Abstract
United Arab Emirates: Selected Issues
Competitiveness and Diversification in the Context of Fiscal Consolidation1
The UAE’s impressive transformation has been initiated by its founder’s vision, the late Sheikh Zayed, who believed that “oil is of no use unless it is used in the service of the people”. As a result, early on oil revenues financed fiscal and quasi fiscal spending to develop infrastructure to retool the growth model for a more diversified economy, transforming a confederation of states with primarily rural and trading economic activities into an emerging regional economic hub. Its authorities have ambitious goals for further economic diversification and to transition to a knowledge driven economy to position the country so that it can celebrate its last barrel of exported oil. Other countries’ experience suggests that the road to economic diversification is long and challenging, but can be successfully managed by promoting private sector-led and export-oriented growth. Today UAE’s challenges are to transition into a knowledge driven economy and gradually move from a state dominated model to one that is more private sector focused.
A. Stylized facts about economic diversification in the UAE
Output Diversification
1. Growth has been hovering at 5 percent and its volatility has declined. The UAE’s growth has declined from an average of 10 percent in the 1970’s to about 5 percent over the period 2011-15. While for the past two decades, growth has remained almost stable at about 5 percent, output volatility has significantly declined. When compared to other GCC countries over a similar period, the UAE is the third fastest growing economy and its output has been among the least volatile. When compared to countries that managed to successfully diversify away from commodity exports such as Chile, Indonesia, Malaysia and Mexico (CIMM), the UAE’s average growth was favorable, but output volatility was significantly higher (7.6 percent versus 3.9 percent on average).
UAE: Real GDP Growth, 1970–2015
(In percent)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Sources: Authorities, and IMF staff estimates.UAE and Comparators: Real GDP Growth
(In percent, average for the period 1970–2015)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Sources: Authorities, and IMF staff estimates.2. The economic base has evolved from hydrocarbon dependency toward more services and industrial output. As of 2015, the main components of the output base are services (46 percent of total output), hydrocarbons (32 percent) and industrial activities (22 percent). (Figure 3A). While remaining important and pivotal, the hydrocarbon sector contribution to real GDP growth has been gradually declining and substituted by more services. Output volatility has been driven by the oil price fluctuations and real estate developments affecting related services and industrial activities. (Figure 3 B)
Overall GDP by sector
(Real GDP, share as percent of total)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Contribution to Real GDP Growth
(In percent)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Services. The share of services in output has increased from 37 to 46 percent over 2001-2015 reflecting the diversification efforts. Real estate, tourism, trade, transportation and government services are the main growth drivers of the sector.
a. Real estate activities have been an important growth driver but have also been a source of output volatility marked by two periods of contraction in 2008/09 with the global financial crisis and in 2014 with the price correction due to oversupply.
Services Sector
(Share as a precent of total)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Contribution to Real Growth of Services Sector
(In percent)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
b. Tourism has been in the center of the country’s economic expansion plans and has experienced a fast growing trend supported by significant infrastructure developments. The World Travel and Tourism Council estimated at 28 percent the sector’s contribution to GDP in 2015, and at 47 percent its share of employment. As a result, number of tourists’ arrivals increased from 4 to 15 million visitors a year over 2000–15.
c. Transport and trade activities have increased in tandem with the UAE becoming a regional hub for transport and logistics. A few of the flagships are Dubai international airport, which is first in the world in terms of passengers (topping London Heathrow); Emirates Airline, a regional leading airline; and DP World, a leader in world port infrastructure and services.
d. The financial sector’s contribution to growth has been growing since the 2008 crisis. Rapid financial sector development allowed the UAE to emerge as the financial center in the region. Total banks’ assets are the largest in the Arab world. The creation of the Dubai International Financial Center (DIFC) in 2004, a federal financial free zone, has provided an important platform for business and financial institutions for emerging markets with the legal, business, and physical infrastructures benchmarked against international standards. Furthermore, the UAE was upgraded from frontier to emerging market in 2013 by Morgan Stanley Capital International, and this shift has opened up new sources of longer-term capital for the UAE.
Hydrocarbon. The share of hydrocarbon output (oil and gas) has dropped from 43 to 32 percent over 2001-2015 owing to a large extent to the authorities’ diversification efforts expanding the non-hydrocarbon output, though part of it in downstream industries, and to a lesser extent to the drop in oil prices since mid-2014. The UAE’s hydrocarbon’s sector has developed into the world’s best partly owing to continued partnership with international oil companies (including BP, Shell, Total, Exxon-Mobil and the Japan Oil Development Company) under long term production-sharing agreements.
Industries. The share of industrial activities in total output grew from 18 to 22 percent over 2001-15. Construction, manufacturing and electricity are the main drivers of the sector with construction and manufacturing being the most volatile components of the sector due to high correlation with the real estate sector for the former and the oil sector for the latter. Petrochemicals, aluminum and steel have been the main pillars of industrial activities. The UAE has emerged as a leading aluminum producer in the Middle East with 46 percent of the market share and is hosting the world fifth largest producer company. The UAE is also the second largest cement producer in the GCC after Saudi Arabia. In addition, other sectors have been gaining momentum in partnership with foreign companies (Germany, Japan, Austria) such as the automotive sector, chemicals, cement, electrical machinery, power equipment and food processing. Partnerships with foreign enterprises and joint ventures allowed industrial and manufacturing companies to benefit from most up to date technologies.
Industrial Sector
(Share as a percent of total)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Contribution to Real Growth of Industrial Sector
(In percent)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Trade Diversification
3. Despite a diversified output base, trade diversification still lags behind in terms of diversity and quality of exported products when compared to CIMM.
Export base. Hydrocarbon dependency in exports revenues has declined tremendously for more non-hydrocarbon exports and re-exports which have grown respectively from 2 to 28 percent of GDP and from 11 to 36 percent of GDP over 1990–2015. (Figure 6a) While disaggregated data is not available on the goods’ composition of non-hydrocarbon exports, the 2013 UAE yearbook mentions that the exports base has evolved from petrochemicals to more diversified products such as machinery and transport equipments, chemicals and food. As for re-export segment, it has seen rapid growth positioning the UAE as the major re-export center for the region and the third largest in the world after Hong Kong and Singapore. Jewelry is the main re-export followed by plastics, cars, phones, food and fiberglass. The rapid pace of expansion of the nonhydrocarbon exports and re-exports has been facilitated by the Free Trade Zone (FTZs) that provide logistical, administrative and financial advantages for exporting and re-exporting companies. These FTZs host a large number of international companies that cater to the Middle Eastern and Asian markets. (Figure 6b) Exports’ expansion has also been helped by the UAE’s tremendous development of its port and airport infrastructures and services. In line with the Emirates’ vision for becoming a regional hub for transport, logistics and a focal point of the global travel industry, the export services have also expanded from 2 to 7 percent of GDP over 2000–15 mainly on account of tourism and transport services. (Figure 7) These advances have helped improve the external service balance from a deficit of 2 percent of GDP in 1996 to a surplus of 0.8 percent in 2015. (Figure 8).
Figure 6a. UAE: Exports Composition, 1990–2015
(In percent of total)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: Authorities’ data.Figure 6b. UAE: Non Hydrocarbon Exports Composition
(In billion of USD)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: Authorities’ data.Figure 7. UAE: Service Credit, 1990–2015
(In percent of GDP)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: Authorities’ data.Figure 8. UAE: Services Balance, 1990–2015
(In percent of GDP)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: Authorities’ data.Directions of exports. Exports destinations have also changed over the years from advanced economies towards emerging and developing countries. (Figure 9) Compared to the 1980’s, the share of exports to advanced economies (mainly European union and Japan) has declined by 45 percentage points while that to Asian countries 2, the Middle East, Iran and India respectively increased by 19 percent, 13 percent, 9 percent, and 8 percent. The changing exports destinations have been simultaneous with the growing shares of the non-oil exports and re-exports segments and supported by the rising influence of the Asia-Pacific region. The main re-export markets include Iran, Saudi Arabia, and other GCC economies. The expansion in exports destinations has also been facilitated by the UAE’s various free trade agreements (FTAs) which have opened trade and increased exports in the region and beyond. The UAE is a member of the GCC Customs Union, sharing both common customs law and external tariff with other GCC members. It is also a member of the Greater Arab Free Trade Area (GAFTA), an agreement signed in 1998 providing duty-free trade for limited goods between the 17 Arab countries signatories. It concluded FTAs with Singapore and the ASEAN Free Trade Area (AFTA) in 2008 and 2009 respectively, and [is now in consultation] with other GCC countries to conclude other free-trade agreements with the EU, Japan, China, India, Pakistan, Turkey, Australia, South Korea and the Mercosur bloc (including Brazil, Argentina, Uruguay and Paraguay).
Figure 9. Directions of Exports, 1980–2014
(Share in percent)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: IMF, Directions of Trade Database.1/ Asia 6 includes Hong Kong, Malaysia, Singapore, South Korea, Taiwan, Thailand.Economic diversification measures. Measuring diversification through three specific indicators such as the IMF export diversification and quality index, and the economic complexity index shows that the UAE compares favorably with the GCC but lags behind when compared to CIMM. In terms of economic complexity index, which measures the number of products made by an economy and controls for the likelihood that the same product is also made by others, the UAE compared favorably with the region, and Chile and Indonesia but has great strides to make when compared to Malaysia and Mexico. The export diversification index, which combines both measures of extensive and intensive dimensions of diversification shows that UAE is the most diversified economy in the region after Bahrain3, but compares less favorably to CIMM due to fewer number and lower volume of exported goods.
Figure 10. Economic Diversification
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Export quality. Overall export quality in the UAE has increased over time but the improvements have been unevenly distributed across product categories. Most of the improvements are concentrated in hydrocarbon and chemical products. (Figure 11) The quality of other exported goods requiring higher labor skills such as the manufactured goods, machinery and transport equipment declined. When compared to others, the UAE’s export quality stands above the average of the GCC but lags behind when compared to CIMM in particular Malaysia and Mexico. In addition, the UAE produces very low levels of high technology goods when compared to CIMM. (Figure 12)
Figure 11. UAE: Export Quality Evolution, 1990–2010
(Index, the higher the better)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: IMF Export quality dataset.Figure 12. UAE and Comparators: Export Quality
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Fiscal Diversification
4. While export dependency on oil has declined remarkably, diversification on the fiscal front has been less evident. (Figure 13) Similar to other GCC countries, fiscal dependence on oil revenues is high and nonhydrocarbon revenues have been strongly correlated with hydrocarbon revenues. Non-oil revenues are dominated by taxes on international trade and fees. Despite declining in the past, non-oil fiscal revenue as share of non-oil GDP appears in recent years more stable hovering at around 20 percent perhaps due to low taxation or narrow non-oil tax base. Furthermore, this high dependency on oil-revenues might translate into pro-cyclical fiscal policies and higher vulnerability to oil prices, which can increase growth volatility and policy uncertainty, which is often detrimental to economic diversification.
Oil Revenues Dependency 2000–15
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
1/ Oil fiscal revenue as a share of total.2/ Oil exports as a share of total exports.Sources: Authorities’ data and staff estimates.Financial Diversification
5. The UAE has well managed and diversified financial assets. The UAE has accumulated ample sovereign assets from oil revenues and have set up different Sovereign Wealth Funds (SWFs) or investment vehicles. While the overarching objective of all these funds is the economic diversification of the UAE, they also have different objectives related to intergenerational saving transfers, fiscal stabilization and social priorities. Total SWF assets are estimated at 1.2 billion by end 2015. The UAE’s largest SWF is Abu Dhabi Investment Authority (ADIA), established in 1976, is responsible for investing a significant portion of Abu Dhabi’s oil revenues mainly abroad. ADIA’s investment decisions are solely guided to deliver sustained long term financial returns in line with its economic objectives of intergenerational saving transfers and fiscal stabilization. According to the limited information available, ADIA’s assets are invested in a diversified portfolio distributed across more than a dozen asset classes including equities, fixed income, real estate and infrastructure, private equity and alternatives. These accumulated foreign financial assets provide important diversification to the country’s assets portfolio and bring in income flows denominated in foreign currency. An another example of a sovereign investment arm with a domestic diversification mandate is Mubadala, which is a key pioneer for Abu Dhabi’s economic diversification to support dynamic growth for a diversified economy. The fund is now self-funded and invested in a number of areas including air space, defense, renewable energy, real estate development, and healthcare.
UAE: Sovereign Wealth Fund Assets, 2015 (In billion U.S. dollar)
UAE: Sovereign Wealth Fund Assets, 2015 (In billion U.S. dollar)
| Abu Dhabi Investment Authoritiy | 773 |
| Investment Corporation of Dubai | 183 |
| Abu Dhabi Investment Council | 110 |
| International Petroleum Investment Company | 66 |
| Mubadala Development Company | 66 |
| Total | 1,199 |
UAE: Sovereign Wealth Fund Assets, 2015 (In billion U.S. dollar)
| Abu Dhabi Investment Authoritiy | 773 |
| Investment Corporation of Dubai | 183 |
| Abu Dhabi Investment Council | 110 |
| International Petroleum Investment Company | 66 |
| Mubadala Development Company | 66 |
| Total | 1,199 |
B. Status of UAE’s Competitiveness
6. Overall global competitiveness is favorable, but is lagging in areas of innovation, higher education and financial market. The UAE’s overall competitiveness compares very favorably with advanced economies and CIMM, especially in the areas of infrastructure, quality of macroeconomic environment, health and primary education, institutions, goods market efficiency, technological readiness and business sophistication. (Figure 14) Reaching the authorities goals’ of becoming one of the 10 most competitive countries in the world by 2021 will require improvements in the areas of innovation, financial market development, higher education and training, labor market efficiency, market size, and business sophistication.
Global Competitiveness Index, 2016
(1=minimum, 7=maximum)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
7. Despite strong real effective exchange rate (REER) appreciation, non-hydrocarbon export growth performance remained strong. Overall since 2000 the Dirham has appreciated by 29 percent in real effective terms. While there were a number of appreciation and deprecation episodes over 2000-15, appreciation pressures dominated owing primarily to inflation differential with trading partners and to the US dollar movements against the Euro. (Figure 15) Over 2005-12, changes in the REER were largely driven by inflation differential offsetting the dollar changes vis-a-vis the Euro. During the period 2012–15, while inflation remained broadly in line with trading partners, the REER appreciated by 17.8 percent in line with the US dollar strength. In early 2016, the REER started to depreciate owing to both a depreciating dollar and lower inflation differential. Overall, the Dirham REER appreciation appears to have had muted impact on price competitiveness as the share of nonhydrocarbon exports as a percent of total exports grew in real terms from 20 to 66 percent over 2000-15 and tourists’ arrival has more than tripled. For all CIMM (except Indonesia), which have more diversified exports including manufactured and high tech goods, their REER depreciated over 2000-15. (Figure 16)
UAE: REER, Inflation, and Dollar/Euro, Jan. 2000–Mar. 2016
(Indices, 2000=100)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: IMF database.UAE and CIMM: REER, 2000–15
(Indices 2000=100)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: IMF database.8. Labor costs have been rising while productivity has been declining4. Increases in unit labor costs (ULC) have not been accompanied by higher productivity. The UAE’s ULC has been on an upward trend and stood higher than the average in the GCC. (Figure 17A) The ULC estimates presented in this analysis should be interpreted with caution as they could have upward biaises given that they are based on the public sector compensation and don’t include the private sector compensations due to data limitations. At the same time productivity has been declining, even more so than in the other GCC countries.
Unit Labor Costs, 2000–15
(Index, 2000=100)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Sources: Authorities and IMF staff calculations.Productivity, 2000–15
(Indices of real output per worker, 2000=100)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Sources: Authorities and IMF staff estimates.9. Costs of starting and doing business are affordable with a predictable environment. The cost of starting a business in the UAE is somewhat higher than in the other GCCs but remarkably lower when compared to CIMM. (figure 18) Also worth noting that the cost has dropped over time for most countries in the GCC including the UAE, and that Saudi Arabia has recorded the largest drop. The UAE is a tax haven for businesses, with tax pressure broadly within the averages of the GCC but significantly lower than in CIMM. (Figure 19) Businesses do not pay corporate income tax but pay about 12.5 percent in labor taxes representing social security contributions.5 Other taxes represent land transfer/registration fees, trade license renewal fees and vehicle registration fees respectively for 2 percent, AED 48000, and AED 1000. All together these taxes amount to 15.9 percent of profit.
Cost of Starting a Business, 2016
(Percent of per capita income)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: World Bank Doing Business Indicators.Tax Rates on Businesses
(As a percent of total profit)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Sources: World Bank Doing business Indicators.10. Other factors costs are also affordable.
Cost of energy. In 2014, prior to the UAE removal of fuel subsidies, domestic prices of hydrocarbon products were already higher than in other GCC countries but were significantly lower than in CIMM. (Figure 20) In August 2015, the UAE was the first among the GCC countries to remove transport fuel subsidies bringing domestic prices in line with global prices. In addition, electricity access costs are among the lowest in the GCC and are significantly lower than in CIMM.
Transportation. Transportation infrastructure is very developed, somewhat compensating for higher fuel prices. The quality of roads, ports and airports infrastructure are among the world best.
ICT services. The International Communication Union (ICU) ranked in 2015 the UAE’s ICT level of development in third and 32th position respectively within the Arab world and globally. The UAE ICT’s sector is well developed and has recorded tremendous progress since 2010 with its global ICT ranking improving by 17 ranks since then. The ICU ranked the UAE in 24th position in terms of ICT affordability; and ICT affordability compares to the average GCC and is significantly more affordable than in CIMM. However, a closer look of the three different segments of ICT reveals that while affordability in the land lines and mobile cellular segments are similar to that of Norway (ranked 4th globally), the fixed broadband segment is less affordable.
Other Factor Costs
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
11. Cost of trading stands high by international standards. Despite the UAE’s notable advances in trade and transport related infrastructures, available data suggests that imports and exports costs are high and more particularly export costs. These costs are much higher than the average GCC country and the selected comparators. The bulk of these high costs relate to the preparation of documents for border compliance during port or border handling, customs clearance and inspection procedures, which also could discourage exports diversification.
Import and Export Costs
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
C. Productivity, Labor, and Investment
12. Growth accounting exercise reveals that low productivity has penalized non-oil growth for decades. Results from Mitra et al (2015) growth accounting exercise on potential non-oil growth show that while capital accumulation has fueled growth, declining productivity has mainly penalized growth. (Figure 22) In addition to negative TFP, relatively lower labor and capital contributions to potential growth explained non-oil growth deceleration over time. Use of accumulated oil receipts to spur government infrastructure spending has made physical capital the main driver of potential growth. In addition, heavy reliance of foreign labor has made labor another driver of potential growth. As a result of abundant physical and human capital, less emphasis has been placed in raising productivity, thus explaining its negative contribution to growth.
Decomposition of Non Oil Real GDP
(Period average, in percent)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Sources: Mitra et al 2015.Labor: The UAE growth model has been heavily relying on abundant human capital mostly foreigners with only one out of ten workers being an Emirati national. They have attracted both skilled and lower-skilled workers. However, the main growth drivers in the non-oil sector were tourism, real estate, and aluminum industries which tend to attract low skilled labor which is less conducive to sustaining productivity gain. Going forward, improving the quality and skill set of the labor force will be key to migrate to a knowledge driven economy and expand the economic activity into higher tech and manufacturing industries. To this end the authorities are aggressively improving the quality of education for Nationals. They are also tackling gender balance issues to create a supportive environment for women to fulfill their roles as key partners in building the UAE’s future.
Investment: Massive public investment in infrastructure has allowed transforming the Emirati economy fueled by physical capital contribution to non-oil growth. This has translated into high quality infrastructure by international standards. Using the data set from Albino-War et al 2014, there is room to improve public investment efficiency. The UAE public investment efficiency scores broadly compare to the GCC average but rank lower than in CIMM or advanced economies. The results also indicate that infrastructure quality could increase with the same amount of investment by 10 percent for the UAE, 17 percent for the GCC and 7 percent for CIMM.
Table 2.Relative Efficiency Scores
(Median efficiency score)
Source: Albino-War et al. (2014).Table 2.Relative Efficiency Scores
(Median efficiency score)
Source: Albino-War et al. (2014).Infrastructure Quality PFDH DEA UAE 0.95 0.90 Advanced economies 1.03 0.90 Emerging markets 0.91 0.82 GCC 0.97 0.83 CIMM 1.03 0.94 Table 2.Relative Efficiency Scores
(Median efficiency score)
Source: Albino-War et al. (2014).Infrastructure Quality PFDH DEA UAE 0.95 0.90 Advanced economies 1.03 0.90 Emerging markets 0.91 0.82 GCC 0.97 0.83 CIMM 1.03 0.94 Innovation. The Global Innovation Index ranks the UAE in the 47th position out of 141 countries in 2015, comparing favorably with other GCC countries and CIMM. (Figure 15A) An analysis of the multi-dimensional indicators of innovation shows that while the Emirati economy compares very favorably to peers and even top 5 countries on innovation inputs, it lags behind on innovation outputs. (Figure 15B) Indicators of innovation inputs include the quality of institutions, human capital and research, infrastructure, and level of market and business sophistication; and innovation outputs include knowledge, technology and creative outputs. A more granular analysis of the different dimensions of innovations inputs and outputs highlights the following:
Global Innovation Index
(1 is maximum)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: The Global Innovation Index.a. Institutions: While ranking favorably in political and regulatory environment, the business environment ranking is affected by the perceived lack of ease in starting a business and in resolving insolvency.
b. Human capital and research: in terms of spending, while ranking well in overall and tertiary education, the UAE does not rank well in R&D.
Multi-Dimensional Views of Innovation, 2015
(1 is the maximum)
Citation: IMF Staff Country Reports 2016, 266; 10.5089/9781475522075.002.A003
Source: The Global Innovation Index.1/ Top 5: Switzerland, United Kingdom, Sweden, Netherlands, and United States.c. Infrastructure: The UAE ranks very well in information and communication technologies (ICTs), in general infrastructure including electricity output and logistics performance.
d. Market sophistication: The UAE’s rankings are penalized by the perceived lack of ease in getting credit and bottlenecks to private investment (perceived lack of investor protection, the low market capitalization and underdeveloped venture capital).
e. Business sophistication: the UAE’s rankings are favored by clusters development6, strategic alliance deals, and to a lesser extent by innovation linkages with university and industry research
f. Knowledge and technology outputs: While data limitations penalize its ranking, the UAE ranks low in knowledge creation, impact and diffusion due to low levels of scientific and technical publications, of patent creation, of high-tech exports, and by lack of high-tech manufactures.
g. Creative outputs: Favorable rankings in ICTs (business and organizational model creation) are offset by low rankings in other creative outputs such as the creation of intangible assets (number of trademark applications issued to residents), and the share of creative goods exports.
D. Policies and Reforms
Supportive Macroeconomic Policies
13. Economic diversification and macroeconomic stability are interwoven. Greater economic diversification increases the economy’s resilience to oil price volatility by minimizing output and government revenue volatility stemming from oil price fluctuations. And the literature has found evidence that sustaining growth is positively related to macroeconomic stability. To further economic diversification, the UAE should continue to preserve macro-stability through supportive economic and financial policies.
Fiscal Policy. Fiscal institutions need to continue to be supportive of implementing sound fiscal policies and frameworks. Over the medium term, developing a consolidated forward-looking medium-term fiscal framework will help set the direction for fiscal policy in the UAE as a whole and better align aggregate resource allocation with the 2021 vision. In the context of lower oil prices and available ample buffers, the pace of fiscal consolidation should be planned to reduce the non-hydrocarbon primary deficit to the levels consistent with ensuring intergenerational equity, while at the time minimizing its impact on growth. A fiscal consolidation plan aimed at broadening the non-hydrocarbon revenue base while preserving the public investment will further support economic diversification. It will also be important to protect public spending in investment and human capital to further boost the productive capacity and support economic diversification while at the same time improving the efficiency and quality of spending. Alternative financing methods through public private partnerships (PPPs) could help the government meet infrastructure needs while tapping into the expertise of the private sector. Key elements of success include a robust, stable and predictable regulatory framework for PPPs; a clear, transparent, and fair bidding process; contractual arrangements with clearly defined expectations and service levels to foster compliance; and a sound management of contingent liabilities.
Monetary and financial policies. Oil revenue volatility could pose challenges to monetary policy implementation and financial stability. As noted in IMF 2016, effective liquidity management and supportive financial policies could mitigate oil price risks to the financial system. For the UAE, the CBU should use its available instruments as needed to support healthy liquidity, and avoid unwarranted tightening of monetary conditions. Going forward, it is important to strengthen the policy framework through enhancing liquidity forecasting and management and further developing money and debt markets. Increased domestic sovereign issuances would help deepen the domestic debt market, and provide the banks with a new instrument to manage liquidity. In addition, timely implementation of the CBU’s plans to strengthen the regulatory and supervisory frameworks could help mitigate potential risks to financial stability.
Private Sector Development
14. Strengthening competitiveness will support private sector development. Despite strengths in some price and non-price competitiveness factors, rising labor costs coupled with declining productivity do not bode well with the development of competitive exporting industries. Developing such industries will require continued reforms to improve lagging areas of business environment such as starting a business, getting credit, enforcing contracts, streamlining exports procedures and resolving insolvency.
15. Easing private sector access to finance and improving legal rights are critical to private sector development. Special attention should be devoted to ease SMEs’ and startups’ access to finance. Development of alternatives to traditional bank finance, such as private equity, leasing and factoring, and less stringent requirements for listing on stock markets and asset-securitization would ease some financing constraints. The authorities’ initiatives such as the launching of the SME council in 2015 to speed up the implementation of the 2014 SME law, and the creation of the Khalifa Fund are welcome steps to ease access to finance. However, the inadequacy of the insolvency framework hurts SMEs access to finance and needs to be tackled by a swift approval of the bankruptcy law that also decriminalizes bankruptcy and facilitates debt restructuring. Public funds should focus on providing guarantees and support services to SMEs and startups instead of direct lending. Efforts to strengthen the financial infrastructure, notably through broader coverage of the credit bureau, should be pursued.
16. Promoting a culture of entrepreneurship would further support economic diversification. Entrepreneurship is best encouraged with strong institutions, supportive financial environment, and appropriate fiscal policies. Targeted public support to SMEs and startups to incubate businesses, access markets and raise productivity could help promote such culture. To reach the government 2021 target of increasing the SMEs’ contribution to non-oil GDP to 70 percent, it should create incentives for nationals to favor entrepreneurship instead of public employment or rent-seeking. Public employment and labor market policies aiming at controlling the size and wages of the civil service and improving the skills-job match could help spur private sector job creation. This is critical to private sector competitiveness and attractiveness for nationals. In addition, reforms to the business environment encouraging new entry as well as an orderly exit as needed can also be supportive.
Transitioning Towards a Knowledge-Driven Economy
17. Transitioning toward a knowledge-driven economy would raise productivity and growth. Supportive policies include those that facilitate technology transfers, improve access to international markets and global supply chains, foster competition, upgrade the quality of education, and continue to harness innovation. In addition, promoting the diffusion and use of new technology, information and communication including through electronic and mobile government services, as increasingly done by the authorities, will also be crucial.
18. Facilitating technological transfers through further openness to foreign direct investment, trade and migration of highly skilled people will be key. FDI liberalization can facilitate the adoption of existing technologies, promote technology spillovers, and boost productivity. For example, countries’ experiences showed that dismantling FDI’s entry barriers and regulatory restrictions in the services sector tend to be associated with higher productivity in downstream manufacturing sectors. In this context, the new investment law should further ease restrictions on FDI while avoiding to set thresholds in terms of capital to benefit from the new regime, which could reduce attractiveness for innovative SMEs and startups. Also easing migration policies for highly-skilled workers could facilitate technological transfers. Further trade openness could boost productivity by strengthening competition, improving efficiency and resource allocation, and fostering innovation as well as the ability to absorb new technologies.
19. Fostering competition. Promoting a competitive business environment, by lowering barriers to entry and reducing the public sector footprint, will also raise efficiency and boost productivity growth. Reducing the dominance of the public sector, in particular the Government related entities (GRE), and raising their efficiency will also be critical for reducing cost of businesses. Product market reform, including lowering the anticompetitive barriers to entry in product and services sectors, reducing administrative burdens, and simplifying regulation can boost productivity by strengthening firms’ incentive to reduce inefficiency and innovate, encouraging new entry, and improving the use and allocation of factors of productions.
20. Innovation policies are important for productivity. Boosting innovation is key for productivity gains and could be supported through higher R&D spending, developing high tech industries, continuing expanding linkages between firms and universities, improving the framework for intellectual property rights, more integration to global supply chains and adequate financing. In the latter area, authorities’ plans to set up an innovation fund are welcome and could be used to provide seed money for innovative ideas, and need to be accompanied by private sector funding through venture capital and crowd-funding. Policies aimed at boosting innovation include fiscal instruments—such as R&D subsidies, to correct underinvestment in private R&D investment—as well as policies to increase the attractiveness of FDI.
21. Upgrading the quality of education is essential for a knowledge driven economy. It is also essential to continue enhancing the quality and relevance of education and training for nationals to build high levels of productivity into the future. In addition, developing education plans for employment and further integrating the soft skills and re-skilling in the curricula are important. Mitra et al (2016) found that diversifying the labor force, though higher female labor force participation has been proven to also foster innovation, productivity and job creation. Key policies such as targets, flexible work arrangements, provision of childcare services and active labor market programs could help increase women’s participation in the workforce.
Developing Exporting industries
22. Pursuing further economic diversification will require developing a more sophisticated and diversified tradable sector. Cherif et al noted that it takes about 20 to 30 years for successful oil exporters (Indonesia, Malaysia, and Mexico) to develop sophisticated export industries. For example, although Malaysia laid the foundation of its export strategy in the 1970’s and experienced rapid growth in export sophistication over 1980-90, it took 20 years to reach the level of sophistication of advances economies. Therefore, it is important to pursue an export-led diversification strategy and to put in place a conducive environment for exports. Policies include better access to international markets, trade facilitation to bring down export costs, tailored export promotion services such as marketing, standardization, financing and guarantees.
23. Upgrading export quality and sophistication will require a mix of vertical and horizontal diversification, as well as integrating with global value chains. Cherif et al highlighted that countries’ experiences "show that diversification policy often followed a mix of vertical diversification in existing export industries and horizontal diversification in suppliers’ clusters for those industries, industrial beachheads into high-value-added and innovation-driven sectors. A very competitive, productive, open and knowledge-driven economy will be appealing to such transformation.
References
Albino-War, M., S. Cerovic, F. Grigoli, J. Flores, J. Kapsoli, H. Qu, Y. Said, B. Shukurov, M. Sommer, and S. Yoon, (2014). “Making the Most of Public Investment in MENA and CCA Oil-Exporting Countries.” IMF Staff Discussion Note 14/10, International Monetary Fund, Washington.
Anar Ahmadov 2012, Political Determinants of Economic Diversification in Natural Resource-Rich Developing Countries, Preliminary draft.
Berg, A., Ostry, J. D., and J. Zettelmeyer, “What Makes Growth Sustained?” IMF Working Paper 08/59 (Washington: International Monetary Fund).
Dabla-Norris, E., G. Ho, K. Kochhar, A. Kyobe and R. Tchaidze (2013), “Anchoring Medium-term Growth in Emerging Market and Developing Economies: The Importance of Productivity-Enhancing Reforms,” IMF Staff Discussion Note No. 13/08 (Washington, D.C.: International Monetary Fund).
International Monetary Fund (IMF), 2005, IMF Country Report No.05/219 (Washington: International Monetary Fund). Selected Issues paper.
International Monetary Fund (IMF), 2014, “Economic Diversification in the GCC: Past, Present, and Future” IMF Staff Discussion Note
International Monetary Fund (IMF), 2014, “Sustaining Long-Run Growth and Macroeconomic Stability in Low-Income Countries—The Role of Structural Transformation and Diversification.” IMF Policy Paper, March 2014.
International Monetary Fund (IMF), 2016, “Economic Diversification in Oil-Exporting Arab Countries” IMF Policy Paper, April 2016. FO/DIS/16/61
Mitra, P., A. Hosny, G. Abajyan, M. Fischer, (2014), “Estimating Potential Growth in the Middle East and Central Asia”, IMF Working Paper (Washington, D.C.: International Monetary Fund)
Mitra, P., A. Hosny, G. Abajyan, M. Fischer, G. Abajyan, (2016), “Avoiding the New Mediocre: Raising Long-term Growth in the Middle East and Central Asia”, MCD Policy Paper (Washington, D.C.: International Monetary Fund)
Cherif, R., F. Hasanov, and M. Zhu (2016), “Breaking the Oil Spell: The Gulf Falcon’s Path to Diversification” (Washington: International Monetary Fund)
United Arab Emirates, 2013 Yearbook.
Travel & Tourism, ECONOMIC IMPACT 2016, UNITED ARAB EMIRATES, The World Travel and Tourism Council.
Prepared by Aminata Toure.
Hong Kong, Malaysia, Singapore, South Korea, Taiwan, and Thailand.
Bahrain has diversified its economic activities by developing banking and financial services (particularly in Islamic banking) and non-oil exports.
Data limitations prevent a direct comparison of unit labor costs in UAE to costs in other countries. This analysis compares the growth in unit labor costs since 2000, with the caveat that the constructed unit labor cost index differs across comparator countries. The estimated ULC is derived using general government compensation of employees and non-oil real GDP.
From Doing business database.
Clusters development: geographic concentrations of firms, suppliers, producers of related products and services, and specialized institutions in a particular field.
