The Egyptian Government is attempting to arrest its budget deficit and increase economic growth by cutting back state subsidies on food and fuel. These subsidies are worth upwards of US$11 billion ($13.9 billion) a year, or 18 per cent of the state budget, even after cuts, according to the Wall Street Journal. The government is trying to end subsidies within three to five years and use that revenue to fund infrastructure projects and create more jobs.
Over the last year at least, Egypt has been implementing policies aimed at reducing the budget deficit and increasing foreign investment and tourism revenues. One of the greatest impediments to economic growth has been the government’s subsidisation of food and energy resources. After the ousting of Mohammed Morsi, Egypt received about US$12 billion ($15.2 billion) from Saudi Arabia, Kuwait and the United Arab Emirates. An additional US$8 billion ($10.1 billion) was committed by these Gulf states in 2014 and a further US$8.8 billion ($11.1 billion) was made available to Egypt as a grant from the Gulf Cooperation Council. Infusions of foreign capital alone are unlikely to fix Egypt’s fiscal problems, however, because the grants only enable Egypt to cope with the reason it spends so much money. The government of President Abdel Fattah Al Sisi has implemented programmes designed to amend Egyptian finances by cutting food and fuel subsidies and attracting foreign investment.
As previously noted, government subsidies consume at least US$11 billion a year with others estimating that the government spends around US$1 to US$1.5 billion ($1.3 to $1.9 billion) of its reserves a month. Cutting these subsidies is supposed to inject much needed cash into an ailing economy and was a requirement of the International Monetary Fund’s (IMF) Extended Fund Facility. To kick start its economy, Egypt sourced a US$12 billion loan from the IMF, however, state subsidies had to be cut in three years and the Egyptian pound (EGP) had to be devalued against the US dollar. What ensued was a hike in inflation (now at 31 per cent) and rising food (40 per cent) and fuel price inflation. Even though Egypt is going to struggle in the short term, the removal of government subsidies will also mean the removal of the fiscal rigidity that saps government finances. Furthermore, the floating of the EGP against the dollar signalled the revival of Egypt’s net foreign reserves.
The value of the EGP and hikes in both inflation and food and energy prices are putting vast pressure on the Egyptian people, and is a current impediment to food security for many people. How the government chooses to use its resurgent foreign reserves to manage its currency, however, could be a significant factor in determining Egyptian food security. According to Bloomberg, Egypt’s net international reserves rose by US$4.7 billion to US$36 billion ($5.9, $45 billion respectively) in July mainly due to a relaxed currency and a higher interest rate.
Apart from the US$2.48 billion social program ($3.15 billion) aimed to cushion those being hit with the reform policies, Egypt’s foreign reserves could well be used to improve the country’s food security while the economy attempts to become more investor-friendly. Egypt’s reserves can currently pay for around eight months of imports which reassures not just potential investors, but the government’s ability to buy food in the case of mass social, political or even military upheaval. Egypt’s reforms could push many to the brink and result in demonstrations similar to the previously seen bread riots. Such riots may cause foreign investors to pull their investments, creating a shortage of foreign currency pushing down the value of the EGP. Since food imports are paid for in foreign currency, a shortage would inflate prices further. A large reserve of foreign currency, however, would enable the central bank to stabilise markets and keep the local currency steady.
These kinds of conditions, some of which are being witnessed today, are quite likely in Egypt. Worsening economic and social conditions are possible so it will be interesting to see how Egypt uses its reserves. Will it maintain its present course by weathering high inflation, high prices, import tariffs and a weak pound to maintain flows of investment? Or will it use its foreign reserves to strengthen its currency to benefit local prices?
Given the government’s determined stance on the continuation of the present reform efforts it is unlikely Egypt will change course. Foreign investment is gradually increasing and the government needs to maintain a weak currency to facilitate the introduction of further IMF, World Bank and other loans.