Egyptian consumers unlikely to feel oil price drop, despite macro gains

Waad Ahmed , Ahmed Feteha , Monday 1 Dec 2014

Government could divert funds for energy subsidies - but spenders won't see any immediate changes

oil derrick
In this Tuesday, July 26, 2011 file photo, Austin Mitchell walks away from an oil derrick outside of Williston, N.D (Photo: AP)

The global fall in oil prices is unlikely to ease the financial strain on Egyptian consumers right away, further adding to risks of instability, despite potential gains on the macroeconomic level, economists and business leaders said.

Egypt, a net oil importer, will see its state budget and trade deficits fall as fuel costs drop, but it will be up to policy makers to determine whether this will help economic growth, William Jackson, an economist with London-based Capital Economics said. Consumers will not feel a dent in prices as the government already subsidises energy, he said.

The Egyptian government used $105 per barrel to forecast its expenses in 2014/15, expecting to spend LE100 billion on energy subsidies, the state budget showed. Oil has been falling since OPEC declined to curb output to raise prices last week. Prices fell to their lowest in five years on Monday, hitting $68.54 per barrel

The fall in prices means the government will spend 25 percent less on energy subsidies this year, Tarek El-Molla, chairman of state-run Egyptian General Petroleum Corp (EGPC) said, Reuters reported on Thursday.

"If the government diverts spending that had previously gone to energy subsidies, this would boost growth," Jackson said in an emailed response to questions. "Given the government's desire (and need) to reduce the budget deficit, they may not react, in which case there wouldn't be much of an impact on economic growth."

Egypt's government has introduced a series of reforms to revive an economy suffering from weak growth, high inflation and rising unemployment. This year it cut energy subsidies and raised taxes in a bid to reduce the budget deficit to 11 percent of GDP, down from 12.8 percent last year.

Households squeezed

Egyptian households have seen their expenses grow as pump prices rise – up by as much as 78 percent in July – leading to a hike in general price level in the economy. The government also raised electricity prices, saving about LE11 billion in the state budget. The urban inflation rate has recorded double digits in every month since July's price hikes, reaching 11.8 percent in October.

Consumers may feel a rise in their purchasing power as a result of the drop in global oil prices, but not right away, Hany Genena, chief economist at Cairo-based investment house Pharos Holding said. Inflationary effects of the subsidy cuts "will ease by the end of 2015 or early 2016, not by 2018 as originally expected," he said.

Genena expects inflation to slow to 6 percent by the end of 2015.

Managing subsidies has been a politically explosive issue in Egypt since a popular uprising forced former president Anwar Sadat to revoke price increases in 1977. However, Egypt's current President Abdel-Fattah El-Sisi was able to avoid popular backlash against his price increases, a decision he took right after he won 96 percent of the vote in June's presidential election.

Importing: everything

The rise in inflation in Egypt is also linked to the depreciation of the pound, which fell to around 7.65 to the dollar in the black market last month. In the 2013/14 fiscal year, Egypt imported $10 billion worth of food products and $13.2 billion worth of petroleum products, according to Central Bank data. Local industries also depend heavily on imported machinery and inputs needed for production.

The Egyptian government has a monopoly over supplying energy to industries, which is why their energy expenses will not change even with drops in international prices, said Mohamed El-Bahey, a member of the executive bureau of the Federation of Egyptian Industries.

But consumers may feel a drop in prices of locally manufactured products as the prices of imported raw materials, especially petrochemicals, fall, El-Bahey said in a phone interview. "But this could take months, because factories' inventories are priced at old oil rates," he said.

Omar Mehanna, chairman of Suez Cement, Egypt's largest listed cement maker, said he did not expect changes in oil prices to have a large impact on his industry. The cement sector in Egypt is turning to using coal, a source of fuel “whose prices are historically stable, unlike the volatility of oil,” he said.

Gulf support

If oil prices stay around the level of $75 per barrel, Egypt's $59 billion annual import bill could be reduced by around $4 billion, or 1.5 percent of GDP, Jackson said. "This in turn would reduce the current account deficit and Egypt's dependence on foreign financing, thus easing strains in the balance of payments," he said.

Egypt saw its foreign currency reserves fall from about $36 billion before the 2011 uprising to $16.9 billion in October, as the Central Bank defended the local currency against shocks of investors fleeing. Following the ouster of Islamist president Mohamed Morsi in July 2013, oil-rich Gulf states pledged billions in support of El-Sisi's regime, giving $10.6 billion in cash and oil products to date.

Gulf support to Egypt, however, should not be affected as oil prices drop, Jackson said. "Even with current oil prices, the Gulf should – in aggregate – run a current account surplus, so it will still be accumulating FX assets," he said.

Also, the political nature of aid from countries like Saudi Arabia – which backs Egypt's ongoing crackdown against Morsi's Muslim Brotherhood – secures it against any fiscal hits, according to Genena.

"Gulf aid to Egypt is considered defence expenditure, which is not influenced positively or negatively due to its relation to national security," said Genena.

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