The cost of lifting fuel subsidies
 
 

In early July, the government restructured petroleum product subsidies, raising diesel and 80-octane gasoline prices in particular, and leading to heightened fears of subsequent price hikes on other commodities.

Mada Masr Editor-in-Chief Lina Attalah interviewed Amr Adly, a scholar at the Carnegie Middle East Center specializing in political economy, about the fuel price hikes in the context of a bundle of belt-tightening measures aimed at lifting Egypt out of its financial crisis.

Lina Attalah: Let’s start with numbers. How high has the subsidies bill gone here, and what percentage did it make up of the public expenditure and the gross national product (GNP) before the latest economic bundle that lowered fuel subsidies? Is there an ideal percentage of subsidies in this context?

Amr Adly: The share of fuel subsidies in the budget was raised in 2006/2007 and reached a record in 2008, with the Brent barrel exceeding US$100 and Egypt turning to fully importing oil since 2006. This means that since then, the Egyptian government has started to depend on importing petroleum products from abroad at international prices, or close to them, which influenced the size of subsidies allocated to fuel. The subsidy bill between 2008 and 2012 could be estimated at an average of 20 percent of total public expenditure, and between 6-7 percent of the GNP. A fifth of public expenditure is a large percentage by all means.

There is no ideal percentage per se. Subsidy programs have to be evaluated with two criteria. The first is the economic revenue generated by providing fuel at costs lower than production cost. The second is social justice. I believe that the nonspecific, in-kind subsidies that are still in place in Egypt do not meet either of the two criteria.

Fuel subsidies don’t generate economic revenues, simply because they encourage increased energy use — especially in energy-heavy industries — in a country suffering from poor fuel production and a suffocating crisis demonstrated in repeated power cuts and the inability to provide energy for factories. They also don’t serve the purpose of finding alternatives to fossil fuel such as petroleum and natural gas, which would lead to increased investments for the concrete, fertilizers, iron and steel, and aluminum sectors. These are all energy-intensive industries and are exporting thanks to the low price of fuel, even though it’s not readily available.

As for social justice, the main beneficiaries of energy subsidy programs all around the world are those who consume the most fuel, and naturally, these are higher income demographics. Therefore, the state was actually providing the largest part of the subsidies for the middle, upper-middle and upper strata of consumers, and for capital- and energy-intensive industries. But this does not mean that raising fuel prices and lowering the subsidy will not affect the poor. The tragic irony is that while fuel subsidy programs benefit the higher income brackets, lowering them will more negatively impact other groups, since a larger percentage of income in the lower strata is allocated to basic needs. Therefore, any increase in prices, however small in absolute value, will negatively affect consumption for families and individuals with lower total income.

LA: So which income brackets will be most affected by the direct increase in the prices of petroleum products, and the subsequent increase in the prices of different goods?

AA: We must distinguish between two groups: those who will suffer directly, and those who will suffer relatively. The first category includes those with the highest income, and the owners of energy-intense industries. They are expected to incur the largest part of the loss as an absolute value, due to the rise in the prices of natural gas, gasoline — especially 92- and 95-octane gas — and electricity.

As previously mentioned, people in the lower income brackets dedicate the largest part of their income to the direct consumption of basic goods. Hence, they may bear less burden in the absolute sense — as a sum of pounds for each good or service — but they are the most affected relatively, because of their small income. In addition to the poorest segment of society, the lower-middle classes are also affected as consumers of 80- and 90-octane gasoline, for example. They are not below the poverty line, but their ability to consume is very much affected by the increase in prices, especially because their incomes are fixed in the form of salaries.

LA: What are the expected effects on inflation of lifting fuel subsidies?

AA: There is no clear vision about the inflation effect, but there certainly will be one. The price of diesel fuel has almost doubled, as diesel represents around 50 percent of the subsidy bill. More than 80-85 percent of the amount of subsidized diesel is used by the goods and services sector. Its price increase will no doubt impact the prices of many goods and services — foremost among which, of course, is private transportation, such as microbuses and taxis.

But the inflation effect will differ from one good to another depending on the energy component of its production. For example, the effect on concrete production — with fuel making up 30 percent of its cost — will definitely be different from food products or industries that consume less energy.

In general, inflation is affected by the stagnation and deceleration that has hit the economy since 2011. Although raising prices in a stagnating economy may lead to inflationary recession, stagnation may also help absorb the inflation shock due to weak demand. On the social justice level, the effect of inflation on the lower income bracket is associated with basic goods and services, especially food and transportation. The government has strived to mitigate this by widening the base of food subsidies, but it’s not clear whether or not these measures will suffice, given the absence of any procedures to compensate the poorer or lower income brackets, and the absence of any social security network.

LA: Rights activists talk about the lack of social guarantees along with the increase in fuel prices. Can you give examples of what these guarantees could be? Can we talk about the moderation of the prices of goods prices, for example? Or revamping the transportation system?

AA: The fuel subsidy program in Egypt is an in-kind program based on providing cheap products regardless of who benefits. The government therefore says that it is an unfair arrangement, in addition to being economically ineffective and costly. Therefore, the government speaks of restructuring subsidies rather than canceling them.

This is why there is talk about a social security network that compensates those who stand to lose from the restructuring process. This may happen by redistributing income in the form of aid for the more marginalized categories. This could be implemented on a geographic basis, targeting residents of the countryside or Upper Egypt, for example; on a gender basis, helping female breadwinners, for instance; or aiming to help the disabled or the unemployed. This is in addition to establishing a health care system for everyone.

Egypt suffers from a weak and incomprehensive social security network. There are millions of Egyptians who are not covered by any form of social security. Lately, there has been talk of redirecting part of the money that will be saved from lifting subsidies into direct monetary subsidies. But none of this has happened, at least until now.

As for talks about adjusting prices, the state has no right to impose prices on traders or producers, since we follow a market economy. Moreover, forced pricing will result in a black market. There are also other measures to lower prices. The Ministry of Supplies could distribute basic goods directly at lower prices to force other traders to decrease prices, provide the poorer income brackets with alternatives, or open the door for imports to lower the prices of products such as concrete, iron and fertilizers. It is expected that producers will burden consumers with the fuel prices hikes, even though they enjoy high profit margins.

In the case of transportation, the government could issue discount coupons for microbuses and taxis, especially because these cars are licensed and it’s easy to specify an annual subsidy for them. But the government chose to do nothing. It could be said generally that despite extensive talk of compensating the poor and protecting those with a limited income, the government has not done anything worthwhile at this stage. The main incentive behind decreasing the subsidy was purely financial — that is, to provide large amounts of money to compensate the total budget deficit.

LA: In one of your recent articles in Al-Shorouk, you talked about the duality of economic stagnation and the state’s financial crisis, and the idea that the current economic orientation does not serve both issues at once. Can you explain this duality and how to address it?

AA: Egypt of course suffers from intertwining problems, but they are not identical. The biggest problem is that the Egyptian economy has grown at a very slow rate since 2011, due to ongoing political instability and maybe the global financial crisis, especially in Europe. The main issue is to return to raising growth and employment rates in order decrease unemployment and increase investments.

But the state has another problem: A deficit of over 13 percent of the GNP, which is reflected in a general debt nearing 93 percent. This is a huge pressure on banking institutions as the government becomes the largest borrower. This causes the rise in interest rates and the decrease of available credit resources for the private sector, subsequently lowering investments.

The second problem has to do with state finances, which require austerity measures to reduce the deficit and general debt in the next five years. But austerity measures inevitably lead to a decrease in government demand, which is a major part of the total demand in the economy. Subsequently, austerity measures usually go hand in hand with stagnation, deceleration and decreased employment. This counters all the administration’s plans for raising growth rates.

But in my opinion, the government is looking to redress the effects of the quest to decrease the deficit by directing the Gulf countries’ capital to investment, instead of gearing them toward supporting the state budget. The state received US$17 billion last year alone. The government hopes that this cash flow will compensate for the decrease in consumption and government investments.

LA: You talked in one of your commentaries about Samer Soliman’s vision of the deep transformation of the Egyptian state from a rentier state to a tax state, and the accompanying dismemberment of the patriarchal state. Do you see this dismemberment as inevitably connected with changing the economic system, or could we expect political tactics that could preserve the foundations of power in its patriarchal logic, such as populism, for example?

AA: Samer Soliman speaks in his book about how the general course of political and economic developments in Egypt since the 1970s was a transformation to a tax state from a rentier one. This means that the state depends on taxes — the majority of which have become private, not under its ownership or management. This has come with the decrease of the traditional rentier resources, such as Suez Canal revenues, gasoline and gas revenues and foreign aid.

Soliman contends that the move to impose more taxes simply means deconstructing the patriarchy of the state and its authoritarianism, because it will depend economically on specific social strata. This opens the door to political accountability and representation, as per the famous American motto “no taxation without representation,” and based on the economic interpretation of democracy — namely, that it goes along with the increased dependency of kings on their people for taxes and loans.

This course may actually be true, since the Egyptian state is still unable to rebuild authoritarianism even after Abdel Fattah al-Sisi obtained the presidency, not only for economic reasons, but also for political and cultural ones.

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