KUWAIT: The combined effects of global headwinds, domestic challenges, and geopolitical risks weigh on economic momentum in the Middle East and Central Asia and the outlook is highly uncertain across the region, according to International Monetary Fund. Growth is set to slow this year in the Middle East and North Africa region, driven by lower oil production, tight policy settings in emerging market and middle-income economies, the conflict in Sudan, and other country-specific factors, it said.
In the Caucasus and Central Asia, although migration, trade, and financial inflows following Russia’s war in Ukraine continue to support economic activity, growth is set to moderate slightly this year. Looking ahead, economic activity in the Middle East and North Africa region is expected to improve in 2024 and 2025 as some factors weighing on growth this year gradually dissipate, including the temporary oil production cuts. But growth is expected to remain subdued amid persistent structural hurdles.
In the Caucasus and Central Asia, economic growth is projected to slow next year and over the medium term as the boost to activity from real and financial inflows from Russia gradually fades and deep-seated structural challenges remain unsolved. Inflation is broadly easing, in line with globally declining price pressures, although country-specific factors—including buoyant wage growth in some Caucasus and Central Asia countries—and climate-related events continue to make their mark. Despite some improvement since April, the balance of risks to the outlook remains on the downside.
In this context, expediting structural reforms is crucial to boost growth and strengthen resilience, while tight monetary and fiscal policies remain essential in several economies to durably bring down inflation and ensure public debt sustainability. Policy space in many countries in the Middle East and Central Asia has diminished following an extended period of shocks, particularly among the region’s emerging market and middle-income countries. Amid high public debt and inflation, fiscal consolidation and tight monetary policy are needed in many countries in the region.
In this context, structural reforms offer a way to not only increase potential growth, but also accrue near-term growth benefits, it said. In addition, reforms can be instrumental in accelerating economic diversification among oil exporters. In a novel analysis for the region, this chapter shows that most structural reforms help lift output, with the impact growing over time. Governance reforms—particularly, enhancing the rule of law and government effectiveness—are especially important and can also generate positive output effects during periods of weak growth or relatively limited policy space.
Improving the government’s ability to implement policies and regulations to promote private sector development also contributes to fostering growth through improved investment and productivity. Moreover, prioritizing governance reforms before other reforms can magnify their overall growth dividends, and the strategic packaging of reforms—for example, by combining external sector and credit market reforms—can amplify positive output effects. Importantly, the design of structural reforms will need to include political considerations and distributional impacts.
Central banks in the Middle East and Central Asia face difficult trade-offs and policy challenges at a time when core inflation, though gradually declining, remains above central bank targets in many countries. In this context, a prolonged period of tighter monetary policy to reduce inflation could have unintended consequences for financial systems in the region. This chapter assesses the state and resilience of banking sectors in the Middle East and Central Asia to credit and liquidity risks that could emerge in a "higher-for-longer” interest rate environment. The results suggest that banking systems would be resilient in an adverse scenario of higher interest rates, corporate sector stress, and rising liquidity pressures.
However, pockets of vulnerability exist in some countries, particularly among state-owned banks, and capital losses could emerge that, while manageable, could limit lending and add to downside risks to output. Policies to mitigate downside risks center on strengthening macroprudential frameworks, containing the vulnerabilities stemming from the sovereign-bank nexus, enhancing clear and timely communication, establishing emergency liquidity tools to stem systemic financial stress, and developing resolution regimes to reduce the buildup of zombie firms.