Imbalances unaddressed as Egypt scrambles together budget

The Egyptian finance ministry does not have many options when it comes to lowering spending, writes Patrick Werr.

Egyptian drivers wait in line with their vehicles at a petrol station in Cairo. Egyptian GDP growth is forecast to rise to 5 per cent, from a projected 4.2 per cent in the 2014-15 financial year that Show more

No one said that after five years of economic morass and political tumult, drawing up a budget would be easy. But Egypt’s government seems to be missing an important opportunity to shift its resources towards investment and away from consumption and to lend more of a helping hand to the poor as it prepares its budget for the fiscal year that begins on July 1.

The cabinet approved a draft budget last week, barely two weeks before the start of the new fiscal year.

The finance ministry, which sent the draft to the presidency for approval on Tuesday, still hadn’t published it as this article went to press, although it did release basic (and somewhat optimistic) figures.

The ministry projected spending to rise by 20 per cent to 885 billion Egyptian pounds (Dh424.75bn) and revenue by 26 per cent to 612bn pounds, which would leave a deficit of 273bn pounds.

It forecast that GDP growth would rise to 5 per cent, from a projected 4.2 per cent in the 2014-15 financial year that ends next week. This means the deficit would be equivalent to 9.9 per cent of GDP, down from 10.8 per cent this year and 12.8 per cent in 2013-14. The 26 per cent increase in revenue is particularly optimistic considering that the government expects to receive only 2.2bn pounds in grants from its Arab and other benefactors next year, down from 25.7bn in 2014-15 and 95.9bn in 2013-14.

The finance ministry doesn’t have many options when it comes to lowering spending. Salaries and pensions soak up 30 per cent of all spending, interest payments about 24 per cent and subsidies and social benefits 26 per cent. That leaves 20 per cent for everything else.

The ministry seems to have delayed the budget because it had to scramble to find savings after the government cancelled one planned revenue-boosting measure after the other, either because they were unpopular or because not all the mechanisms had been put in place for their implementation.

Over the past few months, the government froze a proposed capital gains tax for two years; lowered the income tax to a unified 22.5 per cent from the previous 25 per cent for individuals and 30 per cent for corporations; cancelled an increase in electricity prices for small consumers; and delayed an increase in the price of subsidised fuel that had been expected to be in place starting in July.

EFG-Hermes estimated in a research note this month that these changes would cost the government about 10bn pounds, or 0.4 per cent of GDP. The main revenue-raising measure still on the table is a value-added tax (VAT) planned for later this year that will extend the sales tax now levied mainly on tobacco, hotels, high-end restaurants and telephone use to include almost everything else at a unified rate.

That move is projected to raise revenue equivalent to 1.3 per cent of GDP, but also increase inflation by two to three percentage points, EFG-Hermes said. It remains to be seen if the government has the fortitude to push it through undiluted. It first promised the VAT in an agreement it signed with the IMF 24 years ago, but has always baulked at implementation of a measure certain to prove overwhelmingly unpopular.

In the coming weeks, the finance ministry is also expected to increase the extra tax that it charges for tobacco products.

The problem with almost all of these measures is that they either encourage consumption at the expense of long-term investment or are regressive, meaning the burden falls disproportionately on the poor.

Petrol subsidies mainly benefit the wealthier 10 per cent of society whose families can afford to own cars; and the poor won’t ever have to worry about capital gains.

With inflation at around 10 per cent, freezing electricity rates for the smallest consumers actually means lowering its price. This is great, but wouldn’t it be better if the government spent the money on poor people’s education rather than on their electricity consumption? The same is true within the draft budget itself. Even though total spending is being increased by 20 per cent, spending on education will rise only by 8.3 per cent, according to the ministry.

Amina Ghanem, a former deputy minister of finance, says the government needs to wholly rethink the way it draws up its budget, drawing up projections for at least three years in advance, so that bad practices are reversed.

It should announce a gradual increase in energy prices, based on a transparent energy index, so they reach international levels. It should spend less on consumption and more on human capital and infrastructure.

“If you consistently redirect resources from current to productive spending (such as education, health, infrastructure and green growth), the more this bodes well for reducing the deficit in the future and for increasing growth rates, starting a virtuous circle of growth and deficit reduction,” she says.

Patrick Werr has worked as a financial writer in Egypt for 25 years.

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