December 11, 2006	Monday	Ziqa'ad 19, 1427

Syria

THE Syrian economy is benefiting from strong oil prices and the non-oil sector is performing strongly. Beside, the piecemeal reform programme has accelerated over the last year. However, positive developments have occurred in a backdrop of deep political and economic challenges. The economy continues to under perform and substantial reform is still required. Meanwhile, Syria also faces possibility of the UN sanctions and increased international isolation following the war in Lebanon.

The IMF estimates that the real GDP growth accelerated to 2.9 per cent in 2005, below the government estimate of 4.5 per cent, compared with an average of 1.8 per cent between 1999 and 2004. According to a latest SCB update, economic growth is forecast to accelerate marginally in 2006 to 3.1 per cent. Although, the economy still remains dependant on the oil sector, which is benefiting from the strong global prices, the non-oil sector is estimated to be realising strong growth of over five per cent. The agricultural sector has performed well, which is important for boosting private consumption as around one-third of the population is employed in the sector.

The economy is also benefiting from the strong performance and liquidity in the GCC. Remittance inflows have been increasing and have boosted both private consumption and investment levels, while direct investment from the GCC is also increasing in areas such as real estate, tourism, finance and telecommunications. Economic liberalisation is seen attracting FDI from the region. The recent reforms have focused in vital areas such as fiscal consolidation, exchange rate unification, and trade and financial reforms. The trade reforms have helped to boost non-oil exports.

Steps have also been taken to liberalise monetary policy. Some of the measures were introduced to offset the downward pressure on the Syrian pound following the assassination of the ex-Lebanese Prime Minister. The central bank base rate was increased for the first time in decades and there has been some movement away from the fixed interest rates that have characterised policy for the last 25 years. Furthermore, certificates of deposits have been launched for the first time and initial steps have been taken to establish an interbank market.

On the exchange rate front, banks are now allowed to set their exchange rate within a narrow band around the fixed central bank rate. Further exchange rate reforms are expected, including the abolition of the remaining secondary exchange rates and further liberalisation of the foreign currency law. Despite these positive developments, deep challenges remain. While real GDP growth has accelerated over the last two years, the growth rate was still relatively weak, especially given the performance of other regional oil (and non-oil) exporting countries and the domestic needs of the economy.

According to the Standard Chartered economists, a stronger growth rate is required for increasing job opportunities. Moreover, deeper and broader reforms are required if higher levels of growth are to be achieved and sustained. The need for reform is accelerated by the fact that oil reserves are falling and the oil import bill is increasing. Syria is set to become a net oil importer in 2010. The loss of oil income will add serious challenges to the fiscal and current accounts, let alone maintaining living standards.

Egypt

Egypt's external performance remains strong despite the current account surplus falling to 1.6 per cent of GDP in FY2005/06 (July 2005-Jun 2006), from 3.1 per cent in the previous year. This figure masks the robust performance of exports, which increased by 33 per cent y/y, with export growth accelerating to 52.5 per cent in the second half. Imports also increased strongly by 25.8 per cent, driven by the buoyant demand in the economy. Thus imports are over double the value of exports. This resulted in the trade deficit widening. Positively, imports of investment and intermediate goods represented 53.6 per cent of total imports, which bodes well for Egypt's economic outlook.

There were also strong performances in the invisible components of the current account, as tourism, remittances and Suez Canal earnings continued to increase. Although tourism revenues grew by 12.5 per cent y/y in FY 2006/07, the sector was negatively impacted by the terrorist attacks in April. Visitor numbers into Egypt fell by 5.5 per cent in July, the third consecutive monthly drop. However, a strong recovery in the tourism sector is expected. There have also been positive developments on the capital and financial accounts. The progress on the reform front has raised and improved Egypt's profile in international capital markets.

Foreign direct investment and inward portfolio flows have risen sharply. The FDI into Egypt increased by 56.4 per cent y/y to USD 6.1bn in FY 2005/06, equivalent to over 5.5 per cent of GDP; this is up from under 3.0 per cent of GDP in FY 2003/04. Importantly, non-energy investments accounted for around 70 per cent of FDI, compared with just 33 per cent in FY 2004/05. Meanwhile, portfolio inflows increased to USD 2.8bn in FY 2005/06, up from USD 800m. The strong external performance has resulted in the continued build up of FX reserves, which reached USD 24.1bn in September 2006, a 14.1 per cent y/y increase.

Importantly, the FDI inflows into Egypt are continuing to increase in the current fiscal year, supported by the government's privatisation program, including the sale of Egypt's third mobile network to Etisalat for around USD 2.9bn. Furthermore, 80 per cent of Bank of Alexandria was sold to Italian bank Sanpaolo IMI for USD 1.6bn. For both these sales, the prices were at the higher end of analysts' expectations.The external sector remains a strong engine of economic expansion, although growth remains broad-based with expansion in private consumption and investments as reflected in the increase in imports.

Robust economic activity is resulting in a pickup in inflationary pressure and the CPI jumped 9.5 per cent in September. After moderate growth rates in the CPI at the beginning of the year, inflationary pressure has been accelerating since June, with the year-on-year CPI increasing by over 7.0 per cent. Along with the strong demand in the economy, other factors driving inflationary pressure are the outbreak of avian influenza which has been placing upward pressure on food prices and the reduction in fuel subsidies. Nevertheless, growth will remain strong driven by private consumption and investment. Preliminary government data places real GDP growth at 6.9 per cent in FY 2005/06.

Afghanistan

According to the IMF data, the Afghan economy is doing well. In fiscal year 2005/06, real GDP, excluding opium production, is estimated to have expanded by 13.8 per cent and is projected to grow by another 11.7 per cent in the current fiscal year. Inflation remains high, around 10 per cent, but is expected to decline gradually going forward with the authorities already having tightened monetary conditions in the second half of 2005/06. The fiscal performance has also been impressive with the 05/06 operating deficit excluding grants expected to be around 3.7 per cent of the GDP versus a previous expectation of 4.1 per cent and expected to fall further to 2.8 per cent in 06/07.

The 2005/06 performance was helped by better than expected revenue collection efforts. On the spending side of the equation, the government kept operating expenditures broadly on track, despite the fact that many non-budgeted items hit the accounts, including security costs previously born by donors and sharply higher education costs due to a recruitment drive. This illustrates the government's commitment to meet targets and stabilise the macroeconomic situation. Given the need to reduce the level of government involvement in the economy and establish a vibrant private sector, an accelerated implementation of the development budget spending seems crucial.

The main problem here is not the access to the finances — donor spending in 05/06 was projected at 29 per cent of the GDP — but a lack of the authorities' capacity to implement the programs. Even the target of development spending to the tune of 14.2 per cent of GDP is ambitious.The country remains extremely reliant on external funding. Efforts to reduce the level of state involvement in the economy, via the closure/privatisation of state-owned companies, are crucial to ensure the long-term vibrancy of the economy and the sustainability of the country's public finances.

However, the security situation is the make or break factor for the government's attempts to reform the economy. Poppy cultivation is on the rise once again, after a decline in 2005/06, and as a result so are security concerns. A failure to address these issues would risk a change in government and a reduction of international financing that is so crucial to the economy. The IMF appears confident in the government's willingness and ability to continue to push ahead with the reform program, which includes reducing the level of government involvement in the economy via the closure/privatisation of state-owned enterprises and the encouragement of a vibrant private sector, to be boosted by increased foreign direct investment.

A necessary condition for the economy's long-term stability is to manage the delicate balance of reducing the economy's reliance on poppy cultivation and provide alternative sources of employment. The government last year saw a 21 per cent decline in poppy cultivation, although good weather almost entirely offset this decline in terms of production as yields rose. Unfortunately, this year there are already reports that poppy cultivation is once again on the rise — the UN estimates a 20 per cent increase in 2006.

While rising incomes from poppy cultivation may have spillover into the licit economy via increased spending, the negative aspects on stability are there for all to see. The key problem for the government appears to have declining control. Meanwhile, the security situation is deteriorating as the Taliban is starting to gain more influence outside of Kabul. The slow pace in the increase in standards of living — GDP per capita, excluding the opium sector, is estimated to have risen to USD 294 from USD 253 a year earlier — is providing the Taliban with support as it can provide much higher income levels.

The current account is estimated to have posted a small surplus in 2005/06, but if you exclude grants this falls into a dramatic 42 per cent of GDP deficit. The IMF also appears very pleased with the progress made under the macroeconomic stabilisation program with the government having met all of its December-2005 obligations under the SMP apart from the publication of audited fiscal accounts for the year 2004/5, ultimately met in March of this year. But, while the Afghanistan economy is currently on an upward path, there are clearly many risks to the outlook.

Saudi Arabia

After an exceptional year in 2005, Saudi Arabia's economic position is forecast to remain strong in 2006. According to preliminary data, real GDP growth hit 6.5 per cent in 2005, with both the fiscal and current account surpluses reaching record highs and annual average inflation remaining low at 0.4 per cent. A higher average oil price in 2006 will ensure the economic performance remains buoyant, alongside increased government spending and investments, although growth is expected to slow moderately owing to the strong base effect, a lower marginal increase in the oil price and higher imports.

The government has announced an expansionary budget for 2006, with spending planned to increase by 19.6 per cent from the 2005 budget. Although this is 1.8 per cent lower than actual spending in 2005, the government is to exceed budgeted spending. Furthermore, the nearly 20 per cent increase in the 2006 budget is much higher than the planned spending rises in previous budgets, suggesting the actual expenditure will be substantially higher. The main areas to benefit from higher spending include social development and infrastructure. Reflecting these priorities, 26 per cent of the budgeted expenditure is directed towards education and human resource development, a positive development in terms of diversification efforts. The budget surplus is forecast to increase marginally in 2006. However, this will be limited by the increase in government spending. The budget is based on a conservative oil price of USD 35pb and the surplus is expected to be substantially above the forecast of SAR 55 billion in the budget. A budget surplus of 19.0 per cent of GDP is being forecast, up from 18.6 per cent in the previous year. The increase in government spending will continue to add a strong fiscal stimulus to the economy (along with the high oil price), supporting both business and consumer confidence.

Furthermore, increased investment and consumption in the economy will result in continued buoyant results for the Saudi corporate sector and will support private sector growth. Private demand in the economy will also be aided by the continued expansion of consumer bank lending, albeit at a weaker rate (the central bank issued tighter rules for personal lending in November 2005). However, an area of risk has been the fall in the stock market; the index dropped almost a third in February and March and again fell in April.

With the strong population growth rate, there is an emphasis to upgrade the infrastructure of the country, such as the building ten independent water and power plants by 2016, with an investment outlay of USD 16 billion. Infrastructure improvement is also needed to attract FDI, which is crucial for increasing employment opportunities for the population. Other plans include the development of the King Abdullah City, with investment of USD 26.7bn in a huge new residential, industrial and services development to be located close to Jeddah. Work on the development started in December 2005.

Despite the strong oil price, the government has forged ahead with its economic reform programme. This culminated in Saudi Arabia joining the WTO in December 2005. Domestically, the trade deal will promote the liberalisation process via the opening up of sectors, and increase transparency and predictability in the commercial environment; these factors will support the investment environment. However, competition in the domestic market will increase, as sectors are opened and measures to protect domestic producers are removed.

One key area of the economy that will benefit from the WTO agreement is the petrochemical sector. Positively for Saudi Arabia, the agreement confirmed Saudi Arabia's right to retain low feedstock prices on the grounds that its hydrocarbon resources are a natural advantage and not classed as a subsidy. The Saudi Basic Industries Corporation (Sabic) plans to raise its output of petrochemicals and other products to 51m tonnes in 2006 (from 43m tonnes in 2004) as part of an expansion to 60m tonnes by 2008.