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Natural Resources

A Key Challenge in Regional Integration of the Middle East and North Africa Region

November 2012

Carrère, C., J. Goudon and M. Olarreaga. 2012. Natural resources: A key challenge in regional integration of the Middle East and North Africa region. GREAT Insights, Volume 1, Issue 9. November 2012. Maastricht: ECDPM

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Greater trade integration within Middle East and North Africa region is expected to happen through the completion of the Pan-Arab Free Trade Agreement (PAFTA). However, recent studies suggest that when resource-rich and resource-poor countries give preferences to each other, as in PAFTA, the resource-rich country is very likely to suffer from trade diversion. Our recent empirical research states that it has happened in PAFTA. This could explain why resource-rich countries may be reluctant to deepen further this type of agreement.

Regional integration is reshaping the world. The Middle East and North Africa (MENA) region has implemented several regional trade agreements the last fifteen years. Regional integration schemes among MENA countries provide an ideal case study to test for the importance of trade diversion in agreements involving resource-rich and poor members. Half a century after the creation of the Arab League in 1945 – aiming at intensifying regional trade in the region – MENA’s spaghetti bowl of regional integration agreements has little to envy to those in Latin America or Sub-Saharan Africa (See Figure 1). In spite of the numerous regional trade agreements, the extent of intra-regional trade is only a tenth of total trade, and is below what a standard gravity model (which explains bilateral trade using distance between partners and the economic size of the two partners) would predict (1) .

Figure 1: Preferential Trade Agreements in the Arab WorldSource: MENA Economic Developments and Prospects: Regional Integration for Global Competitiveness, (2008), World Bank

Natural Resources: a brake on regional integration

The link between resource abundance and regional integration has been subject to an extensive literature. The 2010 edition of the World Trade Report details how many integration schemes in the developing world disintegrated in the seventies when the oil price shocks accentuated the dichotomy between those which were commodity net importers and had to bear a rising import bill and those who were net exporters (2) . Indeed, this led many governments from net resource importing countries to decide against the further liberalisation of intra-regional trade and instead to concentrate on earning revenues in trading extra-regionally. On the other hand, net resource exporters have often abruptly abandoned domestic policy reforms after enjoying resource windfall gains and thus injected some further erratic volatility into integration schemes.

A matter of redistribution… through trade diversion?

A recent theoretical study by Tony Venables the proximity of resource-rich and resource-poor countries gives an opportunity to even wealth distribution within the group of countries via regional integration(3) . Indeed, the resource-poor countries have a strong incentive for preferential trade liberalization with its resource-rich counterparts, as a way to get access to their rents. However, this can be done at the cost of trade-diversion in the resource-rich country, and a loss of efficiency in imports. There is little scope for the resource-poor country with a small but developing manufacturing sector to suffer from trade diversion if the resource-abundant country is specialized in the natural resource good. On the other hand, the resource-rich country may suffer from a significant amount of trade diversion as the resource-poor country benefiting from the preferential access can increase its exports of manufacturing goods to the resource-rich country, hence the resource-rich country substitutes imports from the relatively more efficient rest of the world towards the regional partner.

Are natural resources impeding or fueling MENA integration

In our recent empirical research we explore the extent to which the various integration schemes (AGADIR, GCC, PAFTA etc…) in the MENA region have led to trade creation and trade diversion. Middle East and North Africa region contains both resource-rich and resource-poor countries. 

The Pan-Arab Free Trade Area (PAFTA, in force since 1998) is particularly interesting as it involves eight resource-poor countries and twelve resource-rich countries according to the World Bank’s classification (4) . Other agreements such as the Gulf Cooperation Council (GCC) in force in 2003 only involve resource-rich countries and AGADIR in force in 2004 only resource-poor countries. Thus the same forces behind trade diversion are not at play.

Using a classic gravity model explaining bilateral trade patterns of each MENA country during the period 1990-2009 we measure the trade creation (increase in imports from partners) and trade diversion (decrease in imports from rest of the world) following implementation of preferential trade agreements (in the region but also with Europe and other partners) (5) .

For AGADIR and GCC, we do not find a statistically significant impact on intra-regional trade. This can be partly explained by the fact that all AGADIR and GCC countries are part of PAFTA and entered into force after PAFTA. So the advantages in terms of intra-regional liberalization that AGADIR and GCC offer may be limited. But the reason could also be that countries in those two regional trade agreements are too homogenous in resource endowments and production capabilities, and hence did not lead to specialisation and diversification. 

We find strong evidence of increases in intra-regional trade in PAFTA and in other agreements signed between MENA countries and partners in the rest of the world, such as the Euromed agreements with the European Union. However, evidence of trade diversion is only found in PAFTA.

We then explore whether Venables’ prediction is verified in PAFTA and find that indeed the main source of trade-diversion in PAFTA was due to the replacement of imports of resource-rich countries from the rest of the world by imports of resource-rich countries from other resource-poor PAFTA members. Resource-poor counties suffer no trade diversion. 

In PAFTA, resource-rich countries generally export only a few products and with a highly concentrated export bundle. Interestingly, these countries have also significantly increased their exports of non-oil goods to resource-poor countries, but these increases were not accompanied by trade diversion in resource-poor countries. 

Figure 2 provides an idea of the size of trade-diversion for the different PAFTA countries according to the export concentration which is a good proxy for natural resources abundance (as well as the standard error of the estimate for each country). When we measure such concentration using the Herfindhal index, resource-poor countries (such as Morocco, Lebanon and Tunisia) do not suffer from trade diversion and then benefit fully from the PAFTA agreement (they experience only trade creation). Saudi Arabia, Qatar, Kuwait, Oman, Libya, Yemen and United Arab Emirates all have levels of trade diversion that are statistically different from zero with an average decline in imports from the rest of the world above 15 percent. 

This may appear surprisingly low given that their increase in imports from other PAFTA countries is on average 107 percent in our results. But to assess the relative importance of these flows one also needs to consider the difference in the base. Given that initial imports from the rest of the world of imports are at least five times of imports from other PAFTA countries; this suggests again a fully trade-diverting PAFTA for resource-rich members.

Figure 2. Predicted non-fuel trade diversion given the pre-PAFTA Concentration index value

 

Herfindahl
Source: Authors’ calculations

Policy implication for MENA

Putting together our results suggest that the main beneficiaries from PAFTA are resource-poor countries that experienced only trade creation and benefited from the trade diversion of resource-rich countries at the expenses of the rest of the world. This means that PAFTA has helped redistribute income from resource-rich countries to resource-poor countries within PAFTA. It also explains why resource-rich countries may be reluctant to deepen further this type of agreements. Indeed, there are certainly more efficient means of redistributing income to resource-poor countries in the region than through trade diversion. However non-economic objectives, such as the reinforcement of the resource-rich country hegemonic power could be one reason why resource-rich countries will enter this type of agreements.

Hence, while further intra-regional trade integration is an important avenue for enhancing diversification of resource-poor MENA countries, resource-rich countries have no strong incentive for further preferential regional integration from a purely economic standpoint. Future discussions of regional trade agreements should take this into account. In this context, trade liberalization on an MFN basis may be the best option to further global integration.

Céline Carrère is Associate Professor in the Economic Sciences Department of the University of Geneva. Julien Gourdon is an Economist at the Centre d’Études Prospectives et d’Informations Internationales (CEPII), and Marcelo Olarreaga is a Professor in the Economic Sciences Department of the University of Geneva.

Footnotes
1. Miniesy, R. S., J. B. Nugent, and T. M. Yousef. 2004. “Intra- regional Trade Integration in the Middle East: Past Performance and Future Potential.” In Trade Policy and Economic Integration in the Middle East and North Africa: Economic Boundaries in Flux, ed. H. Hakimian and J. B. Nugent. London: Routledge.
Péridy, N., 2007. Toward a Pan-Arab Free Trade Area: Assessing Trade Potential Effects of the Agadir Agreement. The Developing Economies 43(3): 329-345.
2. World Trade Report, 2010. Trade in Natural Resources. World Trade Organization: Geneva
3. Venables, A., 2011 ‘Economic integration in remote resource-rich regions’ in Costs and benefits of economic integration in Asia, R. Barro and J. W. Lee (eds) Oxford University Press
4. According to World Bank’s classification resource-poor countries in PAFTA include Tunisia, Morocco, Lebanon, Jordan, Egypt, Sudan, West Bank of Gaza and Djibouti. Resource-rich countries can be divided into two sub-categories. GCC Oil exporters include UAE, Saudi Arabia, Qatar, Oman, Kuwait and Bahrain. Developing Oil Exporters include: Yemen, Syria, Iran, Iraq, Libya and Algeria.
5. Carrère C., J. Gourdon and M. Olarreaga et al. “Regional Integration and Natural Resources: who benefits? Evidence from MENA”, CEPII Working Paper n°2012-09. www.cepii.fr/anglaisgraph/workpap/pdf/2012/wp2012-09.pdf.

This article was published in Great Insights Volume 1, Issue 9 (November 2012)

 

Economic Transformation and TradeMiddle EastNorth Africa

External authors

Céline Carrère

Julien Gourdon

Marcelo Olarreaga