Yemen’s Economic Freedom: Going nowhere [Archives:2008/1123/Business & Economy]
The Heritage Foundation index of economic freedom has been published for 2008, it is among the best and well-researched reports to rank the economic freedoms of countries relative to each other, with reference to a ten-factor criterion, including business freedom, fiscal freedom, property rights, freedom from corruption, and other factors. The index indicated that Yemen's overall ranking has barely improved, as it had moved from 51.8 in 2006, to 53.2 in 2007, back to 58.8 in 2008, with a slight deterioration as a result of a small fallback in the monetary freedom indicator.
The index may reflect government commitments to reform and the improvement in business environment, including the relaxing of trade and investment restrictions and flexibility of government in dealing with business. The report states that “Yemen and Morocco made the biggest leaps forward with 3.0 percent and 4.4 percent increases, respectively. The United Arab Emirates (UAE), Tunisia, Qatar, Jordan, Libya, Kuwait, Lebanon, Israel, and Egypt also improved their economic freedom scores, marking a definite regional trend.”
However, in the Middle East and North Africa region, Yemen holds the 14th out of 17th ranks, falling behind all GCC countries, but ahead of Iran, Syria and Libya, three countries which attract more foreign investments than Yemen.
Explaining sluggish economic growth
The report states that one of the prime reasons for sluggish economic growth in the region is due to the lack of economic freedom; “The Middle East does not have any countries in the ranks of the world's 20 most free. Israel, the region's most free nation, is ranked 37 globally, Bahrain is ranked 39, and Jordan is ranked 53. Oman, Kuwait, and Tunisia are the last countries in the top 70. The lack of economic freedom reflects the region's sluggish economic growth and hints at the reason why its GDP per capita lags behind the rest of the world.
Additionally, the report also states that dependence on Oil in curbing economic growth: “The Middle East's stunted economic growth may be due to its over-reliance on oil wealth. To determine whether this is so, we divided the region into two halves, categorizing 12 of the 17 countries as oil exporters (with such exports in excess of 10 percent of total GDP) and the other five as non-oil countries. The most oil dependent economies in the Middle East are Qatar (60 percent), Oman (49 percent), Algeria (45 percent), Saudi Arabia (43 percent), Libya (33 percent), and the UAE (32 percent).”
The report's analysis revealed that “non-oil countries have 10 percentage points more economic freedom, using a population-weighted average. They also have lower inflation and slightly better employment and income levels, although their growth rates have been insignificantly lower. Economists subscribe to a theory known as the “Dutch disease,” which holds that natural resource wealth can inhibit the development of other sectors by skewing wages”.
In contrast, the report concludes, resource-poor countries must give their citizens a certain amount of economic freedom in order to create a living for themselves, developing human capital in order to create value. This means that people must be invested with skills.
Oil revenue, on the other hand, comes from the ground. In most Gulf States, even the process of extracting the oil is in the hands of foreigners. It requires no investment in labor, no investment in humans, and only a marginal amount of investment in the land. People need different freedoms to be productive, but oil does not generate the incentives needed for societies to create those freedoms.”
Fiscal Freedom
The Middle East is the absolute world leader in only one category: fiscal freedom. Fiscally, its 90.4 percent average score is well above the world average of 82.8 percent, a level reached because of the extremely low income taxes common to oil kingdoms. The region does score above the world average in other areas, however, such as monetary freedom and freedom from corruption)a result that may reflect the measures regional leaders are taking to cut back on bribery and government malfeasance.
Yemen's Ranking
Yemen's economy is 52.8 percent free, according to our 2008 assessment, which makes it the world's 125th freest economy. Its overall score is 0.4 percentage point lower than last year, reflecting slightly worsened scores in monetary freedom and labor freedom. Yemen is ranked 14th out of 17 countries in the Middle East/North Africa region, and its overall score is lower than the regional average.
Yemen scores well in fiscal freedom and labor freedom. The top income tax is relatively low, but the corporate tax rate is more burdensome. Overall tax revenue is low as a percentage of GDP. The labor market is relatively flexible.
Yemen faces major challenges in financial freedom, monetary freedom, government size, property rights, and freedom from corruption. The regulatory process is opaque, and court rulings are subject to the demands of the government. Political interference bleeds into the financial market, which is unsophisticated, dominated by the state, and not subject to standard oversight and international regulations. Corruption is prevalent throughout the civil service. Inflation is high, although the government directly subsidizes only a few goods. State expenditures equal almost two-fifths of GDP.
Background
Yemen, in addition to being a poor country with few natural resources, is politically unstable. President Ali Abdallah Saleh's government continues to face intermittent challenges from some of the country's often unruly tribes and Islamic radicals, who oppose economic reform and cooperation with the United States in the war against terrorism. Saleh's government has placed economic reforms on the back burner while it has waged war against Islamic extremists. In recent years, the economy has been hurt by declining oil production, terrorist attacks, and kidnappings, which have undermined tourism and foreign investment. The government has taken some steps to combat corruption it, but it needs to do more.
Business Freedom – 53.7%
The overall freedom to start, operate, and close a business is restrained by Yemen's regulatory environment. Starting a business takes an average of 63 days, compared to the world average of 43 days. Obtaining a business license takes less than the world average of 19 procedures and 234 days. Bankruptcy proceedings are relatively straightforward.
Trade Freedom – 66.4%
Yemen's weighted average tariff rate was 11.8 percent in 2000. Some import bans and restrictions, import taxes, import licensing requirements, weak enforcement of intellectual property rights, inefficient customs administration, and corruption add to the cost of trade. An additional 10 percentage points is deducted from Yemen's trade freedom score to account for non-tariff barriers.
Fiscal Freedom – 83.2%
Yemen has a low income tax rate but a burdensome corporate tax rate. The top income tax rate is 20 percent, and the top corporate tax rate is 35 percent. Other taxes include a property tax and a fuel tax. In the most recent year, overall tax revenue as a percentage of GDP was 7.4 percent.
Freedom from Government – 58.5%
Total government expenditures, including consumption and transfer payments, are high. In the most recent year, government spending equaled 37.2 percent of GDP. Yemen depends heavily on foreign private oil companies that have production-sharing agreements with the government.
Monetary Freedom – 62.9%
Inflation is high, averaging 18.4 percent between 2004 and 2006. Unstable prices explain most of the monetary freedom score. The government controls the prices of pharmaceuticals and petroleum products and influences prices through regulation, subsidies, and state-owned enterprises and utilities. An additional 10 percentage points is deducted from Yemen's monetary freedom score to account for policies that distort domestic prices.
Investment Freedom – 50%
The government officially permits foreign investment in most sectors, grants equal treatment to domestic and foreign investors, and intends to turn the General Investment Authority into a one-stop shop for investors. Foreign investment in the exploration for and production of oil, gas, and minerals is subject to production-sharing agreements. Foreign investment is not permitted in the arms and explosive materials industries, industries that could cause environmental disasters, or wholesale and retail imports. Though political unrest and civil violence are deterrents, Yemen appears to have attracted some regional investment enthusiasm and political support since its presidential election in late 2006. Foreign exchange accounts are permitted. There are no restrictions on payments and transfers, and capital transactions are subject to few restrictions. Corruption is significant.
Financial Freedom – 30%
Yemen's financial system is small, underdeveloped, and dominated by the state. Financial regulation remains insufficient, but the government is taking some steps to improve certain regulations like capital requirements. Non-performing loans are a problem. Of the 16 commercial banks (including four Islamic banks) in October 2006, nine were private domestic banks, five were foreign banks, and two were state-owned banks. Two state-owned development banks lend to the agriculture and housing sectors. The state wholly owns the country's largest bank, the National Bank of Yemen, and owns a majority of the Yemen Bank for Reconstruction and Development. Efforts to privatize these banks have foundered. A second plan, to combine them into a single institution, has also stalled. The Embassy of Yemen reports that the state is a very small shareholder in three other private banks. Commercial lending is limited to a small circle of clients, party because of legal inability to collect on overdue debts. The insurance sector is small, capital markets are negligible, and there is no stock market.
Property Rights – 30%
The judiciary is subject to government pressure and corruption. Contracts are weakly enforced. Foreigners may own property, but foreign firms must operate through Yemeni agents. Protection of intellectual property rights is inadequate.
Freedom from Corruption – 26%
Corruption is perceived as widespread. Yemen ranks 111th out of 163 countries in Transparency International's Corruption Perceptions Index for 2006. Government officials and members of parliament are presumed to benefit from insider arrangements and embezzlement. Procurement is a regular source of corruption in the executive branch.
Labor Freedom – 67.7%
Relatively flexible employment regulations could be further improved to enhance overall productivity growth and job creation. The non-salary cost of employing a worker is low, but dismissing a redundant employee can be burdensome.
Regulations related to the number of work hours remain rigid.
copyright2008 The Heritage Foundation – Wall Street Journal.
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