Despite complications Yemeni government takes positive steps to improve Yemen’s economySummary of the Yemen Economic Update Spring 2008 [Archives:2008/1159/Business & Economy]

May 29 2008

By the World Bank Group
Sana'a Office

The government is taking additional measures to strengthen public support. Following the summer riots over rising food prices; the government adopted a number of measures to help ease tensions. In latest move, the government announced in March a new round of increase in wages, pensions and social welfare benefits intended to mitigate the effect of rising inflation. The President also introduced a new proposal for broad political reforms expected to bring further decentralization and increased regional autonomy.

However, security uncertainties continue to cloud the outlook. Early in the year, the government signed a new peace deal with the radical Houthi group in the Sa'ada governorate. A number of reconciliation efforts have been attempted in the past, but with little success. The latest peace initiative, sponsored by Qatar, continues to show promising signs, despite occasional snags. Fundamentalist groups are increasingly becoming a source of threat, particularly to western tourists and workers.

The government has been responding to these threats with controlled measures designed to avoid broad confrontations. Finally, sporadic demonstrations across various parts of the country continued in 2008, since starting in summer 2007 over stagnant economic conditions.

Structural reform efforts continued during the past quarter. In civil services, the government continued to implement the biometric identification project and the second stage of the wage strategy, initiated in the latter part of 2007. Also, efforts continued to improve the investment climate, including legislative amendments in the areas of foreign investment, mining, and income tax, while steps were also taken to simplify the procedures for licensing and registration as well as filing income and sales taxes.

Macroeconomic performance was mixed in 2007. The performance largely reflects the falling crude oil output (by more than 12 percent) which has negatively affected overall growth, fiscal outturn, and balance of payments. Overall growth for 2007 is estimated at

3.6 percent, compared to 3.2 percent in the previous year. The non-oil output remained relatively unchanged from the previous year at about 5 percent supported by current public spending and private investment. In the fiscal area, the higher than budgeted tax revenue and earlier savings in spending have helped offset the impact of the supplementary budget approved in the third quarter. This brought the fiscal deficit to about 5.5 percent of GDP. The external sector showed deterioration with the current account balance reverting to a deficit of about 4 percent of GDP.

A reduction in the inflation rate was the main positive outcome in 2007, though inflationary pressures started to build in the second half of the year. Tighter public spending in the early part of the year and good seasonal rains helped maintain average inflation during the first half of the year at a negative rate. However, during the second half, rising food prices led by imported wheat and increased public spending on wages and salaries fueled inflationary pressures again. As result, the average inflation rate for

2007 came to about 12.5 percent, a significant drop from 18.5 percent in 2006.

The government announced a new round of increase in wages, pensions, and social welfare benefits intended to mitigate the effect of rising inflation. The new measure, introduced in March 2008, covers three categories. It increases wages for all civil service and military personnel by YR3000 per month. Second, it increases the monthly pension benefits for all retirees by YR1500. Third, it doubles the cash transfers under the Social Welfare Fund (SWF). Notwithstanding the effect of rising number of beneficiaries, the estimated total annual cost of the new package is about YR74 billion. The new measure is expected to widen the fiscal deficit and fuel inflation.

The outlook for 2008 is expected to improve on the strength of oil production and record international high oil prices. Yemen's overall growth rate in 2008 is likely to improve to 4.2 percent due to the slower decline in oil production (about 3.3 percent compared to about 12 percent in the previous year) and continued good performance in the non-oil sector at about 5 percent. The improvement in the oil sector in Yemen is expected to reflect positively on the fiscal and external sectors. The government fiscal balance is projected to witness a slight improvement due to higher oil revenue and improved tax collection. In the external sector, the current account deficit is expected to shrink to about 1 percent of GDP, compared to 4 percent in 2007. Inflation is estimated to reach 16 percent, edging up from its 2007 level, but remaining below the highs of 2006. Meanwhile, the government is expected to maintain the informal peg of the rial to the dollar at its current level of about 200 YR/$, in response to rising food prices and falling dollar value.


With expectations of firming oil, prices and a slower decline in crude output, the economic outlook in 2008 calls for some improvement. Yemen's overall growth rate in 2008 is likely to improve by less than one percentage point to 4.2 percent, reflecting the continued good performance in the non-oil sector of about 5 percent and the slowdown in oil production decline to about 3.3 percent (compared to 12.6 percent in the previous year). The non-oil sector should benefit from reforms taken in the previous two years and the higher flows of foreign capital, particularly from the Gulf. Improved outlook in the oil sector in Yemen is expected to reflect positively on the fiscal and external sectors.

The government fiscal revenue should see modest improvement owing to higher oil revenue and continued progress in tax collection efforts. In the external sector, the current account deficit is expected to shrink to about 1 percent of GDP as compared to 4 percent in 2007. Owing to higher oil revenue, prices, and stronger domestic demand, the inflation rate in Yemen is projected to climb to about 16 percent.

Reforms are expected to maintain momentum in 2008. MOPIC is already preparing a midterm plan to evaluate the performance of DPPR during the first two years and to function as an interim or revised planning document for the remaining period (i.e. until


The midterm plan will consider the changing circumstances that have emerged since the inception of the DPPR (such as the persistence of poverty incidence, the outlook of oil production, and the continued rise of world commodity prices) and revise its scope accordingly. The Plan objectives are expected to place special emphasis on economic diversification, growth, and fiscal sustainability. Efforts will focus on strengthening the financial sector development including increasing the number of microfinance banks, modernizing the local commercial courts, reducing red tape, updating foreign investment regulation and strengthening decentralization.

Medium-term outlook continues to be clouded. Though the macroeconomic outcome in 2008 is expected to show some improvement, the medium-term outlook continues to face the same serious challenges, particularly in view of the fast decline in oil production, rapid population growth, and slow, uneven progress in reducing poverty. Rising global prices for food products, coupled with domestic supply bottlenecks in food production and distribution will continue to keep inflation high. These results reinforce the need to tackle the structural weaknesses of the economy, particularly fostering non-oil growth that needs to be led by the private sector.

It also calls for more efforts to enhance fiscal sustainability through increased reliance on non-oil revenue, as well as lower and better targeting of expenditures, which is currently burdened by inefficient fuel subsidies (about 11 percent of GDP) and a large wage bill.

Yemen Economic Update is a quarterly report that covers political, social, macroeconomic, structural developments in Yemen as well as issues relating to the donor community and World Bank operations in Yemen.