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Brookings Institution : Egypt and the IMF: Turning a New Page?

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08/24/2012 | 11:54pm CEST

On August 22, Christine Lagarde, the IMF's managing director, was in Cairo where she met with President Mohamed Morsi and other Egyptian government officials.  At the end of her meetings, she announced that the new government has officially requested an IMF program and that the Fund will respond as quickly as possible to this request.  A Fund mission will visit Cairo in September to hold discussions, and the parties plan to reach agreement in November.

Ms. Lagarde's visit and announcement has triggered a wide-ranging debate in the Egyptian media and especially the blogosphere.  This debate in itself is a positive outcome of the trip.  Since the January 25 revolution Egyptians have been focusing almost exclusively on political matters while their economy continued to rapidly deteriorate.  Recent power and fuel shortages are just one symptom of this deterioration and impending macroeconomic crisis.  It is high time for Egyptians to give the economy the attention it deserves, and agreeing on a program with the IMF to achieve macro-stability and set the foundations for renewed growth will be a step in the right direction.  However, this new program should reflect the changes occurring in Egypt and herald the start of a new era of partnership with the IMF.

The IMF is seen by many Egyptians as a supporter of the Mubarak regime which was responsible for policies and programs that hurt the poor and increased social inequities.  Even the military who ruled Egypt during the initial phase of the transition felt that borrowing from the IMF would be too risky and refused to sign off on an agreement reached by the Ministry of Finance in mid-2011.  It is not surprising, then, that many Cairo commentators are arguing against a new Fund-supported program.  While the reasons given for opposing a Fund program vary widely, ranging from loss of national sovereignty to Islam's prohibition on interest-bearing debt, two arguments warrant particular attention.  First, some observers believe that in the absence of a parliament (since it was dissolved by the Constitutional Court) no forum exists to discuss a new program and agree to it.  An economic program designed behind closed doors by the government and the Fund will lack the legitimacy and popular support needed for its success.  Second, it is argued that the program under discussion will be no different from previous ones, and that in any case it was prepared by the transitional team of former Prime Minister Genzouri.  Thus, the economic changes promised by President Morsi, and particularly those relating to social justice, will be overlooked.

Those concerns should not be ignored in the rush to agree on a much needed stabilization program.  It is important for the newly elected Egyptian government to demonstrate a clear break from past undemocratic practices in the management of the economy and for the IMF to show that it is a true partner supporting the transition to democracy in Egypt as it did in other countries.

Transparency and participation are key factors for ensuring broad popular support for the economic reforms.  IMF missions regularly meet with representatives of civil society, including the political opposition.  However, in Egypt's circumstances that outreach may not be enough.  In the absence of a parliament, the government (perhaps supported by the IMF) should consider putting in place a broad participatory process that includes civil society, political parties and other thought leaders.  Officials could explain the country's economic situation and the proposed reforms and seek citizens' views and suggestions.  Participatory processes are time consuming and can sometimes be messy.  Moreover, transparency and participation are not part of Egypt's civil service culture.  Hence, designing and implementing such a process will require a great deal of effort and political will.  However, the benefits in terms of getting people to own the reforms can be enormous.

In particular, an open participatory process would allow for a real national debate on the thorny issue of energy subsidies, and perhaps a consensus can be reached on how to deal with it.  Energy subsidies in Egypt represent about 6 percent of GDP.  They are higher than the health and education budgets combined and are clearly fiscally unsustainable.  They are also economically damaging as they encourage energy overconsumption.  The energy and carbon intensity of the Egyptian economy is estimated to be two and a half to three times higher than the OECD average.  Moreover, energy subsidies are regressive: The two top quintiles of the population capture 57 percent of the subsidy.  On the other hand, the fact that 43 percent of the subsidy goes to the lowest three quintiles implies that a large number of poor people also benefit from it.  Even when we talk about the top two quintiles of the income distribution in Egypt, we must realize that about one-fourth of the people in this income group live on less than $4 a day, and three-fourths live on less than $6 a day.  Moreover, a sudden and sharp increase in energy prices, resulting from the removal of subsidies, could have broader effects on economic activity and employment.  This possibility may explain why previous governments avoided dealing with the problem.  However, given its popular mandate and electoral legitimacy, Mr. Morsi's government is probably in a better position to deal with an issue that is of vital importance for Egypt's short term macro-economic stability and long-run sustainable growth and equity.  Other countries in a similar situation have been able to eliminate or drastically reduce energy subsidies.  The case of Indonesia, which put in place a temporary cash transfer for 64 million people considered poor, could be a useful example for Egyptian authorities to study.

Fighting corruption is a key popular demand and could be a central part of a new economic program that would clearly demark it from past programs.  Egypt scores poorly on all corruption indicators (it scores in the bottom half of the worldwide governance indicators on corruption control).  A program to fight corruption would normally include measures to enhance government's transparency, to empower civil society to monitor government and hold it accountable, to reform and professionalize the civil service, and to improve public financial management as well as public procurement procedures.  Experience from other countries show that there is always a risk that fighting corruption can be used as a weapon against political opponents and business leaders who are not close to the government in power.  This is a risk that needs to be avoided.

The Egyptian government's decision to officially request an IMF loan is a positive sign that it intends to start dealing with the country's serious economic problems.  Opponents of an IMF program raise many concerns, some of which are legitimate and need to be addressed.  In particular, it is important that the design of the program be done in a transparent and participatory manner and that it starts tackling the long-neglected problems of energy subsidies and corruption control.

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