World Economy

Middle East faces weaker economic prospects: IMF

Anna Shtraus Photography | Flickr Open | Getty Images

The Middle East's economic prospects are looking weaker with challenges afflicting both oil importers and exporters, the International Monetary Fund warned in its updated report on the region launched in Dubai Tuesday.

Economic expansion in the Middle East was revised lower, from 3.1 percent six months ago to 2.1 percent for the year. In 2014, a rebound to 3.8 percent is the IMF's base case.

In light of what the fund described as "heightened political uncertainty", net importers of crude oil such as Egypt, Lebanon and Jordan needed to pursue a three-part strategy consisting of job creation, fiscal consolidation and structural reforms.

(Read more: Middle East and North Africa's Growth to Slow: IMF)

"Absent success, MENAP (Middle East, North Africa, Afghanistan, and Pakistan) oil-importing countries risk being drawn into a vicious cycle of economic stagnation and persistent socioeconomic strife," the IMF noted.

While the IMF has financing arrangements with Jordan, Morocco, Pakistan and Tunisia, no progress has been made on a deal with Egypt, despite two working-level agreements in the past.

"What happens in Egypt is enormously important for a region as a whole" Masood Ahmed, Director, Middle East and Central Asia Department at the IMF, responded when asked about the state of negotiations with the Arab World's most populous nation during an IMF panel discussion Tuesday. "We would be very ready and keen to also support them when they feel the time is right in terms of financing".

(Read more: Egypt on edge as Mursi trial adjourned)

Oil-wealthy countries of the Gulf have pledged as much as $12 billion in assistance so far, a figure that has made IMF financing less of a policy consideration and allowed Egyptian authorities to initiate stimulus packages.

"Another dilemma is that the IMF is a political liability in Egypt", Soussa added. "I think what we are going to see over the coming 12-18 months is a pretty significant cyclical upswing".

The IMF forecasts Egypt, which is on review by index compiler MSCI for a potential downgrade from emerging market status, to grow by 2.8 percent next year.

Oil-exporters need more diversification

According to the IMF outlook, "medium-term economic prospects will depend on the ability of oil exporters to diversify their economies and create jobs in the private non-oil sector for their rapidly growing populations".

There has been considerable debate about non-oil economic growth and the job deficit of the region.

"The jobs are there," Mohamed Lahouel, Chief Economist at the Dubai Department of Economic Development, explained during an IMF panel discussion Tuesday. He called on GCC countries in particular to reform their subsidy systems. "When governments use an incentives scheme to finance employment in the private sector actually there will be a net saving for the budget".

(Read more: Foreign buyers are getting in on US energy boom)

"What needs to happen is the private sector must be weaned off cheap foreign labor – cold turkey – I think the Saudi Arabia is probably the most progressive country in the region in dealing with this problem," Farouk Soussa, Head of Middle East Economics at Citi, said.

The world's largest oil exporter launched a crackdown on unregistered foreign workers earlier this week following the expiry of an amnesty period, all part of broader labor market reforms.

Among major oil exporters, Iraq stood out in the tables from the fund, with GDP seen expanding by 6.3 percent next year, despite concerns about weaker global demand for crude. Meanwhile, Qatar is forecast to expand by five percent and Saudi Arabia by 4.4 percent.

Follow us on Twitter: @CNBCWorld