The rights and wrongs of President Morsi's overthrow – and its political repercussions – continue to dominate discussion of Egypt. But beyond the turmoil on the streets, and attracting far less attention so far, is the country's floundering economy. 

At some point, someone will have to take the economy in hand and make some tough decisions. Whether anyone is actually capable of doing so in the current circumstances is an open question.

Yesterday, during a panel discussion in London, David Butter, an economist at Chatham House who previously worked for the Economist Intelligence Unit and edited the Middle East Economic Digest, looked at the economic challenges facing the new government. This is what he said:

The Egyptian economy really took a turn for the worse over the last six months. 

[One] important decision taken by the Morsi government was that having got the IMF finally, on 20 November last year, to conclude the technical details of an agreement that would not only unlock an IMF programme but would also bring in World Bank, EU and all sorts of other money, the government got cold feet.

The Muslim Brotherhood's version, of course, was that the IMF got cold feet and thought it would be better to wait until after the [parliamentary] election. I don't necessarily buy that. 

But after that things really started to slide in Egypt very badly. There was a succession of appointments of finance ministers who were completely out of their depth, there was a big changeover of staff within the finance ministry and the numbers that came out in terms of the deficit just got worse and worse as the government lost control over the salaries and spending of departments.

So you've got a structural fiscal deficit of around 12% or 13% of GDP whatever happens for the next year or so, and that's going to be very to deal with. There is also a structural balance of payments deficit. 

If you were being very cynical, you could say that the powers that be in Egypt used the fact that Qatar was generally quite friendly to the Muslim Brotherhood – they squeezed $8 billion out of Qatar until the Qataris decided they had given enough. Then [the new regime] decided that the other Gulf countries that don't like the Muslim Brotherhood are going to be a soft touch to get rid of the Muslim Brotherhood

In a sense that's what has been happening. Egypt's balance of payments deficit has been covered by Qatar with a little help from Turkey and maybe some from Libya over the last six months. Now, after Morsi has been dispatched with unceremonious haste, the UAE in particular – which as we know hated the Muslim Brotherhood and everything it stands for – plus Saudi Arabia and Kuwait have come in with about $12 billion which will stave off bankruptcy for probably another eight to nine months. 

In the meantime we've had the appearance of a new government which in the business community has looked a little bit like a kind of reset back to a liberal-type economic reforming competent business-friendly administration redolent of the late Mubarak era and hopefully slightly cleaner – not so corrupt.

So there has been talk of "the dream team" in looking at the new economic policy administration, and I think that needs to be taken with a kind of health warning.

First, the problems are really profound. The nominee for the finance ministry [Ahmed Galal] is a quite respectable academic who was an economic analyst at the World Bank for a long time but I don't think he's got a very detailed and deep understanding of how the plan that's being introduced is going to work.

You have deputy prime minister Ziad Bahaa el-Din, a corporate lawyer, a decent man and a very effective administrator but these figures on their own are not going to bring in all of the investment, they are not going to achieve miracles.

They are [also] dealing with the risk of prolonged political strife in Egypt: this large constituency of people with a very genuine and justifiable grievance are not going to simply melt away. 

The other problem is the nature of the alliance that toppled Morsi. The business community and the old regime people were there, the military were there, the idealist people who call themselves revolutionaries were of course very much involved and to the fore. Those revolutionaries hate the IMF, they hate neoliberal policies, they hate anything to do with a reintegration of the old elite, and so this is going to constrain the interim government in terms of what it can achieve in terms of reform.

There has already been a statement from one of the ministers saying that he thinks the time is not right to go back to the IMF. I suppose that's quite understandable but it's not necessarily a reason for the government to avoid looking at the sort of decisions they have to take.

Reforming subsidies in Egypt is something that has been studied and prepared for over a very long time and there are a number of models internationally about how this could be done. I think probably the consensus these days is that moving towards a cash benefit system, properly structured, is the most effective way of doing it. 

The Egyptians do have a lot of groundwork which has been done that would enable them to implement it. Not tomorrow – this is something that needs to be well prepared. 

Probably none of the really hard elements of these sorts of reforms – the risky ones – need to be put in place immediately but they definitely need to be prepared for and they need to be explained. They need to be argued, they need to be put out into the policy debate arena, people have to come on board. It's going to be very challenging.

The other element is the structure of the economy. It does need a capital influx. Grants or bonds coming from the Gulf are never very reliable and are really no substitute for long-term commitment of investors, and investors from the financial sector coming in to finance the budget deficit. At the moment what you have is this ever-increasing budget deficit which is financed almost entirely by Egyptian banks. Egyptian banks are getting 16% or 17% to finance the deficit – they have no incentive to lend to Egyptian businesses. 

So if you look at the structure of the banks in Egypt, the lending to the government is now much larger in aggregate than lending to business, and this is a real constraint on getting any sort of meaningful growth back. 

In terms of how to deal with this internationally, the signals will come from the United States. Of course, they are rather confused [about the US] in Egypt, as in much of the Middle East. There is a view that Washington or Obama would probably prefer not to have to look at the Middle East and wish it would go away, but they are still involved whether they like it or not and it looks like they will effectively recognise this new situation and try to deal with it.

As we know, [the Americans] have been attacked for being too soft on the Muslim Brotherhood and too soft on the military, and I think that will probably continue. 

The other interesting party in this of course is Saudi Arabia which is also a board member of the IMF and is a country with which the UK has very close relations, as we do of course with the UAE and Kuwait, which by their actions and statements have shown that they are absolutely 100% in favour of what has happened in Egypt.

If the UK is too harsh on the military or speaks too loudly about democracy and the Muslim Brotherhood there will be some difficult conversations that the UK government will have to have with those countries. Of course, this is part of the bigger picture of this rather delicate relationship we have with the Gulf and that's certainly something to be borne in mind when we're talking of policy.

For another take on this topic, see Jake Reynolds' article at Comment Middle East: "Hope for the Egyptian economy?" Note the question mark. 
  

Posted by Brian Whitaker
Wednesday, 17 July 2013