Al-Hadi takes charge of Yemen's economy

28 July 2014

Yemen’s president has announced much-needed reforms in an effort to secure external funding and prevent an economic meltdown

On 10 July, President Abdrabbu Mansour al-Hadi announced a series of economic reforms aimed at cutting Yemen’s ballooning deficit and avoiding a balance of payments crisis. They ranged from a freeze on the construction of costly, temporary, diesel-powered electrical plants to drastic cuts in the amount of foreign travel by ministers and senior officials. The president even announced the creation of a special military task force to help combat customs and tax evasion.

Although the reforms are slight in light of the huge economic challenges the country faces, they were just an opening salvo of a series of major reforms Al-Hadi plans to push through, according to government officials. And the announcement is at least indicative of the fact that the president, long criticised for ignoring economic issues, is finally taking tackling some of the major problems the country faces.

Overdue measures

The fact that Al-Hadi is taking an interest in Yemen’s many economic problems is an encouraging sign. However, it also demonstrates the extent to which he feels the country’s coalition government, in place since December 2011, cannot be trusted to manage economic reform, even after a major reshuffle of the ministers in charge of key economic authorities in June this year. Even so, there is no guarantee that Al-Hadi, arriving late to the game, will be able to prevent a total economic meltdown and, as the president is only too aware, fixing Yemen’s economy may come at huge political cost.

It is no coincidence that Al-Hadi announced the first wave of reforms just a day after returning from Saudi Arabia

Government official

The economy is in a mess. After shrinking by 12.7 per cent in 2011, GDP grew by just 2.7 and 6 per cent in 2012 and 2013, meaning economic output was still lower at the beginning of this year than it was four years earlier. Unemployment and poverty are about 50 per cent and aid agencies continue to warn of an acute hunger crisis in a country with child malnutrition rates among the highest in the world.

The government can do little to help. It has run successive record budget deficits since 2011, reaching 8.3 per cent of GDP in 2013, and has struggled to cope with attacks on a key oil pipeline that has historically provided most of the domestic fuel supply. The authorities have been forced to import expensive fuel from abroad, selling it at a huge loss in the local market due to the hefty, unaffordable subsidies the state still provides. Subsidies accounted for about 30 per cent of all spending in 2013.

Importing fuel has not only affected the budget, it has also caused foreign exchange reserves to plummet to dangerously low levels. The Central Bank of Yemen has been rationing the amount of dollars it allows the government to spend on imports, limiting the availability of fuel in the domestic market. On 10 June, thousands took to the streets of Sanaa to protest at the lack of fuel supply in the capital and the increasingly intermittent electricity provision.

Al-Hadi is only too aware that to avoid further demonstrations he must at least do something to ease the fuel crisis. But by the same token, he is likely to be mindful of the fact that the last time the government attempted major subsidy cuts, in 2005, the decision sparked riots in Sanaa and elsewhere. Given the volatile political climate, he can ill afford renewed unrest.

Help is at hand, however. The Washington-based IMF had been negotiating a $560m loan package with Yemen for the past year, but insisted that if the country is to receive the funds, it must first make concrete commitments to economic reforms, most importantly subsidy cuts. By this stage, even if Sanaa starts cutting subsidies and receives the first tranche of the loan (which would be paid out over three years) it may still run out of cash, especially if, as is widely predicted, subsidy cuts lead to renewed unrest.

External funding

To help ease the pain, the World Bank and the Arab Fund for Economic & Social Development have both offered further loan packages of $100m-$150m and Riyadh has apparently agreed to give Sanaa up to $2bn in fuel and cash to help the government make the transition. All three have made the financing contingent on economic reform, most importantly subsidy cuts, but have remained wary as to the ability of the government to see through its promises to make the cuts.

Realistically, we don’t know at the moment when we will get to the point where we simply can’t pay our bills

Yemen finance ministry official

In 2012 and 2013, foreign donors promised Yemen almost $8bn in funding for new projects and other economic aid. But so far, less than a third has been disbursed, with donors blaming an ineffective government that spends as much time fighting with itself as it does trying to improve the day-to-day lives of ordinary Yemenis.

Riyadh, in a precursor to its 2014 grant, gave Yemen $2bn in fuel and cash in 2012 to help prop up the economy, but was dismayed to see the money squandered. “They watched the government take $1bn of fuel and sell it for $500m, with a lot of it then smuggled out of the country, and then use the other $1bn of cash to pay for fuel imports which were also sold at a loss,” says an official at the Finance Ministry. “They wanted to know what we thought we were doing, but all they got in response was requests for more money.”

It is no coincidence, says an official who speaks to MEED on condition of anonymity, that Al-Hadi announced the first wave of reforms just a day after returning from Saudi Arabia; it was a sign of good faith. “He wanted to show that if they gave us money, it would be used to help maintain stability as we reformed, that it wouldn’t just disappear,” the official says.

Political infighting

The 10 July announcement also showed that Al-Hadi had lost faith in the ability of the transitional government to make those promises on his behalf. This is despite the cabinet reshuffle in June that saw the finance and oil ministers replaced with people seen as being more amenable to both the president and the idea of economic reform.

The cabinet is made up of a 50:50 mix of the General People’s Congress (GPC), Yemen’s historic ruling party, and the Joint Meeting Parties, a coalition of parliamentary opposition groups led by Islah, the main Sunni Islamist party. It has been beset by political and personal rivalries since its formation, with ministers doing their utmost to undermine one another rather than achieve popularity through personal achievement.

On the issue of subsidy reform, over the past two years, both the GPC and Islah have agreed in principle to cuts before publicly accusing one another of backing an economic policy that many Yemenis fear will rapidly push up the cost of living during one of the worst economic periods in the country’s recent history.

For much of 2013 and 2014, Al-Hadi had pressed the government, led by Mohammed Basindwah, a nominal independent, to come to a unified position on reform. However, the cabinet descended once again into infighting. The president has been aware since early 2014 of the threat that the slow implosion of the economy poses, particularly since the fuel crisis reached its nadir, and he recognises something needs to be done, with or without the cabinet’s help.

Al-Hadi’s biggest problem is that he is running out of time. In March, government analysts estimated that if new funds could not be found, Sanaa would be unable to pay its bills by September or October, including the crushing interest payments on debts accrued in recent years, which accounted for 20 per cent of all spending in 2013.

That was before the government launched a costly war against Al-Qaeda in the Arabian Peninsula, the virulent, local Al-Qaeda franchise. At its peak in April and May, the conflict was costing the government millions of dollars a day. The exact cost of the war has been hard to quantify, says the finance ministry official, and frequent attacks on the oil pipeline have cut into government earnings.

“Realistically, we don’t know at the moment when we will get to the point where we simply can’t pay our bills,” says the official. Already, public sector workers are complaining that the government has cut benefits including healthcare entitlements, and that bonuses, including an extra month’s pay at the end of Ramadan, have not been forthcoming.

Delivering cutbacks

If the IMF, the World Bank, the Arab Fund and Riyadh do step in with funds, it will be important to use the money to help work through the reforms, rather than as an excuse to put them off as happened in 2012. The fact is the Yemeni government cannot afford costly fuel subsidies, a bloated civil service or a tax system that generates a fraction of the revenues it should.

Cutting the fuel subsidy, one of the few public goods the state currently provides, and decreasing the number of stable jobs provided by the government, of course will not go down well. And Al-Hadi already believes the protests on 10 June were planned by his political rivals as part of an attempt to bring down the government and his presidency. If, as predicted, reducing the subsidies does cause a drastic increase in the cost of living, it could prove politically expensive for the president.

But if he does nothing, Al-Hadi will go down as the man who presided over Yemen’s economic collapse. By taking the reins on economic issues, he at least gives himself a chance to avoid that legacy.

Key fact

After shrinking by 12.7 per cent in 2011, Yemen’s GDP grew by just 2.7 and 6 per cent in 2012 and 2013

Source: MEED

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