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Speech to World Economic Forum on Infrastructure Challenges

by Christiaan Poortman
Vice President, Middle East and North Africa Region, The World Bank

World Economic Forum,  The Dead Sea, May 20, 2005

 

Infrastructure can make a key contribution to enhancing the competitiveness of Middle Eastern economies, as well as improving the quality of life of its 300 million citizens. The infrastructure challenge is a dual one: requiring more ‘hardware’ (or creation of physical assets), but also better ‘software’ (or institutions to manage infrastructure services more effectively). International Financial Institutions, such as the World Bank, can be important strategic partners on both counts. However, in a region blessed with abundant oil revenues, their contribution in terms of knowledge may be at least as valuable as any financial support.

 

Which are the key development challenges facing the Middle East today?

 

However, infrastructure is only a means to the ultimate end of economic development. Thus, the infrastructure agenda needs to flow directly from the economic agenda for the region. There seems to be widespread agreement that Middle East faces its own set of distinctive development challenges.

 

·         Reducing unemployment. The region suffers from particularly high unemployment of around 15% overall – and even higher among youth – in spite of relatively low female labor force participation. Strong demographic growth means that the labor force is growing at 3-4% per year. The daunting implication is that at least 100 million jobs need to be created by 2020 in order to make any serious impact on the unemployment problem.  

 

·        Broadening growth. The good news is that regional growth rates have been improving: from 2.4% in the 1980s to 3.1% in the 1990s to 5.1% most recently in 2003.   However, this is largely due to exogenous factors; in particular, higher oil prices and improved rainfall in the Maghreb region. Today’s major challenges are to broaden the economic base so as to create more jobs, and to invest the fruits of the oil bonanza into a platform for longer term growth.

 

·         Improving competitiveness. But this will require addressing the region’s lagging performance in terms of competitiveness. According to the World Economic Forum’s own Growth Competitiveness Index, Middle Eastern countries ranked between 30th and 60th out of 104 countries surveyed.   With a large public sector and a strong tradition of centralized economic management, the private sector lacks the necessary dynamism to carry the economy forward. Nevertheless, Small and Medium Enterprises today represent the main source of job creation, and deserve to be supported with a more favorable investment climate.

 

·        Addressing social challenges. This presents the most promising route out of poverty, which today affects around 23% of the population of the Middle East, who survive on less than US$2 per day. Indeed, the absolute number of poor actually increased by 20 million during the 1990s, in spite of a respectable performance in terms of economic growth.

 

·        Conserving water. Finally, nature - so generous to the Middle East in terms of oil - has been less bountiful in terms of water. The region houses 5% of the world’s population, yet has less than 1% of the world’s renewable fresh water supplies. Per capita supply has already fallen to one third of its 1960s level and is expected to halve over the next 30 years. This makes it urgent to manage and allocate water resources more effectively, so as to avoid shortages that could undermine economic growth or even lead to international conflict.

 

How can infrastructure contribute to the competitiveness agenda?

 

In order to diversify away from excessive dependence on oil, the region will need to become more integrated with the global economy. International studies suggest that the Middle East is performing below its true potential for non-oil exports[1]. As countries strive to improve their performance in this area, better infrastructure will be needed to provide firms with the basis to compete in international markets, particularly with regard to telecommunications, power and transportation.

 

Ten years ago, a World Bank survey of investors in MENA found that poor infrastructure ranked third among major barriers to doing business in the region; more problematic even than the complex legal and regulatory framework[2].

 

More recent evidence from Investment Climate Assessments in Algeria and Morocco confirms that the region continues to lag behind on a number of infrastructure performance indicators of particular relevance to business[3].

 

  • Waiting times for a new telephone and electricity connection in these countries stand at 174 and 125 days respectively; more than four times as long as it takes on average elsewhere in the developing world.
  • Firms suffer from outages of 42 days per year for water services, 25 days for telephone services, and 14 days for electricity services. Altogether, these service failures lead to losses equivalent to more than 7.5% of turnover. As a result, it is not surprising that 23% of firms choose to maintain their own generation capacity.
  • Internet usage among the general population in the region stands at 1.1%, which is half the average for the developing world. Indeed, only 28% of Middle Eastern firms using the internet as a platform for doing business, compared with 38% in the rest of the developing world.

What would it take to address these problems? The World Bank[4] has estimated the Middle East’s infrastructure investment needs for the next five years at US$14.9 billion per year in new investments plus a further US$13.3 billion on operation and maintenance. Overall, that means 4.5% of regional GDP. The bulk of these investments related to the infrastructure platform for economic growth and competitiveness. Expansions in electricity generating capacity accounting for 49% of this total followed by paving of roads (22%), and development of telecommunications networks (21%).

 

The role of private finance in meeting these investment needs has been smaller that it might have been. Between 1984 and 1998, the Middle East has received less than 1% of GDP in Foreign Direct Investment, compared with 3% to 4% in most other developing regions. As regards, private finance for infrastructure, the Middle East captured barely 3% of the total flows to developing countries in the 1990s. Nonetheless, performance has picked-up somewhat since 1997, in spite of a wider global downturn. Indeed, private investment commitments during the last seven years have averaged around US$3.9 billion per year, equivalent to around 25% of annual investment needs. Nevertheless, 97% of these resources went to only four countries in the region: Morocco, Egypt, Algeria and Oman. This suggests there is scope for relying further on private financing in the future.

 

However, improving competitiveness will take more than simply financing the necessary infrastructure upgrades. The management of infrastructure services also needs to improve, to ensure greater efficiency and better quality of service. Most infrastructure providers the region continue to be government departments, state-owned enterprises or parastatals, that operate inefficiently under onerous bureaucratic rules and without hard budget constraints.

 

The region has been slow to embrace infrastructure sector reforms. Out of 15 World Bank client countries in the Middle East, only five are at a moderate to advanced stage in water sector reform[5], while only three are at an equivalent stage in power sector reform[6]. Moreover, on an international index of regulatory reform, the Middle East scored only 0.5 on a scale from 1 to 6, compared with scores of 2 to 4 for most other developing regions. As a result, infrastructure services in many cases continue to be plagued by high distribution losses, frequent service interruptions, and weak financial performance.

 

A substantial reform agenda therefore still lies ahead. Without this, any additional finance may fail to yield the promised results.

 

How can infrastructure contribute to meeting social objectives?

 

We have seen how infrastructure has an essential contribution to make towards improving competitiveness in the Middle East. However, no less important are its potential contributions to meeting the region’s social challenges.

 

Strong demographic growth means that major efforts are needed to ensure that basic household infrastructure keeps pace with the rising demands. The most recent data indicate that 30 million people in the region lack access to electricity, 35 million to improved water sources, and 75 million to improved sanitation[7]. The largest deficits are to be found in rural areas, where more than three quarters of the un-served population live. The World Bank estimates that lack of access to water and sanitation has health and environmental costs for the region of between 0.5% and 1.0% of GDP.

 

The situation with respect to water supply is particularly challenging. The key here will be managing and allocating water resources more effectively. But new investment in infrastructure will also be needed, in water-saving irrigation systems and improved municipal supply networks. The agricultural sector, which accounts for 87% of water use in the region, is characterized by high water wastage. Moreover, while irrigated areas continue to expand, there has not been a corresponding increase in agriculture’s contribution to GDP[8].

 

Given the importance of incentives for water conservation, it is regrettable that (both agricultural and residential) water tariffs are still low in relation to cost recovery levels. Water prices for agricultural use typically recover less than 50% of operating and maintenance costs without making any contribution to investment finance. Residential water prices do a little better, but still recover only 75% of operating and maintenance costs. Not only is this bad for resource conservation, it is also creating a drain on public sector resources. Indeed, water subsidies represent 10% of government expenditure in Egypt, 8% in Yemen, and 3% in Iran.

 

How has the World Bank’s approach to infrastructure changed?

 

The World Bank seeks to be a major partner in meeting the infrastructure development challenges of the region. In recent years, there have been important changes in the way we approach the infrastructure business. These are not yet very widely known, so it is worth providing a brief explanation of how our strategy has evolved.

 

  • Back in the 1970s and 1980s the World Bank focused on construction of major infrastructure projects, typically with public sector partners. However, the poor performance of state-owned enterprises led to growing disillusionment with this approach.

 

  • In the heady 1990s, the growth of private sector interest in developing country infrastructure created a major opportunity to tap new sources of finance packaged with more efficient management practices. Consequently, the World Bank focused on facilitating private sector participation, rather than on financing projects directly. The private sector formula proved to be effective for some sectors and countries (for example, telecom and upper middle income countries), but much less so for others (for example, water and lower income countries). By the late 1990s, private sector interest was on the wane (following lower than expected financial returns and consolidation in a number of industries). Moreover, there was growing recognition that - even at its zenith - private sector finance had only been able to meet a fraction of overall infrastructure needs.

 

  • As a result, since the year 2000, the World Bank has been rethinking its approach to infrastructure.

This new thinking is reflected both in our policy advice and in our financing strategy.

 

  • On the policy side, we are engaging across a broader institutional spectrum. It has become clear that the infrastructure needs of the developing world cannot be met purely by the private or public sectors. Both have a major role to play, and often they will need to work together. As a development institution, we have to operate all the way along this spectrum. This means laying aside ideology and working more pragmatically towards viable alternatives for any particular case. It also means being more realistic about the feasibility of cost recovery. Low income consumers may not be able to pay the full cost of infrastructure service provision, so that there may be a place for subsidies that are carefully targeted to meeting specific social needs. Although this is no excuse for across the board gross under-charging of services.
  • On the financing side, we are responding to requests from our developing country shareholders to increase our direct lending for infrastructure. This includes taking-on high-risk high-reward large infrastructure projects that can be particularly strategic from a development perspective; for example, dams, pipelines and major highways. As a result, World Bank lending to the infrastructure sectors worldwide has increased by 80% over the period 2000 to 2005. In the Middle East, for example, infrastructure lending rose from a low base of US$175 million in 2001 to US$488 million in 2004.

What does the World Bank bring to infrastructure in the Middle East?

 

While World Bank financing for infrastructure in the Middle East is on the rise, it is important to put these numbers in perspective. After all, they represent less than 5% of the region’s annual infrastructure financing needs mentioned earlier. (Indeed, the total contribution of all International Financial Institutions investments in Middle Eastern infrastructure represents no more than 10% of estimated needs.)

 

Nevertheless, International Financial Institutions can play an important catalytic role in terms of maximizing financial leverage, and providing a valued ‘seal of approval’ that serves to attract other investors and donors.

 

More importantly our strength comes from our global experience on the policy and regulatory side, where our transfer of lessons learned from around the world helps countries learn from each other successes and avoid each others mistakes. For countries, where financing is not a constraint, we are developing new ways of working (such as reimbursable technical cooperation) that allow countries to access our advisory services and global knowledge base without necessary borrowing money.

 

  • In the transport sector, we have been working on the improvement of infrastructure critical to international trade. Key examples are the recent sea ports and airports projects in Egypt, where the World Bank is providing financing for infrastructure in conjunction with support for policies to modernize the regulatory framework and facilitate private sector participation.
  • In the energy sector, we are engaged in strategic sector dialogues with seven countries around the region. This involves a combination of analytical work and reimbursable technical cooperation, which is leading to a growing pipeline of investment projects.
  • In the water sector, we are working on a Regional Study addressing the water resource challenge. This is complemented by the development of country-specific analytical work including Country Water Resource Assistance Strategies in Iran and Yemen, a water sector assessment in Morocco, and a water public expenditure review in Egypt.
  • In the ICT sector, we have major technical assistance programs in Algeria and Tunisia, helping those countries move forward with market liberalization and associated policy and institutional reforms.

To conclude, we have identified the region’s central development challenge as one of increasing the competitiveness of non-oil export sectors with a view to creating jobs. Business surveys repeatedly confirm that infrastructure is one of the key obstacles to competitiveness in the region. Improving the quantity and quality of infrastructure services will certainly demand more financing, however the associated institutional challenge is potentially even greater. The good news is that the region’s current strong economic performance can help on both counts: providing resources to finance new infrastructure, as well as softening the impact of sector reforms.

 

The World Bank is pleased to be a partner in these major undertakings. Hopefully, our new approach to the infrastructure business – in terms of willingness to engage in large strategic infrastructure projects and openness to a wider range of institutional models – will only make us more effective in this regard.



[1] Research cited in World Bank Keynote Speech to Round Table on Accountability in Service Delivery, Morocco, 2004.

 

[2] Smith, G.R., Shafik, N., Guislain, P. and Reichert, J.A. (1997) Getting Connected: Private Participation in Infrastructure in the Middle East and North Africa, World Bank, Washington DC.

 

[3] Global Investment Climate Assessment Database, Rapid Response Unit, World Bank, Washington DC (rru.worldbank.org/InvestmentClimate)

 

 

[4] Fay, M. and Yepes, T. (2003) Investing in Infrastructure: What is Needed from 2000 to 2010?, Policy Research Working Paper No. 3102, World Bank, Washington DC.

 

[5] Iran, Jordan, Morocco, West Bank Gaza and Yemen.

 

[6] Algeria, Jordan, Morocco.

[7] Own calculations based on World Development Indicators and regional coverage rates published by the World Health Organization (2004) and the International Energy Agency (2002).

 

[8] Taken from Powerpoint presentation: Concept Note for Increasing Water’s Contribution to Development in MENA, January 2005.