5. Rethinking governance in the economy: Sectoral perspectives

5. Rethinking governance in the economy: Sectoral perspectives

Better transparency, accountability, and more effective justice systems would bring broad-based gains to all sectors— similar to how a general-purpose technology—say electricity—can increase productivity across the board. The deep dives in Part II show how better governance can be transformational within each sector.

Skills and Productivity at a Crossroad

Human capital, especially skills, accounts for an important part of income differences across countries.14 MENA has a young population, and many have argued that now is the time to reap the demographic dividend. Yet, many workingage people in MENA—particularly women—are either unemployed or work in jobs in which they cannot fully use their skills to increase their productivity. The mismatch between the demographic dynamic and the scarcity of jobs translates into a strong push on people to migrate, which adds to an already large number of people displaced nationally and internationally by conflict in the region.

Better governance can be instrumental in improving schooling; in creating a level-playing field for private sector firms to compete fairly, grow, and create jobs; and in making migration both more productive and safer.

Ì Schooling

According to the Human Capital Index (HCI)—a World Bank measure of the future productivity of a child born today— someone born before the pandemic in the MENA region could expect to be only 57 percent as productive as a counterfactual worker who experienced full health and good schooling (World Bank 2021). Much of this productivity gap between the actual and the counterfactual results from shortfalls in learning, reflecting the reality that while access to education has improved in MENA over the past decades (at a rate faster than in other regions), the quality of education did not. For example, as of 2019, in Egypt only 47 percent of grade 8 students reached the “low” international benchmark of performance in mathematics, compared with the international median of 84 percent. (Kazem 2019). When harmonized for benchmarking purposes, students in Egypt score 356 on a scale in which 625 represents advanced attainment and 300 represents minimum attainment (World Bank 2020b). Moreover, if looked at through a distributional lens, measured differences in learning vary significantly, depending upon a family’s socio-economic condition (World Bank 2020a). The pandemic has strongly exacerbated these differences, with school closures resulting in significant learning losses, especially for children coming from the most disadvantaged backgrounds.

Many factors contribute to learning success. They include: well-trained teachers, effectively managed schools, involved families, and clear and available learning materials and textbooks. No single recipe can work for all countries. Yet, switching to a mindset that assesses learning regularly, acts on evidence, and aligns the incentives of the many actors involved is likely to foster an education system that works for learners (World Bank 2018). Albeit in different ways, education systems in a number of MENA countries fall short of creating an ecosystem in which learning measurement is regular, evidence is used for change, and stakeholders’ incentives are aligned for better learning.

14 Flabbi and Gatti (2018).

In Chapter 6, Prouty spells out the three core elements of education governance: setting standards, assessing progress, and ensuring accountability. To be sure, ministries of education (MOE) in most MENA countries have by now set forth national curricula that articulate learning objectives of subject-matter mastery for teachers and students. However, many of the region’s MOEs have not used learning objectives effectively to monitor learning outcomes or to introduce inquiry-based approaches to teaching and learning. And, although about half of the countries in the region conduct systematic learning assessments, few use the results of those assessments to address weaknesses in student performance. This type of measurement must be utilized if countries are to shift from input and process-driven methods—still all too pervasive—to a focus on results. Finally, accountability will require communicating progress towards goals with clarity, building on evidence to identify actions and responsibilities so that the needed follow up happens. There are some indications of reform in this direction. For example, school report card initiatives in Jordan, Kuwait, Morocco and the UAE (Dubai).15 But responsibilities in education systems tend to be more centralized in MENA than in other regions. More agency for principals, teachers, and schools—together with measurement and clear accountability systems—can put MENA’s education systems on an accelerated trajectory toward a better educated future workforce with more skills.

Ì Jobs

Improving schooling will not translate into increased productivity if economies in MENA are unable to generate the jobs needed for the large cohorts of young people that join the labor market every year. In MENA, private sector growth, and with it the overall economy’s growth, is stifled by strong barriers to companies seeking to enter or leave a market—that is, by a lack of contestability. In Chapter 7, Islam and Saliola show that state-owned enterprises (SOEs) in MENA play a dominant role in many sectors, not only in those with a natural monopoly or other intractable market failures, but also in such sectors as manufacturing, accommodations, trade, or construction—which typically are dominated by the private sector in other countries. For example, in Egypt, there is at least one SOE in each of the 29 sectors that were analyzed by Islam and Saliola. There is at least one SOE in 23 sectors in Saudi Arabia, 22 sectors in the United Arab Emirates, and 18 sectors in Morocco—compared to an average of 12 for high-income countries and 15 for upper-middle-income countries.

Not only are SOEs overly present, but they also often benefit from rules that favor them, such as preferential access to credit, competition exemptions, and extensive state support. And in many countries, government agencies act as both regulators and operators, both defying the basic principles of separation of functions and undermining competitive neutrality. A large body of research has shown that access to a privileged position in the market is not confined to SOEs. Many privately owned, politically connected firms also receive preferential treatment from the state.16 Such lack of competitive neutrality is a massive government accountability failure. Because they are shielded from market forces, SOEs lack the necessary market discipline to be at the productivity frontier. For the same reason, the forces of creative destruction in MENA are muted, resulting in firms that are older and less dynamic than those in comparator countries. As a result, job creation is anemic and jobs are generally of low quality. The informal sector accounts for most employment, contributing to sclerotic labor markets that exclude large swaths of the population, chiefly among women, whose participation in the labor force is the lowest in the world.

15 School report cards are easy-to-use information sheets that provide communities with information about their local schools--how they are doing in terms of enrollments, financing and learning outcomes--as a way of increasing accountability. 16 See Gatti et al. (2013); Schiffbauer et al. (2015); Diwan, Malik, Atiyas (2019); Islam, Moosa and Saliola (2022).

These interconnected challenges are the product of multiple governance failures. By now, a large body of literature has highlighted how in MENA the “rules of the game”—even if different among economies—have played into the hands of the governing elites, who benefit from a privileged relationship with the government and the regulators. The economic and social features of this development model—which many call a social contract—reinforce each other.17 Universal food and energy subsidies (rather than targeted social safety nets), job security for a few (rather than dynamic labor markets supported by workers’ protections during job transitions), and protection from competition for selected firms combine to produce a low-productivity equilibrium that is difficult to undo.

Seen through the lens of transparency and accountability, the emphasis of Part II of this report is on the importance of moving towards competitive neutrality between SOEs and the private sector, so that market signals, corporate governance, and accountability enforced by effective and independent competition agencies can provide the level playing field between public and private sectors needed for sustained growth. Although the resulting reshuffling within the economy would likely generate short-term job losses, it would bring about important long-term gains in job creation and productivity—and new social protection systems could be put in place to support workers who lose their jobs during the transition.

Ì Migration

As of 2020, 30 million people in the MENA region had migrated to another country. Over the past 30 years, the number of MENA residents who left their home country increased significantly faster than in the rest of the world. The typical long-term forces behind international migration—differences in demographics and living standards between the countries of origin and destination—are heightened in a region with a median age of 28, compared to 43 in Western Europe (UNDESA 2019). Income differentials are also extremely marked, even within the region. Half of MENA migrants chose other MENA countries—primarily those in the GCC—as their destination.

A large body of literature documents the productive impact of migration: for migrants, whose income can increase by as much as three to six times (Jasso, Rosenzweig, and Smith, 1998; Cuthbert and Stevens, 1981; Massey, Alarcón, Durand, and González, 1990), and for receiving countries, because migrants fill in important job gaps (OECD, 2012; Boubtane, Dumont, and Rault, 2016). It is also good for sending countries, because the potential for migrating can increase an individual’s incentive to acquire education that would be valuable in another country, a phenomenon that is dubbed brain gain (Mayr and Peri, 2009). Return migration can also benefit sending countries because the returning migrants have acquired both new skills and human capital while abroad (Dustmann, Fadlon, and Weiss, 2011) and are more likely to have had a stronger engagement in entrepreneurial activities (Marchetta, 2012; Batista, McIndoe-Calder, and Vicente, 2017).

In Chapter 8, Elmallakh discusses how economic migration in MENA reflects not only long-term pulls based on demography and income differentials, but also the chronic lack of job creation in the region. In this sense it is a consequence of the governance failings that stunt the growth of the private sector, as Islam and Saliola point out in Chapter 7. Conflict and violence are an additional, more dramatic governance failure in some countries that pushes people to migrate. In the decade ending in 2020, conflict and violence spurred the migration of as many as 18 million people from Syria, Yemen, and Libya (UNHCR, 2021).

17 Gatti et al. (2013) and Belhaj and Gatti (2021).

In addition to the benefits that improvements in governance might bring in moderating migration flows, Elmallakh argues that improved regulatory frameworks and full-on collaboration between sending and receiving countries within migration corridors—in other words better governance of the migration processes themselves—would make migration more productive. Both migrants and refugees would benefit from improvements in the refugee and migration governance frameworks, in terms of better labor market integration and therefore better labor market outcomes. Indeed, Elmallakh and Wahba (2021) find that unlike documented migrants, undocumented migrants not only experience worse labor market outcomes at destination—reflected in lower-ranked occupations and lower wages and savings—they pay longterm penalties that persist even after returning to their home country. Likewise, Fasani, Frattini, and Minale (2021) find that employment restrictions imposed on refugees entering European countries have long-lasting detrimental effects on the integration of refugees into labor markets. For example, exposure to a temporary employment ban at arrival reduces the employment probability of refugees by 15 percent in the post-ban years and these effects can last for up to 10 years after they arrive.

As important, the experience from the pandemic also shows that when faced with public health closures, migrants chose more dangerous routes and resorted to smugglers.18 Better governance can therefore make migration safer, particularly during shocks, and should place emigration policies—aimed at protecting the rights of citizens—at the heart of a better migration governance framework. For example, formal agreements with destination countries to protect migrant workers, pre-departure training sessions to inform potential migrants about their rights in destination countries and the procedures they should follow if their rights are violated, as well as efforts to combat human trafficking and smuggling of migrants should be part of a better migration governance framework (Melde et al. 2019).

Natural Capital: Land and Water Resources

Common pool resources—those easily available to everyone and susceptible to overuse and overexploitation—make the role of the state particularly relevant in managing natural resources. Unsurprisingly, in the literature on land and water in MENA, a word that appears frequently is “scarcity.” Better transparency and accountability can chart a path towards better access to and forward-looking management of precious resources at a time when demand is increasing.

Ì Land

Economic development, urbanization, and a growing population combine to increase demand for land when its supply is shrinking due to degradation from climate change. In MENA, poor land management and governance exacerbate the supply-demand mismatch, leading to inefficient, inequitable and unsustainable land use.

In the region, the barriers to accessing land for both businesses and individuals are significant. Nearly a quarter of firms in the manufacturing and service sectors identify land accessibility as a severe constraint on their operations. Political connections are used to access land, which may result in land being unavailable to more productive firms. Barriers to accessing land reduce economic efficiency within and across sectors and perpetuate inequality, especially among women and vulnerable groups.

18 Testaverde and Pavilon (2022).

Women in the region have the lowest rate of ownership of agricultural properties in the world and are two to three times more likely to fear losing their property after a divorce or spousal death. Formal and informal institutions and genderimbalanced social norms and practices do not sufficiently support women’s rights—especially in rural areas and in matters of inheritance and asset management. Refugees also find it difficult to access land—conflict in the MENA region has displaced millions of people who lack necessary housing, land, and property rights both in origin and destination countries. The land scarcity crisis is exacerbated by conflicts, which are prevalent in the region. Moreover, the fighting contributes to land degradation.

The poor governance of land has to do with both how land-use and ownership are administered and with a legal framework that often is outdated and not aligned with the needs of a modern economy. Except in rich MENA countries, inferior registration of property ownership is a big problem—reflecting complex land tenure situations, onerous procedures to register, and low perceived value of any benefits from registration. Furthermore, effective implementation of land governance policies frequently is complicated by institutional fragmentation at the central level and the unreliability of land administration infrastructure that limit information-sharing and coordination across central state institutions. Moreover, in many MENA countries, high levels of public land ownership, strong state control over all land, and centralized, and opaque decision-making processes concerning land allocation have contributed to inefficient land use and facilitated elite capture and cronyism. It is a problem in nearly all economic sectors in the region.

In Chapter 9, Selod et al. discuss how improved transparency, clarity of the law and accountability could remove the regulatory and institutional constraints that currently distort the supply of, and demand for, land, causing misallocation and significant economic and environmental costs. Water subsidies to agriculture, common throughout MENA, are another significant source of misallocation that incentivizes unsustainable use of land.

Ì Water

The same forces that put pressure on land in the region—population growth and urbanization—do so on water. Because of geography and climate change, the problem of water scarcity is more acute in MENA than anywhere else in the world.19

Historically, the MENA region has invested significantly in water infrastructure, such as dams and irrigation systems. Some of these projects were seen as iconic symbols of nation building within the “interventionist-redistributive” social contract that long dominated the development model in many MENA countries. The region recently ramped up investments in non-conventional water—desalinated water and reused wastewater. MENA accounts for 50 percent of the world’s capacity for desalinating water. But with a recovery ratio (that is, the percentage of intake water converted into useable water) of about 30 percent, MENA desalination is the least efficient in the world. In Western Europe, by contrast, the recovery ratio is 61 percent.

As in the rest of the world, water management in MENA is almost entirely done by large, state-owned water companies. However, unique to MENA, allocation of water across its competing uses—in agriculture, industry (oil, in particular) and water supply and sewerage—is extremely centralized. These centralized institutions are failing now. As Khemani and Ravell de Waal document in Chapter 10, the institutions are unable to win voluntary compliance with restrictions on the quantity of water that can be used or the tariff that needs to be paid to cover the costs of delivering water services. For example, in Jordan, almost half of piped water is lost to leaks, theft, or poor meter measurement before it reaches

19 See for example Gosling and Arnell (2016) and Taheripour et al. (2020).

the users (non-revenue water) and so the water actually billed to customers falls short of production costs. This loss of revenue constitutes a fiscal problem for Jordan of about 1 percent of GDP per year.20

In MENA, water regulations and tariffs lack legitimacy. The absence of trust in and among utility staff and managers also keeps utilities persistently inefficient and underfunded. Because of the impending water crisis, difficult decisions must be made soon. Khemani and Revell de Waal argue that the key to sustainable management of the water scarcity problem in MENA is to strengthen institutions—especially trust and legitimacy.

Moving water management from central to local governments has the potential to build legitimacy and could be the first step political leaders take to make the case to citizens that they represent their interests. Giving greater autonomy to the staff of water utilities could build trust between users and providers. Independent national agencies with the scientific expertise to monitor water resources could play an overarching role in providing the credible information needed to sustain legitimacy and trust. Some countries in MENA, such as Iraq and Morocco, have been debating and experimenting with empowering utilities to raise capital from international markets, but these initiatives are likely to require complementary reforms in utility governance to build their creditworthiness. Without these governance reforms, it will continue to be difficult to attract the global capital needed to finance infrastructure in this sector, since investors see challenges in receiving steady returns.

While no country has fully managed the complex problem of allocating water, by adopting an institutional lens, MENA now has the chance to lead the way in experimenting with concrete solutions to the problem. An evidencebased approach could help countries in the region design solutions that are customized to their needs and provide the necessary institutional learning to make water management sustainable and acceptable to citizens.

The Upside of Digital Technology

By reducing the costs of interactions, improvements in digital technologies provide an excellent opportunity for economic and social advancement. These data-driven general-purpose technologies include internet connection through high-speed fixed or mobile broadband, digital payment capabilities, and digital platforms that allow users, who may be physically far from one another, to connect and engage in transactions in goods or services (Evans and Schmalensee 2016). Digital technologies are what enable the transactional digital economy to flourish, and digital payment mechanisms play a crucial role in this process.

Like other general-purpose technologies (GPTs)—such as electricity, the telephone, and railroads—digital economy technologies can be used across all sectors and heighten economic connectivity, whether physical or virtual. According to Jovanovic and Rousseau (2005), as GPTs improve over time, they induce cost reductions and spur innovations in many products and processes far beyond their initially imagined applications. In so doing, they engender widespread gains throughout the economy. Cusolito et al. (2022) estimate that the region’s GDP could rise by 46 percent—about US$1.6 trillion—with the universal adoption of digital technologies. That would represent an enormous gain in growth, which would also translate to robust job creation. For example, at the firm level, manufacturing revenue per unit of factors of production could increase by 37 percent and employment in manufacturing could rise by 7 percent, equivalent to 1.5 million new manufacturing jobs.

20 World Bank (2019).