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Egypt’s fuel subsidy program, designed to ease the lives of the poorest of its population, is becoming a serious drain on its national economy, according to a new study from the African Development Bank (AfDB).
The cost of its oil subsidies shot up by more than 65 percent to 68 billion Egyptian pounds (LE), or almost USD 12 billion, in the 2009-2010 financial year, compared to LE 40 billion in 2005-2006, according to the study.
The report from the AfDB’s Chief Economist department, ‘Reforming Energy Subsidies in Egypt’, includes recommendations for the preparation of Egypt’s subsidy reform program, which is due to resume, after being suspended in 2009 after five years due to the global economic downturn.
The Egyptian study comes in the wake of an earlier AfDB report on lessons in how to carry out an energy reform program, using Nigeria as a case study of Nigeria, which also suffered an explosion in costs to its treasury. It centred on how in how to carry out such an energy reform program, particularly with regard to cutting or eliminating fuel subsidies while avoiding or minimising adverse effects such as supply-shock inflation and social unrest.
While Egypt’s subsidy program was introduced to help the poor, in practice the better off benefitted more, says the report. An analysis of Egypt’s household surveys shows that the top 40 percent of the population enjoy about 60 percent of the energy subsidies. The bottom 40 percent get about 25 percent of the total.
The withdrawal of the subsidies will harm the poorer sector more, because energy expenses account for a larger portion of their income.
However, simulations have indicated that replacing the energy subsidy with a compensatory system would make them better off.
The report recommends that Egypt should take into account various considerations in its reform program.
One is an energy price adjustment path. The study says: ‘Egypt should focus on the energy products that impose the heaviest economic cost and are consumed by higher income households’ with a view to adjusting prices over a period of five years’.
Another is further research to get a better idea of the consumption behaviour according to their income.
Also, care is needed in allocating the savings from subsidy removal. ‘International experience indicates that savings from subsidy reform is often wasted’ if not efficiently managed, the report says. Further, Egypt needs to design a program to protect vulnerable groups.
Finally, effective communication is crucial, and should begin at least six months before the first price hike.