The International Monetary Fund said on Sunday countries in the Middle East and Central Asia need to curb their financing requirements, as a surge in government debt, exacerbated by the pandemic, threatens recovery prospects.
The region, which includes around 30 countries from Mauritania to Kazakhstan, saw an economic rebound in the third quarter as countries relaxed measures to contain the new coronavirus.
But the outlook remains highly uncertain and recovery paths will diverge depending on the speed of vaccinations, reliance on heavily impacted sectors, such as tourism, and countries' fiscal policy.
"Recovery has started, but recovery has started in an uneven, uncertain way," Jihad Azour, director of the Middle East and Central Asia Department at the IMF, told Reuters.
"The outlook is uncertain because the legacies of the pre-Covid-19 are still there, especially for countries who have high levels of debt."
The Fund said "early inoculators", which include the oil-rich Gulf countries, Kazakhstan, and Morocco, will reach 2019 gross domestic product (GDP) levels next year, while recovery to those levels is expected to take one year more for other countries.
"High financing needs could constrain the policy space required to support the recovery," the Washington-based global lender said in its Regional and Economic Outlook Update.
Lower demand and a slump in commodity prices eroded state finances last year. In the Middle East and North Africa, fiscal deficits widened to 10.1% of GDP in 2020 from 3.8% of GDP in 2019.
The crisis led many countries to raise debt, partly taking advantage of abundant liquidity in the global markets, to afford extra spending needed to mitigate the impact of the pandemic.
The IMF warned that financing needs are projected to increase over the coming two years, with emerging markets in the region likely to need around $1.1 trillion during 2021-2022 from $784 billion in 2018-2019.
This presents financial stability risks and could slow economic recovery. Many countries rely on domestic banks to fund sovereign needs, which could make credit less easily available for corporates and small enterprises.
Countries with high external debt have also become more vulnerable to a tightening of global financial conditions, which would increase their borrowing costs and curb access to markets.
"Although comfortable reserve levels provide support for the region's emerging markets, vulnerabilities for countries with elevated external debt and limited fiscal space are higher," the Fund said.
"Countries need to implement policies and reforms to help reduce elevated public gross financing needs and, over time, mitigate the concentration of bank exposure to the sovereign," it said.
It recommended coordination among monetary and fiscal authorities, as well as a deepening of domestic debt markets and an expansion of the investor base.