Ahmed Galal was finance minister between July 2013 and March 2014 in the interim government formed following the ousting of Mohamed Morsi. He is a former managing director of the Economic Research Forum and a former executive director of the Egyptian Centre for Economic Studies (ECES). For 18 years he worked for the World Bank, providing policy advice to governments in countries around the world.
It is now more than a year since major economic reforms were launched in November 2016. The government says the economy is doing well and international financial institutions have welcomed the government’s reform programme. But members of the public complain their daily lives have gone from bad to worse. So who is right, the government which says things are improving or citizens who complain things are getting harder?
Both are right. People have every right to be unhappy about the impact of the reforms but equally the government can point to improvements on the macro level.
The economic reform programme implemented in the context of the agreement with the IMF was necessary though it did not have to be delayed so long, nor need it have been as costly as it has been.
It was necessary because the government could not easily secure the financing gap of its budget. At the same time, the pressure on the pound was mounting at a time when international reserves declined to a critical level.
But the costs for citizens have been high. Inflation levels of 30 per cent have not been seen in Egypt in decades. Unemployment rates have not declined. And although there have some been increases in wages to cope with the rising cost of living, these increases have not high enough to prevent real incomes from declining. Moreover, the wage increases have not reached everyone. They were modest in the formal private sector, not applicable to those in the informal sector, let alone the unemployed.
Perhaps more importantly, we need to remember that the reforms address macro imbalances. They are not designed to stimulate economic growth and job creation, nor address issues of inequality and social justice. This suggests that the government needs additional reform programmes to be implemented in tandem with the economic reform programme.
To be sure, the government has taken measures here and there to address these gaps. For example, there is a new investment law and work is moving eagerly on infrastructure, such as roads and electricity. There is also an attempt to reform the education, a new health insurance law, and programmes targeting the very poor overseen by the ministry of social solidarity.
But these efforts are piecemeal and partial, they lack coherence and coordination, and they miss a tight timetable along the lines of those the IMF worked out with the Egyptian government, reforms that the government is obliged to stick to.
How do we overcome that?
The government needs to spell out what it will do and stick to it. Parliament has an important role to play here: it must demand that the government presents concrete plans, and to follow up on their implementation to see if the government is or is not doing what it said it will do. That is what parliaments are for. In this context, I believe that the media has an important role to play in holding the government accountable.
What about the 2030 strategy?
If the IMF believed that we had a strategy for balancing the macro economy, we would have gotten the $12 billion without any further reforms. And if the strategy did not work for the MF, why should it work for Egypt in the short run? The broader problem with the strategy is that it is not a reform agenda, even if it is only achieving its goals as late as 2030. It is fundamentally a set of goals without concrete policies or specific timetable.
What are your concerns about the reform programme?
The IMF’s mandate focuses on correcting macro-economic imbalances. When they agree on a programme they worry about the area of their focus and nothing else. It is up to us as Egyptians to do what is needed to get economic growth at a much higher level and to ensure greater equality and social justice. If we fail to do so we cannot blame the IMF.
Moreover, even when it comes to macro-economic adjustment the reforms were delayed too long, and the delay has increased their costs. An example is the exchange rate. We tried endless policies before we tried the right one. In 2011, when the inflow of foreign capital was declining, was the best time to adopt a more flexible exchange and shift from protecting the exchange rate to targeting inflation. Yet what did the central bank do? It resorted to all sorts of restrictions on withdrawal and foreign currency transfers to keep the pound artificially high, and exhausted the foreign currency reserves in the process. This policy also led to the emergence of the black market and severe difficulties for firms importing their intermediate inputs. Finally, if we had allowed the exchange rate to move gradually in 2011, it would not have leaped from LE9 to LE18 a dollar, and inflation would not have risen so outrageously. If we had allowed the exchange rate to move gradually in 2011 it would not have leaped from LE9 to LE18 a dollar and inflation would not have risen so outrageously.
But was that a decision the CBE could have made without political support in 2011?
It was a period of dramatic political change when politicians lacked the energy, time and focus for technical issues like monetary policy. It was a time when professionals needed to get it right.
How do you evaluate monetary policy now?
Now we have shifted focus from the exchange rate to inflation and the CBE has said it is targeting an inflation rate of around 13 per cent. This is positive though we have no idea what monetary rules they are following to achieve the target. Central banks need to follow a formula and I hope they are doing that.
Transparency gives people confidence and helps them form realistic expectations about the future, both of them are key to investment and consumption behavior. They will see where his estimates are coming from, what is the rationale, and what are the underlying foundations of what is going on in the economy. And when people see the logic of what they hear they can plan ahead.
Do you think the current exchange rate reflects the value of the pound?
When you float after having kept your currency overvalued, the tendency is to first overshoot and later stabilise. This is what is happening in Egypt now and what happened here in 2003. Once stabilisation kicks in what happens with the local currency depends on what happens with the economy. Factors that will make a difference are domestic inflation and inflation in trade partner countries, interest rate differentials locally and abroad, exports versus imports and foreign capital inflows.
Monetary policy is an ongoing business. You cannot just float your currency and think you are done. On the contrary, once you allow the exchange rate to move, the central bank is in a position to use monetary policy to control inflation and tweak the level of economic activity. You cannot just float and then think that’s it, done. Once you allow the exchange rate to move, the central bank needs to use monetary policy to control inflation and tweak the economy.
What do you think of the investment law and other laws passed to create a more friendly business environment?
The business environment is a huge subject that intersects with so much else. You can have the perfect institutional framework for firms to enter markets, operate and exit them but if you have a problematic monetary policy or hard currency liquidity problems then your perfect business environment isn’t going to help much.
Clearly the government identified some problems and decided the best way to deal with them was to have a law. I have nothing against that if it reduces the constraints facing anyone doing business in Egypt. But what I’d prefer is the Moroccan model. There officials did not sit in their offices and decide what the problems were then draft a law that is supposed to solve them. Instead they listened to what people were complaining about, then set about lessening the constraints that business people said were holding them back. This seems to me a more effective approach, not least because it is an ongoing process and not a one-time affair. Morocco didn’t just issue a new law, and that’s it but continues to address problems as they arise.
The investment law attempts to attract investors by offering selective tax breaks, a strategy that has been discredited for a long time now. Nobody else is doing it, having discovered the less discriminatory you are, the better off you are. You can motivate investors, for example, by providing infrastructure. What is nice about infrastructure, and any other kind of support of this type is that anyone who wants to benefit from it will move to where it is.
Would you approve of tax breaks focused on developing a specific industry?
Now you are talking about industrial policy, which usually means intervening in a manner that persuades someone to do something they would not otherwise do.
While the jury is still out on this form of intervention the fact is it is what we have done in Egypt over the past 50 or 60 years and it has not worked. A study on Egyptian industries between 1980 and 2000 showed that industries receiving select incentives, whether in the form of protection from imports or subsidised credit, had much lower productivity than firms which did not. Companies that must compete to survive shape up. Firms that get protection fall asleep.
Not that I am against all forms of intervention. A good example is Chile which had no salmon industry but is now the second exporter of salmon worldwide after Norway. The government was entrepreneurial, it established the industry and then they allowed the private sector come in. The project was well planned, the government kick started it with the right formula and then withdrew to allow the private sector to work. The intervention involved the government shouldering the risks and while making it easy for somebody else to come and reap the benefits in the interest of the economy at large.
In South Korea industry entered into a deal in which the government offered subsidized credit in return for export performance. There was a clear link between the incentive and the performance. Companies had to export, they had to compete. Now they are leading export industries and S Korea is much more advanced than it was a few decades ago So yes, there are cases when intervention worked. But in Egypt we seem intent on continuing policies that have repeatedly failed in the past without major rethinking of the best way to do it.
In general, there are two types of intervention, horizontal and vertical. I would always opt for the horizontal, where the government gets engaged in providing support to training of workers or opening new markets or conducting research. These activities are available to everyone, and do not entail special favours to one particular firm, or group or even sector. A similar argument can be made with respect to infrastructure.
What can policy makers do to overcome high inflation?
To reduce inflation, you need to either increase supply or reduce demand. Egypt’s problem is more on the supply side. We need to increase productivity. The economy is operating at well below its capacity and there is plenty room to increase output and productivity with modest new investment.
Almost everywhere, in the public and private sectors, there is a failure to exploit resources efficiently. So much so output could be increased without making new investments but simply by making sure the resources you are using are employed as productively as possible.
What is the government’s role in increasing productivity?
Work on the business environment is crucial. It is the way societies extract the most out of the resources they possess and generate new resources to invest.
Under the business environment, I include conflict resolution mechanisms that operate in a timely fashion, issues of entry; licensing, and tax arbitrariness. This is too broad an issue to be tackled by issuing one or two laws, or forming committees to tackle conflicts.
Then there are the broader policies such as labour and trade unions laws, which need to balance labor market flexibility with the rights of employers.
How important are mega projects?
I lack the information necessary to pass a judgement on any of them. We have not had access to data that would allow me to say yes, this project is justified but that one is not. As a result I remain agnostic about mega projects, believing that at least some of them are good for the economy in the long run (especially infrastructure projects).
However, I have some concerns. Those who argue that the government can undertake mega projects as well as everything else need to take into account that resources, whether financial or human, are scarce and that when they are allocated in one place they are unavailable in another.
Some people argue that spending on these mega projects is not coming out of the government’s budget and while that maybe true when you think of the economy as a whole, everything must add up.
In deciding whether or not to implement a mega project it is useful to think about the opportunity costs. The project might look good, but is it better than investing the money in something else or not?
We also need to be clear about what exactly it is we are trying to do. There are two ways to develop, one by instigating projects, the other by pursuing the relevant policies and institutional reforms. I believe the latter is most effective, which is not to say that you do not undertake any big infrastructure projects. Of course you build a power plant when you do not have enough electricity.
Some people believe that instead of building a new capital funds should have been directed to areas that lack basic infrastructure like water and drainage…What is your opinion on that?
We need a process by which big decisions are scrutinised and verified so that in this case, as in all other cases, there is a consensus within society over the direction in which the country is heading.
We need an active political life in which ideas, projects, initiatives on the part of the executive are scrutinised closely by parliament and by the public, via the media. Participation is the only way to progress.
How do you view political life now?
In January 2011 Egypt was at a critical juncture. Countries are like people, they reach a critical point and then they must go either right or go left. We really did have a serious opportunity to build a modern, civic, open democratic society.
Did we take that opportunity?
Transitions take time. We haven’t missed the opportunity 100 per cent. The process is still unfolding. There is never any guarantee a transition is a move in the right direction, but it is a real possibility and I have not lost hope that we could still move towards the country we would like to have.
I think the constitution we have now is good, rights are spelled out, the nature of the relationship between branches of government, the character of the country, everything is spelled out in a way you can feel good about.
On the ground, though, we are deviating from the spirit of the constitution and the spirit of building a modern civic society. The justification put forward for this is the threat of terrorism. Of course security is paramount. No society can flourish in its absence. But I always wonder why security concerns should take us in the direction of curbing rights of all kinds. I think that in doing this you could be increasing insecurity.
I do hope we can mature as a society, as rulers and as people, for what will save us at the end of the day is to build a modern society.
Are there any guarantees demands made by the public during the revolution will be met?
There are no guarantees in life. However, if people have a strong will, then no one can deny them their demands. It may take some time for this to happen, but eventually societies mature. In the end, it boils down to their level of determination. At one time, they decided to take to the streets, demanding bread, freedom and social justice. These demands may appear distant at times, if people feel fatigue, but they are there until they are met sometimes in the future.
You recently wrote an article titled “Look” Forward in Hope”. Why the optimism?
There are three reasons I think Egypt is more likely to head in the right direction than not.
First, Egypt is not a country that is about to disintegrate. We do not have the ethnic divisions or factionalism of countries like Iraq, Syria and Yemen.
We also have strong national army which makes a lot of difference.
Second, the Egyptian society is a relatively mature: we are relatively better educated and exposed to the rest of the world, we have a middle class with aspirations and we are not living off handouts from government because, for example, of natural resource abundance. I believe our society is ripe for a positive change
Finally, in many ways, conditions in Egypt resemble a Latin American country two or three decades ago. If Mexico made it, Egypt should.
But will it take us that long to arrive at where they are now?
Nothing is repeated literally. Latin America used to be dominated by regimes that were not open and were not democratic. Many of them were ruled by the military. Now look at Latin America, all its countries are reasonably open. They are still struggling but they have made a lot of progress on the political and economic fronts and so I am hopeful.
Do you think Egypt’s levels of domestic and external debt are a problem? And if so, what should we do about it?
It is something that is very worrying. For a long time we lived in fear of external debt. By the end of the 1980s and the early 1990s Egypt was unable to service its external debt. Then we were granted 50 per cent debt forgiveness when we joined the coalition to liberate Kuwait. Mubarak did not want to be in the same position again and Egypt stopped borrowing to the extent that I think the country deprived itself of benefits. The external debt to GDP ratio was held at around 15 per cent which is incredibly low.
Any economy can afford twice at least as much external debt, service it and benefit from funneling more resources into development. The fear of external debt deprived us from expanding and limited production and growth unnecessarily.
Lately, though, we have moved in the opposite direction, accumulating external debt so quickly it is now becoming a source of worry. Simultaneously, we have been running budget deficits for years, meaning that domestic debt has mushroomed.
By March 2017 debt had reached 136 per cent of GDP. When countries hit the 90 per cent threshold of combined domestic and external debt people should begin to worry. It is a threshold we passed some time ago.
There are two relatively simple ways to curb the executive branch’s tendency to accumulate debt as if there is no tomorrow. One is for parliament to issue a law placing a ceiling on public debt. Every time the government wants to increase the debt it should be obliged to seek parliamentary approval.
Another way would be to issue a decree that limits the budget deficit to a certain threshold. Both suggestions are practical ways to curb the government’s tendency to overextend.
Of course, the structure of the existing debt is important. Is it short or long term, in local or foreign currency? Is it expensive or reasonable to service? Depending on these factors even a small level of public debt can be dangerous, whereas a larger well-structured public debt could prove beneficial.
One thing the Ministry of Finance is striving for is to achieve a primary surplus. A primary surplus means your revenues minus expenditure before debt service is positive. This means there will be some money to service debt which allows for a reduction in the budget deficit and by extension a reduced need to accumulate public debt. And of course there is no question that all debts should be put to productive use.
Is the government’s dependence on indirect taxes healthy? And what are the obstacles to broadening the tax base?
The tax system needs to be revisited to ensure it includes as many tax payers as possible. The informal sector falls outside the tax base, and some people working in it make a lot of money. Professionals such as doctors and lawyers do not pay their fair share and many major state-owned enterprises have found ways to hoard profits.
We need a tax overhaul to include all forms of income, not just wages and profits. We also need to diversify our tax instruments. Currently, we rely more on value added taxes, which is understandable, but should consider progressive tax on incomes and inheritance tax.
We also need to simplify the tax administration, reduce its discretionary elements and ensure that there is a way to penalise tax collectors who make mistakes.
I would support an inheritance tax over a wealth tax. The problem with a wealth taxis that it is difficult to measure and apply. Inheritance is better from the point of view of equalizing opportunities among citizens without discouraging parents from accumulating wealth. Of course the inheritance tax rates should not be excessive, otherwise the parents may be tempted to splurge or not work as hard. New taxes should not discourage the desire to accumulate assets but at the same time should be used to create a more level playing field for kids whose parents did not leave them anything.
Everybody agrees education is central to development. How do you view the attempts being made to reform the sector?
We need to allocate far more resources to education. I would remove fuel subsidies immediately and direct the savings to education and health.
We also need to realise that spending more is not the same as improving the service. We could throw as much money as we want at education but without serious reforms it will all be eaten up with no obvious results.
Reforming the education system is a serious and a time consuming business. Frankly, if we manage to engineer a significant improvement in 10 years we will have been lucky. There are no short cuts.
There are some initiatives that could show returns in the short run. I think what the current minister is doing with the Thanaweya Amma and with kindergarten provision is good.
Thanaweya Amma is the worst university entrance system we could have devised. It institutionalises private tutoring by aligning the interests of parents and of teachers and the only way to break that alignment is to change the way pupils graduate from high school to university.
The single nationwide exam formalises an arrangement everyone complains about. It is a system most countries dispensed with years ago.
University acceptance should be based on multiple factors, with grades just one of them. Thanaweya Amma is a system the minister is right to upset. The same is true of kindergarten teaching. It is right to shake it up because what kids are exposed to before their school life determines the rest.
Beyond these initiatives, fixing the entire education system will take serious reforms in all respects. These include not only the content and skills and method of education, but also the incentives facing all involved and holding them accountable for results.
When you were finance minister you declined a loan agreement with the IMF. If you had been finance minister last year would you have signed?
Yes, I would have signed. The difference between now and when I was minister is that the IMF recipe we were being offered was contractionary and would have been counter-productive in an economy already in recession and with unemployment rates high. We also had the resources [assistance from Gulf states] to fund stimulus packages without the need to borrow.
Now conditions have changed. The economy is still in recession, unemployment is high but we did not have the resources.
How would you describe Egypt’s economy?
It is a mixed economy where markets function and the government plays a role by selective intervention.
The nature of the economy is identified in the constitution. It is a disciplined market economy rather than a free market economy. When markets fail the government has a responsibility to correct the failure. For example, if the private sector is unwilling or unable to undertake infrastructure projects, the government has to step in and do them. If the private sector shrugs off concerns about equality and a fairer distribution of income, then the government must assume responsibility for those things. It will take a combination of both markets and governments to make progress. The trick is to make sure each is playing its role right.
How do you view inequality in Egypt?
Egypt is a very unequal society though the numbers do not reveal the extent of the inequality. Economists usually rely on household surveys to determine inequality but the surveys can be misleading.
You only need to take a tour around Cairo to encounter slums and wealthy compounds. What I feel offends people the most is when they think others are getting rich for the wrong reasons, and certainly not because they are working hard.
Corruption compounds people’s sense of unfairness. Inequality is a very serious issue, which no government can afford to ignore.
*This article was first published in Al-Ahram Weekly