Introduction

The term ‘emerging market’ goes back to the late 19th century. The definition of an emerging market that has the widest acceptance is the definition of the International Monetary Fund (IMF), which considers all stock markets in developing countries to be emerging. IMF considers all low-to middle-income countries to have emerging markets with undeveloped stock markets, low industrialization, political instability, and low to middle per capita income (Lonie et al., 1997). Emerging markets are by the IMF reckoning increasing even if economies and infrastructure are substantially underdeveloped.

Emerging markets are not always poor. Another definition of the term ‘emerging market’ is a market in a developing country that is striving to raise its performance in order to improve its financial and economic situation and compete with developed countries (IMF, 2001, 2002). Saudi Arabia is an example of such an emerging market; it has high demand resources and a population over 22 million and the largest stock market in the Arab world and the third largest market in the Middle East after Israel and Turkey.

As the world shrinks and markets become global, both firms and governments face major challenges as governments decide at what speed they should integrate their economies with the rest of the world. In this article, we look at how Arab emerging markets are responding to the increasing demand from the growing markets of East and Southeast Asia and also Eastern Europe for Arab Stock Markets (ASM) integration.

Overview of markets integration in Arab economies

The interest in achieving financial integration among Arab countries goes back to the 1950s. In 1953, a treaty was signed to normalize the existing coefficients and the ability to transfer capital. There was another treaty signed in 1970, which recommended the investment of Arab wealth and easy flow of capital between these markets. In 1974, there was further treaty signed to settle and arbitrate in legal conflicts between investors and invested-in. In continuous efforts to increase financial cooperation, the 11th Arab Congress convened in Oman in 1980 agreed to invest Arab capital in Arab financial markets. In 1999, the last treaty signed aimed to free trade between the Seven Gulf countries.

On 16 March 1989, the Arab Trade-Financing Program (ATFP) was established by the board of Governors of the Arab Monetary Fund (AMF). According to IMF, the objective of ATFP is to ‘develop and promote trade among Arab countries and enhance the competitive ability of Arab exporters’. This is achieved by providing refinancing in the form of lines of credit to Arab exporters and importers, through national agencies designated by monetary authorities of Arab countries (18 countries have already named 121 agencies). Refinancing includes pre-export, export and import, as well as buyer credits. Eligible goods are those with value added of at least 40 per cent originating from primary resources and/or other domestic production factors of an Arab country. Goods like crude oil, used goods, and re-exported goods are not eligible for refinancing.

The resources of ATFP as of 31 December 2000 consist of its authorized capital of US$500 million, paid-in capital of US$488.38 million, and reserves and retained earnings of US$221.851 million. After the oil crises and the surplus that resulted from it, the Arab countries have realized the importance of founding Arab financial and monetary markets. In accordance with this goal, the 22 session economical Arab congress convened in 1976 agreed theoretically about founding Arab financial and monetary market and assigned central bank officials to investigate the logistics to fund these markets. These efforts continued with the initiatives taken by the general committee of the Arab League and the AMF to perform thorough studies to develop Arab financial markets, but there was a lack in implementing the resolution of these studies. To develop and coordinate Arab stock markets, it is important to make available the necessary mechanisms. It became apparent that the AMF would be the appropriate organization to be responsible for the development and coordination of the Arab financial markets. In achieving this goal, in 1981, the fund set up a 3-year strategy to develop and progressively connect the Arab financial markets. Part of this strategy was to provide technical support, and to endorse the development of Arab financial markets and to progressively connect these markets in order to establish regional Arab financial markets.

Since the beginning of the three-year strategy to develop the AMF, the Arab monetary fund worked hard to achieve this goal. As a result, there was a conference in 1984 to discuss the capital markets in the Arab countries, which in turn emphasized the importance of the development of Arab financial markets as a principal step towards promoting an Arab financial market. The monetary fund performed specialized studies about the possibility to trade Stocks of Gulf companies whose countries belong to the Gulf Cooperation Committee (GCC). In 1987, the AMF started implementing a comprehensive blueprint to develop the financial markets and to link them.

A development strategy aimed to develop Arab financial markets, linking these markets by exchanging stock issues and bonds to enable joint business. The Arab business community asked the fund to remove all the obstacles to the integration of the Arab stock markets. This point was strongly debated during the closing meeting in Kuwait in 1986.The AMF set the following steps in motion to achieve the integration of the Arab financial markets.

  • Perform field studies in the Arab financial markets in order to make specific and practical recommendations for development and coordination. The fund has run many of these studies in numerous Arab countries.

  • Create a series of communiqués on the market activities to allow the fund to review continually updated information about these markets, perform periodic analysis on the markets status, and publish information to update. There has been an agreement between the AMF and the IMF to create a database of communiqués on AFM in the AMF headquarters in AbuDabi. This project will allow AMF to periodically publish financial market updates, both at the international and the Arab world levels.

  • Provide technical help according to the needs of different financial markets. The fund provides help to the member countries, based on the following criteria:

    • Coordinating and linking current systems, and improving and raising the performance efficiency of local financial intermediaries in conjunction with the Arab confederation of stock markets.

    • Helping member countries that lack the appropriate brokerage firms to keep up with the local economical development on one hand, and for the Arab economical and financial integration on the other.

    • Finding communication channels between the Arab stock markets, which will at least allow the exchanges of stocks and bonds, traded in different countries to the laws that govern these markets.

  • Development of investment tools and allowing diversity in these investments, as well as the development of the supply and demand components of these tools. In addition, pass laws to enhance the flow of capital between the Arab financial markets.

In February 1997, the Arab Economic Union (AEU) decided to create by 2008 ‘Arab Free Trade Area’ (AFTA). For this purpose, 18 of the 22 members of the Arab League signed a treaty that aimed to eliminate all trade barriers between them by gradually lowering customs duties. The creation of the AFTA intends to increase Inter-Arab trade, which remains very low: US$17.5 billion in 1999, less than one-tenth of the total trade of Arab countries.

The latest agreement signed on 9 May 2001 between Arab countries is the free trade zone agreement between Egypt, Jordan, Morocco, and Tunisia; these countries agreed to set up a free trade zone by the year 2010 as a target for trade barriers to end in the Europe-Mediterranean Area (AME).

Potential integration of Arab stock markets

With these adjustments, Arab countries have experienced major structural changes that have transformed the whole economy. The magnitude of the changes is similar to those occurring in Latin America and southeast Asia. The new economy is based on Arab countries implementing economic programmes with the following goals (El-Erian and Kumar, 1995):

  • Removing official barriers that have blocked the market due to monopolistic or oligopolistic power.

  • Liberating economic activities and allowing the forces of the market to take control based on the laws of demand and supply in production, commerce, and service.

  • Reducing the government role in the national economy by giving the private sector more influence.

  • Creating the appropriate judicial and institutional settings as incentives for both local and foreign investments.

The adoption of these new economic measures in many Arab countries resulted in some problematic trends such as a decline of government financial resources, an increase in debt that surpassed all estimates, a lack of foreign currency, and a drop in foreign aid. Individually or collectively, many governments started to look to the private sector for assistance. The last ten years have been filled with an increasing interest in developing ASM and the ability to network. This inclination towards developing ASM is also driven by international organizations that emphasize on the role of these markets in the governmental financial system. These international organizations consider stock markets as the most appropriate channel to gather and utilize financial resources in productive investments based on competitive principles.

The development and weaknesses of Arab stock markets

The development and integration of ASM acquire special attention due to the following factors.

  • Fast growing specialization trend in most Arab countries. This trend has two reasons related to the ASM. The first reason is to promote the level of productivity of these stock markets. The second reason is to increase the size and cash flow of these stock markets.

  • Exacerbation of international competition to gather capital from wealthy regions and pour it back in developing countries either as direct investments or as investment portfolios and to lower extent, as bank loans.

  • Decreased money available for international loans as a result of a decline in the number of loans offered by international banks for countries outside the Organization of Economic Cooperation and Development (OECD).

  • Increased need to facilitate the flow of Arab capital and its investment within the Arab countries, in addition to encouraging the return of the private sector's capital from foreign markets.

Most ASM are closed to international investors. The legal and organizational hurdles facing the ASM are many. There is the unstable and uneven development of the Arab stock markets; some of the ASM are in the premature stages, such as Palestine, Bahrain, Oman, Iraq, and Sudan. While the markets in Egypt and Lebanon were founded at the beginning of the twentieth century, the others were founded in the last 30 years. In addition, there are few investment tools available in Arab stock markets. Stocks seem to be the only investment medium available in these financial markets. Obvious inconsistencies in laws that govern Arab stock markets activities, with instances of conflicting laws and legislation and also with deficiencies in the organizational arena leave Arab markets structurally incomplete. On the one hand, traditional institutions such as banks and insurance companies own great portions of Stocks. On the other hand, family members of participating companies dominate many of the ASM, which means those companies’ founders purchase the majority of stock issued. This practice limits the number of small investors, which in turn inhibits the flow and depth of these markets. What would greatly help is for Arab governments to issue a single passport in order to allow free movement of investors and their business employees, which would increase investment between the regions. Financial authority should be granted to allow a deposit bank to act as underwriters, brokers, and dealers, since most of the middle eastern countries (MEC) are bank-based systems. In addition, listed companies have to be forced to disclose all information on the company holding to investors, with paper reports should appear at least annually.

Steps towards integration

As an initial step towards the integration of the Arab markets, it will be important for the Arab countries to insert companies into the financial markets. Ideally, a company founded according to laws and regulations in any Arab countries can trade its stocks in any Arab market. Alternatively, companies should be allowed to sell their stocks in a given market as long as the companies fit the description set by the specific market where they trade and as long as the companies are traded in the market of their native country. It is important that all types of companies are integrated with different conditions adjusted to the size of capital, structure of ownership, rates of return, and the level of stocks traded. An Arab committee needs to be created in order to oversee the activities of these markets with the power to decide and penalize violators of uniform rules and conditions of trade throughout Arab markets.

Conclusions

The most serious problems associated with emerging Arab markets are inadequate liquidity, restrictive regulations on banking system, which influence stock markets, restrictive regulations on investment of pension assets, and investment limited to local investors. All of these in the long run expose the economy to high local market risk, reliance on privatization as first solution to promote growth, and restrictions on foreign portfolio investment.