Sunday,23 July, 2017
Current issue | Issue 1329, (26 January - 1 February 2017)
Sunday,23 July, 2017
Issue 1329, (26 January - 1 February 2017)

Ahram Weekly

The importance of connections

Researchers say that Middle Eastern economies are being weighed down by the proximity of the business community to politicians

The importance of connections
The importance of connections

In the Middle East connections are important to make an appointment with a well-known doctor whose schedule is locked up for months to come, to find a bed in an overcrowded intensive care unit, or to land a job. The importance of being well-connected is part of everyday life, and as far as business is concerned the more connected a business is, the smoother its operations will be.

There is also more to it than just having a business run smoothly, as the Arab Spring revolutions among other things revealed the extent to which business is intertwined with politics. While ordinary individuals may speculate on the degree of cronyism involved, a recent research project has now come out with evidence that allows conclusions to be drawn.

Entitled “The Political Economy Determinants of Private-Sector Dynamism in the ERF Region”, the project, an initiative of the Economic Research Forum (ERF), a regional think tank, aimed at analysing business-state relationships in order to develop a better understanding of the mechanisms used to privilege insiders and to assess the effects of such practices on the economy.

“The project tries to map proximity to power. For a long time in the Middle East, if you were close to the ruling circle, you would have access to good economic opportunities,” Adeel Malik, a lecturer at the Oxford Centre for Islamic Studies in the UK and a member of the research team, told Al-Ahram Weekly.

The researchers traced businessmen with connections to political parties who had served in government or who were friends or family of politicians. “These databases are all conservative in their orientation. They only take those cases that everybody has agreed upon, and there are a lot of other connected families that they do not include. The results are an understatement,” Malik said.

The findings are similar across the region, whether in Tunisia, Lebanon, Morocco or Turkey. One of the papers, “The Politics of Partial Liberalisation: Cronyism and Non-Tariff Protection in Mubarak’s Egypt”, showed that while there were moves towards trade liberalisation in Egypt starting in 2000, protection was replaced by non-tariff measures (NTMs) that were mostly in favour of politically connected firms.

The authors of the paper, Malik and Ferdinand Eibl, a lecturer in the Department of Middle East Studies at King’s College, London, found that sectors of the economy with well-connected firms were the ones to benefit from the non-tariff measures in the Egypt of ousted president Hosni Mubarak.

“If a sector was not populated by connected actors, the probability of NTM introduction was 50 per cent. If it was populated, that increased to 100 per cent,” Malik told a seminar in Marrakech in Morocco on the research project. NTMs include authorisation requirements and approval by government agencies for security reasons and other inspection requirements and the traceability of materials and rules of origin. They contribute more than 70 per cent to world trade protection.

In the Middle East, NTMs are more pervasive than in the rest of the world, Malik said, adding that political connections were an important driver of NTM introduction and intensity.

Banking credit was another area that politically connected firms exploit. Though banks supposedly operate on profitability, they often lend to well-connected individuals because these are perceived as being less risky, Marc Schiffbauer, a senior economist with the World Bank, told the seminar.

He was presenting the findings of his paper authored with Ishac Diwan, a visiting scholar at Harvard University in the US, on “Private Banking and Crony Capitalism in Egypt”. The authors identified politically connected businessmen as those who managed or owned a firm and at the same time controlled political posts in the government or in the National Democratic Party (NDP), the ruling party before the 25 January Revolution.

 Several were found to be ministers or heads of policy committees in the party.

“They were expected to be bailed out if something happened and perceived to be covered by the regime if they failed,” Schiffbauer said. This meant that credit was misallocated, reducing the overall productivity of the economy and costing jobs, he added. He showed that by 2010 in Egypt the top 20 firms had 50 per cent of all bank loan portfolios and 82 per cent of loans going to the private sector.

A similar scenario was found in Morocco. Mohamed Said Saadi of the Higher Institute of Commerce and Business Administration in Morocco found that the Moroccan royal family and government ministers owned 63 per cent of around 80 politically connected firms identified out of around 600 manufacturing firms.

These firms were found to have more leverage than non-connected firms, enjoyed lower interest rates, were all represented on trade policy bodies and benefited from safeguards, compensatory and anti-dumping measures.

Politically connected firms in the region often acquire privileges but negatively affect the broader outcomes of the economy, according to speakers at the seminar. A paper on “Pyramid Capitalism: Cronyism, Regulation and Employment Growth in Egypt”, authored by Diwan et al found that crony sectors created fewer jobs and crony businessmen did not enter sectors that grew slowly.

Schiffbauer, one of the co-authors of the paper, said that the entry of connected firms into previously unconnected sectors resulted in skewed low-productivity enterprises and that the same sectors in other countries performed better than they did in Egypt. Job creation also declined, with employment over a 10-year period declining by 19 to 25 per cent in initially unconnected sectors after firms managed or owned by politically connected business entered the sector, he said.

In Lebanon, things are no different. “Politically connected firms (PCF) reduce net job creation at the sector level by affecting the growth of non-politically connected firms,” said Jamal Haidar, an associate at Harvard University. In a paper entitled “Do Political Connections Reduce Job Creation? Evidence from Lebanon”, authored with Diwan, he found that political connections affected firms’ values, the behaviour of lenders, corporate transparency and tariff evasion.

“For every additional PCF in a sector, 6.8 per cent fewer jobs are created each year on average in that sector,” Haider said.

In Turkey, the weak state supported the establishment of religious business networks. In return for their support of the ruling Justice and Development Party (AKP), the scope and activities of Islamist groups in Turkey, particularly the Gulen Movement, had been permitted to expand significantly, Emre Caliskan of Oxford University told seminar participants in a paper on “Religious Capital and Political Connections in Turkish Foreign Policy”.

“This has changed, as we have seen recently,” he said, referring to changes in Turkey since the failed coup in July 2016.

“Crony capitalism exists and has consequences for people and for moving countries out of the middle-income trap,” Harvard University professor Melanie Cammett told seminar participants. “We are not living in a world of virtuous circles between the state and markets. But what dynamics cause a virtuous circle between the business and the state and what do the opposite,” she asked. 

She pointed to the example of East Asia, which was built on cronyism. One reason for that, she said, could have been the condition of the global economy at the time, which had been more favourable to export-led growth.

Cammett pointed out that despite state business privileges in South Korea, for example, the government had incentivised globally competitive industries and rewarded behaviour based on productivity and economic performance.

She also suggested that outsiders coming in to challenge the system and demanding the greater rule of law was another way of combating the negative effects of cronyism.

“Rules are weak, and there is a lot of discretion that you need to go elsewhere,” Malik told the Weekly.

There was a need to strengthen state institutions as this would make any reforms more lasting, said Hanan Morsi, in charge of the Southern and Eastern Mediterranean at the European Bank for Reconstruction and Development.

Malik acknowledged the existence of connections elsewhere in the world. “What is the World Economic Forum, for example,” he asked. “It is a network of big firms and the important people of the world.” The crucial question was how open it was to outsiders.

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