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This week a team from the International Monetary Fund is in Cairo yet again, attempting to reach agreement with the Egyptian government on a $4.8 billion loan to plug Egypt’s increasingly serious external financing gap and budget deficit. Egypt’s foreign currency reserves—in precipitous decline as the Central Bank continues to prop up the exchange rate in efforts to avoid skyrocketing costs for wheat and other staple imports—have dropped from more than $36 billion in early 2011 to less than $14 billion at the end of March. Egypt’s budget deficit now stands at nearly 11 percent of GDP.
The sticking point in the loan negotiations is the IMF’s insistence that the Egyptian government slash fuel subsidies and replace them with better-targeted social protections for vulnerable groups and a more progressive tax structure.
The IMF summarized in November that “fiscal reforms are a key pillar under the [proposed $4.8 billion dollar loan] program. The [Egyptian] authorities plan to reduce wasteful expenditures, including by reforming energy subsidies and better targeting them to vulnerable groups. At the same time, the authorities intend to raise revenues through tax reforms, including by increasing the progressivity of income taxation and by broadening the general sales tax (GST) to become a full-fledged value added tax (VAT).”
Costly energy subsidies are a significant drain on the government’s purse, unfairly help the rich at the expense of the poor, and put the country on a growth path that is environmentally (as well as fiscally) unsustainable.
Energy subsidies amount to almost 21 percent of Egypt’s total budget every year—more than US$24 billion annually and approximately 12 percent of the country’s total GDP. The dangerous external financing gap and budget deficit could be nearly erased just by eliminating fuel subsidies.
Although energy subsidies were initially intended to help the poor, the rich benefit disproportionately, because they consume a larger share of the subsidized energy. According to a recent African Development Bank report on Egypt, “the top 40 percent of the population enjoy about 60 percent of the energy subsidies while the bottom 40 percent receive about 25 percent of these subsidies. These differences are more drastic in the urban sector where the top 40 percent of the population receive about 75 percent of energy subsidy benefits, and more than 90 percent of gasoline subsidies.” In short, Egypt’s fuel subsidies are a reverse Robin Hood transfer from the poor to the rich.
The subsidies also trap Egypt on a path of environmentally unsustainable growth, with severe long-term consequences for the environment. Artificially low energy prices lead to excessive energy consumption, as Egyptians choose to use artificially cheap fuel instead of switching to more sustainable renewable alternatives like wind and solar, or improving energy efficiency.
Of course, eliminating energy subsidies will indeed hurt the poor in the short-term. The most vulnerable can barely get by day-to-day now, and rely on energy subsidies to provide a cushion for survival. Fuel subsidies therefore would need to be replaced immediately and transparently with targeted cash transfers to the poor. This move from fuel subsidies to targeted cash transfers is exactly what the IMF is demanding as a condition of its loan package. Unsurprisingly, entrenched elites in Egypt who now benefit from the generalized energy subsidies are resisting fiercely, and playing on populist fears and rhetoric to mobilize broader public opposition. Is the IMF now on the side of social justice and environmental sustainability in Egypt?