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Economic Development of the Middle East: 15PECC341

Lecturer: Dr. Randa Alami


Tutor: Dr. Randa Alami

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Over the past few decades, privatization has become one of the most important political
and economic phenomena in the world. A main component of the Washington
consensus, it is considered as the main tool for reinforcement and improvement in
private sector performance and often a policy condition for obtaining foreign finance1.
Thus, developing countries turn to privatization to improve the productivity of their
State Owned Enterprises (SOEs), to access capital and improve service delivery and to
reduce the fiscal burden SOEs losses represent2.

MENA countries have also undertaken measures towards a more market-oriented


economic system, although their progress has been slower than in other regions such as
Latin American and Asia3.

In order to discuss more in detail the process of privatisation in the MENA region, I will
begin by defining privatization, its methodology and the potential positive impact on
efficiency and private sector development its reforms can entail. This will bring us to
consider the circumstances in the Middle East that motivated undertaking privatisation
measures since the early 1980s. I will then consider the case of a latecomer to
privatisation in the region, Algeria: the characteristics of its economy, the initial phases
of the Algerian µopen door policy¶ (infitah) followed by IMF/WB reforms and the
outcome of such a process. Assessing the outcome of the Algerian privatization will
lead us to consider the reasons for its failure, which are not exclusive to this particular
country. Finally, I will briefly discuss the prospects for privatization in MENA.
Throughout this essay, I will attempt to highlight the difficulty of privatization policies
as well as the importance of considering initial conditions in each country and
introducing parallel measures such as a stable business environment and regulation,
financial and infrastructural reforms.


   

 
1
Randa Alami, ³Privatization in the MENA´ (Lecture, SOAS, London, 2 nd February 2009)
2
Ben Naceur, Samir Ghazouani and Mohammed Omran, ³The Performance of Newly Privatized Firms in
Selected MENA Countries: The Role of Ownership Structure, Governance and Liberalization Policies´,
(March 2006), http://papers.ssrn.com/sol3/papers.cfm?abstract_id=8893276, 6.
3
Ben Naceur, et al, ³ The Performance of Newly Privatized Firms´, 3.

 
Privatization can be defined as a ³policy process whereby a government reduces its role
as an owner and manager of business enterprises in the interest of other actors such as
individuals and corporations4´. It includes all types of transactions involving a sale of
assets or a transfer of management control, thus giving rise to nine methods of
privatisation.

Privatization can then take place through: „ „„ „   „„


„ through
competitive bidding or direct negotiation, the sale of shares to individuals or institutions
through 

, sales of businesses to its managers and employees as a
  
 
, liquidations, 

„ of public and private owners, transfers
of shares of a public enterprise to a
 „
 for onward sale, appointing a private firm to
provide managerial services for a fee through   

 
, a  „
 

which grants temporary property to a private firm and „„„ where the
government sets the rules 5. These different types of privatisation range from
managerial/commercialisation approaches to more capitalist or populist approaches6.

Countries turn to privatization due to the problematic nature of SOEs. By definition,


state-owned enterprises are properties collectively owned by all the citizens, where
professional managers on fixed salaries are hired to run the enterprise7. SOEs are said to
be inefficient in social, political, incentives, human capital, competition and financial
ways. From a „  view, SOEs are inefficient because they set prices taking into
account social marginal costs8. 
„ plays a great role in SOEs, which results in
overstaffing, bureaucratic and regulatory frameworks as well as political pressure to the
government to keep established rents such as high wages/low effort and secure
employment 9. Managers also tend to have lower 
„, having no self-interest in
maximising gains10 and it is hard to control his behaviour, causing the µprincipal-agent
problem¶.11 Moreover, these managers are often given the job according to their
 
4
Iliya Harik ³Privatization: The issue, the prospects, and the fears,´ in 

    „


  „
eds. L. Harik and D. Sullivan, (Indiana: Indiana University Press, 1992), 1.
5
Celine Kauffmann andLucia Wegner, Privatisation in the MEDA region: where do we stand?, OECD
Development Centre, Working Paper no.261, 12-13.
6
Randa Alami, ³Privatization in the MENA´ (Lecture, SOAS, London, February 2009)
7
Ha-Joon Chang,    
„
   

„
 
„
(London: Bloomsbury Press, 2007), 105.
8
Ben Naceur et al, ³The Performance of Newly Privatized Firms in Selected MENA Countries´,15.
9
Ibid 16.
10
Ibid.
11
Ha-Joon Chang,    
„, 105.

 
political affiliation and not necessarily because they have the right skills for the post,
which also lowers efficiency and increases agency costs due to low    
12.
The presence of extensive and poorly-performing public companies is also said to hinge
on the growth of the private sector, lowering  

 and preventing private firms
from entering the market. Finally, the subsidies they receive from the state as well the
low interest rate on loans allows SOEs to operate under soft budget constraints and
become a    burden to the state13. As a result from these failures, the main
purpose of privatization is thus to enhance the efficiency of SOEs and to decrease the
budgetary burden on the state 14.

Privatization has also been undertaken as part of a broader liberalization of the economy
in a neo-liberalist agenda. This process results in a partial withdrawal of the state from
its hegemonic role as an entrepreneur and as a provider of welfare and other services15.

This neo-liberalist ideology bases their actions on the claim that privatization improves
firm performance and that this contributes to economic growth16.Neo-liberalists argue
that in the case of developing and transition economies there is no trade off between
equity and efficiency when it comes to privatisation17. These economies produce inside
the perfectly competitive production possibility frontier and thus there is no such an
opportunity cost18.The economy will move to a more efficient and more equitable
position 19.

However, the actual evidence of these claims is far from clear. A study by Birdsall &
Nellis finds that the positive distributional effects cannot be predicted and that actually
the impact of privatisation on equity will depend on the country¶s initial condition, the
sale event and the post privatization political and economic environments 20. Numerous
other studies attempt to account for the impact of privatization and the results are very
 
12
Ben Naceur et al, ³The Performance of Newly Privatized Firms in Selected MENA Countries´, 15.
13
Ibid, 17.
14
Ibid, 15.
15
Iliya Harik ³ Privatizati on: The issue, the prospects, and the fears,´ 1.
16
Ben Naceur et al., ³The Performance of Newly Privatized Firms in Selected MENA Countries: The Role of
Ownership Structure, Governance and Liberalization Policies´, 4.
17
John Nellis and Nancy Birdsall (eds) , ³ Privatization Reality Check: Distributional Effects in Developing
Countries´ in 4 
 !"„

 # 

$
"   
„ (Washington, DC:
Center for Global Development, 2005), www.cgdev.org/doc/Privatization/ch%201.pdf, 5.
18
Ibid, 4.
19
Ibid, 5.
20
Ibid, 10.

 $
mixed. This has given rise to a growing resentment against privatisation, arguing that
privatization in developing countries is by far not the best approach and does not
overcome the deficiencies of the market21. Moreover, it is also claimed that
privatization in most developing countries simply reflects the interests of advanced
industrial states through foreign agencies such as the IMF and WB and business classes
and elites22.

In order to assess the impact of privatisation in MENA it is necessary to have a brief


look at the region¶s general characteristics and trends. This helps us understand the
underling factors which have motivated privatization domestically.



   °

MENA countries are characterised by a high state involvement in their national
economies and SOEs owned most of the region¶s economic activity23. In the case of
Algeria, between 1978 and 1985, the SOEs made up almost 70% of GDP24This is partly
due to the nature of the economies of the region, which needed for the state to fill in the
gap for a very small industrial sector and to make up for market failures such as lack of
investment, capital and sectoral imbalances25. The state was also good at central
planning and raising capital for sophisticated industries, which the economies lacked26.
There was also an ideological root to the emergence of the patron state: the aim for self-
sufficiency and de-linking from developing nations shortly after independence 27.

In fact, the dominance of the patron state intensified the dependence on industrialized
countries28. Governments became increasingly dependent on external aid to bear the

 
21
Iliya Harik ³Privatization: The issue, the prospects, and the fears´, 5.
22
Ibid,13.
23
Ibid, 5.
24
OECD Development Centre, ³Privatization in the MEDA Region: Where do we Stand?´,Working
Paper (2007), 21. www.oecd.org/dataoecd/23/62/39145511.pdf (Accessed 1st April 2010)
25
Iliya Harik, ³Privatization: The issue, the prospects, and the fears´, 5.
26
Ibid,5.
27
Ibid, 2.
28
Ibid.

 %
cost of their SOEs and maintain a welfare system29. All in all, economies became
trapped in less productive sectors which produced fewer and worse services30.

In this context, MENA governments undertook privatization with the purpose of:
benefiting from short term fiscal gains, the positive economic and social impact of
privatisation on competition, the development of financial markets and the broadening
of local participation, as obtaining financial assistance from the World Bank and IMF
which was conditional on privatisation.

Compared to other regions, MENA countries are quite heterogeneous and have taken to
different approaches with respect to privatisation. I will focus from now on the process
of privatisation in Algeria, illustrating with examples from other countries for
comparisons.

  


 !  

The Algerian economy is dominated by oil and gas. These make up approximately 97%
of the country¶s exports and two thirds of the government income31. After Algeria¶s
independence in 1962, president Boumediène came to power through a military coup in
1965 32. Since then, he adopted socialist principles, financed through oil and gas export
revenues and foreign borrowing. He institutionalized social planning and established
large state enterprises called the µsociétés nationales¶. This included SONATRACH in
the field of hydrocarbons, SONALGAZ for domestic gas and electricity supplies among
others33. As president Chadli Ben Jadid came to power in 1979 the financial burdens
caused by the µsocitétés nationales¶ caused increasing pressure on the government and a
10 year period of political and economic reforms began.

 
29
Iliya Harik, ³ Privatization: The issue, the prospects, and the fears´, 2.
30
Ibid, 2.
31
African Economic Outlook, Algeria Country profile, 2003.
http://www.africaneconomicoutlook.org/en/countries/north-africa/algeria/#/overview (Accessed 6th April
2010)
32
Nazih Ayubi, ³Étatiste versus Privatization: The Changing Economic Role of the State in Nine Arab
Countries´, in  „

  „
ed. Heba Ahmad Handoussa, (Cairo: The
American University in Cairo Press, 1997), 148.
33
Ibid, 148.

 

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The reforms initiated in Algeria in the 1970s had three main purposes. The main goal
was to achieve greater efficiency in the economy34. Privatization was expected to limit
bureaucracy through the decentralization of certain enterprises35. A reformed banking
system and pricing policies as well as new commercial and investment codes were also
expected make the economy more profitable36. Another goal was to lower the impact of
a projected loss income in the 1980s, for which an austerity plan would be
implemented37. Finally, the reforms sought to create additional sources of income
through the exports of non-carbohydrates and making agriculture more productive38.

The Algerian infitah carried out by the Algerian government began in 1980 and the
reforms are said to have four phases until the IMF/WB stepped in.

The first and second phases of the infitah (1980-85) included very limited reforms.
These were launched from a subcommittee of the political Front Nationale de
Liberation and had a minimal impact39. The number of workers for each company was
restricted, thus breaking up some companies, and managers were given limited authority
over prices and production40. Later in 1983, The Investment code outlines financial and
fiscal incentives for activities in different private sectors. The lack of improvement in
the economy led the government to announce an austerity plan to keep the IMF and WB
from intervening and to prevent rescheduling of foreign debt. This programme¶s
measures consisted of a deregulation of domestic prizes and interest rates, modified
laws to attract foreign investment, export-oriented growth and it ended guaranteed
employment 41. Despite this apparently extensive programme, the first and second
phases of the Algerian infitah were incomplete. Algeria did not implement a coherent
macroeconomic program along with the privatizing measures and the problematic issues
 
34
Dirk Vandevalle, ³Breaking with Socialism: Economic liberalization and Privatization in Algeria´,


    „

  „
 eds. L. Harik and D. Sullivan, (Indiana: Indiana
University Press, 1992), 194.
35
Ibid
36
Ibid
37
Ibid
38
Ibid
39
Ibid, 194.
40
Ibid, 194.
41
Dik Vanderwalle, Privatization and Liberalization in the Middle East, 195.

 &
in the country such as inflation, unemployment and an extensive black market,
persisted42. The situation was worsened by a fall of the dollar, which lowered revenues
from exports, and a growing political opposition43.

The 1986 National Charter and Investment Codes initiated the third phase of the infitah
which focused on additional institutional reforms44. The agriculture and banking sectors
were given greater autonomy as subsidies, wages regulations and the link between the
central bank and the treasury were broken45. Laws were introduced to favour foreign
investment and the participation of foreign enterprises and bank in Algeria46. However,
the large devaluation in 1988, the escalating inflation and employment resulted in the
October 1988 riots. Strikes, demonstrations, riots and a growing domestic opposition to
the regime made the government act change their domestic and international policies47 .
The 1989 Constitution acknowledged pluralism, Algeria then joined the new Arab
Maghreb Union (UMA) and initiated reforms in the form of structural adjustment
programs in cooperation with the World Bank and the IMF48.

The following years were a very unstable phase in the Algerian history. Politically, the
country was immersed in controversial elections, the rise of Islamist parties and the
repression of these49. Economically, the Algerian economy was struggling with rising
unemployment, malaise in private sector areas of agriculture, construction and industry,
declining export oil prices and an high inflation which reached 32% in 1993. In a way,
the concession of help through IMF/WB programmes is said to be have been a reward
to the Algerian government for the oppression of Islamist parties and the interruption of
diplomatic relations with other Islamist countries such as Iran and Sudan50. Following
the standard guidelines for Structural Adjustment Programmes, the programme

 
42
Dik Vanderwalle, Breaking with Socialism: Economic liberalization and Privatization in Algeria´, 196.
43
Ibid.
44
Ibid, 197.
45
Ibid, 198.
46
Ibid, 199.
47
Jane Harrigan, H. El-Said and C. Wang, ³The Economic and Political Determinants of IMF and World
Bank Lending in the Middle East and North Africa´, World Development, 34 (2006), 257
48
Ibid.
49
Ibid, 258.
50
Ibid, 258.

 '
provided guidelines for monetary and financial policy, international trade and the
various economic sectors51.

Algeria continued its anti-terrorist commitment throughout the 1990s52. The election of
a pro-western and anti-Islamist president, Mr. Bouteflika, in 1999 increased violent
conflicts within the country but also loans and support from the IMF through the
Compensatory and Contingency Financing Facility53.

Since the early 2000s the Algerian economy has taken off54. Economic programmes
have been accompanied by social programs such as ³Economic Revival´ seeking to
preserve the gains from SAPs55. Foreign currency reserves rose and foreign debt have
fallen, although this is mainly due to favourable oil revenue56. Among the initiatives,
privatization of public institutions and encouraging the private sector have accounted
for 70% of non-oil economic growth in 2006-2007 57.

c


Before the IMF and World Bank intervention, the Algerian government had carried out
ten years of an infitah policy. Existing barriers in the Algerian economies had been
removed and bureaucratic and political resistance had partly been overcome. It had ³the
potential of becoming one of the most far-reaching reform efforts in the Arab world´58.

Although the privatisation process was launched in 1995, it started at a very slow pace.
In 2000, still 60% of government revenues originated in SOEs 59. Thus the WB noted
that ³Algeria¶s privatization has not yet resulted in a single complete divestiture of
shares of corporatized public enterprises to outside private interests60´. The World Bank
explained these poor results as a consequence of a lack of a well defined strategy and
 
% Mohamed Ratoul, ³Economic Reform & Political Openings: Lessons from Algeria´, à #„

à
„ (2008). www.arabinsight.org/aiarticles/195.pdf, 78. (Accessed 5 th April)
52
Ibid.
53
Ibid.
54
Ibid,84
55
Ibid, 85.
56
Ibid, 85
57
Ibid, 85.
58
Dik Vanderwalle,³Breaking with Socialism: Economic liberalization and Privatization in Algeria´, , 201.
59
OECD Development Centre, ³Privatization in the MEDA Region: Where do we Stand?´, 21.
60
Isabelle Werenfels, ³Obstacles to Privatisation of State -Owned Industries in Algeria: The Political Economy of a
Distributive Conflict´, The Journal of North African Studies (2002), 1.

 
time bound objectives, lack of sufficient financial and human resources and the
inadequate legal and institutional arrangements61.

Despite this claims, it is hard to measure the actual impact due to the lack of
information. Although the Algerian authorities claim that 500 privatization took place
up to 2006, creating $740million, there is not much information regarding these
operations and only 22 transactions are recorded in the database62. Moreover, the
government still controls the national oil company SONATRACH and most of the
energy sector63. In 2005 the Euro Mediterranean Network of Investment Promotion
Agencies (ANIMA) was reporting 785 privatization projects in Algeria64. Most of these
concern medium sized companies in manufacturing, construction, agriculture and
tourism sectors65.

Overall the privatization process in Algeria has been slow and lacking transparency.
The initial impediments to privatization highlighted by neo-liberal institutions such as
the lack of well-defined strategies, the lack of financial, human resources and legal and
institutional arrangements are true66. However, the country¶s complex interplay of
economic, social, political and cultural forces have hindered privatization throughout
time. SOEs in Algeria represented the ³cornerstone of state-building 67´, they had an
important place in the ideological post-colonial framework and were used to represent
national sovereignty and collective efforts as part of the µpopulist imaginerie¶68. Also,
the monopoly of trade SOEs enjoyed had given rise to a complex system of rent-
seeking intermediary firms that benefited from this monopoly.69Finally, the SOEs
played a very important role in state bureaucracy. The French colonial power had
created an extensive bureaucracy with tribal alliances. There was a lack of a unified
government and instead several competing elites, including the military, which
benefited from important monopolies. It is the lack of a legitimate ruling class, political

 
61
Ibid, 3.
62
OECD Development Centre, ³Privatization in the MEDA Region: Where do we Stand?´, 21.
63
Ibid.
64
Ibid.
65
Ibid.
66
Isabelle Werenfels, ³Obstacles to Privatisation of State -Owned Industries in Algeria: The Political Economy of a
Distributive Conflict´, 3 -4
67
Ibid 11.
68
Ibid, 12.
69
Ibid,13.

 !
stability and failure to address the problematic structures of society that held back
privatization.


 

   

From the evidence in Algeria as well as in other countries in the region, we learn that
privatisation cannot be undertaken as a stand-alone measure. It is more likely to be
successful when it is implemented within a regulatory and policy framework and as a
part of a more general package of measures promoting efficiency, private sector
development, improvement of the business climate and liberalisation of the financial
market70. Countries like Egypt and Tunisia, which succeeded in privatisation showed
clear commitment to the reform, ensuring credibility and carried out transactions in the
key sectors71.

This is consistent with the successful privatisation of OECD countries, documented by


the OECD 2003 report. Lessons from these experiences highlighted the need for
political support 72. It also called for prior measures to sale such as addressing
competition and regulatory issues and communication to address stakeholder
concerns73. It called for concern regarding the sequencing of sales and post-privatization
control devices to discipline stakeholders and provide incentives for investments74.

Only recently has the Algerian privatization has really taken off and this has not been
arbitrary. Privatization measures are now framed within a more coherent programme
which includes addressing social needs, development of infrastructure and a more
favourable environment 75. This is implemented in a more politically stable context, with
political entities seeking economic efficiency without causing excessive damage to the
poor 76. This is consistent with studies on private sector development, which find that an

 
70
OECD Development Centre, ³Privatization in the MEDA Region: Where do we Stand?´, 45.
71
Ibid, 46.
72
Ibid, 46.
73
Ibid.
74
Ibid
75
Mohamed Ratoul, ³Economic Reform & Political Openings: Lessons from Algeria´, à #„

à
„ (2008), 85-86
76
Ibid, 86.

 
attractive business environment is key to privatization77. These includes political
stability as well as a modern financial and banking sectors but also developed
infrastructure.

˜  

Throughout this essay, I have attempted to provide an analysis of the process of
privatization in Algeria. An overview of the privatization as a policy process and the
general trends in the MENA region helped me to illustrate why countries like Algeria
were motivated to undertake privatization. The case of Algeria, with an economy
dominated by oil, gas and large SOE allowed me to examine in detail the process of
privatization in Algeria. The financial burden SOEs represented, the instability in the
country and the search for foreign aid led the Algerian government of Chadli to launch
the infitah in the 1980s. Despite the potential for success, the oil and gas price collapse
of 1986 and the growing discontent among Algerians only worsened the situation. As a
result, a structural adjustment programme led by the IMF and WB was granted to the
Algerian government in 1995. The process of Algerian privatization has been long and
slow. It has not been until after 2000 that Algeria has finally seen the size of public
companies decrease and the private sector has began to flourish. This has not been by
chance, but because privatization has been included in a broader reforms program and
because of political stability. Overall, the process of privatization in Algeria is
consistent with Dr. Said El Naggar¶s claim that ³ to nationalize is easy but to privatize is
fraught with difficulties´78.











 
77
Robert E. Anderson & Albert Martinez, ³Supporting Private Sector Developm ent in the Middle East and North
Africa´, in „ 
„  „
  %
à „
 „
   !& ed. N. Shafik
(New York: St. Martin¶s Press, 1998), 184 -192.
78
Iliya Harik, ³Privatization: The Issue, The Prospects and the Fe ars´, 4.

 

 
 

Alami, Randa. ³Privatization in the MENA´ (Lecture, SOAS, London, 2 nd February
2009)

Anderson, R. & Albert Martinez. ³Supporting Private Sector Development in the


Middle East and North Africa´, in „ 
„  „
  %
à 
„
 „
   !& ed. N. Shafik. New York: St. Martin¶s
Press, 1998.

Chang Ha-Joon.    
„
   

„


„. London: Bloomsbury Press, 2007.

Harik, Iliya. ³Privatization: The issue, the prospects, and the fears,´ in 

  
  „

  „
eds. L. Harik and D. Sullivan. Indiana: Indiana
University Press, 1992.

Harrigan, Jane, H. El-Said and Wang.³The Economic and Political Determinants of


IMF and World Bank Lending in the Middle East and North Africa´, World
Development, 34 (2006), 257

Kauffmann Cecilia and Wegner L. ³Privatisation in the MEDA region: where do we


stand?, OECD Development Centre, Working Paper no. 261, 12-13.

Naceur, B., Ghazouani S. and Omran M. ³The Performance of Newly Privatized Firms
in Selected MENA Countries: The Role of Ownership Structure, Governance and
Liberalization Policies´, (March 2006),
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=8893276.

Nellis John and Nancy Birdsall. ³Privatization Reality Check: Distributional Effects in
Developing Countries´ in 4 
 !"„

 # 

$

"   
„. Washington, DC: Center for Global Development,
(2005).www.cgdev.org/doc/Privatization/ch%201.pdf,

OECD Development Centre. ³Privatization in the MEDA Region: Where do we


Stand?´, www.oecd.org/dataoecd/23/62/39145511.pdf

Vandevalle, Dirk. ³Breaking with Socialism: Economic liberalization and Privatization


in Algeria´, 

    „

  „
eds. L. Harik and D.
Sullivan, (Indiana: Indiana University Press, 1992), 194.

Werenfels, Isabelle. ³Obstacles to Privatisation of State-Owned Industries in Algeria:


The Political Economy of a Distributive Conflict´, The Journal of North African
Studies (2002), 1.

Ratoul, Mohamed. ³Economic Reform & Political Openings: Lessons from Algeria´,
à #„
à
„ (2008). www.arabinsight.org/aiarticles/195.pdf