Economic Research Forum (ERF)

Investment climate and firms’ exports in Egypt: when politics matters

2052
Despite significant reforms taken by the Egyptian government to liberalise markets and enhance the business environment, political factors continue to affect firms’ capacity to export. This column reports research on the impact of the overall investment climate on Egyptian exports in the manufacturing sector.

In a nutshell

Political instability and the political leverage of state-owned firms are significant obstacles hindering exports by Egypt’s private sector.

Persistent lack of transparency, unequal access to information and complicated procedures leave domestic private firms underprivileged relative to state-owned and foreign firms.

Implementation of reforms that ensure competition and transparency is indispensable to support Egyptian exporters.

Since Egypt’s political turmoil in 2011, the economy has been facing several challenges. Despite recent reforms targeting better investment opportunities and increased export activity, exports have not increased and the number of exporters has declined. This problem needs to be understood to design policies that can restore the country’s export competitiveness and help it to be reintegrated into the world economy.

In a recent study, we examine the impact of the investment climate on the export performance of Egyptian manufacturing, a sector in which exporters are chiefly concentrated in food, textiles, garments and chemicals. Our analysis of the probability of firms becoming exporters (as well as the ability of existing exporters to increase their exports) shows that two factors of a political nature hinder Egyptian manufacturers.

First, our measure of political instability has a significantly negative impact on exporters, as it has largely discouraged potential exporters. Indeed, between 2011 and 2013, economic performance and exports have dropped, coupled by capital outflows, downsizing and the exit of several domestic and foreign firms.

Second, our measure of government ownership is positively associated with the likelihood of becoming an exporter. Indeed, domestic private firms are in an underprivileged position compared with state-owned and foreign firms, which enjoy easier access to the export market.

State-owned firms are able to benefit from their position to overcome any barriers imposed by other government authorities. They also enjoy better access to information, enabling them to enter the export market despite typically having the low productivity.

Firms with foreign ownership also enjoy privileged and easier access to the international market due to the nature of their ownership. By contrast, the Egyptian private sector suffers from unfair competition with well-connected state-owned and foreign firms.

Despite the comparative ease with which state-owned firms can become exporters, they are unable to increase their exports once they enter the global market. According to our findings, the share of exporters among foreign firms is 1.8 times higher than that among state-owned firms, but the share of exports by the former is 2.7 times higher than by the latter.

This raises questions about transparency, access to information and competitiveness of firms located in Egypt. While state-owned firms seem to enjoy the privilege of entering export markets due to a lack of barriers and privileged access to information (in addition to formal and informal communication channels with the authorities), they are unable to compete and expand their export activity.

In contrast, foreign firms do better overall than state-owned and local private firms in entering export markets, and in competing internationally and expanding their exports.

In addition to firm ownership as an important factor determining exports, competition from the informal sector hinders registered firms from entering export markets and increasing their exports. Informality has become a pervasive phenomenon in Egypt in recent years, and it poses a threat to the expansion of registered firms. Being able to provide cheaper products, informal firms are a source of fierce competition, affecting the sales and productivity of formal sector firms, and hence their export performance.

In addition, tax policy seems to be having a negative impact on the likelihood of firms becoming exporters. Egypt lags behind in the ease of paying taxes, with a global ranking of 151, and ranks of 18 and 35 among MENA and lower middle-income countries sub-groups respectively. According to the World Bank’s ‘Doing Business’ reports, Egyptian firms make 29 tax payments a year, spend 392 hours a year filing, preparing and paying taxes, and pay total taxes amounting to 45% of profit.

Access to finance and resource constraints can also limit the sustainability of firms’ international activity and provoke exit from export markets. Evidence indicates a significantly positive impact of dealing with banks and having banking facilities on the probability of exporting and of exporting to more than one destination. Thus, wider and more efficient financial services are likely to improve the country’s export performance.

The need for competitive markets and transparent regulations

Attracting more investments and boosting exports is currently one of Egypt’s national priorities, and the reforms recently undertaken should enhance the business climate and rebuild domestic and foreign investors’ confidence in Egyptian institutions and markets. Unfortunately, persistent lack of transparency, unequal access to information and complicated procedures leave domestic private firms underprivileged relative to state-owned and foreign firms.

If Egypt is to encourage exports, serious steps should be taken towards a better climate for local private firms to be able to thrive. Since incentives are an important determinant of firms’ export performance, it is crucial to accentuate equality of opportunity between all kinds of firms to improve the economy’s competitive environment and hence the production and exports of the manufacturing sector.

Our findings also point to the importance of access to finance and a more efficient and more transparent tax policy for better export performance. This is particularly important for small and medium-sized enterprises (SMEs) to be able to export and/or increase their exports.

In addition to the barriers affecting the private sector in general, SMEs remain largely underprivileged when it comes to access to credit to engage in export activities. SMEs are labour-intensive by nature, and encouraging them to produce and export would also promote employment and enhance the social component of the overall process of economic growth.

Further reading

Aboushady, Nora, and Chahir Zaki (2016) ‘Investment Climate and Firms’ Exports in Egypt: When Politics Matter’, ERF Working Paper No. 1071.

Most read

Labour market effects of robots: evidence from Turkey

Evidence from developed countries on the impact of automation on labour markets suggests that there can be negative effects on manufacturing jobs, but also mechanisms for workers to move into the services sector. But this narrative may not apply in developing economies. This column reports new evidence from Turkey on the effects of robots on labour displacement and job reallocation.

Global value chains and domestic innovation: evidence from MENA firms

Global interlinkages play a significant role in enhancing innovation by firms in developing countries. In particular, as this column explains, participation in global value chains fosters a variety of innovation activities. Since some countries in the Middle East and North Africa display a downward trend on measures of global innovation, facilitating the GVC participation of firms in the region is a prospective channel for stimulating underperforming innovation.

Food insecurity in Tunisia during and after the Covid-19 pandemic

Labour market instability, rising unemployment rates and soaring food prices due to Covid-19 are among the reasons for severe food insecurity across the world. This grim picture is evident in Tunisia, where the government continues to provide financial and food aid to vulnerable households after the pandemic. But as this column explains, the inadequacy of some public policies is another important factors causing food insecurity.

Sustaining entrepreneurship: lessons from Iran

Does entrepreneurial activity naturally return to long-term average levels after big economic disturbances? This column presents new evidence from Iran on trends in entrepreneurship among various categories of firm size, sector and location – and suggests policies that could be effective in promoting entrepreneurial activities.

Intimate partner violence: the impact on women’s empowerment in Egypt

Although intimate partner violence is a well-documented and widely recognised problem, empirical research on its prevalence and impact is scarce in developing countries, including those in the Middle East and North Africa. This column reports evidence from a study of intra-household disparities in Egypt, taking account of attitudes toward gender roles, women’s ownership of assets, and the domestic violence that wives may experience from their husbands.

Manufacturing firms in Egypt: trade participation and outcomes for workers

International trade can play a large and positive role in boosting economic growth, reducing poverty and making progress towards gender equality. These effects result in part from the extent to which trade is associated with favourable labour market outcomes. This column presents evidence of the effects of Egyptian manufacturing firms’ participation in exporting and importing on their workers’ productivity and average wages, and on women’s employment share.

Do capital inflows cause industrialisation or de-industrialisation?

There is a clear appeal for emerging and developing economies, including those in MENA, to finance investment in manufacturing industry at home with capital inflows from overseas. But as the evidence reported in this column indicates, this is a potentially risky strategy: rather than promoting industrialisation, capital flows can actually lead to lower manufacturing value added and/or a reallocation of resources towards industries with lower technology intensity.

Financial constraints on small firms’ growth: pandemic lessons from Iran

How does access to finance affect the growth of small businesses? This column presents new evidence from Iran before and during the Covid-19 pandemic – and lessons learned by micro, small and medium-sized enterprises.

The economics of Israeli war aims and strategies

Israel’s response to last October’s Hamas attack has led to widespread death and destruction. This column outlines the impact thus far, including the effects on food scarcity, migration and the Palestinian economy in both Gaza and the West Bank.

Happiness in the Arab world: should we be concerned?

Several Arab countries have low rankings in the latest comparative assessment of average happiness across the world. But as this column explains, the average is not a reliable summary statistic when applied to ordinal data. The evidence from more robust analysis of socio-economic inequality in happiness suggests that policy-makers should be less concerned about happiness indicators than the core development objective of more equitable social conditions for citizens.