IMF lifeline not the only answer to Egypt's economic woes

22 August 2012

Subsidy reform and currency rethink required to salvage Egypt’s economy

Despite the increasing threat posed by militants operating in the Sinai, Egypt’s precarious economic position poses the greatest challenge to the fledgling government of Mohamed Mursi.

Since the former Muslim Brotherhood leader’s ascension to power in June, Egypt’s economy has gone backwards.

Egypt’s balance of trade is nearing an $8bn deficit – the country’s worst in history – and its foreign reserves have fallen below $15bn, which at its current rate of expenditure, would be enough to pay for just three months of essential imports.

One of the biggest drains on Egypt’s cash reserves has been the Egyptian pound, with the country’s central bank spending billions to prop up the ailing currency.

Meanwhile, the country’s unemployment rate hovers at a two decade-high mark of 13 per cent, a figure which is likely to increase while its dire economic prospects linger.

Mursi’s electoral ascendency came on the promise of free market policies driving new employment opportunities for Egpyt’s massive and restless, subsidy-reliant underclass of 35 million people. However, the president understands that his promises to unite the country and foster growth will come to nought without some form of foreign intervention in Egypt’s economy.

Enter the Washington-headquartered IMF. At the time of press, the IMF’s managing director, Christine Lagarde, was in Cairo holding talks with Mursi about a long-mooted financial rescue package worth around $5bn.

The IMF had previously agreed to the provision of a $3.2bn loan, however the worsening economic situation has prompted Mursi to plead for additional funds.

While the details of the larger loan deal remain unknown, there will undoubtedly be strings attached. The IMF is expected to demand the implementation of significant economic reforms, with mooted proposals ranging from a devaluation of the Egyptian pound to counter the drain on foreign currency reserves, to a comprehensive review of Egypt’s costly subsidy programmes. Energy subsidies alone drew $15.6bn from the country’s coffers in the last financial year; an unsustainable figure given the country’s rapidly diminishing cash reserves and budget deficit, which is forecast to reach $23bn in 2012-13.

Mursi is expected to propose the introduction of energy subsidy reforms in October. According to local press reports, coupon programmes for energy products are being considered, with the aim of reducing subsidies by up to 50 per cent within three years and 80 per cent within five years.

Egypt’s small to medium-enterprise (SME) sector, a traditional cornerstone of the country’s economy, also requires urgent attention. The recent granting of a $200m loan by the Washington-headquartered World Bank to encourage SME start-ups is a step in the right direction, although greater encouragement in the form of tax breaks would benefit the sector further.

Ultimately, reining in wasteful government expenditure will prove the first step in a long and painful road to recovery for Egypt’s economy.

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