents of barriers to trade in the relevant service sectors in Poland and Turkey respectively, and thereafter using the tariff equivalents we assess whenever possible the effects of liberalization in the respective service sectors.

In the accounting sector, a comparison of the accounting standards in a large number of countries reveals that differences between standards continue to exist. As trade, investment and capital start to flow freely from country to country, differences in accounting principles impede this flow leading to sub-optimal allocation of resources since resource allocation decisions are based to a great extent on accounting information. A basic characteristic of the accountancy sector is the fact that it is among the most regulated sectors in the world. As emphasized by the literature, the main objectives of regulators of the accountancy sector has been the protection of the public and the promotion of the quality of the service, and these objectives have been pursued through increasingly detailed regulations or standards on most aspects of the accountancy profession and its practice. Since most of these regulations and standards remain national and differ significantly among countries, this variability does not create a context favorable to greater mobility of services and professionals across borders. A comparative analysis of restrictiveness indices in accounting reveals that the most liberal markets for accountancy services are Finland and the Netherlands. These economies maintain few restrictive measures affecting foreign providers of professional services. While Poland maintains an intermediate level of barriers, Turkey is among the most restricted markets for accountancy services. It imposes a number of barriers, notably comprehensive nationality and residency requirements, and barriers on form of establishment and foreign direct investment.

Health services have long been considered not to be tradable across borders. The level of liberalization of health care services within GATS is minimal. But the scope of liberalization of medical services among EU members remains very low as well. The immediate liberalization along with more homogenous regulations seem to be unlikely given the fact that medical services are excluded from Services Directive. Similarly, the scope of discrimination against foreign suppliers of medical services remains high. Given the principle of subsidiarity, the EU aims only to improve citizens’ health security, promote health as well as generate and disseminate knowledge and information on the subject. In order to compare health policies, consumer services and quality outcomes of the EU member countries we used the ‘Euro Health Consumer Index’ (EHCI). The EHCI captures properties of different health care system as seen from the consumer’s point of view, and thus representing a measurement for assessing the differences in efficiency of national systems. Poland, among EU countries, has one of the lowest EHCI score. According to our econometric analysis the main variable explaining the level of EHCI index is the level and percentage of expenditure on health in a country’s GDP. Given the fact that both Poland and Turkey spend very small fraction of their incomes (6.2 and 5.7 percent respectively, with 8.9 on average among OECD countries) on health care services, the quality of these fairly protectionist and non-tradable services remains low in both countries.

The airline sector, due to the complexity of the whole network of interrelated services for a long time, was believed to be a natural monopoly and has been heavily regulated and protected. The process of air services markets liberalization started in Europe in late 1980s with the three EU liberalization packages. The air services market in Europe has been completely reshaped to provide tighter competition, more efficient use of infrastructure and more benefits to consumers. Poland, by implementing relevant EU Directives, has significantly liberalized her air services market. According to Air Liberalization Index used in the study Poland ranked among twenty most liberal air services markets, among all 184 analyzed countries. Turkey, despite significant liberalization, is lagging behind, and was somewhere in the middle of the same ranking scale. The econometric analysis performed in the last chapter demonstrates that the first and the third EU liberalization packages caused the increase in passenger traffic by 18.7 percent and 20.6 percent respectively.

The railway industry in a large number of countries was historically in the hands of vertically integrated operators owned usually by the public sector. The declining share of rail transport of goods and passengers, at the expense of road transportation is visible, at least since the 1970s. Concern about the performance of rail in turn led to a number of railway reforms during late 1990s in the European Union (three liberalization packages till 2007). The overall progress in market access liberalization in the EU countries is measured by the LIB index elaborated jointly by Humboldt University and IBM Consulting Services. After implementing all EU Directives Poland, according to LIB index, has a fairly liberal regime of market access to rail services in terms of fees and other barriers. The empirical analysis in the last chapter shows a positive impact of the development of rail infrastructure on the level of imports of cargo rail traffic and similarly a positive correlation between the level of merchandise trade and the demand for rail services. Furthermore, the analysis indicates that two, out of the three EU rail liberalization packages, had statistically significant and positive impact on cargo services in Europe.  In Poland, however, the effects on the level of service provision are yet to be realized.

The provision of road transportation services relies heavily on the interconnectability of the national road network, the right to operate in different countries, and on uniform regulations. Such situation allows to benefit from the positive network externalities while allowing for international competition assuring effective pricing policies. Governments have realized long ago that international organizations such as the European Conference of Ministers of Transport provide regulatory framework for provision of network services. The EU has put in place EU-wide regulations providing rules to intra-EU trade in road transport services. Aiming for active convergence with the rules and regulations in the road freight sector of the EU is a must for Poland. Currently Turkey is in the process of adopting and implementing the legislative, regulatory and institutional framework of the EU road freight transport sector.  The country by changing the regulatory regime aims to increase competition in the sector, improve the infrastructure and lower the price of road freight transport services. It is shown that Turkey has a fairly competitive road transport market as compared to the EU and Poland, however the degree of foreign discrimination is on the high side.

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Mars 2009

By: Mongi BOUGHZALA, Université de Tunis El Manar, Tunisie

In collaboration with: Lahcen ACHY, INSEA, Morocco; Adel BOUGHRARA, Faculté de Droit et des Sciences Economiques et Politiques de Sousse, Tunisia;  Hasan ERSEL, Sabanci University, Turkey; Fatih ÖZATAY, Tobb University of Economics and Technology, Turkey

Note: This document has been produced with the financial assistance of the European Union within the context of the FEMISE program. The contents of this document are the sole responsibility of the authors and can under no circumstances be regarded as reflecting the position of the European Union.

Executive Summary

Recently, the governments of Egypt, Morocco and Tunisia announced that they are preparing to switch to IT. It is a monetary policy whose fundamental goal is to keep the inflation rate (suitably defined) within a certain publicly announced band around a target rate. The band allows the central bank some flexibility in responding to departures of the actual inflation rate from the target rate. Although the principle of IT is simple, the success of a central bank in implementing it requires certain preconditions. Are these preconditions fulfilled or could they be fulfilled soon enough in these three countries? This report is mainly about their readiness for IT. Indeed, some of the preconditions may be achievable gradually but over a relatively short transition period while some others are not so easy to fulfil. In particular, financial soundness is a major prerequisite, and it is a fact that, although these three countries implemented many important financial reforms, their financial systems remain in various ways rather vulnerable. Fiscal deficits, high public debt and/or severe rates of non performing loans (NPLs) held by the banking system are among the main indicators of this vulnerability.
The first fundamental precondition of IT is the independence, accountability and transparency of the central bank. The central bank must be independent in order to be able to adjust freely the instruments of its monetary policy and therefore to be credible. The concept of independence is often divided into goal and instrument independence (Debelle and Fischer, 1994). In the case of IT, instrument independence is the most crucial since the inflation target is by definition the single main goal of monetary policy. Independence means that the central bank should have enough power and strength to resist any external pressure to deviate from the chosen objective, it also means that the public believes that it is free to make decisions solely in accordance with the requirements of IT, and hence it is in particular free to decide whether or not and when to finance a government budget deficit. It follows that fiscal discipline is a pre-requisite for the credibility of the central bank’s independence.
Accountability and transparency of the central bank are corollaries of its credibility and independence. An independent central bank has to be accountable for its actions to the public concerning the successes and failures of its policy. The public must have the capacity, through its elected representatives, to control and ultimately punish incompetent policymakers in order to create better incentives for them to do their jobs well (Mishkin, 2002). Monetary policy decisions must also be communicated in a clear and regular manner to the public and particularly to financial markets and private economic decision-makers. Transparency should focus on the policy analysis and the operational objectives of the central bank in order to reduce the inflation bias and uncertainties in financial markets (Faust and Svensson, 2001). A transparent monetary policy means that policy decisions (usually changes in short-term interest rates) should not contradict the expectations of the market. Thereby, transparency lowers the cost of achieving the inflation target.
The efficiency of the central bank depends on the degree of development of the country’s financial markets and its stability. It has been shown that the most serious economic contractions arise when there is financial instability (Mishkin, 2002).
Banks that are badly managed, or are under stress for any reason, are likely to lobby the government for relief through any available channels and to undermine the functioning of monetary policy. Higher short term interest rates intended to reduce inflationary pressures are then likely to put fragile banks under more stress and to hurt them more severely. The US experience, in the 1980s with the crisis of the savings and loans associations, and again in the current year (2007-2008) with the sub-prime loan crisis, shows that if a central bank decided to fight inflation, badly managed financial institutions would be put under severe stress and some of them would fail leading to uncertainty and instability.
A fragile banking system may also be unable to deal with free capital mobility and exchange rate volatility since IT cannot succeed unless a flexible exchange rate regime is put in place and only one main target of monetary policy and a single nominal anchor are adopted. In the presence of free capital mobility, stabilisation of the exchange rate subordinates monetary policy to its requirements and may lead to intolerable deviations from the inflation target, which will destroy the credibility of the central bank’s commitment to IT. Nevertheless, According to Mishkin (2002, 2004), the exchange rate flexibility condition may be weakened, and a trade-off between the inflation and exchange rate objectives may be considered within an adapted IT framework.
The existence of a well developed financial system also depends on the soundness of fiscal policy. Fiscal dominance may threaten financial stability since it means that high pressures are put on the financial system and not only on the central bank to finance the government budget deficit. Fiscal discipline is a main pillar for the credibility of the central bank’s independence and the viability of the country’s financial institutions, as it signifies that the central bank and the banks will not be forced eventually to finance government budget deficits by printing money as happened, for example, in Turkey in the 1990s and many other countries before and after.
However central bank independence and fiscal discipline do not imply that monetary and fiscal policies should be totally disconnected. In fact, the lack of harmony with regard to the relationship between the CB and the Ministry of Finance might constitute a potential difficulty. Different views between the monetary and fiscal authorities can in fact send wrong signals to the financial markets as well as to the public. These considerations need to be taken into account, not only in the design of an IT strategy, but also in any monetary strategy.
The report is organized in two parts. Part one is about preparing for IT while part two is about Monetary transmission mechanisms.

I. Preparing for IT
The first part of the report is about country cases. It includes three separate papers on Egypt, Morocco and Tunisia where the authors try to assess to what extent these countries are prepared and how well they are preparing for the transition to a formal inflation targeting regime (IT). These countries can learn from other experiences, in particular the Turkish, which is presented in the fourth paper. The titles of the papers are the following:
1. Readiness to Inflation Targeting: the Case of Egypt
2. Monetary Policy and the preparation for Inflation Targeting in Morocco
3. Readiness of Tunisia for Inflation Targeting
4. Formal Inflation Targeting Experience of Turkey: 2006-2007
In Egypt, the objective of the central bank was set within the context of a general program to move to inflation targeting (IT) once the fundamental machinery needed for its implementation is installed (CBE, 2005). During the transition period, the monetary authority intends to meet its inflation stabilization objective through the management of the short-term interest rates and the control of other factors and shocks that might affect the inflation rate (CBE, 2005). Many reforms and a lot of actions have been taking by the Egyptian authorities to prepare for IT. However, Central bank independence in Egypt has been rather hindered by fiscal dominance and the pressure due to high budget deficits and public debt. Although serious steps have been taken recently under a new law committing the country to the achievement of price stability as the primary objective, prohibiting credit extension to the government, and strengthening central bank independence, Egypt does not yet satisfy some essential IT requirements, including the central banks independence requirement. The existence of a rather fixed exchange rate regime currently constitutes another important obstacle.
The Egyptian monetary policy had been for along time and until recently without a clear anchor for inflation expectations. Even in 2008, the monetary policy strategy carried out by the Egyptian monetary authority is still far from being ccoherent and the CBR does not seem to be the main guide for public’s inflation expectations. Inflation reached a record level of 23 percent in August 2008, a level which has not been reached for at least the last two decades. Despite the reforms undertaken especially since 2003, a lot remains to be done in order to build up the central bank’s credibility.
The level of public debt and budget deficit remain too high. As long as they remain so high the country should not engage in IT. The ongoing rise in the public debt, which inevitably increases the domestic interest rates and may lead to a slower economic activity, could force the central bank to lower the real interest rate and hence to raise the level of inflation.
The absence of a clear cohesive policy framework and the weakness in terms of CB independence reflect a lack of political willingness. Is the Egyptian government really inclined to carry out a policy such as IT? The recent small increases of the interest rate decided by the CBE (during June, July and August 2008) in order to combat inflation seem to indicate that CBE is still reluctant about immediate policy choices and perhaps more about strategic choices and namely switching to IT.
The situation is somehow similar in Tunisia. Recently, the government of Tunisia announced that it is also preparing to move to IT after an indeterminate transition period, and to move to full liberalisation of capital mobility and full convertibility of the Tunisian Dinar (TND).
Although many financial reforms have been undertaken in Tunisia, many of the preconditions for IT are not yet fulfilled. In particular, the central bank of Tunisia (BCT) lacks independence, and the country lacks a strong and transparent financial system. The banks, which dominate this system, remain fragile, and the severity of their non-performing loans (NPLs) problem undermines their effectiveness in performing their role as the most important channel of financial intermediation and transmission of monetary policy signals. The current situation suggests that Tunisia must undertake major reforms before it adopts a full fledged IT policy. There is serious doubt about the transparency, accountability and independence of its central bank (BCT). The lack of a clear performance indicator, the lack of independence from the executive branch of the government and the composition of its board compromise its independence and its credibility. The governor of the BCT is appointed by government decree and is responsible for the management of all the affairs of the bank. He is assisted by a board whose members are appointed by the government. Many reforms have been implemented and laws passed to change and modernize the Tunisian financial system over the last decades. For instance, prior to 1995, the BCT and the ministry of finance in Tunisia controlled on behalf of the government almost every aspect of bank credit and management, and the banks were required to allocate a large portion of their wealth to buy government debt and to finance government projects. This has changed quite radically In July 2001 when the Tunisian government introduced a new banking law, (Law 2001-65) in order to strengthen bank supervision and to help banks deal with the new economic and regulatory environment. However, not all Basle II principles are yet satisfied and, based on the statistics on non-performing loans (NPL), both for private and public banks have high NPL rates. Not surprisingly, public banks have a higher ratio (19.7% in 2006) than private banks (18.7% in 2006). Obviously, the central bank is not using all its legal powers and instruments to rigorously implement the existing regulation and avoid such a low performance.
Targeting broad money growth, in addition to pursuing a highly managed exchange rate regime, has long been the core of the BCT’s monetary policy. Since the early 1990s Tunisia has followed a constant real effective exchange rate rule in an effort to index its nominal exchange rate to the domestic price level in order to protect the competitiveness of Tunisian producers.
It is remarkable that the procedure for competitive tenders actually followed since the mid 1990s has generally been such that the BCT maintains the previously applied interest rate and asks banks to specify only their demand for liquidity. This amounts to a de facto control of short term interest rates. Given that banks are quite dependent on its resources, the BCT usually satisfies their liquidity requests in order to keep interest rates stable. BCT’s policy seems to be driven also by the fear of financial system instability and by the government’s economic development policy and its fiscal deficit than by the rules of its monetary policy. As a result of various contingencies and the government need to meet the financial exigencies of its liabilities, the BCT had to meet requests for liquidity put forward indirectly by the government through the commercial banks, and hence to deviate from its money target. Banks had to supply credits to meet government needs and other demands backed by the government authorities. BCT does not supply funds directly to the government.
It may be argued that the fiscal reforms implemented during the 1990s established new rules and institutions that have led to more fiscal discipline and contributed to the lowering of the inflation rate. The government has also adopted relatively more transparent and more market-based debt management instruments. The government is now required to issue and sell new bonds on the open market to finance its deficit. These reforms led to the development of the government debt market and improved the incentive for the government to master its deficit and to practice fiscal discipline. However, these improvements do not mean that monetary policy had been completely freed from fiscal dominance.
Morocco and its central Bank, Bank El-Maghrib (BAM) seem be the candidate most fit for IT in the region and the most likely to switch to this regime in the near future. BAM has since 2005 made significant efforts and significant progress towards meeting the pre-requirement of IT. It has radically changed its chart, developed its technical and forecasting capacity regarding the key macroeconomic variables. It started producing and publishing inflation forecasts. The fiscal deficit as well as the public debt observed in Morocco have been under control since 2006 consistently with the requirements of IT. The BAM monetary policies as well as the changes in monetary instruments are announced through regular public information services (annual report, BAM website…). The BAM issues statements to the public on the progress towards meeting monetary policy objectives. The BAM has enhanced significantly its transparency and communication strategy. It is transparent about its objectives (thanks to the 2005 new statutes) as well as about its technical procedures (the model) it utilizes to reach these goals. BAM started establishing systematic and relatively accurate forecasts of inflation and a estimate of how inflation is likely to be affected by changes in the monetary policy instrument. Yet, before 2005, its financial system and policies and its fiscal and inflation indicators had not been less fragile than Tunisia’s. This means that progress is possible.
The Turkish experience is even more meaningful with this respect. It shows that it is possible to move from a highly unstable macroeconomic situation, characterized by high fiscal deficit and public debt and high inflation, to a much more stable one and to fulfill most of the major IT conditions in a reasonable transition period. Nevertheless, Turkey is still facing major challenges and its experience with IT, short for the moment, is to be observed and examined more closely.

II. MONETARY TRANSMISSION MECHANISMS AND THE EFFECTIVENESS of THE MONETARY POLICY in Egypt, Morocco and Tunisia
Understanding and measuring the time lag between a monetary policy decision and its impact on the main nominal and real macroeconomic variables is what the analysis of MTMs is all about. How does a change in the policy interest rate decided by the central bank affect key macroeconomic variables, including the exchange rate, the volume of loans and above all the inflation and output? The purpose is not only to identify these impacts but also to measure their intensity. This is of course essential for successfully conducting monetary policy in general, and more so in the case of inflation targeting. With this respect, a lot remains to be done in the region; at this stage, we still wonder which channels and mechanisms are really operating and which channel is the most important? And then, what makes this channel more prevailing?
Two main approaches are possible for identifying and analyzing MTMs. The first approach adopted by Boughzala relies on micro data mainly on banks and when possible on firms and other investors, and adopts a panel data set up. The second approach, adopted by Boughrara, relies on macro time series data and applies various types of VAR models; the latter is the most widely used.
The first paper, entitled “MTM and the Imperfection of the Banking System” has a wider geographical coverage but its field of investigation is more limited. It tries only to explore how and to what extent changes in the short-term nominal interest rate decided by a central bank leads to changes in the banks lending interest rate and consequently in the volume of loans they effectively provide to investors (firms and households). The second paper, entitled “Monetary Transmission Mechanism Analysis in Egypt, Morocco and Tunisia” is more comprehensive.
The fist paper argues that monetary policy effectiveness depends on which monetary transmission mechanisms (MTM) are operational and on how efficient they are and that MTMs vary across countries and are not equally efficient across countries, in particular in the European Union (EU) countries compared to MENA countries.
MTMs operate mainly through the banking system, be it for the interest rate channel or the credit channel. What makes these channels more efficient in some countries, and what to do in order to improve their effectiveness through the improvement of the performance of the banking system? How fast do banks reflect changes in the interest rate decided by the central bank (CB) in their lending activities and/or their own rates (mainly their loan rates)? And what determines the speed of their response? This is the main concern of the first paper which restricts its interest to cases where the monetary instrument used by the CB is the interest rate and where the monetary policy objective is to reach an inflation target and/or a real output and employment target (assuming that output and employment are strongly linked) and relies on the traditional interest channels and the credit channel. Hence, by exploring the reaction of the banking system to the central bank policy actions the paper indirectly measures the impact of monetary policy on inflation and real economic variables. One of the main objective of this work is to test to what extent the banks’ response depends on the banking market structure and the type of competition (imperfection), on the type of risks banks deal with. Banks’ response depends on the structure and quality of their assets (that is the quality of their loans and how much and which type of securities they hold…) and on their liquidity (Ehrmann M., Gambacorta L., Martinez-Pagés J., Sevestre P., Worms A., 2001). Indeed, banks that can obtain liquidity at the inter-bank market or by easily selling assets on the financial market would be less dependent on the CB financing and might respond more slowly to monetary policy shocks, especially in the case of an interest rate increase, and, so they would continue to supply loans. Through this investigation, the aim is also to compare countries from the MENA region (Egypt, Morocco, Jordan, Lebanon, and Tunisia) to some OECD countries (France, Germany and the UK) whose financial market and banking systems are highly developed. Most of the selected MENA countries are undergoing important financial and monetary reforms and envisaging IT.
A specific model is constructed, focusing on the banking structure and assuming imperfect competition in the banking market. Different specifications were tested using a rich panel data. The simplest is a regression of loans on the central bank rate (CB rate) and the loan rate, the volume of deposits, the bank’s total assets, non interest income for the bank, which reflects its non lending activities in the financial market, and a country dummy, which lumps together EU countries opposed to the MENA (non EU) countries.
Given the endogeneity of the loan rate a one period lagged rate is introduced instead, but this variable does not seem significant after all! The country dummy systematically has a positive and significant sign showing the superior performance of the EU countries. The other signs are as also as expected and explained above. When a two stage estimation method or a GMM method is used, basically the same results are confirmed.
The second paper, entitled “MTM in Egypt, morocco and Tunisia”, tries to investigate the four major conventional transmission channels, namely the exchange rate channel, the interest rate channel, the lending channel, and the stock market channel. Far from describing all the transmission mechanisms, these channels are more likely to be operating in the panel countries considered. To what extent these transmission channels (e.g. interest rates, exchange rates, credit aggregates, stock market indexes…) matter will is first tested using Granger causality tests. A more formal analysis will be based on SVAR models.
The results reported on Table 1 clearly corroborate the preliminary conclusion regarding the degree of the interest rate pass-through in all countries. Overall, they indicate that the pass-through is incomplete to all retail rates (deposit and lending rates). It is worth noting however that the magnitudes of pass-through coefficients associated to deposit rates are weaker than those associated to the credit rates. For instance, the long-run pass-through effect in case of Egypt is around 0.31 for lending rate and 0.11 for deposit rate. This implies that 31 per cent of any money market rate change is passed through to the lending rate in the long –run, and only 11 per cent of the policy rate is passed through the deposit rate. The pass-through in Morocco is slightly superior to that in Egypt. Approximately 40 per cent of the change in the Moroccan policy rate is passed through the lending rate whereas 33 per cent is passed through deposit rate. Likewise, the pass-through degree in Tunisia is not significantly different from that recorded in Morocco.
Stickiness of retail rates in the case of Egypt, Morocco and Tunisia is due to the presence of adjustment costs associated with changing retail rates to customers and this may lead to the smoothing of retail interest rate changes with respect to changes in the policy rate (which could play the role of the marginal cost of funds). It is also caused by to the lack of competitiveness among banks. Indeed, the lesser the degree of competition, the higher this spread is likely to be. In the panel countries considered in this paper, the lack of competition is due, to a great extent, to regulation (case of Egypt), to collusion on the part of financial institutions or fixed costs of entering the market (Tunisia and Morocco), and to the ‘gentleman’s agreement’ (Tunisia). Besides, the monopolistic or oligopolistic structure of countries’ banking systems explains the small pass-through degree because in such banking, retail rates won’t move significantly and quickly in response to changes in money market rates. Cette situation reflète aussi une faible crédibilité du système financier dans ces pays.
Finally, the finding of a weak interest rate pass-through could be explained in Egypt, Morocco and Tunisia by the fact that the monetary institution lacks credibility; in such case, economic agents may misperceive temporary policy rate shocks as being permanent. Overall empirical results on long-run interest rate pass-through seem to indicate that the central banks policy rates do not seem to rapidly determine the market lending and deposits rates. Yet, we would expect interest rate pass-through to have improved in recent years given the improvement in the specific features of the monetary framework, banking sector and economic conditions.
The next and main step in analyzing MTMs is to examine the impact of policy measures on the key economic variables, primarily inflation and the activity level. A natural extension of the analysis of interest rate pass-through lies in analyzing the complete interest rate channel of monetary policy, from policy rate changes to movements in the consumer price index and changes in the level of economic activity.
In line with the above explanation, we start the empirical analysis of the MTM in Egypt by considering the baseline model which include in the VAR the oil price and the US federal funds rate in order to avoid well-known empirical anomalies such as price puzzles. All the variables are considered in level and in log except for rates. All the date used are from IMF International financial statistics CD ROM (July 2008). Dates are monthly and cover the period 1997:01-2007:12. The other data we used in the case of Egypt are a measure of real activity, proxied by GDP deflated by the whole sale price index (RGDP); prices proxied by the whole sale prices (WPI); a nominal exchange rate, proxied by bilateral U.S. dollar (ER), and a stock market index proxied by the Cairo and Alexandra Stock exchange index (CASE).
The response of prices to an increase in the monetary policy measure (the Treasury bill rate) is significant and quick- prices start to decrease after about one quarter or so; the monetary policy seems effective in bringing down prices. The strong deflationary impact of a tightening on the WPI is intuitive and consistent with earlier findings (Rabanal, 2005 and Al-Mashat and Billmeier, 2007). As for the response of real activity, it stands out from the IRFs pattern that the policy rate fails to impact on real activity. While the reaction of the real activity to an exchange rate hike is not significant, it appears to be consistent with prior expectations especially after one year or so; the activity start to decline just after one year. Overall, these findings are consistent with the theory and free from any puzzle.
To shed light on the existence of the lending channel in Egypt, we include into the baseline model loans quantity (Loans) and loans price (proxied by lending-rate). The ordering of the variables is chosen on the basis of the speed with which the variables respond to shocks like in the case of the channel considered above. The focus here is on the identification puzzle, that is on the supply-versus-demand of loans puzzle. A contraction of bank loans for itself is not necessarily a consequence of leftward shift of the supply schedule. Thus, testing the supply view requires identifying the supply and demand schedule of bank loans. If the lending channel of monetary policy is dominant, a leftward shift of the supply schedule must be clearly observed following a monetary tightening. For the study of the lending channel to be meaningful, it might be also worthwhile to test the effectiveness of monetary policy. Thus, the lending view will be accepted if and only if:
H1: the quantity of bank loans LQ does not increase
H2: the price of bank loans LP rises, and
H3: real output Y decreases following a monetary tightening.
For the purpose of testing H1 to H3 statistically, the VAR is estimated to stimulate impacts of monetary policy on the economy. Simulating the dynamic responses of macroeconomic variables to monetary policy shocks is equivalent to calculating the impulse response functions (IRFs) of those variables to an innovation to the measure of the stance of the monetary policy.
It stands out from the empirical results that the existence of the lending channel in Egypt is very weak. While hypothesis H1 (loans do not decrease) can be supported by data, hypothesis H2 (loans price as measured by the Lending_Rate variable increases) cannot. In addition, the real activity does not seem to depress as suggested by the theory leading thereby to rejecting hypothesis H3. The response of real activity does seem to be amplified significantly when accounting for the lending channel. Hence, the lending channel in Egypt can hardly be supported by data. Bank loans do not seem to react subsequent to an interest rate hike. Some of the reasons that could explain such a finding are the high volume of non-performing loans, and the under-developed state of the financial market.
Nevertheless, the CBE has come a long way in developing its set of monetary instruments, but these instruments still lack effectiveness as the diverse channels of monetary transmission are not operating effectively and properly. Improving the performance of these channels will be paramount for a successful transition to a full-fledged inflation targeting monetary policy framework in Egypt. Uncertainty in the channels of interest rate policy may be caused by a strong and fast-working exchange rate channel. Indeed, the exchange rate channel continues to play an important role in the transmission of the monetary stance, as it magnifies the impact of policy shocks drastically.
The same methodology is applied to Morocco and Tunisia. The Moroccan monetary authorities have pegged the Dirham to a basket of currencies where the (nominal) exchange rate fluctuates within a narrow band. Under this exchange rate regime, the strength of the exchange channel is expected to be negligible if not absent. To verify this, to the basic VAR model was added the nominal effective exchange rate (NEER) as a potential transmission variable.
The VAR simulations related to the exchange rate channel (see figure x) indicate that a restrictive monetary policy (as measured by one standard deviation hike) is insufficient to impact significantly on the effective nominal exchange rate (see figures 1.a and 1.b). On the other hand, the depreciation of the currency seems to have significant effects on real activity in Morocco. The depreciation of the currency depresses real output. A depreciation has an asymmetric impact on prices. As to the reaction of output it does not seem to vary when including the NEER variable in the baseline model. This would indicate that the exchange rate channel is not operative. Overall, these findings corroborate to some extent the a priori belief about the strength of the exchange channel in Morocco. At best, the contribution of the exchange channel in propagating the impulses of the monetary policy in Morocco negligible. The absence of role of asset prices in transmitting monetary shocks is not surprising either given that share ownership is low, and that firms’ reliance on equity financing has not been so significant compared to bank credit. The role of asset prices in the propagating the effects of the monetary policy might increase in the future in line with the continued developments in capital markets.
In the case of Morocco, the monetary policy appears to be relatively more effective in impacting on real activity when compared with case of Egypt. Two channels are operative, namely the traditional interest rate channel and the bank lending channel. These two channels co-exit. However it remains to be seen which of them is the most dominant. The finding relative to the existence of the bank lending channel in Morocco does not surprise seeing that Moroccan system is more structured and healthy than that of Egypt or Tunisia and the level of NPLs is more manageable.
In Tunisia, the response of price loans depicts a clear tendency to increase subsequent to a tight monetary policy. This reaction is immediate and statistically significant at 5 per cent level. In other words, the response of price loan is such that ∂E(LPt+i|Λt)/∂u>0 for i=1,2,…,16 implying that H2 cannot be rejected. Furthermore, Rt bank loans IRFs show that loans quantity does not increase. Rather, it exhibits a clear downward tendency, which thought non statistically significant for the eight first quarters becomes significant at the latest: ∂E(LQt+i|Λt)/∂uR=0 for i=1,2,…,8 and ∂E(LQtt+i|Λt)/∂u<0 for i=9,10,…,16. Therefore, H3 cannot be rejected. Seeing that the hypotheses H1, H2 and H3 cannot be rejected, one may conclude that the lending channel is operative in Tunisia. When considered together the patterns of price loan and bank loans it appears that the supply schedule for bank loans shifts left following a monetary tightening. Thus, data do support the lending (supply) view in the case of Tunisia. It is worth noting that this finding does not imply the rejection of the money view. We can even state is that the lending channel is not only operative but also dominant. The empirical findings relative to the case of Tunisia are not really so different from those of Egypt and Morocco. Neither the exchange rate channel nor the asset price one seems to be operative in Tunisia. These findings are in line with previous studies.

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February 2009

By : Khalid Sekkat, Université de Bruxelles, Belgique

In Collaboration with: L. Achy, INSEA, Morocco; R. Ben Jelili, Arab Planning Institute , Kuwait; N. Barakat, To Excel Consulting & Associates, Jordan; M. Goaied, University of Tunis, Tunisia; T. Pamucku, Middle East Technical University, Turkey;  I. Saif, Centre for Strategic Studies, Jordan; E. Taymaz, Middle East Technical University, Turkey

Note: This document has been produced with the financial assistance of the European Union within the context of the FEMISE program. The contents of this document are the sole responsibility of the authors and can under no circumstances be regarded as reflecting the position of the European Union.

Executive Summary

The starting point of the analysis is the confrontation of two results in the literature concerning the impact of trade liberalization on firm’s efficiency. On the one hand, evidence show that, after more than 20 years of liberalization, the main manufacturing industries in which Jordan, Morocco and Tunisia are specialized suffer high degree of inefficiency. On the other hand, the recent literature suggests that the major channel by which liberalization affects firms’ efficiency is natural selection in the same industry: less efficient firms restructure or exit while more efficient ones enter or expand in the market. The question is, therefore, whether or not the process of entry and exit has played a similar role in these countries and why. Given Turkey’s similarity (e.g. level of development, same region, comparable culture, adoption of liberalization) and difference (i.e. better economic performance) with the 3 other countries, it is used as a benchmark for comparison.

The analysis showed that over recent years the process of entry and exit has, indeed, contributed to improve industries’ productivity in Jordan, Morocco and Turkey. This improvement took place either through exit of the less productive firms (Jordan), entry of more productive firms or both (Morocco and Turkey). The effect on industries’ productivity operates through entry and exit in their own and not through their impact on the productivity of survivors. Exit seems to clean industries from their less productive plants while entry allows replacing these plants by more productive one. Productivity is also driven by other factors such as factors of production availability (especially capital) and actual competition.

Although the process of entry and exit has improved productivity in a similar way in the countries of interest as in other emerging economies, the question remains about the relative persistence of inefficiency in the corresponding manufacturing sector. The response might be found in the intensity of the process.

Comparing the intensity of entry and exit across the 4 countries and with other emerging economies (both at the sector and at the industries level), shows that the intensity is the highest in the Turkish manufacturing sector, where it is comparable to other emerging economies. From 2000 on, intensity is the lowest in Tunisia. In Jordan, Morocco and Tunisia entry and exit rates are much lower than in other emerging economies. Hence, it seems that while the process has played a similar role as in other emerging economies, its limited impact on industries’ productivity is due to its weak intensity. It is, therefore, important to study the determinants of entry and exit in the 4 countries.

Regressions of the intensity of entry and exit rates on a series of firm, industry and country specific characteristics, show that entry is higher in those industries offering some opportunities (sales or productivity improvement), and lower in industries with high natural (capital intensity and wage level) and strategic barriers (concentration of incumbents). Exit is lower when demand is growing, there are high sunk costs and competition either foreign or domestic is limited.

The above results are in accordance with the literature (see the introduction) and suggest a number of policy recommendations. First, intense competition either foreign or domestic seems to affect productivity directly and indirectly through higher entry and exit rates. Hence, enforcement of competition policy seems to be a good instrument for improving productivity. The 4 countries have adopted a competition policy. However, its enforcement varies greatly across countries: Tunisia and Turkey went significantly further in this respect than Jordan and Morocco. The latter should urgently improve their record in term of enforcement of competition policy. Moreover, higher openness to trade seems also in order especially in Jordan, Morocco and Tunisia. The 3 countries are member of the WTO and have, in particular, signed a free trade agreement (FTA) with the EU. Jordan and Morocco have also a FTA with the USA. Morocco and Tunisia have a FTA with Turkey. It seems, however, that their FTA induces faster dismantling of barriers to trade than their participation to the WTO. Their continuous and firm commitments to such agreements could, therefore, have a very beneficial impact on productivity. Second, better access to factors of production also appears to affect productivity directly and indirectly through higher entry and exit rates. This is especially true for capital. The cost of using capital encompasses a number of components such as getting credit, protecting investors, paying taxes, enforcing contracts etc. Comparisons with around 170 countries over the World show that in 2005, Turkey performs fairly well in this respect, Jordan have an “average record” but Morocco and Tunisia exhibit in general disappointing records. The latter have, however, recently implemented a number of reforms to address the problem of access to capital. Third, industries offering demand opportunities witness higher entry but lower exit rates. Since the positive effect of entrants on productivity improvement is found to be much higher than the negative effect of potential exitors, the net effect is expected to be positive. Abstracting from internal demand, which is a macroeconomic issue, it seems that productivity improvement can also be achieved though more export orientation of the economy. Interestingly comparison with major exporters from Asia (Korea and Japan) shows that although the obstacles to exporting are higher in the 4 countries, the differences are not dramatic. The problem may come from the export strategies which seem less active in terms of promotion, advertising, lobbying etc.

A dynamic long and short term approach to migration between MPC’s and the EU: Demographical framework and the role of economic and social reforms

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July 2008

By: Alejandro Lorca, Professor, AGREEM – UAM, Spain and Rafael de Arce, Professor, AGREEM – UAM, Spain

In collaboration with : Ramón Mahía, Professor, AGREEM – UAM; Gonzalo Escribano, Professor, UNED, AGREEM; Sidi Mohamed Rigar, Professor, Cadi Ayyad University; Eva Medina Moral, Professor, UAM; Gema Garcialoro, Professor, UNED

Note: This document has been produced with the financial assistance of the European Union within the context of the FEMISE program. The contents of this document are the sole responsibility of the authors and can under no circumstances be regarded as reflecting the position of the European Union.

Executive Summary

Migration has become a priority to European policy-makers. It is also a crucial dimension of EU-Mediterranean Partner Countries (MPC’s) relations. However, the lack of a coherent European Migratory Policy makes it difficult to develop a consistent migratory policy towards MPC’s. The focus of policy-makers is clearly on control and return measures, rather than in active integration policies. The argument of this study is that socio-demographic dynamics in the euro-mediterranean region are so strong that creates a significant ‘migratory pressure’, defined by the study as the result of demographic and socio-economic conditions.

Under this conditions, focusing exclusively in borders control and return measures is clearly sub-optimal as a policy formulation. Under different scenarios, this study concludes that immigration flows from some MPC’s (mainly Morocco and Turkey) will remain high in the long run. However, there are significant differences among scenarios and simulations show that the EU can implement policies to diminish the intensity of push effects.

The purposes of this study can be summarized as follows:

• To provide a quantitative measure of migration potential of European (receiving) and MPC’s (sending) countries given its current demographical trends.
• To anticipate the most reliable future demography – migration scenarios that will arise in the long term
• To present a rich quantitative described migration map between the EU and selected MPC’s, identifying the past, current and future trends.
• To measure the relative weight of the main macro – economic and social – structure variables in the current evolution of EU-MPC’s migratory flows.

The aim is to provide an analytical basis:

• For the understanding of real and potential migration movements from the selected MPC’s to the EU.
• For the formulation of economic and social policies which directly or indirectly affect the migratory phenomenon.
• For the formulation of co-operation policies and international relations programmes with a broad socio–economic foundation.

The empirical hypothesis is that in North African countries and Turkey, demographic trends and changes in activity rates will lead to a fast increase in the working age population, which added to insufficient labour creation, will raise the structural imbalance of the labour market. Meanwhile, the opposite will occur in European countries. This opposite trends could be complementary enough to counterbalance or not, given the different scenarios of demography, labour market demand/supply evolution, socio-economic progress, and barriers removed or built up at both sides of the “board game”.  In this conceptual framework, this research project tries to measure this equilibrium in a baseline socio–economic–demographical scenario and, in addition, to identify the key variables that could be critical for changing this baseline.

The study is organized as follows. A first chapter is devoted to EU immigration policies, to foresee if a European Common Migratory Policy can emerge and what could be its nature. The second chapter focuses on demographic trends, as the reality that the policy framework should face. The third chapter develops a model to identify the main reasons that explain Euro-Mediterranean migrations, and then proposing different futures according to alternative scenarios. The purpose is to allow policy-makers to translate into different futures the impact of alternative strategies. Given that it is a long run exercise, the alternative scenarios does not represent short run policies, but rather broad strategies that should be ideally implemented by consistent policies.

The results of simulating different scenarios to estimate immigration flows highlight the following figures:

- The total period summation would be of approximately 2,400,000 immigrants entering the EU-15 during the 45 projected years. In the lower scenario this figure goes down to close to 1,500,000 immigrants.

- For any scenario, as expected, the higher numbers of immigrants came from Morocco and Turkey, the countries with a higher labour force surplus due to its demographic migratory potential.

- Morocco will experience an emigration flow between 1.422.000-906.342 people in the higher and lower scenarios, respectively.

- Relating this figure with the potentially emigrant population previously estimated (3,8 million people for the 2005-2050 period), migration flows from Morocco could oscillate between 23% and 37% of this population segment.

- For Turkey, the interval would oscillate between the lower figures of 481.000-318.000 migrants.

- For Tunisia, the considered scenarios project more modest figures between 52.000-37.000 migrants.

- For Egypt, projected migratory flows to the EU-15 are not significant.

- For Algeria, the scenarios point to a migratory band between 432.000-290.000 migrants.

Concerning scenarios:

1. The business as usual scenario is the one that tends to show a higher number of immigrants over the long run.

2. The slow convergence scenario reduces slightly the number of immigrants, reflecting that a moderate convergence pattern in MPC’s economies does not imply a significant reduction of immigrants.

3. The fast convergence scenario is the one that projects the lower figures of MPC’s immigrants, but even in this case the numbers still very significant.

4. The social policy, income inequality reduction, scenario also projects lower immigration figures, but does not alter the trend of migration towards the EU.

5. The low employment growth scenario generally shows lower immigration figures than the business as usual one, but numbers still high.

6. The high employment growth scenario projects a further reduction of MPC’s-EU migration, but a smaller one that the projected under the fast convergence or social policy scenarios.

From this perspective, under any scenario immigration flows remain significant and it is evident that migratory pressure will not be properly faced only by recurring to Europeanised control and return policies, and that Europeanised integration policies are clearly needed. Second, differences across scenarios are significant in the numbers, not in the trends. The scenarios with he lower immigration figures are the fast convergence and the social policy ones. This implies that the EU should prioritise accelerating fast convergence and implementation of social redistributive policies in MPC’s countries.

However, these measures will, at best, slightly reduce the number of immigrants. Socio-economic-demographic logic allow for different futures, but in any of them immigration will be a key driver of EU-MPC’s relations and of internal EU demographic dynamics.

The role of business services on innovation, productivity, employment and exports of Spanish, Turkish and Moroccan manufacturing firms

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September 2009

By: José Antonio Camacho, University of Granada, Spain

In collaboration with: Lahcen Achy, INSEA, Rabat, Morocco; Anime Basri, Ministère de l”Industrie et du Commerce, Rabat, Morocco; Marion Dovis, CEFI Université de la Méditerranée, France; Juliette Milgram, University of Granada, Spain; Teoman Pamukcu, Middle East Technical University, Ankara, Turkey; Mercedes Rodriguez, University of Granada, Spain; Erol Taymaz, Middle East Technical University, Ankara, Turkey; Kamil Yilmaz, Koç University, Istanbul, Turkey

Note: This document has been produced with the financial assistance of the European Union within the context of the FEMISE program. The contents of this document are the sole responsibility of the authors and can under no circumstances be regarded as reflecting the position of the European Union.

Executive Summary

Despite their key role in production systems, business services have traditionally been ignored in productivity and innovation analyses. The scant information available (most of surveys on innovation or business performance commonly exclude service activities) has been one of the major reasons for this ignorance. Consequently, few studies empirically analyse the impact of business services on innovation, productivity or exports. However, Arnold et al. (2006) provide support for the argument that improvements in service industries contribute to enhancing the performance of downstream economic activities, constituting an essential element for promoting growth and reducing poverty. This project is an attempt to contribute to the scarce literature on business services. In particular, the main objective is to find further evidence concerning the effects of business services on innovation, productivity and export activity of manufacturing firms. For this purpose, we used microdata for Spanish, Turkish and Moroccan manufacturing firms. In Spain the Encuesta sobre Estrategias Empresariales (ESEE) contains very detailed statistics about the use of ten types of business services: advertising, legal activities, accounting and bookkeeping, tax consultancy, auditing activities, management activities, labour recruitment, training, computer programming and software consultancy. Not only information about the use of business services is included, but also on the origin of the services (in-house production, external provided or both). This allows taking two complementary points of view when analysing the use of business services by distinguishing those situations in which the business service provider is external to the firm. Data availability for business services in Turkey is considerably lower, so several proxies are employed in order to approximate the functions commonly carried out by business services, namely, variables referred to client support, metrology services and services received for innovation, operation, strategy and prototype development. To construct these variables data from three different sources are combined: the Annual Survey of Manufacturing Industries (ASMI), conducted by the State Institute of Statistics (SIS), Innovation Surveys conducted by the SIS and the Industrial Technology Services Survey (ITS Survey), specifically designed for monitoring and evaluating the effects of technology services. In the case of Morocco, four types of business services are distinguished: management training services, technical training services, management consulting services and technical consulting services. In addition, a variable that stands for the use of consulting services for technology transfer is also included. The information analysed comes from an annual survey carried out by the Ministry Industry and Trade and from the Investment Climate Assessment (ICA) elaborated by Ministry Industry and Trade and the World Bank.

Spain is used as an illustrative case of a middle income country that boosted its growth rapidly (Spain during the earlier 90´s). This benchmark case is compared to the cases of Turkey and Morocco in recent days. The effect of business services on growth can translate via prices, innovation, productivity or a differentiation strategy that allows entering new markets. In our study we focus on three aspects and their relations.

Firstly, we try to verify whether the use of business services contributes to innovation. Most of business services act as facilitators, carriers and sources of innovation for their clients firms. We investigate these links between manufacturing client firms and business service firms. In particular, econometric models where the dependent variable is innovation are estimated for the three countries. In Spain a unique innovation model is estimated, whereas in Turkey and Morocco a differentiation between product and process innovation is established. Important similarities are found among countries, although differences in the type of business services analysed have to be taken into account. The most detailed classification of business services in Spain allows identifying some industries directly related to innovation performance like research and development, computer programming, software consultancy, advertising or training. In Turkey the majority of the variables related to business services show a positive effect on innovation, the impact being somewhat lower in process innovation. In the case of Morocco it calls the attention the key role played by training services and management consultancy services.

Secondly, we examine if productivity is directly affected by increases in the use of business services. We propose to estimate a model where TFP is explained by a set of characteristics of the firms and an indicator of the use of business services. In Spain and Morocco probit models are employed, whereas in Turkey an OLS model is employed. A high number of business services industries show a positive impact on productivity in Spain, whereas in Turkey and Morocco the impact is restricted to a lower number of industries. Nevertheless measurement problems in relation to TFP, in combination with the lower use in these countries, could explain these differences.

Thirdly, we investigate how the openness of firms is affected by the use of business services. Most of the studies on the internalization patterns of business service firms point out that following clients abroad is one of the major motives for service firms to internationalise. We will estimate equations to examine whether the use of this type of services can foster export participation and export volume. These effects could take place through an increase in innovation and productivity which translates into lower unitary costs for firms and raises their probability to enter into foreign markets. On a general basis, the impact of the use of business services on exports seems to be lower than in the case of innovation and productivity, but the Turkish and Moroccan cases seem to be opposite. Thus, whereas in Turkey the majority of the variables related to business services show a positive effect on exports, in Morocco the use of business services diminishes the likelihood of exporting.

In the following sections a deep analysis of the effects of business services on the three variables mentioned below is carried out. This project can be considered a first step in the role played by services, and more specifically by business services in the MENA countries, the positive results obtained open the door for future analyses to better understand what business services can represent in the near future of these countries.

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September 2009

By: Mondher Cherif, ESC Sfax, Tunisia

In collaboration with: Yan Babeski, Cerge-EI, Charles University in Prague, Czech Republic; Adel Boughrara, Faculté de Droit et des Sciences Economiques et Politiques de Sousse, Tunisia; Samy Bennaceur,  IHEC Carthage, Tunisia;  Samir Ghazouani, Université de Tunis El Manar, Tunisia; Bassem Kamar, ERF, Egypt

Note: This document has been produced with the financial assistance of the European Union within the context of the FEMISE program. The contents of this document are the sole responsibility of the authors and can under no circumstances be regarded as reflecting the position of the European Union.

Executive Summary

Part 1: The Determinants of FDI and FPI in the MEDA Countries:  An international Comparison

FDI flows to the MEDA countries have been disappointing relative to other developing countries. Data show that the growth of FDI flows into MEDA region proved to be notably inferior to that recorded in the CEE countries or in Asian economies, such as China and India. The aim of this project is threefold. First, it aims at analysing the private foreign capital flows into MEDA countries. Second, it seeks at exploring why this region is lagging behind in attracting international flows. Third, it purposes at examining whether private capital inflows contribute to improve the competitiveness of domestic economies.

Part 1 has focussed on the determinants of FDI/FPI in MEDA countries and compared them to other countries in the world. The study adds to previous ones by taking into account, in addition to traditional quantitative determinants, qualitative determinants of FDI and FPI (i.e. government stability, country risk, exchange regime quality, capital account openness…). The analysis is done by making use of dynamic panel data models with yearly data covering the period going from 1980 to 2006.

The main results can be summarized as follows: investors are attracted to a country with better growth perspectives and a growing population. Additionally, opening the economy to trade spur FDI confirming the above-mentioned hypothesis that trade openness attracts export-oriented FDI. The results show also that foreign long-term investors are more attracted by a stable exchange rate. When we introduce institutional and policy variables such as government stability, capital account openness, country risk and exchange rate regime are accounted for, the empirical results tend to indicate that: (i) Political stability is a convincing argument to attract long-term foreign investors; (ii) a risky local environment repels foreign investors for investing domestically; (iii) a fixed exchange rate regime is necessary to attract foreign investors in the long-run;  and (iv) finally, FPI seems behave as a competitor to FDI.

Besides, when accounting for the institutional variables, it is found that (i) a stable government contribute to attract FDI in Latin America and Asia where the coefficients on Government stability interacted with region dummy variables are positive and highly significant. As risky environment reduce the incentives for long-term foreign investors to pour money in the domestic market in CEE and Asian regions where foreign direct capital favours risky countries in MEDA region.

Finally, capital account openness is found to impact differently on FDI depending on the recipient region. It is an ingredient for attracting FDI in Latin America whereas it repeals FDI in CEE countries. In other regions, the impact of capital account liberalization on FDI seems to be inexistent. The results relative to the FPI estimates show that almost all domestic economic fundamentals (such as GDP growth, Inflation, CAB) are statistically significant and bear the expected signs; such findings indicate that countries with high per capita GDP growth and high current account balance succeed to attract more investors. Macroeconomic stability, as measured by lagged inflation, shows up as a minor concern to foreign investors.

Part 2:  Foreign capital flows, economic growth, domestic investment and inequality: an international comparison

To the best of our knowledge, no study has focused on the direct impact of FDI and FPI on inequality in the MEDA region. The project attempts to fill this void by providing a comprehensive analysis of the effect of capital inflow and its composition on inequality in the receiving country.  Two questions arise: why foreign as opposed to domestic investment should have an impact on long run development that is different from domestic investment? Does foreign investment increase or decrease domestic investment? An answer to these questions would help to draw policies aiming at strengthening the link between inflow and investment.

FDI is intended to be a major generator of growth since positive effect was recorded either from the whole sample or some regions such as MENA, Latin America, Africa, Asian and CEE. This detects the need of these countries for inflows of foreign capital in order to boost economic growth. A positive and significant impact of FDI on domestic investment is also exhibited. In such case, FDI seems to hop the domestic investment. So it could be considered that more inflows of foreign capital constitute an impulse factor to global investment. Such positive influence is also detected for MENA region, Asia and CEE countries. For the region of our concern, that is the MENA region, national efforts to create opportunities of investment are requested and approved, but the support coming through FDI is significant.

Part 3:  Foreign capital flows and competitiveness: an International Comparison

Part 3 focuses on the effects of capital inflows in determining the real exchange rate (RER). We develop a dynamic model to estimate the RER based on the fundamentals. Exchange rate management is a challenging macroeconomic policy issue. There has been a broad consensus in policy circles in developing countries that the overriding objective of exchange rate policy should be to avoid persistence in misalignment, which is a common problem in most emerging economies.  An important factor in identifying the equilibrium real exchange rate is the role of capital inflows, which are among the fundamentals determining the real exchange rate. According to Dutch Disease theory (Corden and Neary, 1982), excessive capital inflows lead to real appreciation of the exchange rate via its impact on both the tradable and non-tradable sectors of the recipient economy. However, the extent of appreciation as a result of capital inflows depends to a large extent on the ‘degree of reversibility’ of the particular inflow in question. Some inflows are more prone to reversal (or more likely to be associated with outflows) and therefore will have different effects on national income and the real exchange rate than other flows that are less reversible (or more permanent in nature). This suggests a merit of decomposing capital inflows according to their degree of reversibility. Unlike most empirical studies, which use aggregate capital inflows, this study decomposes capital inflows. The question in our project is to assess whether private capital flows contribute to the appreciation of the exchange rate of the recipient country and does the impact is different when we decompose capital flow into FDI and FPI?

Our main results can be summarized as follows :

• Portfolio investments, foreign borrowing, aid, and income lead to real exchange rate appreciation and loss of competitiveness;
• Remittances have disparate results depending on their nature and size.
• Foreign direct investments have no effect on the real exchange rate, and in some cases even enhance competitiveness.

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November 2009

By: Mona Said (The American University in Cairo)

In collaboration with: John Salevurakis (The American University in Cairo), Christian Schluter (University of Southampton), Jackline Wahba (University of Southampton), Sherine AlAzzawi (The American University in Cairo)

Note: This document has been produced with the financial assistance of the European Union within the context of the FEMISE program. The contents of this document are the sole responsibility of the authors and can under no circumstances be regarded as reflecting the position of the European Union.

Executive Summary

Both Egypt and Morocco have embarked on trade liberalization and economic reform programs since the mid 1970s. With the open door policy in the 1970s, Egypt began pursuing liberalization policies that were later followed by various trade agreements and in 1991 embarked on a structural reform program that included eliminating large fiscal and external imbalances, trade, exchange rate, and financial sector reforms aiming at liberalising the economy, and an ambitious privatisation program. Morocco embarked on similar programs in the 1980s by pursuing a structural adjustment program intending to re-orient the economy to the production of tradable goods. From 1989, a large privatisation programme of public firms went under way and since 1984, restructuring of the Moroccan economy towards export orientation started. Foreign trade has been liberalized as early as 1986, culminating with several association agreements.

Trade liberalisation initiatives in both countries took various forms: unilateral, bilateral and multilateral agreements and attempted to introduce greater external competition into protected domestic markets, remove distortions and enhance economic efficiency at both macro and individual firm’s level. We focus on the labor market implications of economic restructuring, mainly trade liberalization, in Egypt and Morocco. We study several labor market outcomes namely: unemployment, wages, and job quality.  In particular we examine the stratification of labor market by gender, education and sector over the period of trade reforms in the two countries.

First we examined the impacts of trade liberalisation on the structure of the labor market in both countries in Chapter II. An important aspect of the labour market during transition is the sectoral change in employment. We found evidence that Egypt and Morocco have undertaken various trade and economic reforms that have had significant impact on their labour markets. In both countries the shares of the public sector in total employment have fallen but the impact was more substantial in Egypt given the predominance of the public sector. During the 1990s, Morocco has experienced a decline in the share of agriculture and an increase in the share of manufacturing. In Egypt, the share of agriculture also declined, but so did the share of manufacturing.  However, the share of services in Egypt has increased.  Moreover, there was no tendency toward the feminization of the male-dominated sectors in Egypt.  In fact, the disproportionately female sectors (other than the civil service) de-feminized. Conversely, a significant growth of textile and garment manufacturing was experienced in Morocco which accounts for a significant portion of its feminization. These contradictory trends in Egypt and Morocco were driven by differences in the two countries’ structure of foreign exchange earnings. While Morocco relied increasingly upon the export of labour-intensive manufactured goods, Egypt became increasingly dependent upon service exports such as tourism. On the other hand, unemployment rates have increased during transition in both countries. However, in Morocco unemployment was the result of restructuring whilst in Egypt a larger majority of the unemployed were new entrants. These impacts have been felt unevenly given the stratification of the labor market in both countries with women, the youth and the highly educated were more affected than the rest of the labour force.

Secondly, in Chapter III, we examined the factors that determine the probability of leaving unemployment and whether this probability has changed in Egypt during the period of reforms. We investigated whether particular groups have experienced longer unemployment durations and lower hazard rates of leaving unemployment during the period of transition. We found that the probability of exiting unemployment to public sector has fallen, whilst that of exiting unemployment to informal private sector has increased during the period of transition. Although, education was the main determinant of exits to public sector with both males and females initially in the 70s having similar hazard rates, by the 90s the gender gap started to grow with higher hazard rates for educated men than for educated women. However, for exits from unemployment to informal employment, gender is the main determinant: men are more likely to exit to informal private employment than women regardless of their educational level. Although the hazard rate of leaving unemployment to formal private employment has increased in the 80s relative to the 70s, it has been rather stagnant in the 90s for men. As for women, the probability of getting a private formal sector is almost close to zero and has hardly changed for the past three decades. In addition, the findings indicate that education is an important determinant of exiting unemployment leading to a positive relationship with exiting unemployment to public sector, but a negative one with exiting unemployment to private informal sector.

In Chapter IV we examine further the interaction between education and institutional sector as determinants of stratification in labor rewards during the transition.   The main conclusion reached is that the impact of returns to schooling upon wages in Morocco and Egypt during the era of structural adjustment has diminished.  This is particularly due to low quality technical education which serves to compress the wage structure. We illustrate this by highlighting two diverging trends. In Morocco wages became compressed and the differential between the private and the public sector generally narrowed, especially for workers with technical or university degrees. Simultaneously, real wages in the public sector stagnated.  Generally, the Egyptian experience saw a polarization of wages in the two sectors, with almost symmetrical trends between men and women. The availability of more recent data for Egypt in 2006 allows for a more detailed analysis of returns of education across the entire earning distribution as the country enters into an era of rapid trade liberalization. Results show that in Egypt, returns to technical schooling decrease over the wage distribution. These findings imply that technical education may have a negative impact upon within-group wage inequality as the spread of returns drops for higher educational levels. One explanation is that there is an interaction between schooling and ability, in which the least able can benefit more from their schooling and the pay gap between the more and less able shrinks for higher educational levels. On the other hand, returns to university education in comparison to technical degrees increase over the earning distribution, and particularly so for males in the non-government sector.  For this group, university education has a decentralizing impact upon the distribution of earnings. Thus even in an environment of decreasing returns at the university level, the last decade witnessed great stratification between income groups in Egypt. High income groups appear to be able to utilize social capital to derive full benefit of university education, particularly in the private sector. On the other hand, technical secondary graduates, of lower income and academic achievement, are unable to derive any form of economic mobility from their education.  The above trends are consistent with a story of the decline of the public enterprise and manufacturing sectors, in an era of trade liberalization.

In Chapter V, we investigate this story further by focusing the analysis more specifically on the Moroccan and the Egyptian manufacturing sectors over their respective period of rapid trade liberalization. By doing so we are able to utilize the same labor data sets used in the previous chapters, but merge it (at the two-digit industry level) with trade variables that capture export orientation, import penetration as well as direct policy change relating to reduction of average tariffs, and use the merged data set to estimate an inter-industry wage premia model. The results indicate that for both Egypt and Morocco, after accounting for worker observable characteristics, industries that paid high tariff protection paid lower wages to workers. Although export promotion, as measured by the share of exports to total output in each industry, is by far the largest component of trade reform in both countries over the period understudy, it only proved to 7be a statistically significant determinant of wages in the Egyptian case. Export orientation and the change in export orientation are both significant and positively related to wages in 2006. In other words, for all manufacturing, trade liberalization in form of lower tariffs and trade openness in terms of export orientation (but not import penetration which is insignificant) appear to exert a positive influence on wages for the average worker in the manufacturing sector in Egypt.  There interesting sector and gender differentials as well. In Morocco, only private enterprise workers gain, whereas public enterprise witnesses substantial reduction in wages due to liberalization. In contrast, in Egypt both types of workers gained, and gains were even greater for public enterprise workers. The gender dimension seems to be consistent in both countries, though, with females in fact gaining much more from trade liberalization compared to their male counterparts. This lends some support to the theories of Gary Becker who argued that increased competition through trade would make it more difficult to discriminate against female workers

Finally in Chapter VI, we utilize data on quality of jobs in the Egypt to see the extent to which higher paid jobs resulting from trade reform also could fit the description of being     ‘decent’ or ‘high quality’ jobs. Our results highlight that institutional factors of job quality (social security, medical insurance, a contract, paid casual leave, paid sick leave, and whether the worker is a member of a trade union) have the strongest correlation with the trade variables used in the analysis. Tariff reduction per se, does not seem to have had a significant impact on either wages or job quality over this period. On the other hand, increased export orientation exerts a strong positive impact on wages, but a significant negative impact on all job quality indices in many specifications. Finally, industries with the highest import penetration levels have the lowest job quality, but those that had the largest increase in import penetration actually also saw large improvements in job quality. The above results underscore the clear distinction between wage and job quality outcomes in the Egyptian labor market, and the importance of separating the two when examining the effect of trade policy on labour in MED region in general.

Given our research, it can be seen that the stratification of the Egyptian and Moroccan labor markets, as evidenced by the movement of wages, by access to employment, and by the returns to education within various economic sectors and across demographic characteristics, is generally improving over the period in question. There is also some indication that the rewards to women in the workforce are increasing and that the economic divide between men and women is similarly narrowing in some but not all respects.  However, these advancement are taking place in an environment of gradually increasing levels of economic and social hardship such that certain groups are becoming simply “less worse off” than their counterparts over time.  This is particularly the case when one examines the data relating to unemployment in both countries, job quality as measured by formality and the stability of employment in Egypt.  Significantly, our research has shown that demographic factors such as gender, education and geography influence wage outcomes to a degree often exceeding more tangible trade reform variables.  Given this, there are very clearly cultural or historical forces particularly influencing the position of women, access to education, and the geographic distribution of unemployment and poverty in the labor markets of the developing world, including in the MED region.  Remedy to this state of affairs is unlikely to be found in a simple embrace of international markets and domestic liberalization but is more likely found in domestic political economy reforms aimed at producing a credible judicial structure and educational system to enforce equality and the elimination of unjust labor market segmentation.

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Novembre 2009

By: Nicolas Péridy (Université de Nantes, Laboratoire d’Economie de Nantes, France)

In collaboration with: Corinne Bagoulla (Université de Nantes, Laboratoire d’Economie de Nantes, France), Ahmed Ghoneim (Cairo University, Faculty of Economics and Political Science, Egypt)

Note: This document has been produced with the financial assistance of the European Union within the context of the FEMISE program. The contents of this document are the sole responsibility of the authors and can under no circumstances be regarded as reflecting the position of the European Union.

Executive Summary

1. Stylized fact about regional integration, firms’ location and convergence

a) Regional integration and trade patterns

- The Barcelona agreement is often questioned about its effects on trade and convergence. The factors which explain this modest performance can be found in the lack of deep integration, long transitional periods, the high propensity to agricultural protectionism in the EU as well as the modest levels of the funds provided by the EU to MENA countries.

- Although it is too early to assess the effects of the Union for the Mediterranean (UMed agreement), the UMed main contribution relies in the new institutional setup designed to govern this initiative. It includes a co-presidency, a joint permanent committee as well as a secretariat. On the other hand, the main pitfall of the UMed is the dilution of the Barcelona process, notably through the large number of countries involved compared with the Euromed agreement, but also through the addition of vagueness and complexity in the decisions.

- The analysis of trade patterns since the implementation of the Barcelona agreement reveals that there has not been much change in the export and import structure of MENA countries. In particular, trade diversification and the geographical orientation of trade have not changed a lot.

- Both MENA countries and EU experience similar trends and levels of the contribution of manufacturing to their economies in terms of percentage of exports, employment, and GDP. However, the indicators revealed that MENA countries differ significantly from EU countries in terms of the products and sectors in which both sets of countries are specialized in, with MENA specialized in low technology products and EU specialized in high technology products.

b) Industrial structure and location

- MENA countries exhibit a significant share of industrial value added in GDP (from 27% for Turkey up to 36% for Egypt). This is more than in EU countries. However, high technology industry only account for 1/3 of industrial production in MENA countries, against 50% in EU countries.

- The calculation of concentration indexes show that MENA countries’ industries are more concentred (especially Tunisia, Morocco, Jordan and Egypt) than in the EU (except Ireland, Greece and Finland). Moreover, this concentration process has been reinforced in the past 2 decades in MENA countries, contrary to the EU. A breakdown by industry shows that concentration is particularly significant in low-technology industries, especially pottery, plastic, footwear, leather, textile and tobacco.

- The estimation of a model of economic geography shows that firms’ location in the euro-mediterranean area depends on:

* Labour costs. Hence, the low labor costs observed in MENA countries explain to a large extend the concentration of labour-intensive industries in these countries.

* Supply access. The higher the supply access, which measures the proximity to inputs, the higher the concentration process.

* Market access. The better market access (due to a large country size), the more firms are incited to locate in these markets. In MENA countries, the small size of their markets reduces concentration. Firms tends to concentrates in the EU because a a more favourable market access

* The quality of infrastructure and on business environment is also a key variable for explaining firms’ location in the euro-mediterranean area.

* The level of technology also matters. The lower the technology level, the higher the concentration process.

* Finally, openness as well as regional integration generally promotes concentration, as it makes easier market access.

To sum up, the high concentration level observed in MENA countries can be explained by their low labour costs, their low-technology industrial specialisation, their efforts in openness and regional integration, infrastructure and business environment as well as the proximity to inputs (supply access). However, their detrimental market access leads to a reduction in firm’s concentration in Mediterranean countries.

c) Evolution of GDP par capita

- Looking at per capita GDP growth as a first insight about convergence, it is striking to observe that over the period 1960-2007, the per capita GDP growth in MENA countries (MENA) is slightly above that recorded for the EU (EU-6 and EU-15), whatever the GDP indicator used. However, this result masks significant differences across countries. As a matter of fact, countries like Tunisia, Morocco as well as Egypt show per capita GDP growth rates well above that of the EU. On the other hand, Algeria shows growth rates well below the EU average, whereas for Turkey and Syria, it is similar to that of the EU.

- Considering changes over time, it is worth mentioning that the EU per capita GDP rate of growth is declining over time whatever the indicator considered. Regarding MENA countries on the other hand, this rate of growth declines first before recovering in the last period. This means that in the first period (from 1960 to 1994), the MENA rates of growth are generally lower than those recorded for the EU before becoming above that of the EU from 1995 onward.

- Again, there are some differences across countries. Tunisia, Turkey and Jordan follow this general declining-recovering trend, whereas Morocco, Egypt and Syria show a declining trend over the whole period. As a result, these differentiated trends modify the ranking of the countries in terms of GDP growth over time. As a matter of fact, taking the most recent period (1995-2007), the best performance is recorded for Tunisia and Turkey (increasing trend), still followed by Egypt despite its declining trend. These three countries are above the EU average. On the other hand, Morocco moves from above to EU-average (declining trend), Syria moves from above to below EU-average. Algeria and Jordan generally remain below the EU-average.

- A final interesting set of statistics relates to the comparison of per capita growth rates with the four cohesion EU members (Greece, Spain, Portugal as well as Ireland). Over the whole period, it is obvious that these four countries perform better that MENA. In fact, Tunisia only approaches these growth rate levels. However, the evolution over time changes this picture to some extent. As a matter of fact, the growth gap between MENA and cohesion countries is very significant in the first period. However, this gap is narrowing in the second and last periods. In 1995-2007, the per capita GDP growth in MENA countries becomes greater than that of Portugal and approaches that of Spain (this is particularly true for Tunisia, Morocco, Egypt and Turkey). The gap is only increasing with Ireland, which takes advantage of the growth waves in the financial economy.

2. Analysis of convergence indicators

a) The calculation of s-convergence does not establish that the MENA countries have converged toward EU per capita income levels, except in recent years for specific countries, such as Tunisia, Turkey as well as Egypt and Morocco to a lesser extent. These results contrast with cohesion countries, especially Ireland, Spain and Portugal which show a rapid convergence process to the EU-6 per capita GDP levels. There is also evidence for divergence within the Euro-Mediterranean as a whole, despite a stable value of s in recent years. Finally, there is no evidence of convergence across MENA countries.

b) However, the absence of s-convergence does not mean an absence of convergence process. This is why the g-convergence indicator, based on the country ranking of per capita GDP, can be used together with the s-convergence to infer about b-convergence (Boyle and McCarthy, 1999). In this respect, the g-convergence analysis is generally supporting convergence between MENA countries and the EU. Another difference is that the g-convergence also supports a slight convergence across Mediterranean countries, whereas s was constant. In spite of these differences, the relative performance of the countries is unchanged whatever the convergence indicator used. As a matter of fact, the best performance in terms of convergence is that of Tunisia, followed by Turkey and Egypt. Morocco and Syria are in a intermediate position, whereas Algeria and Jordan are diverging whatever the convergence indicator used.

c) The calculation of b-convergence supports the previous results, showing some evidence of convergence between MENA countries and EU per capita GDP levels, whatever the way GDP is measured and whatever the estimator chosen. This result is also valid whatever the EU reference countries used (EU-6 or EU-15)

d) More detailed results a country level indicate that b-the convergence hypothesis is clearly accepted (at 1% level) for Tunisia, Turkey, Egypt and Morocco. It is barely accepted for Syria (10% level) and clearly rejected for Algeria and Jordan. These results correlates those previously found with the other convergence indicators. In addition, the hypothesis of convergence within the MENA region is also accepted in all cases. Finally, the convergence hypothesis is also supported for the whole euro-mediterranean area.

e) The calculation of convergence for Human Development Index (HDI) levels complements the results previously found with GDP per capita only. In this regard, it can be argued that i) the convergence process between the Mediterranean countries and the EU is well established for the HDI; ii) Tunisia, Turkey and Egypt remain the countries which show the greatest convergence rates; iii) the euro-mediterranean area is also converging as well as HDI within the MENA area.

3. The determinants of convergence

a) The initial income level is a first determinant of growth and convergence in MENA countries. In this regard, these countries are globally converging to the EU level over the whole period, conditionally to the other independent variables included in the model. This result correlate those found with the non conditional b-convergence calculated the previous section.

b) Some other variables are also very significant. These are first education and R&D, which both significantly contribute to growth in MENA countries. Second, transport and communication also play a determinant role for explaining convergence. As a matter of fact, roads, telephone lines and even internet show all a positive and significant sign whatever the estimator.

c) Trade, specialization and economic geography also matter. Indeed, inter-industry specialisation tends to reduce growth in MENA countries, essentially because MENA countries are specialized in low value added products. For the same reason, the agglomeration of economic activities is detrimental to convergence. In regard, it is also interesting to observe that the variable related to the share of primary exports has a negative impact on convergence. Openess and FDI are a necessary but not sufficient condition for convergence.

d) The Barcelona agreement has no direct impact on real convergence of MENA countries toward EU income revels. However, the EIB loans positively contribute to the convergence process of MENA countries.

e) Amongst the remaining determinants, the share of government consumption in GDP has an expected negative impact on convergence. This can be explained by the fact that public consumption is financed by distortionary taxes which reduce the growth rate (Sala-i-Martin, 2004). However, the share of public sector investment in GDP has a positive impact on convergence. This result supports the role of public investment in MENA countries, especially concerning transport, infrastructure and technology.

4. policy implications

a) Given the primary role of human capital and education for explaining convergence in MENA countries, these countries should pursue their efforts in this field. In this regard, it is worth mentioning that some MENA countries have made significant efforts in the past decades. As a matter of fact, the secondary enrolment rate, which was below 50% in most MENA countries before 1990, has reached in 2005 more than 75 % in Turkey (76%), Tunisia (83%), Egypt (86%), Jordan (88%) and Algeria (83%). Significant progress has also been made in Syria and Morocco, although this rate is still below 70% in these countries. This progress must be pursued in the coming years in order to reach the 100% rates of developed countries.

b) Similarly, given the importance of R&D for explaining growth, MENA countries should go on investing in this field. Some countries have already done significant progress in recent years, especially Tunisia, Turkey and Morocco. In these countries, the R&D expenditures approach 1% of GDP. This is close to the levels reached in Southern EU countries, but still far from those in France and Germany (greater than 2%) as well as Sweden and Finland (more than 3.5%). However, Algeria, Egypt, Jordan and Syria exhibit rates which are lower than 0.35%. These countries should make considerable efforts in the coming years to improve their research capacity as a means of catching up the GDP per capita gap with the EU.

c) MENA countries should also continue to invest in transport and communication. For instance, Turkey, Tunisia, Jordan and Morocco have significantly improved their roads and developed highways and other transport infrastructure. These countries (including also Egypt) have also considerably improved the telephone access, with more than 100 telephone lines per 1000 inhabitants. The internet access is also progressing. As a matter of fact, in 2005, Morocco enjoyed 24 internet users for 100 people, Jordan 23, Tunisia 17.  However, these countries still remain far from EU levels (generally greater than 50 users per 100 people). As a result, investments in this area must be a priority. This remark applies particularly to Algeria, Egypt and Syria which generally show a wider gap with EU levels. In this regard, the econometric results showed that public investment play a significant role in the convergence process. This means that governments must give priority to public investments in the areas above mentioned (R&D, education, transport and communication), even if public investment must be complemented by private investment.

d) MENA countries should also continue to open their economies even if openness and FDI are not sufficient conditions for growth. In addition, these countries must change their specialization process toward more high-tech (value-added) products more similar to international demand. As a matter of fact, these countries still face a detrimental specialization process which is growth-reducing simply because of the nature of the goods involved. In addition, the geographical concentration and agglomeration process is also detrimental to growth for the same reasons. A move toward higher value added industries specialization and concentration process would change this detrimental relationship by promoting growth. Again, the development of education and R&D and more generally human capital may be helpful for the change in this specialization process.

e) Finally, we have seen that also the Barcelona agreement has not made it possible to directly stimulate convergence. However, the EIB loans have significantly contributed to convergence. As a result, the EIB loans must be encouraged and developed, especially for projects in line with human capital, transports and infrastructure. The contents of the Barcelona program should also be reconsidered in the light of the Union for the Mediterranean so as to include more growth-creating projects.

f) As a final point, some countries still face detrimental demographic and migration indicators. The case of Jordan is particularly significant. Indeed, the population in this country has increased much more than in the other MENA countries, i.e. from 3 to 6 million inhabitants since 1990. This is due to both higher natural increase and also the inflow of foreign population after the two Gulf wars (especially from Iraq).  As a consequence, this country must mechanically enjoy a much higher GDP growth rate for the same GDP per capita growth. Although economic theory does not directly relate population growth to standards of living, Jordan is likely to be negatively affected by population growth, partly due to the inflow of migrants. Syria and Egypt also face a high growth rates (more than 2% each year) though it is not due to migration. Still, these countries should also accelerate their efforts to control the population growth.

g) This research is a first step for understanding the growth and convergence process in MENA countries. Despite considerable efforts to build up a comprehensive database over almost 50 years, this research is still limited by the lack of data for some variables and by the use of sometimes rough proxies. It also failed to adequately show the precise impact of particular variables, such as corruption, colonization, cohesion funds… Future research can be conducted to focus of the role of specific variables.