Front Matter

Front Matter

Saíd El-Naggar
Published Date:
September 1994
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    © International Monetary Fund, 1994

    Cataloging-in-Publication Data

    Financial policies and capital markets in Arab countries / edited by

    Said El-Naggar.—Washington, D.C. : International Monetary Fund, [1994]

    p. cm.

    “Papers presented at a seminar held in Abu Dhabi, UAE, January 25–26, 1994.”

    ISBN 1-55775-418-7

    1. Finance—Arab countries—Congresses. 2. financial institutions—Arab countries—Congresses. I. El-Naggar, Said, 1920- II. International Monetary Fund. HG187.3.F54 1994

    Price: US$15.00

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    Sponsoring Organizations

    • The Arab Monetary Fund

    • The Arab Fund For Economic and Social Development

    In cooperation with

    • The International Monetary Fund

    • The International Finance Corporation


    In recent years the process of financial liberalization has spread in both developed and developing countries. This liberalization has been accompanied by increased global financial integration, which has led to a great expansion of cross-border capital flows. The impact of these developments on the economies of the Arab region and their prospects for the future were the focus of a seminar held in Abu Dhabi on January 25–26, 1994. In sponsoring the seminar, the IMF was again happy to be associated with the Arab Monetary Fund and the Arab Fund for Economic and Social Development, as well as with the International Finance Corporation. The present volume of seminar proceedings is the sixth to have been published jointly by the IMF and the Arab Monetary Fund and provides a most timely addition to the series. Once again, Professor Said El-Naggar moderated the seminar and brought his considerable experience to bear on managing the discussion as well as on preparing the proceedings for publication.

    The issues taken up in the three papers presented at the seminar cover the topics of the influence of financial sector reform in macroeconomic and structural adjustment, the role of financial institutions in facilitating investment and capital flows, and the status, role, and development prospects of the emerging Arab capital markets. Although many of these issues are dealt with in a broader context, they all have considerable relevance to the Arab countries in particular. I am confident that this volume will enhance understanding of these important topics, which are essential for economic growth in the Arab region.

    Michel Camdessus

    Managing Director

    International Monetary Fund


    The Arab countries, like many other developing countries, are presently engaged in the process of building up and stimulating their own financial markets. This is part of the economic infrastructure that must be in place if these countries are to realize their full growth and development potential. Financial markets perform a number of crucial functions. They represent an important vehicle for mobilizing private savings and channeling them toward the most productive investment opportunities. Moreover, they serve the purpose of allocating the element of risk—inherent in the modern production process—to those most capable of shouldering it. Without financial markets, the task of financial intermediation between savers and investors becomes both costly and inefficient. The relevance of these functions to the prospects of growth and development can hardly be overstated.

    Recent developments at both the international and national levels have pushed the issue of financial markets to the forefront of the development agenda. At the international level, much has been said about the growing interdependence of the world economy. Underlying this phenomenon is the rapid pace of technological progress that has characterized the second half of the twentieth century. Technological progress has been most remarkable in the areas of transport, telecommunications, and information. As a result, different parts of the world have become linked to an extensive network of commercial, financial, and cultural relationships. The planet has become indeed one global village. This fact is most clearly reflected in the globalization of financial markets. Financial markets were once typically segmented along national boundaries. This is no longer the case. Nowadays it is possible to speak of a global financial market in which there is a supply of and demand for a world pool of savings. Globalization of financial markets was given impetus by other important developments. Foremost among these are removal of restrictions that used to impede international capital movements; easing of foreign exchange controls; financial innovations such as swaps, options, futures, and portfolio insurance; the drive toward securitization of various obligations; and, last but not least, the growth of universal banking.1

    From the viewpoint of growth and development, globalization of financial markets has a double significance. On the one hand, foreign savings have become available to supplement domestic savings in countries that create the right kind of investment climate. On the other hand, developing countries face the real danger of losing part of their domestic savings through capital flight for lack of appropriate economic policies.2 This is precisely what happened in a number of developing countries prior to the eruption of the debt crisis in the early 1980s. In most of the heavily indebted countries such as Mexico, Brazil, Argentina, Nigeria, Egypt, and Algeria, economic policies were such as to cause capital flight on a significant scale. To finance their development plans, these countries were compelled to resort to foreign borrowing as a substitute for their own domestic savings, which sought a safe haven abroad. In a sense, domestic savings were converted into external indebtedness. The process was evidently unsustainable as the level of foreign borrowing reached levels far in excess of repayment capacity. The situation led inevitably to the debt crisis, which dealt a heavy blow to growth and development throughout the 1980s. Thus, there are risks as well as opportunities attendant upon globalization of financial markets. The ability of any particular country to avail itself of the world pool of savings is matched by the ability of others to lure away part of domestic savings.

    Financial markets have acquired a special significance in the wake of recent changes in the structure of capital flows to developing countries. During the period following World War II, the pattern of external financing of development underwent some important changes. It is possible to discern three phases. The first phase covered the period preceding the increase in oil prices in 1973. During this phase official development assistance, both bilateral and multilateral, accounted for the major portion of capital flows to developing countries. The second phase extended from 1973 to the onset of the debt crises in 1982. This was the period that saw the emergence of oil surpluses on a big scale together with substantial structural deficits in the balance of payments of oil-importing countries. During this period, the recycling of oil surpluses led to a dramatic increase in commercial bank lending. For the first time in the postwar period, developing countries, particularly in Latin America, resorted to commercial borrowing as the main source of development finance. This phase came to an abrupt end following the debt crises. Commercial banks became much more cautious in extending new loans to developing countries. In fact, the period witnessed a virtual cessation of voluntary net lending. There was a gradual shift from debt instruments to foreign direct investment (FDI) and portfolio investment as the principal source of external development finance. Presently, FDI is the biggest single component of the renewed flow of capital to developing countries.3

    So much for the changes at the international level. At the national level, the most important single factor is the wave of liberalization, deregulation, and privatization that has swept the developing world and of course the former socialist countries since the mid-1980s. In most of the developing countries, including a large number of Arab countries, economic reform marked the end of a development strategy that was characterized by heavy dependence on the public sector, centralized planning, and bureaucratic control over all aspects of economic activity. Under this strategy, the state became the main vehicle for saving and investment, with little if any role for the private sector. Financing of development was for the most part a matter of budgetary allocations and appropriation of surpluses realized by public enterprises. The concept of a capital market has obviously no place in such a system. In fact, the little that was there by way of capital markets ceased to exist with the introduction of the dirigiste, or socialist, model of development. Such was the case in many Arab countries, including Egypt, Algeria, Tunisia, Libya, Sudan, Syria, and Iraq. For the better part of the three decades prior to the implementation of economic reform programs, capital markets were hardly known, much less needed, in these countries. The situation was reversed as they embarked on reform that would lead them to a market-based, private enterprise-oriented system. Gradually, the private sector began to grow in relative importance and to take over many of the activities that used to be undertaken by public enterprises. The process of transformation meant also decentralization of saving and investment decisions as well as greater reliance on market forces and private incentives. It was not long before it was realized that the existence of an active capital market was a sine qua non for the proper functioning of the new economic system.

    The three papers contained in this volume provide a comprehensive analysis of various aspects of capital markets in general and particularly in the Arab countries.

    Said El-Naggar


    Opening Statement

    Osama J. Faquih

    Director General and Chairman of the Board of the Arab Monetary Fund

    On my own behalf and that of Mr. Abdullatif Al-Hamad, Director General and Chairman of the Board of the Arab Fund for Economic and Social Development, I have the pleasure of welcoming you to this hospitable country for the Seminar on Financial Policies and Capital Markets in Arab countries. This is the sixth in the series of seminars designed to address topical economic issues of particular significance to the Arab countries. I am pleased that these seminars—the fruit of collaborative efforts of Arab and international financial institutions—have been successful. Their proceedings now constitute leading reference materials of special relevance to those interested in economic development issues in the Arab region.

    Over the past few years, several Arab countries have adopted comprehensive reform and adjustment programs to restructure their economies and to adjust and rationalize their economic and financial policies. The scope of such programs has covered price liberalization, removal of constraints impeding investments and trade flows, privatization of the public sector, and the promotion of its institutions.

    While earlier seminars addressed some of these reforms, the present one deals with one of the most important aspects of economic reform; namely, financial policies and the institutional development of the financial sector. In our opinion, this topic has recently acquired particular importance in view of the fact that, notwithstanding the adjustment efforts made by the Arab countries and the progress achieved in this field, external as well as internal imbalances still impede economic growth and stability in Arab economies. Available data for 1991 indicate that, on average, the government budget deficit for Arab countries taken together reached around 15 percent of gross domestic product. Most Arab countries are still unable to retain domestic savings and attract foreign investments. According to preliminary figures for 1992, Arab funds invested abroad exceeded $650 billion at a time when the combined gross domestic product of Arab countries was estimated at $450 billion. In some countries carrying out economic adjustment programs with considerable success, private investments are slow in responding adequately to changes in the incentive structure.

    This situation underscores the importance of and need for adopting appropriate financial policies, developing Arab capital markets, establishing an institutional framework conducive to attracting savings through effective resource mobilization and allocation, as well as creating an investment climate with supporting incentives to attract foreign investments and to repatriate and retain Arab private sector investments within the Arab region. This would encourage that sector to play a greater and more effective role and foster its contribution to economic and social development.

    The seminar’s program is confined to the discussion of three papers, each addressing one major aspect of the central theme. The topic of the first paper focuses on “The Role of Financial Sector Reform in Macroeconomic and Structural Adjustment.” This subject derives its relevance and importance from the fact that the fundamental aim of financial policies is to restore domestic and external balance in the context of a favorable economic climate required for effective capital market performance.

    The second paper will address the “Role of Financial Institutions in Facilitating Investment and Capital Flows.” These institutions act as the prime intermediary between investors seeking sources of financing that best match their projects and those who wish to invest in instruments that ensure both safety and liquidity.

    The third paper reviews “The Emerging Arab Capital Markets: Their Status, Role, and Development Prospects.” These markets are expected to play a central role in repatriating Arab capital and in attracting larger foreign capital and investment flows into the region.

    Some Arab countries have made tangible progress in the development of their capital markets and efforts are under way in several other member countries of the Arab Monetary Fund (AMF). Arab capital markets generally still have a long way to go before achieving viable structures, however. Generally, these markets are still weak at the legal and institutional levels, as reflected in the lack of regulatory frameworks for primary markets and the absence of secondary markets or their narrow base in cases where they do exist. They are also characterized by a shortage of professionals with proper technical qualifications in the financial, accounting, and legal areas.

    A key question that arises with respect to the topic of the third paper is, How can these shortcomings be overcome and what needs to be done to promote the growth and development of Arab financial markets in line with structural adjustments aimed at reorienting Arab economies?

    The development of Arab capital markets has been one of the main priorities on the AMF’s agenda. To that effect, it initiated a work program a few years ago to assist some of its member countries in upgrading existing domestic securities markets and to help others in establishing such markets, with a view toward increasing the contribution of these markets to the attainment of economic and social policy objectives and laying the groundwork for the eventual integration of such markets at a regional or subregional level. Moreover, as part of this program, AMF, in collaboration with IFC, is completing the establishment of an Arab Markets Data Base (AMDB). This project, which is due to go onstream shortly, aims at providing member countries with a comprehensive financial information system. It will also disseminate information on those markets, enhance public awareness of investment opportunities, and promote further confidence in the domestic capital markets.

    The AMF is confident about the ultimate success of the efforts of member countries together with its own initiative to develop their capital markets as part of wider and broader structural adjustment programs.

    Finally, on behalf of AMF, I would like to express our thanks and appreciation to the Government of the United Arab Emirates represented by Mr. Ahmed Humaid Al-Tayer, Minister of State for Finance and Industry, for its hospitality and unstinting support. I would like also to thank the institutions that cooperated in the organization of this seminar.

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