Support the People, Not Energy in the Middle East and North Africa
IMF Blog, March 27, 2013
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- Authors: Masood Ahmed
- Published: March 27, 2013
Government subsidies: regional overview
- Of all the regions in the world, the Middle East and North Africa region stands out as the one that relies the most on generalized energy subsidies.
- In energy-rich countries, governments provide subsidies to their populations as a way of sharing the natural resource wealth.
- In the region’s energy-importing countries, governments use subsidies to offer people some relief from high commodity prices, especially since social safety nets are often weak.
- The central question: does this well-intended social protection policy represent the most efficient way to channel aid to the most vulnerable? The source answer: no!
Costly and harmful scheme: fiscal, equity, and economic effects
- Fiscal and aggregate cost:
- In 2011, they amounted to about $240 billion, more than 8.5 percent of regional GDP.
- Particularly in the region’s oil importing-countries, subsidies eat up a large part of governments’ budgets, which often leads to higher deficit and debt levels.
- Opportunity cost:
- Spending on energy subsidies limits investments in health care, education, and infrastructure, which can dampen long-term growth.
- Distributional impact:
- Energy subsidies are highly inequitable: the bulk of the benefit goes to the better-off—people with automobiles, air-conditioned houses, and electrical appliances.
- Other economic distortions:
- Cheap energy leads to excessive consumption and higher pollution.
- Subsidies can lower profits—or cause losses—for energy companies, reducing investment in the energy sector and potentially leading to energy shortages.
- Subsidies encourage capital-intensive investment rather than job-creating investment.
- Political economy constraint:
- Reform attempts face resistance by vested interests and by households who are not convinced that the government will use wisely the resources saved.
Weaning off subsidies: six key ingredients for successful reform
- The IMF reviewed 22 country case studies of energy subsidy reform; results varied but suggested six key ingredients for success:
- A comprehensive energy sector reform plan.
- Should include clear long-term objectives, an assessment of the impact, and consultation with those affected.
- A good communications strategy.
- A strong communications campaign helps generate broad understanding and support for change and should be undertaken throughout the reform process, emphasizing not just the cost of subsidies but also the benefits of reform.
- Measures to compensate the poor.
- Crucial that those who are hardest hit by the removal of subsidies are compensated from the beginning.
- Options include subsidizing the goods they consume, targeting regions where they live, or providing lifeline tariffs and cash transfers.
- Phased price increases.
- Phasing in price increases and sequencing them differently across energy products can be helpful.
- A phased strategy allows people and businesses to adjust and governments to strengthen social safety nets.
- Improved efficiency of state-owned enterprises to reduce producer subsidies.
- State-owned companies—especially power generation—often receive substantial budgetary resources to compensate for inefficiencies in production, distribution, and revenue collection.
- Improving operational efficiency can strengthen their financial position and reduce the need for subsidies.
- Depoliticized price setting.
- Durable reforms require a depoliticized mechanism for setting energy prices and allow the transmission of changes in world prices to domestic prices.
- Automatic pricing mechanisms can reduce the chances of reform reversal, while price smoothing rules can help avoid large price changes.
IMF technical expertise and role
- The IMF can be a key partner for subsidy reforms that can unlock growth, reduce inequality, and help the environment.
- Areas where the IMF can assist:
- Make the case for subsidy reform by explaining how costly subsidies really are.
- Provide technical expertise—in collaboration with the World Bank and other stakeholders—on how to design and sequence the removal of subsidies.
- Help strengthen targeted social safety nets and establish automatic mechanisms to smooth price movements while protecting the government’s budget.
- Share lessons of experience from across its membership.
- Policy objective:
- IMF advice can help countries free up fiscal space to preserve or expand social spending and investment, a crucial objective in many countries in the region—particularly those in transition—where governments must support better their citizens but also face a difficult fiscal environment.
Supporting the people: strategic payoff of reform
- A shift from subsidizing energy to supporting the people would:
- Respond to the region’s social needs.
- Raise investment.
- Eliminate distortions.
- Enhance human capital.
- Create jobs.
Source: Support the People, Not Energy in the Middle East and North Africa, Masood Ahmed, March 27, 2013.
Content in this bundle
- Energy Subsidies in the Middle East and North Africa: Lessons for Reform - March 2014
- Energy Subsidy reform--Lessons and Implications; IMF Policy Paper; January 28, 2013