Digital tokens could transform the economies of the Middle East and North Africa - if the governance keeps up

The Covid-19 pandemic has been a disruptor like no other and its economic and social consequences are expected to outlast the health emergency.

As reported by the IMF, the Middle East and North Africa GDP contracted by 3.1% in 2020, putting the region’s already fragile resilience under pressure. Governments have taken unprecedented fiscal efforts to protect their private sectors and to mitigate the consequences of the pandemic.

Some examples are the $27 billion stimulus plan that the United Arab Emirates has deployed to facilitate lending, the $61 billion support package targeting the private sector or Egypt’s $6 billion economic relief plan focusing on Small and Medium Enterprises (SMEs) and consumer liquidity.

In this context, the World Economic Forum’s Regional Action Group on the Middle East and North Africa, a community of over 70 leaders from private and public sectors, has been working under the guiding framework of the 7 Principles for Stakeholder Capitalism to develop ideas that could tangibly transform the post-pandemic future of the region.

Small and Medium Enterprises (SMEs) have been severely affected by the pandemic both on the supply and on the demand side. The substantial loss of revenue, coupled with a drastic drop in capacity, has dramatically affected their ability to function properly and has created a large liquidity shortage for their operations, meaning many SMEs face closure.

In the UAE alone, SMEs constitute over 50% of the country’s non-oil economy, and contribute to about 54% of the private-sector workforce. The pandemic has also exacerbated the pre-existing hurdles for bank lending to SMEs, such as cumbersome registration and legal procedures.

In such a critical scenario, we have been studying together with Centre for the Fourth Industrial Revolution UAE, the Dubai International Finance Centre and the Dubai Financial Services Authority, the deployment of digital assets (also called asset tokenization) as an alternative to investments for SMEs to jump-start their post-COVID recovery.

Asset tokenization (tokenization) concerns digital tokens that can represent either financial assets like stocks or bond, or non-financial assets such as real estate, land, or art on a blockchain network.

These “digital assets” may represent only a part of the underlying asset – otherwise known as a “fractional share”.

Tokenization therefore has three main functions: to facilitate access to capital for issuers, to facilitate access to investments for investors, and to enable the fractionalization of assets.

It is this last concept of dividing assets into smaller components (in this case represented by tokens) that offers the game-changing ability to distribute assets among multiple individuals who could, as a result, have a partial ownership over the underlying assets and gain benefits proportional to their ownership stake.

Traditionally fixed, illiquid assets such as real estate or fine art could be broken down and represented as tokens. Fractionalizing the underlying asset could bring new investment opportunities and liquidity. The benefit is lower barriers relating to minimum investment requirements and geographies, opening up a global pool of capital.

A pilot around asset tokenization, which was publicly announced during the session “Implementing Stakeholder Capitalism in the Middle East and North Africa” at the Davos Agenda 2021, has the dual purpose of helping SMEs with their financial woes and providing a more standardized and accessible approach to funding, allowing companies to reach a wider range of investors.

For private and smaller-range investors, who traditionally might have faced challenges in investing in SMEs, they benefit from being able to provide funding in exchange of tokens. The tokens that investors receive can then be listed and traded on emerging digital asset exchanges, similar to trading securities on a traditional exchange.

The process is called a Security Token Offering and is created, allocated, transferred, and managed through its life cycle on the blockchain platform, where digital tokens are both issued and exchanged.

The system could integrate and manage the needs of a range of organizations, including: issuance platform and investment banks, courts and arbitrators, regulators, custodial and non-custodial exchanges, and third-party digital asset custodians. The blockchain network acts as a safe marketplace where all of these parties meet.

While we look at tokenization as a positive means to help SMEs in their post-pandemic recovery, we are also aware that those efforts need to be complemented by upgraded economic policies that can help turn this opportunity into tangible results for SMEs and the wider economy. Part of this effort is also the crypto assets legislation approved by the UAE Securities and Commodities Authority as a first important step in creating the right regulatory environment for tokens.

We are also confident that the pilot run by the UAE will inform the potential scalability of the tokenization process across the region with concrete economic results. And to fully realize the potential there is an urgent need for economic authorities across the region to upgrade existing regulations or craft new ones to enable a transparent and efficient use by investors and SMEs.

For example, addressing existing regulatory fragmentation across the region, would be a steppingstone to use tokenization to address industry disruptions and the lack of stability that the COVID-19 pandemic has brought to the markets.

We are confident that if used widely across the region and if coupled with the right economic policies, tokenization can create a safe environment for trade, and it could accelerate the region’s economic integration, which is estimated to add $230 billion per year to regional GDP. It would also enhance the region’s resilience and digital readiness for its post-pandemic future.