Will the GCC Take Leadership of Arab Economic Integration?

When the Arab Gulf leaders came together to form the Gulf Cooperation Council (GCC) in 1981, the global landscape was seemingly settled: the U.S. and Europe dominated world output and trade; the U.S. greenback was the global currency; the U.S. and the Soviet Union were the two super-powers; China and India were dormant giants; the WTO, the Internet, Google and Apple did not exist. Two generations later, the landscape has morphed into a multipolar world, the Soviet Union has collapsed, world trade has exploded with greater economic and financial integration and fewer barriers, and the emerging markets, BRICS+, are in the ascendant with China, already the largest manufacturing country, set to become the world's largest economy by 2020 and the Yuan a global currency by 2015.

Growth, But Limited International Economic Integration

Over the past 30 years, the GCC have, with growing per capita incomes based on their plentiful hydrocarbon resources, become the economic and financial hub of the Arab world. But GCC trade continues to be largely oil-dependent with little value-added and vulnerable to volatile oil prices, while Arab economies did not benefit from globalization or become integrated into global supply chains. With limited economic diversification (with the partial exception of the UAE and Bahrain), the share of non-oil intra-regional trade remains marginal at less than 10 percent and much of that trade is re-exporting of goods originating outside the region. The UAE with its superior trade logistics and infrastructure continues to be the top source of regional trade.

While regional multilateral trade agreements are in place under the Greater Arab Free Trade Area (GAFTA), limited benefits are visible. Despite the establishment of the Arab Maghreb Union over two decades ago, the bulk of Maghreb trade is still with Europe and cemented by Euro-Med Association Agreements that opened up export markets in the Maghreb, but did not attract FDI or create jobs, as evidenced by the continuing waves of migrants from the Maghreb.

During the decades of 1960s and 1970s, the GCC had absorbed labor from the traditional labor exporting countries (Egypt, Yemen, Sudan, Lebanon, Jordan/Palestine and Syria). This was facilitated by proximity, common language, ethnic and religious affinities. However the share of Arab labor in GCC labor markets has been falling since the mid-1970s, declining from 72 percent in 1975 to only 31 percent, less than half, in 1996. This has continued to-date, with the rate of Arab migration to the GCC lower than non-Arab migration. Arab labor has been displaced and replaced by lower wage, largely Asian labor.

With the GCC countries facing their own youth bulge and implementing labor nationalization policies, the prospects of growing intra-Arab labor mobility looks dim, closing another opportunity for mutual benefits and specialization. Protectionism will only lead to greater unemployment, frustration and radicalizing of Arab youth, leading to more extremism.

A Call For an Arab Awakening Led By the GCC

We need to do things differently! These troubled times call for an Arab Awakening -- a strategic renaissance to be embodied in a strategy of economic integration led by the GCC countries. We should not miss this strategic opportunity to create a turning point in the history of the region. The three-year-old Arab firestorm contains a silver lining of opportunity and a call for collective action, towards increased regional business, investment and integration. Higher energy prices have generated large trade balance, capital account, and fiscal surpluses in the GCC and other oil exporters, with increased liquidity leading to a boom in real estate and the region's stock markets. We should use the opportunity to break down the barriers to allow the private sector, businesses, enterprises and civil society to benefit from economic integration and the resulting expansion of markets. A new generation of young entrepreneurs seeks to expand outside their small, national markets. On the other hand, protected sectors, in particular the State Owned Enterprises and Government Related Enterprises, are the main lobbyists against trade liberalization and integration, fearful of competition and liberalization.

What Is to Be Done?

Economic integration is built on the integration of supranational infrastructure and building region-wide institutional policy capacity (the EU provides an example, though not necessarily one to be emulated). Public investments build production potential and absorptive capacity and increase the competitiveness of an economy. This in turn sets in motion a virtuous circle of higher productivity, diversification and competitiveness which translate into higher incomes and government revenues. In turn, increased public investment stimulates greater private investment, in a mutually reinforcing pattern, well-illustrated by China's experience over the past two decades. In this development paradigm, other positive spillover effects are felt in the form of learning-by-doing effects, efficiency gains in companies, human capital improvement and labor mobility out of traditional, but dead-end occupations, research and development in construction techniques, technology transfers, process innovation, and above all, an increase in the tradeables sector, insuring greater international competitiveness and export-led growth. The recent economic history of emerging markets clearly provides examples of this positive feedback. The success stories of South East Asia, post-Berlin wall Central and Eastern Europe, Brazil, China and the GCC can be attributed in good part to greater public investment spurred by demographics and urban middle class expansion that created the conditions for increased exports and an expansion of the tradeables sector.

The GCC Should Drive Regional Economic Integration

Successful regional integration requires a number of building blocks.

First, GCC and other Arab governments should seize the opportunity to provide the enabling framework for the private sector to act as a major unifying force and integration promoter. We need to construct the legal and regulatory framework for public-private participation (PPP), liberalization and privatization.

Second, integration requires investment in physical infrastructure to break down physical barriers, reduce transport and communication costs, and the costs of logistics. The GCC has already initiated infrastructure integration -- be it the GCC electricity grid (which has been completed) or the common water grid (ongoing) or the road and railroad network integration. These have to be completed by creating a working and efficient market for infrastructure network products and services, similar to Europe and the U.S., where the product (e.g. electricity) can be bought and sold, with differential pricing (e.g., peak-load rates).

The next step is for the GCC is to build and extend their regional infrastructure into Egypt, Jordan and the "Arab countries in transition." The wider Arab region is characterized by a young, growing middle class and rapid urbanization as well as historical underinvestment in infrastructure. The time is right to embark on regional integrated infrastructure projects. The "Arab firestorm" countries, which are currently going through a transition period of high unemployment, low investment, and low growth, will directly benefit from infrastructure investments -- this will create jobs in sectors such as construction and manufacturing, while also enhancing future competitiveness, economic diversification, and growth. The World Bank estimates that in the short-run, every $1 billion invested in infrastructure has the potential of generating, on average, 26,000 jobs in the GCC, 49,000 jobs in the developing oil-exporting countries, and some 110,000 infrastructure-related jobs in the oil-importing countries.

Third, the GCC must move beyond the superficial (and yet incomplete) integration represented by free trade in goods, toward "deep integration" and the harmonization of institutions, laws and regulations to facilitate comprehensive economic integration. Given the small economic size of the majority of the GCC and Arab countries, differences in legislation, legal systems, regulations, norms and standards, lead to high costs of transactions, reducing intra-regional trade, capital flows and labor movements.

Four, the GCC should invite the Arab countries in transition to join its free trade area either as full members (assuming they can fulfil the conditions) or through "economic association agreements" that would promote trade, investment and labor mobility. This would be a major policy instrument to help restore growth and job creation. The added benefit is that the Arab countries in transition would enter global supply chains (notably the New Silk Road) through the globally connected GCC economies.

Five, successful regional economic integration requires the creation of compensation mechanisms to overcome resistance to opening-up and economic integration. The GCC should take the lead to provide institutional financing for regional investment and development as well as social cohesion and structural funds as mechanisms to smooth the transition period. Specifically, I advocate the setup of an Arab Bank for Reconstruction and Development (ABRD) to undertake the task. The ABRD would also be directly involved in the reconstruction of countries that have been destroyed by war and violence. The costs of reconstruction exceed $1.2 trillion (Iraq -- $750 billion, Syria -- $200 billion and counting, Yemen, Libya, Lebanon and others -- $200 billion) and would extend over a decade. A massive program of investment in infrastructure and reconstruction is a "Weapon of Mass Peace."

At a time when the Arab region is in turmoil and transition, the GCC bloc should rise to the occasion of this "defining moment," seize the opportunity to take a leadership role, move the region towards greater economic and financial integration, enabling job creation and leading to more inclusive growth. For maximum impact, the vision should be embodied in a wider, political vision where regional peace, growth and stability are considered "regional public goods" and a geo-strategic objective of the GCC.

The setup of an Arab Bank for Reconstruction and Development was discussed in depth in the Oct. 2013 print edition of "Gulf Business."