Free Trade Zones in the United Arab Emirates

Introduction

The United Arabs Emirates [UAE] ranks amongst the largest economies in the Gulf region.

The UAE government has adopted the concept of free zones.

Schiliro (3) defines free zone as “an area designated for industrial or commercial operation or any other activity beneficial to the economy of the country” (64).

Free Zones are categorized into four main groups, which include export processing zones, special economic zones, free trade zones [for re-export purpose] and industrial zones.

Schiliro (3) argues that free zones have undergone significant proliferation in different countries over the past few decades.

The core objective of free zones is to stimulate economic growth and to enable a country be integrated into the regional and global economy.

Analysis of the UAE economy

The UAE has undergone remarkable economic growth over the past few decades. One of the reasons, which explain the country’s economic growth, relates to adoption of effective economic policies.

By the end of 2012, the country’s Gross Domestic Product [GDP] expanded by 4.4%. From the chart, it is evident that the UAE has managed to recover from the effects of the 2008/2009 global economic recession.

United Arab Emirates GDP Growth Rate.
United Arab Emirates GDP Growth Rate. Source (Trading Economics par. 1)

A report released by UAE’s National Bureau of Statistics showed that the country grew with an average rate of 4.6% during the period ranging between 2000 and 2009.

The growth rate reached an all time high of 9.8% in 2006.

The country is ranked amongst the fastest growing economies in the GCC region. The country’s economy is mainly commodity based, which is evidenced by its trade in oil and natural gas. According to Trading Economics (para.1), oil and gas exports account for 40% of the country’s total exports and 38% of UAE’s GDP.

In an effort to stimulate economic growth, the UAE government has increasingly become concerned with diversifying the country’s economy.

Free trade zones

Free trade zones are special areas established by governments in an effort to stimulate economic development. The government formulates strategies aimed at attracting investors. Some of the incentives adopted by the UAE government include preferential tax treatment.

The UAE government has adopted free zone as a strategy to attain a high level of economic diversification. Schiliro argues that diversification is “important in promoting economic development, creating job opportunities for the rapidly growing local force, but also to reduce the spread of risk of a high economic concentration” (7).

The UAE government perceives establishing FTZs as a strategy to attract foreign direct investment. This has led to the adoption of FTZs by most of the emirates. Most Gulf Cooperation Countries [GCC] have adopted free zones in an effort to stimulate economic growth.

The core objective was to diversify their economy from oil and natural based economy, which are vulnerable to economic fluctuation. Free zones play a remarkable role in providing high-quality employment opportunities.

Free zones play a remarkable role in enhancing local and foreign investment within the country. The UAE government has focused on knowledge and innovation as some of its most important drivers in its quest to increase the country’s economic growth.

Establishing business in the UAE’s free zones

Boora (87) asserts that the free trade zones present a perfect opportunity for countries to display their effectiveness with regard to economic growth and development.

The UAE has experienced quantum growth with regard to industrial development, which illustrates the effectiveness of free zones.

Free zones are established through the directive of the respective ruler of the emirates, which intends to establish the free zones. Furthermore, the various free zones are governed by a Free Zone Authority [FZA], which is charged with the responsibility of issuing operating licenses to firms intending to establish their operations in the free zones.

There are different formats through which investors can establish free zones in the UAE. First, investors may decide to establish a Free Zone Company [FZCO] or a Free Zone Establishment [FZE]. Alternatively, investors may also establish outlets or agencies in the free zones with the free zone existing in the Emirates or Abroad. The Free Trade Zone Company refers to a limited liability company, which is incorporated within a particular free zone.

Furthermore, the company must be owned by 1-5 shareholders. On the other hand, the Free Zone Establishment refers to limited liability establishments, which are incorporated within the free zones in the UAE and are owned by one judicial or natural person. Despite their structure, businesses in the free zones are controlled by the respective rules and regulation of the free zone. Boora (87) asserts that the capital required in establishing the free zones range between AED 50,000 and AED 1,000,000.

Some of these free zones include Jebel Ali Free Zone, Dubai Airport Export Zone, Dubai Internet City, Tecom, and Heavy Equipment and Trucks City.

On the other hand, there are eight free zones, which have been established in the Northern and Sharjah emirates while Abu Dhabi has three free zones.

Jebel Ali Free Zone (JAFZA)

JAFZ is located in Dubai and it was established in 1985. Upon its establishment, JAFZA was considered an important component in supporting the country’s economic growth. The zone was regarded as an ideal base through which multinational companies can distribute and warehouse their products in the UAE and the gulf region.

First, the lease agreement enables investors to operate in the free zone for up to 50 years. To operate as a FTZCO, a firm must have a minimum share capital of up to AED 500,000 while FZEs require a minimum share capital of up to AED 1,000,000.

Over 6,700 companies have been established in Jebel Ali Free Zone. The zone employs over 170,000 people, which accounts for 12.82% of the Dubai’s total labor force. Approximately 1,500 companies established in JAFZ are light manufacturing and industrial entities. These companies account for 20% of Dubai’s economy.

In 2012, JAFZ attracted 400 new companies compared to 385 companies, which were established in 2011. Most companies consider JAFZA to be an attractive investment destination because of the customer-centric policies adopted and the enabling business environment (Sullivan par.9).

First, businesses operating in JAFZA enjoy a number of tax incentives, which include corporate tax, export and import tax and personal income tax.

According to UAE Interact (par.2), JAFZA accounted for 25% of the country’s Gross Domestic Product (GDP) on a year-on-year basis, with companies established in the region accounting for 20% of the GDP. JAFZ has account for 50% of Dubai’s total exports. The strategic location of Jebel Ali Port has played a significant role in promoting the country’s economic growth by stimulating economic growth. Flights from JAFZA can connect to over 200 destinations globally. This increases the ease with which firms in the zone engage in international trade via exports.

Additionally, JAFZA is connected to the Gulf Region by an extensive and elaborate road network, which enhances the movement of good by reducing the lead-time.

In an effort to promote manufacturing within the free zones, the UAE government has established the Dubai Export Development Corporation [DEDC], which is charged with the responsibility of promoting exports from the various emirates.

To enhance manufacturing, JAFZA partnered with DEDC in 2007. The partnership was aimed at promoting JAFZA’s non-oil direct trade. A report released by JAFZA shows that the “zone accounted for 77.6% of the total exports and re-exports from Dubai’s free zones, which is relatively high compared to 29.47% of the total exports and re-exports in 2006” (par.2).

Dubai Airport free zone authority

The zone has adopted100percentage repatriation and profit, and 100% foreign ownership policy. The zone has eliminated currency restrictions and custom duty. In addition to the above incentives, DAFZA is characterized by state-of-the-art facilities and optimal effective location to the international airport.

In 2013, DAFZA free zone authority announced its intention to attract American and European companies. The authority has further targeted investors from Singapore and Japan. This will significantly improve the country’s FDI (Sambidge par. 4).

During its 17 years of existence, DAFZA has managed to contribute over 6% of the Dubai’s total foreign trade, which is approximately AED 52 billion.

The zone is able to address the European, African, and Middle East market. This has led to significant improvement in economic relations between the UAE and other countries. DAFZA’s contribution to the UAE’s GDP in 2013 is estimated to be 4.7% while its total contribution to the country’s trade is estimated to be 73%.

Over 94 new foreign companies established their operation in DAFZA in 2013 (UAE Interact par.3).

A study conducted in 2012 to establish the rate of FDI in UAE free zone shows that DAFZA leads with regard to the establishment of businesses in the Middle East. A similar study conducted in 2010 ranked DAFZA as the 2nd largest free zone with regard to the establishment of FDI. This explains why most regional and global investors are increasingly considering Dubai as an investment destination.

DAFZA’s free zone authority has identified China as one of its most attractive investment partners. A number of Chinese companies have announced their intention to enter the UAE market through DAFZA.

A report released by UAE Interact in 2013 shows that Chinese companies account for 14% of the total number of companies operating in the free zone. By the end of 2012, “there were 3,800 Chinese companies established in the UAE” (Arab Afro Trade par.9). Subsequently, the Chinese companies contribute enormously to UAE’s economic growth. The chart below illustrates the proportion of companies established in DAFZA’s free zone.

Continent Proportion of FDI’s in DAFZA
North America and Europe 39%
Gulf Cooperation Council and Middle East 38%
Asia 17%
Australia 1%
Africa 2%
Offshore Islands 3%
Proportion of FDIs in DAFZA.
Proportion of FDIs in DAFZA.

The graph above shows that the attractiveness of DAFZA has attracted investors from different regions of the world. However, the rate of FDI amongst North American, European, Asia and GCC is relatively high as compared to Africa, Australia, and Offshore Islands.

In an effort to attract FDI, DAFZA has invested in a major infrastructural project, which aims at improving the rental space in the free zone. Currently, the region is ranked as a leader with regard to provision of effective infrastructure and attracting FDI (Arab Afro Trade par.11).

The establishment of DAFZA has greatly stimulated bilateral trade between China and the UAE. Currently, China is ranked as the largest export market for UAE products in the Gulf region. The total number of “exports into China from the UAE increased with a margin of 16 times during the period ranging between 2002 and 2012 million to reach US $ 40.42 billion” (Arab Afro Trade par.12). It is estimated that China’s total annual investment in the UAE amounted to $ US 170 million by the end of 2012. UAE Interact (par.3) further asserts that trade “between the UAE and China has increased from $ 50million to $35 billion over the past three decade, which translates into 35% annual growth rate per annum” (par.1).

Dubai International Centre

Deulgaonkar defines an international financial centre as “a country or jurisdiction that provides financial services to non-residents on a scale that is incommensurate with the size and the financing of its domestic economy” (par.4).

IFCs contribute to a country’s economic growth through a number of evolutionary paths, which include facilitating trade and commerce, mobilizing flow of financial capital and asset protection. There are a number of financial centers, which have been established across the world. Examples of such centers include Hong Kong, Amsterdam, New York and London.

International Financial Centre promotes a country’s economic development in a number of ways, which include facilitating the exchange of financial instruments, goods and services. Secondly, IFC’s mobilizes savings in addition to enhancing corporate governance amongst investors. Deulgaonkar further asserts that IFC’s “aid in producing and processing information about potential investments and allocating capital based on these assessments” (par.7).

In an effort to enhance investment, the UAE government came up with the Dubai International Financial Centre (DIFC). The core objective in establishing the DIFC was to “provide businesses and other financial institutions operating within the zone an opportunity to expand their operations into the emerging markets” (Deulgaonkar par.14). Subsequently, the zone was established with the objective of enhancing economic development.

DIFC is considered as one of the fastest-growing IFC in the world. DIFC has undergone rampant growth over the past few years. In 2010, DIFC’s gross domestic product grew with a margin of 5.2% compared to the 2.77% growth in 2009. A survey on DIFC’s economic activity in 2010 showed that the centre has a total GDP of $2.92 billion, which means that the centre’s contribution to Dubai’s GDP is 3.6%. Deulgaonkar further argues that “ DIFC contributed 12.1% to Dubai’s GDP during the 2013 fiscal year with the contribution of financial services sector being over 15%” (par.1).

The establishment of DIFC has played a critical role in promoting the growth of financial services in the UAE. The centre has stimulated growth within the UAE’s financial services sector.

DIFC acts as a conduit in UAE’s effort to attract FDI. During the period ranging between 2000 and 2013, the sector underwent a remarkable growth rate of 15% during the period ranging between 2000 and 2013.

The zone has promoted the establishment of different financial services companies, which include banks, management office, professional services, wealth management companies, insurance companies and capital markets. By the end of 2013, 1,039 companies were established in the free zone of which 55 were new financial services companies such as Wells Fargo, Carnegie Asset Management, Napier Park Global Capital, Bank of London and Samena Capital.

In 2013, Dubai International Financial Centre attracted 22 of the top banks in the world, 6 top insurance companies and 11 of the top 20 money managers.

The establishment of DIFC has also played a remarkable role in creating job opportunities to Emiratis. By 2013, the companies established in the financial centre had a total workforce of over 15,600 employees from 131 different nationalities.

Dubai Knowledge Village (DKV) and Dubai Multi Commodities Centre (DMCC)

The emirate of Dubai recognizes the significance of a strong human capital in enhancing the country’s economic growth. Subsequently, the emirate has established a knowledge village, which is dedicated for enhancing learning excellence.

The establishment of the knowledge village as a free zone has played a remarkable role in improving the country’s labor market. This culminates in improving the productivity of the firms established in the UAE. Furthermore, the knowledge “village has led to the transformation of the UAE into a knowledge-based economy by establishing a talent pool” (UAE Interact par.8).

Mubadala is an example of knowledge-based company established in Abu Dhabi. The firm has played a remarkable role in stimulating the growth of hi-tech manufacturing and aerospace companies.

The establishment of such companies has significantly contributed towards the development of a ‘knowledge based eco-system’.

The DMCC free zone is ranked amongst the largest free zones in the UAE with over 7,330 active registrations. A report released by UAE Interact in 2013 showed that the zone records an average of 200 companies intending to join the zone monthly.

DMCC intends to attract 10,000 companies by 2015. To achieve this goal, DMCC intends to undertake comprehensive expansion of its business park. This will improve occupancy within the zone. DMCC is committed to improving UAE’s economic growth and development by stimulating trade.

Furthermore, the park has become an important component in stimulating The UAE’s economic growth. Over 95% of all companies, which have shown their intention to enter the UAE market, are new establishments.

Khalifa Industrial Zone Abu Dhabi (KIZAD)

The Oxford Business Group (64) asserts that industrial production is a critical element in promoting Abu Dhabi’s economic growth. Abu Dhabi has been focused on transforming the economy from over dependence on hydrocarbon energy to other sources of income. In 2007, non-oil related activities accounted for approximately 39.8% of the emirate’s GDP. Abu Dhabi Council for Economic Development (2013) asserts that the diversification is critical in UAE effort to stimulate economic growth. This arises from the fact that a country can attain a steady and long-term economic growth.

Abu Dhabi has formulated a long-term industrial development policy, which entails achieving 64% growth from the non-oil sector. Abu Dhabi has focused on manufacturing as one of the most important sectors in its economic diversification efforts. This has been achieved by identifying the key industries, which include renewable energy, aerospace, steel, engineered metal products, and aluminum, petrochemical, and plastic manufacturing companies.

The manufacturing sector in Abu Dhabi has undergone remarkable growth over the past few years and hence its contribution to the country’s GDP. During the period ranging between 2002 and 2007, the manufacturing sector accounted for 16.7% of Abu Dhabi’s GDP (Oxford Business Group 68).

The improvement in the country’s manufacturing capability has arisen from establishment of free zones, which are aimed at enhancing the country’s industrialization such as Kazak.

In 2013, Abu Dhabi announced its intention to increase UAE’s total aluminum output from its current 46% in order to improve the volume of trade in aluminum with other GCC countries. It is projected that Kizad will play a critical role in enhancing the attainment of this goal through the establishment of aluminum manufacturing companies such as Taweelah Aluminium Extrusion Company. Furthermore, Kizad has entered into an agreement with Emirates Aluminium and other 44 companies, which intend to establish their operation in the zone.

The establishment of Emirates Aluminum [Emal] in Kizad will play a significant role in enhancing the country’s industrial diversification efforts. A study conducted by Abu Dhabi Council for Economic Development (2013) shows that Emal contributes 0.4% to the country’s GDP.

In an effort to stimulate its manufacturing capability, Emal intends to partner with Dubal, a renowned aluminum producer. This has led to the establishment of the 5th largest aluminum producing company in the UAE.

The partnership will lead to direct employment of over 8,000 individuals and over 25,000 individuals will be employed indirectly in the UAE aluminum industry by 2020.

Since its establishment, Kizad has been critical in promoting economic growth amongst downstream manufacturing companies.

Challenges posed by free zones

Despite their contribution to a country’s economic growth, Free Zones pose a number of challenges to governments. Some of these challenges include;

Reduction in government revenue; free trade zones provide foreign companies operating in the zone an opportunity to repatriate all their capital and profit to their parent company. This poses a challenge in that the host government is not able to collect revenue from these companies despite their operation in the host country. Therefore, the host government loses a substantial amount of revenue, which could have been collected by the exchequer.

Smuggling – Free trade zone pose a challenge in government effort to curb smuggling of goods. This arises from the fact that some goods, which are not intended to be sold in the free zone, may be sneaked into the zone without paying taxes.

Money laundering- free zones may be used to propagate money laundering. Such money may be used in other illegal activities, for example financing terror activities.

Custom fraud- some custom officials may engage in custom fraud in order to achieve their personal interests.

Conclusion

The paper shows that Free Zones have played a remarkable role in enhancing UAE’s economic growth. For example, the country has been able to attract foreign direct investment into the free zones. Furthermore, the establishment of the free zones has enabled the UAE government to achieve its goal with regard to ensuring equitable distribution of resources and wealth. This has been achieved by providing each of the emirates an opportunity to establish their own free zones.

The free zones have led to the development of various economic sectors such as the financial and manufacturing sectors through increment in the rate of FDI.

Despite this, free zones pose a number of challenges due to the existence of various issues such as money laundering, loss of revenue, smuggling, and custom fraud. To deal with these challenges, it is imperative for the UAE government to consider adjusting the trading policies within the free zones.

Works Cited

Arab Afro Trade: 44% increase in the demand for space European in DAFZA jumps to 40% 2014. Web.

Boora, Ian. An integrated policy approach in science, technology and innovation for sustainable development, New York: UNESCO, 2009. Print.

Deulgaonkar, Parag. 12% of Dubai GDP from DIFC 2014. Web.

JAFZA: DEDC to assist Jafza manufacturers expand exports horizons 2007. Web.

Oxford Business Group: The report; Abu Dhabi. New York: Oxford Business Group, 2009. Print.

Schiliro, Daniele. Diversification and development of the UAE economy, Messina: University of Messina, 2013. Print.

Sambidge, Andy. Dubai’s DAFZA says 2013 revenues up by 42% 2014. Web.

Sullivan, John. Innovation drivers; key talent management lessons from Silicon Valley 2014. Web.

Trading Economics: United Arab Emirates GDP growth rate 2014. Web.

UAE Interact: Infrastructural development, free zones 2013. Web.

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