How America invests in the Middle East

December 2022 Al-Monitor PRO Trend Report

3200 words

Introduction

 

US direct investment abroad totaled $6.5 trillion in 2021, according to the Bureau of Economic Analysis. Countries in the Middle East and North Africa (MENA) received only $96 billion (1.5%) of these funds. American entities, by contrast, invested 4.2 times more in Canada than they did in the entire region.

Historically, American investors have been shy about putting their money in MENA. The region’s petrochemical industries attract the bulk of the comparatively little money that trickles in. MENA countries, particularly the petro-dependent states of the Gulf, have made concerted efforts in recent years to assuage their hesitations. Sweeping economic reforms, glitzy symposiums and catchy diversification initiatives have underpinned MENA state efforts to dress up their economies for foreign financial suitors. American FDI in the region has crept up steadily since 2000 as a result. Countries like Israel and the United Arab Emirates, which currently house more than half of US investments in MENA, have encountered relative success. Nonetheless, American direct investment in MENA remains well behind US investment elsewhere. Barring any seismic geopolitical or economic shifts, this modest increase will likely continue.

 

1. The state of play: US investment in MENA

 

US direct investment in MENA has increased steadily since the turn of the millennium, largely in concert with global American investment trends. US investments in the region nearly doubled between 2010 and last year. Outflows dipped slightly between 2013 and 2014, a period marked by a sharp drop in oil prices, political upheaval in Egypt, an escalated civil war in Syria, and the emergence of the Islamic State in Iraq and Syria.

MENA’s share of total US direct investment has remained steady — and small — over the past two decades. MENA economies accounted for 1.2% of American foreign investment in 2000. More than 20 years later, that proportion has eked up only 0.3 percentage points.

MENA is still a comparatively unpopular destination for US investment. Which MENA economies have caught the eyes of American investors, however, has changed significantly. Egypt was the region’s top recipient of American FDI outflows in 2010, hosting 22% of US direct investment. Israel, meanwhile, accounted for 17%. American investment in the United Arab Emirates (UAE) that year (then just 9% of the regional total) was half the American position in Qatar.

The region’s investment landscape just over a decade later is drastically distinct. In 2021, Israel hosted a commanding 43% of American MENA investment. The Emirates became the region’s second most popular hub for American funds, hosting close to 17%. Egypt’s share of US regional investment fell by nearly half. Qatar recorded an even larger tumble. Saudi Arabia’s share hovered between 11% and 15% for much of the decade, settling at 12.4% last year. Close to three quarters of US FDI in MENA is concentrated in Israel, the UAE and Saudi Arabia.

Israel’s burgeoning tech and R&D sectors energized its now vibrant investment climate. The country raked in record-breaking levels of FDI in 2018. More than half of US investment in Israel in 2021 ($20.9 billion) was concentrated in the computer and electronics industries. American corporate behemoths like Intel and Dell have established R&D centers across the country.

Across the region more broadly, oil and gas sectors — particularly in the Gulf — continue to pique investors’ interest. Stratospheric profits, buoyed by rising oil prices, have only enhanced their allure this past year.

“The energy-producing countries are awash with funds; their budgets are all sound and strong,” Danny Sebright, the president of the US-UAE Business Council, told Al-Monitor. “The key opportunities are in these countries and where these countries are spending money.”

Robert Mogielnicki, a senior resident scholar at the Arab Gulf States Institute in Washington, largely concurred with Sebright’s assessment.

“The oil and gas sector — both traditional segments of that industry but also different kinds of assets in the energy sector like pipelines — have been and continue to be attractive opportunities for American companies and investors,” Mogielnicki told Al-Monitor.

2. Headwinds and tailwinds — factors impacting US FDI in MENA

 

Economies that attract large amounts of FDI tend to bear certain characteristics. They usually have large populations (with good incomes) and correspondingly large, well-governed markets. They boast high growth and technologically innovative industries supported by highly educated, well-trained workforces. Bureaucratic red tape is navigable, and taxes are low. Governments setting the rules are cogent, stable and predictable. Very few MENA countries possess all (if any) of these traits.

Political instability is one glaring factor deterring American investment in the region. Syria, Yemen and Libya are consumed by bloody civil wars. Iraq is teetering on the edge. Egypt and Turkey, two of MENA’s largest countries by population, are beset by political volatility. This instability sometimes spills over into steadier neighbors, disturbing their economies (as evidenced by Houthi attacks on Saudi and Emirati petrochemical and commercial infrastructure).

“Some of the largest population centers across the region have pretty significant political risk premiums,” Mogielnicki observed.

The regional economies with greater political continuity and clearer regulatory environments, largely concentrated in the Gulf, lack the market size and demographic presence of their peers (with the possible exception of Saudi Arabia).

“There are areas to make money, but it’s a tiny market,” Mogielnicki said. “That makes the job of economic policymakers and officials [in these countries] difficult because they don’t have a massive, extremely attractive domestic market to push front and center as the main incentive.”

Historically, restrictive and unfamiliar regulatory environments have also pushed investors away.

“A number of countries across the Middle East and North Africa have caps on foreign ownership and sponsorship and agency systems that enable local citizens to be involved in transactions and economic activities involving foreign firms,” Mogielnicki remarks. “This is a major disincentive.”

What’s more, the region’s economic clout is relatively minor in global terms. MENA only accounted for roughly 4% of global GDP in 2021, according to the World Bank. Its share has decreased steadily since 2012.

Some MENA economies, notably Israel, the UAE and Turkey, have made strides in innovation, but the rest of the region is struggling to keep pace. The Global Innovation Index, an annual assessment of economic innovation trends published by the World Intellectual Property Organization, ranked Israel as the world’s 16th most innovative economy in 2022. The UAE has coasted in the top 50 since 2010, claiming the 31st spot this year. Turkey, currently ranked 37th, climbed 30 spots over the past decade. Saudi Arabia and Qatar linger just outside the top 50 but improved in recent years.

The report tempers its optimism with some sobering observations. Innovation tends to correlate positively with income level; wealthy yet relatively uncreative GCC economies defy this trend. Part of the problem is an inability to efficiently translate massive investment into creative output.

MENA economies are not ignorant of their deficiencies. Israel, banking on its highly educated workforce, has recast itself as a regional (if not global) hub for technological innovation. The small yet stable states of the Gulf have positioned themselves as stepping stones to bigger markets in the region to stimulate investment.

“Most of those markets are only going to be attractive to foreign firms and investors as a destination for FDI if they can serve as a gateway to bigger markets,” Mogielnicki said.

In recent years, however, they have also undertaken sweeping economic reforms to nurture investment and innovation hubs of their own. The American Enterprise Institute’s Gulf Economic Policy Tracker documented more than 1,000 economic policy shifts in the region between 2015 and May 2021; more than 10% of them, Karen Young observes, were implemented during the first year of the COVID-19 pandemic, when a slump in oil prices dented national coffers.

Transforming their petro-dependent economies into knowledge-based ones has become the dominant refrain and focus of GCC policymakers. They hope loosened immigration rules, eased restrictions on foreign ownership of companies, and drastic restructurings of budgets and labor markets will boost their dynamism and international competitiveness.

3. Steady as she goes — prospects for US FDI in MENA in 2023

 

• Experts expect American investment in MENA to continue its stable, gradual progression upwards in the coming year. Steep declines or sharp increases in FDI are unlikely. “It’s at a pretty low threshold right now. I see a lot more room for moderate upside growth than a high likelihood of a significant decrease,” Mogielnicki forecasted.

Howard Schatz, a senior economist at the RAND Corporation, notes that the fundamental conditions that have hampered US investment in most MENA economies — small markets, political unrest, subdued innovation — show few signs of immediate, drastic change. As a result, “US economic involvement in the region” is unlikely to see “dramatic shifts in location or magnitude.”

• American investment in MENA will likely remain concentrated in the region’s largest, most dynamic economies — notably Israel, Saudi Arabia and the UAE. They continue to outshine their regional peers thanks to their relatively large markets, high growth, regulatory consistency and commitment to reform.

Israel’s tech industry continued to rake in hundreds of millions of dollars in investment in recent years, despite big tech’s bloodletting elsewhere. The country’s GDP growth in 2021 (8.2%) was nearly twice the regional average.

The COVID-19 pandemic, and the economic destruction it wrought, inspired an intensification of fiscal and monetary reforms in the Gulf. In the past two years, for instance, Riyadh and Abu Dhabi expanded visa and citizenship opportunities for specialized workers and millionaires. In February 2021, Saudi Crown Prince Mohammed bin Salman greenlighted “Program HQ,” a bundle of incentives designed to entice companies to open shop in the kingdom. To similar ends, the UAE announced in 2020 that it would allow foreigners to own 100% of companies established in the Emirates, easing discouraging limitations.

Some of these reforms will attract the attention of investors in the near future, yet their impacts on direct investment may only become visible in the coming years and decades.

“A lot of the considerations of firms that are going to make a huge impact on FDI are not knee jerk, last-minute reactions to one particular policy,” Mogielnicki said. “A lot of these longer decisions are playing out.”

• Experts also anticipate that economic doors opened by the Abraham Accords will continue to expand. Israel and the UAE (as well as Bahrain) quickly and sizably expanded economic relations after the countries normalized diplomatic relations in August 2020. Israeli-Emirati bilateral trade surpassed $1 billion one year after the accords were signed; officials from both countries have begun hashing out a framework for a free trade agreement. New trade ventures have been followed by joint investment initiatives in the two countries and beyond. Emirati officials have announced billions of dollars of investment in Israeli tech; Israeli firms have begun opening outposts in the UAE. Diplomatic normalization, and the deepening economic ties that followed, will likely make the Gulf a more attractive destination for investors outside of Israel too.
• Recent political squabbles between the American government and the Gulf states — Saudi Arabia in particular — are unlikely to dissuade American investors from engaging with the region. Saudi Arabia’s push for oil production cuts last month in spite of American pleas dragged relations between the two governments to new lows. American lawmakers have clamored for a reevaluation of the US-Saudi relationship in response; US President Joe Biden pledged to take action, weighing a one year arms embargo. In the weeks and days leading up to the Future Investment Initiative, a three-day long congregation of global business leaders and policymakers in Riyadh, the administration urged American attendees to be wary of the foreign governments they conducted business with. The country’s business magnates — including Jamie Dimon, chairman and CEO of JP Morgan, and David Solomon, Dimon’s peer at Goldman Sachs — seemed to largely ignore these warnings.

“The negative reaction to news headlines with Saudi Arabia may give some companies pause,” Sebright remarked. “But all the big US companies that understand what the opportunity is in Saudi are all there.”

Perceptions do, of course, matter to American investors. “It’d be silly to completely discount the political implications of this region and how that impacts the likelihood of FDI,” Mogielnicki stressed. A number of prominent US companies — like JP Morgan and BlackRock — had, for instance, dropped out of the 2018 installment of FII after the assassination of Jamal Khashoggi. Another newsworthy act of cruelty or a sudden, more drastic collapse in relations could change investors’ minds. Then again, the big names that snubbed the conference in 2018 have all returned.

4. Case study: the UAE

 

US investment trends in the Emirates merit special consideration. The UAE is currently the most popular Arab destination for American investment outflows. The Emirates were the most popular destination for overall greenfield FDI in MENA in 2021, according to the latest Global FDI Annual Report. It is also, by many metrics, the Arab world’s most innovative economy.

Transforming the Emirates into a global hub of investment, innovation and knowledge-based industries has become a cornerstone of Emirati economic strategy. “Transitioning to a knowledge-based economy, promoting innovation and research and development, strengthening the regulatory framework for key sectors, and encouraging high value-adding sectors,” are stated pillars of its Vision 2021 development plan. “Our priority,” President Mohammed bin Zayed told the nation in a televised July address, “is to develop our capabilities in science and technology.”

“They’re looking for companies in the US that are going to come and partner with them in the high end of the economy, in the knowledge economy, to create new stuff for the future,” Sebright said. “They want to be a source in the future — with American, European, Chinese and Australian partners — for creating original intellectual property.”

The Emirati government has proactively implemented (or announced) policies in pursuit of this goal. The “Projects of the 50,” a bundle of reforms announced in 2021 to be rolled out over the course of the next five decades, epitomizes this focus. As a part of the initiative, the UAE has revised its visa and work permit programs to make it easier and more attractive for wealthy and well-trained (preferably techie) individuals to settle there. The government also did away with a rule requiring foreign companies operating outside of free zones to have minimum 51% local ownership, a significant disincentive to foreign investment.

“In the course of three to four years, the Emiratis are completely turning that business model on its head,” Sebright told Al-Monitor. “It’s a complete change in the ecosystem.”

This year, the UAE also forged economic partnerships with India, Indonesia and Israel, and it began negotiating a comprehensive economic partnership agreement with Kenya. Emirati leaders hope these new connections will position the country as a central gateway to markets in South Asia and Sub-Saharan Africa.

“The UAE has to continue to enhance its linkages with key global markets. It hasn’t tapped out its utility as a linkage to the Middle East and North Africa, but it’s a pretty established role,” Mogielnicki said. “If the UAE is looking for growth areas to attract FDI and facilitate entry and linkages to other markets, it has to look beyond the immediate region.”

These reforms have begun to yield dividends. Dubai now stands out as a regional tech hub, its ever-growing number of start-ups piquing the interest of global venture firms like SoftBank and Sequoia Capital. Though petrochemical industries continue to attract the bulk of American FDI, investments in Emirati professional, scientific and technical services jumped in 2021, according to Schatz. In addition, “ensuring that foreign policy is good for business” became the Emirates’ guiding principle for global engagement over the course of the pandemic — a welcome signal to investors worldwide. Though substantial increases in American investment in the UAE are no certainty, these trends are the hallmarks of deeper economic engagement.

5. Key takeaways: progression probable, revolution possible

 

⮕American investment in MENA will, in all likelihood, increase modestly over the next decade or so. The scope and depth of this increase will depend largely on the success of economic reforms in the region’s leading economies — principally Israel, the UAE and Saudi Arabia. The success of more ambitious Gulf initiatives — behemoth undertakings vulnerable to countless contingencies — is far from certain. For instance, NEOM, the futuristic mega-city at the center of Saudi Arabia’s development strategy, is beset by funding and logistical challenges. As Gulf regimes implement and expand upon more concrete FDI incentives, however, investment will likely increase. Instability and unfriendly regulatory ecosystems will — barring deep political and economic reforms — continue to stymie investment across other parts of the region.

⮕A number of geopolitical currents could substantially alter the investment landscape. Analysts dispute the imminence of diplomatic normalization between Saudi Arabia and Israel, but many wager that reconciliation is on the horizon. A Saudi-Israeli accord, like the deals before it, would likely be a significant boon for investment in the kingdom and the region more broadly. Both states could benefit from increased trade, immigration, mutual investment and collaborative development projects along the Red Sea.

⮕There is also the possibility, however remote, that the region’s large yet volatile countries achieve some stability in the coming years. Turkish President Recep Tayyip Erdogan, whose governing style has deterred American investment, is beginning to lose political ground and may soon lose power. Ongoing protests in Iran are testing the foundations of Iran’s politically and economically decrepit theocratic regime. Steps towards democracy in these countries would make them more hospitable hosts for American funds.

“If a lot of these large countries suddenly become much more attractive destinations, you’re going to see FDI flows head in that direction,” Mogielnicki noted.

⮕Other factors may temper the appetite of American investors and corporations. The Biden administration has made boosting American manufacturing and innovation in strategic industries a pillar of its economic policy. Dubbed “nearshoring,” the trend, in theory, minimizes US vulnerability to bottlenecks of critical goods by reducing the country’s reliance on global supply chains. Enticed by enough incentives to develop products and intellectual property domestically, the country’s top firms may be hesitant to jump-start big projects abroad.

The trend of “encouraging domestic development, trying to get firms to invest more locally and to relocate a lot of economic activity in the United States,” Mogielnicki argued, “leaves MENA as a destination for FDI at a disadvantage.”

⮕Gulf domestic politics may also complicate matters. Painful budgetary pressures imposed by the pandemic’s oil-price slump forced Gulf regimes to increase taxes and cut subsidies. Saudi Arabia, for instance, tripled its value added tax to shore up its coffers in May 2020. The move frustrated citizens, disturbing the kingdom’s foundational social contract. Taxes and subsidy cuts are unlikely to disappear even though oil prices have rebounded. “The general trend in the region is more taxes, not less,” Mogielnicki observed. Oil prices may well collapse again in the near future as a recession rears its head. Trimming bloated public programs is also a pillar of many regional development programs. Gulf regimes, Mogielnicki warns, may begin turning to foreign workers and corporations to begin sharing the tax burden.

“This is a region that used to be a low tax environment; it’s still a relatively low tax environment, globally speaking, but that’s going to change,” Mogielnicki noted. “It’s changing in a way that is going to impact the bottom line of a lot of firms unless they can see extremely high potential, high growth areas of these economies.”