A context for entrepreneurship in the Arab world
It is important to keep macroeconomic conditions in perspective when examining specific issues relating to entrepreneurship. The latest growth trends in the region show that economic performance varies widely across Arab countries. Even as economic growth in the region picked up in 2016, it slowed in 2017 and is expected to pick up subsequently in 2018 and 2019.13 These trends are particularly worrying for the region’s oil exporters—the growth rate in the Gulf Cooperation Council (GCC) countries was estimated to be under 1 percent in 2017 and is forecast to rise to 2.7 percent in 2019, while developing Arab world countries fare somewhat better,14 with a 3.4 percent growth rate in 2017 that is projected to rise to 3.9 percent in 2019. Volatility in macroeconomic conditions makes it difficult for policymaking to take a stable, forward-looking approach to the multi-dimensional challenges facing the region.
As Figure 2 shows, youth unemployment is an especially pressing challenge in the region. Average youth unemployment in the Arab world is more than twice the world average; only a few of these countries have rates lower than the world average. Average youth unemployment in the region is 27 percent; in Oman and the West Bank and Gaza it exceeds 40 percent. The public sector remains the largest employer in many Arab countries, accounting for 60 to 80 percent of total formal employment in the GCC economies, Egypt, Iraq, Jordan, and Tunisia.15
Entrepreneurship can offer a key pathway for growth and employment in the Arab world. Through the establishment of new, small firms with the potential to grow into medium and sometimes large ones, entrepreneurs create jobs. SMEs are vital to national economies because they account for a high share of total employment and GDP. They are at the core of the business operations of many firms as suppliers, retailers, and customers. The IFC estimates that 7 in 10 formal jobs are provided by SMEs (9 in 10 in some low-income countries), and 4 out of 5 new formal jobs in emerging markets are created by SMEs, young businesses, and start-ups.16 In the Arab world, SMEs represent 80 to 90 percent of all businesses in the formal sector.17
The rate of creation of new companies in the Arab world has been modestly growing over the decade 2006–16, but it still lags far behind the global averages. According to the Doing Business database,18 about 1.2 new limited liability companies (LLCs) were registered in the Arab world per 1,000 working-age population, compared with 6.3 new companies in the OECD countries, 6.0 in Europe and Central Asia, and 5.6 new companies in East Asia and Pacific. This formation rate puts the Arab world at the second lowest in the region after South Asia in terms of entry density (Figure 3). The rate increased significantly between 2006 and 2016 for some countries in the Arab world, such as Oman (from 0.5 to 2.1) and Morocco (from 0.9 to 1.7) (Figure 4).19
The Arab world also has the lowest established business activity rate (6.7 percent) compared to other regions,20 and a high rate of business discontinuation (6.2 percent), according to the Global Entrepreneurship Monitor (GEM) Report 2017.21 This indicates a sustainability rate for the Arab world’s entrepreneurs lower than that of their peers in other regions. For every person exiting a business, there are only 1.7 people engaged in early-stage entrepreneurial activity, lower than the global average.
But there are some encouraging regional trends where the Arab world has seen exponential growth in start-up investment over the last decade. It took the region six years after Yahoo bought the Jordanian Maktoob for US$165 million in 2009 to have a second large acquisition with Talabat, which is a Kuwaiti online food delivery service that Rocket Internet bought for US$170 million in 2015. Shortly after that, in 2017, Amazon acquired the UAE-based Souq.com e-commerce portal for US$650 million.
MAGNiTT, a platform that tracks and reports entrepreneurship development in the Arab world, reported that regional start-ups attracted US$560 million in investment across 260 deals in 2017. This investment activity constitutes a 65 percent rise from 2016 (excluding two large outliers from the UAE, Careem and Souq.com), making 2017 “a record year” according to MAGNiTT.22 The number of investment deals jumped from 124 deals in 2014 to 260 in 2017, and the investment value rose from US$53 million to US$410 million (again excluding Souq.com and Careem) in the same period.
A survey of leading entrepreneurs in the Arab world conducted for this chapter provides insights into their characteristics. Most of the entrepreneurs are educated and hold a college degree. They tend to work in small groups, possibly to complement each other (72 percent had two to three founders). In addition, most were experienced: close to 65 percent of them had between 3 and 10 years of experience, and more than half (58 percent) started their businesses when they were 30–39 years old. Most entrepreneurs had scaled up their operation over the last three years to include 11–50 employees, indicating a growing pattern in employment and a transformation from small to medium-sized businesses. The leading entrepreneurs tend to be export oriented; more than 68 percent of businesses are targeting regional markets, and 50 percent also targeted international markets. Despite their export orientation, 72 percent of the entrepreneurs intend to keep their headquarters in their respective countries if their businesses continue to grow.
An uneven playing field for entrepreneurs in the Arab world
The lack of a level playing field for the private sector is an important cause of weak entrepreneurial activity in the Arab world. This phenomenon has been recently highlighted and explained by a World Bank report providing evidence on the link between crony capitalism and the high barriers faced by most entrepreneurs.23
Firm dynamics and market structures in the Arab world tend to concentrate market power in a few leading firms, often resulting in artificial and unfair competitive advantage, while a large number of informal small firms use unproductive technologies to serve local market niches.24 This situation is consistent with the Schumpeterian prediction that large policy privileges lead to sectors with a few colluding, politically connected large firms, a large number of unproductive small firms, and a low productivity and job creation.25
Post-revolution analytical work conducted in Egypt and Tunisia has shed light on the relationship between business regulation and the business interests of former regimes.26 The research has shown that connected firms tended to concentrate employment, output, and profits, especially in sectors subject to authorization and import or FDI restrictions. In Egypt, politically connected manufacturing firms are much more likely to operate in energy-intensive industries thanks to their privileged access to energy subsidies. In Tunisia, connected firms are protected by restrictions on FDI to operate in profitable services sectors.
Restrictions on competition operate in a number of policy dimensions. For example, burdensome business regulations are erecting barriers to entry. Along the same lines, a wide import tariff structure opens the door for cheating and underreporting. In addition, non-transparent allocation of monetary incentives, subsidies to the private sector, and unfair access to public procurement and public land are other policies that undermine private-sector development.
In the Arab world, the aforementioned privileges are pervasive and ubiquitous. Daily discretionary and arbitrary treatment are facilitated and fueled by the lack of transparency and accountability across almost all policy dimensions that affect the private sector. It is evident from global experience that when rules and regulations are not accessible or clear, when no grievance mechanism is in place, and when numerous human interactions are unnecessarily required, there is room for subjective interpretation and discretionary implementation with no obligation to justify decisions or to reverse them in case of complaint.
Complex trade structures also create opportunities to undermine competition. The wider the gap in tariff rates, the more incentive there will be to cheat and under-declare (in an extreme and illustrative case, flat tariffs would remove any incentives to cheat). Import restrictions and the existence of special regimes can lead to the same behavior. The obligation—de jure or de facto—to use a broker in customs transactions can create rents for a range of intermediaries and fuel corruption. The existence and enforcement of codes of conduct for customs and duties along with grievance and appeal mechanisms for the private sector to contest customs decisions are safeguards that reduce the space for discretionary and abusive behavior. In general, the dematerialization of transactions and electronic connections between administrative branches reduces human interactions and the room for rule interpretation, bargaining, and negotiation. This principle applies to customs and to several other types of interactions between firms and the public administration, such as tax collection and business licensing.
Lack of access to finance can also undermine competition. If regulations governing lending to related parties and politically exposed persons are not in place or not enforced, the financial system could be captured to the benefit of politicians and the connected business elite while crowding out lending to newcomers who have new business ideas and a competitive edge but not connections.
Public procurement can also create economic privileges. Lack of an open and transparent procurement system discourages SMEs from applying for public procurement opportunities, depriving them of an important source of income and growth. Although the existence of a strong and independent institution governing public procurement is important, it also must be free from involvement in core procurement operations to avoid any conflicts of interest. In terms of fair opportunity, procurement opportunities should be widely and transparently advertised to ensure equal opportunity of access to all bidders.
Recent analytical work has tried to move the debate on privilege, capture, and cronyism toward a more practical approach that focuses on concrete and specific policy designs that could limit such distortive opportunities.27 In fact, policymakers can consider a menu with an array of policy entry points to start addressing the privilege issue with checklists to assess how privilege-proof a policy is. This checklist can cover a wide range of domains, from trade, public procurement, land allocation, and incentives policies to licensing regimes and access to finance regulations. Competition policies and other public accountability mechanisms may also be considered. Among these mechanisms are access to information laws, asset disclosures by politicians, and conflict-of-interest regulations. Finally, and upstream of these policy areas, consulting the private sector in an inclusive way for the design process of policies that affect businesses can improve the policymaking process and its outcomes.
Providing room for open competition and lowering barriers to entry will foster entrepreneurship. Such openness needs to be enforced by accountable public entities that are independent from political influence. These entities should have the power to create an open and level playing field so that new, more efficient, innovative firms can enter. The prosperity and social cohesion of the Arab world rests, in part, on the ability to transform its public administration to better deliver services to the private sector and citizens by reducing barriers to entry and providing an even implementation of rules and regulations in order to foster entrepreneurship.