The decade of the 1990s was surely one of the most dramatic periods in Yemen‧ s rich history. Unification of the two Yemens, rapid development of an oil sector, and a radically changed external environment fundamentally transformed the opportunities and challenges the Yemeni people face. This paper summarizes economic developments in Yemen during the 1990s, takes stock of the many structural changes in the economy during the decade, and identifies reforms that are needed if Yemen is to move to a path of rapid and sustainable growth, reduce rampant poverty, and responsibly manage the highly volatile economic rents from its oil wealth. It is hoped that this paper will contribute to the ongoing debate in Yemen on the appropriate development strategy for the coming years.

Section II summarizes the main political and exogenous events that shaped the decade. The decade began with the unification of the Yemen Arab Republic (YAR, or North Yemen) with the People’s Democratic Republic of Yemen (PDRY, or South Yemen). The YAR had emerged in the 1960s as there publican successor to the medieval regime of the imam; the socialist PDRY had its origins in the struggle for independence in the British colony and protectorates around Aden in 1967. Only a few months after unification Yemen experienced a major shock: the onset of the second Persian Gulf crisis led to the return of about three quarters of a million Yemeni workers from the Gulf states, challenging a fragile socioeconomic fabric already weakened by a severe two–year drought. The development of the country’s oil fields during the same period may have been the element that kept Yemen away from the brink. Oil exports provided a new and growing source of foreign exchange earnings, even if fluctuations in world oil prices added a new vulnerability.

The strains from these developments eventually led to a brief civil war in 1994, following an attempt at secession by elements of the former PDRY leadership. It was only after the secessionists were defeated militarily—and as the new constitutional system providing for a multiparty democracy, a free press, and an essentially market-based economic system took hold—that the political consensus could be forged for the urgent economic reforms that had been delayed since unification. In 1995 Yemen initiated an economic reform program, supported by the IMF as well as by the World Bank and other institutions and countries, aimed at strengthening the foundations of a market-based and private sector-driven economy, integrated into world markets and operating in a context of broad financial stability. This approach under-pins government policy today.

The first priority of reform was obviously to restore macroeconomic stability, which was threatened by large fiscal imbalances; by price distortions resulting from the attempt to suppress excess demand through price, foreign exchange, and interest rate controls; and by a huge debt overhang arising largely, but not solely, out of the former PDRY’s debt to the Soviet Union. Section III describes the emerging macroeconomic policy mix. Fiscal policy was obviously key, and in light of the importance of oil for government revenue, it is assessed also from an intertemporal perspective, given the fact that Yemen has only limited proven reserves.

Although stabilization policy was highly successful, structural reforms faced greater difficulties and greater resistance and were more severely constrained by Yemen’s limited administrative capacity. Section IV describes the progress on structural reform to date, pointing to impressive success in liberalizing the exchange and trade regime and lifting price controls, but also to a huge unfinished agenda in tax and budget management reform, privatization, and civil service reform. Deep-rooted obstacles to economic growth, notably including weaknesses in the judicial system and governance, have barely been touched; reform in these areas, perhaps more than in others, will have to emerge from and be shaped by civil society itself.

Section V looks at some of the “formal” social safety net measures put in place to protect the most vulnerable segments of society not only against the adverse effects of certain reform measures (notably the reduction in generalized subsidies), but also—and probably more important—against the often brutal exogenous shocks that Yemeni society has had to absorb. These included not only the return of expatriate workers in 1990–91 and the dislocations from the civil war in 1994, but more recently the collapse of oil prices in 1998, No data exist to gauge the scope of traditional, often tribal- or religious-based, social support systems. Such systems likely remain far more important than formal systems and must have been at the core of Yemen’s ability to absorb the workers returning from the Gulf region.

Finally, Section VI looks at the Yemeni economy’s performance in terms of growth and inflation, social indicators, and saving and investment balances; the analysis also compares Yemen’s record with that in other, similar countries. Clearly, during the second half of the 1990s, performance improved on all three fronts—remarkably so for macroeconomic stability, but considerably less so for social indicators. This reflects several factors: the return to political stability and peace, oil sector developments that were on the whole favorable, and the First fruits of reforms. But in order to build on these achievements, an even greater focus on growth and poverty reduction will be needed. The Yemeni authorities have therefore embarked on preparing a comprehensive poverty reduction strategy, in the context of the next Five-Year Plan (2001–06) and in broad consultation with civil society. The plan was launched in early 2001. It is hoped that this paper can contribute to formulating such a strategy by providing some of the needed background and by drawing some first lessons from Yemen’s adjustment experience to date.