Egypt and the IMF: a good start, but only a start

Posted on November 18, 2016

Egypt’s agreement with the IMF on a $12bn, three-year loan will help finance Egypt’s import needs while cushioning the effects of the reduction in fuel subsidies and the floating of the pound, prior actions that had been demanded by the Fund. Egypt has already received the first tranche of $2.75bn after having secured $6bn in additional financing.

The Fund programme represents a good start but it cannot produce the tangible improvements that ordinary Egyptians have long been waiting for. For that, Egypt needs to move beyond stabilisation and pursue a fundamental transformation of its economy.

Market reaction to the IMF agreement has been highly positive. The stock market has risen sharply and is at its highest since 2008. Previously hoarded dollars have begun to flow back into the market, relieving widespread market distortions and material shortages. Domestic and foreign investor sentiment also improved.

In addition to a large fiscal deficit, high inflation and chronic unemployment, Egypt has a large current account deficit and will need to attract $8bn to $10bn annually from FDI and external borrowing to bridge the financing gap. Gross public debt, however, is already 100 per cent of GDP, about 19 per cent of which is external, and central bank reserves are low.

There is no doubt that Egypt desperately needed the IMF programme and, if all goes well, the macroeconomic outlook should gradually improve. However, improvements will only be incremental. Even by the end of the programme, the fiscal deficit will exceed 7 per cent and debt will remain around 90 per cent of GDP. Growth will rise but only moderately and inflation and unemployment will stay at 10 per cent or higher. The government has made efforts to protect the most vulnerable but these have been met with widespread disappointment.

Looking beyond the IMF programme, a fundamental improvement in Egypt’s prospects requires the dismantling of the ossified structures of an economy that has evaded fundamental reform for decades. Egypt’s economy in this regard is akin to those of eastern and central Europe before the fall of the Berlin Wall. Its economy remains shackled by a public sector that is bloated, inefficient and unresponsive to market signals. The country ranks 131 out of 189 in the World Bank’s ease of doing business and 115 out 138 in the global competitiveness index of the World Economic Forum.

Structural reforms should aim to transform the economy into a market-driven, private sector-led, competitive enterprise capable of generating high rates of inclusive and sustainable growth. Enough jobs need to be created to reduce the high unemployment and provide for the million Egyptians coming into the labour force every year. To reduce the deadweight and redefine the role of the state, streamlining the size the public sector and creating more freedom and space for private-sector initiative must be a priority. Laws and regulations governing business and investment must be completely overhauled and brought in line with best practices in successful emerging market countries.

Labour markets need to be dramatically liberalised and the role of government as employer of last (often first) resort must be abandoned. Investment would need to be doubled to help rebuild the country’s crumbling infrastructure. The reform of public sector enterprises and their eventual privatisation should be more diligently pursued.

Some of the needed reforms, such as the liberalidation of markets, may not be costly but others are. Civil service reforms, for example, are extremely difficult and slow moving and can be especially costly. Along with privatisation, they are bound to aggravate the serious unemployment situation.

To be credible and, ultimately, successful, economic reforms will need to be accompanied by political reforms. Efforts to engender a spirit of enterprise, innovation and investment in the future are not compatible with the suppression of individual liberties and human rights.

Navigating the tricky internal political situation while shepherding the reforms will be truly challenging for President Abdel Fattah al-Sisi (pictured above), who has candidly recognised the dire state of the Egyptian economy. The sustained engagement of the international community will therefore be needed beyond the present programme.

However, such support should be contingent on a firm commitment by Mr Sisi’s government to clearly defined fundamental reforms, both economic and political, in exchange for a pledge by the international donor community for larger and more sustained financial assistance over an extended period. The international community should announce its interest in such a grand bargain but, in the final analysis, it will still be Mr Sisi’s move to make.

George T Abed is a former director of the Middle East and Central Asia Department at the IMF.

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