Economic Research Forum (ERF)

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

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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.

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