Egypt’s economy does not depend on oil, but plummeting global oil prices have contradictory macroeconomic implications for the country, writes Zeinab Sami
“While no two countries will experience the drop in the same way, they share some common traits: Oil-importers among advanced economies, and even more so emerging markets, stand to benefit from higher household incomes, lower input costs and improved external positions. Oil-exporters will take in less revenue, and their budgets and external balances will be under pressure” – International Monetary Fund, December 2014.
The world’s oil markets have seen a dramatic plunge in prices over the last two years after a period of relative stability that lasted for nearly four years. Since June 2014, oil prices have dropped from $105 per barrel to below $30 per barrel in June 2016. The current price of $50 per barrel indicates a fall of more than half on the June 2014 price.
The sharp decline has been driven by multiple factors and has a number of major implications for the economies of both oil and non-oil countries, including growth, trade and inflation in the world economy.
Fakhri Al-Fiqi, a former assistant executive director of the International Monetary Fund (IMF) and a professor of economics at Cairo University, told Al-Ahram Weekly that “total inflows of foreign currency into Egypt have declined due to the fall in oil prices. The lack of foreign currency has led to a revaluation of the dollar against the Egyptian pound, and as a result inflation has increased and prices have gone up. All this has affected the living standards of Egyptian citizens.”
However, despite the high inflation rates and price rises in Egypt, the slide in international oil prices has been partly in favour of Egyptians as low oil prices could lead to a decline in the imports of commodities in which petroleum derivatives are used as intermediaries. These commodities include plastics, carpets, petrochemicals and others and there are also implications for lower global transportation costs.
It is thus claimed that oil-importing countries are benefitting from the drop in oil prices. But how far does this apply to the importing countries in the MENA region (Middle East and North Africa) and specifically Egypt? One answer is provided by the IMF, which said in December 2014 that “the fall in oil prices provides an opportunity for many countries to decrease energy subsidies and use the savings towards more targeted transfers.”
FISCAL DEFICITS: According to the IMF’s Regional Economic Outlook for the Middle East and Central Asia published in April, cheap oil prices have helped emerging economies in the MENA region to shift towards less severe drags from fiscal consolidation, enabled governments to reduce fiscal deficits, increased confidence in reforms and improved the business environment.
All this has helped these countries recover from the downsides of security problems and threats of regional risks and conflicts. And the report also said that fiscal deficits had decreased due to increased concentration on fiscal efforts and lower oil prices. The average budget deficit in countries of the region is expected to drop to 6.5 per cent of GDP in 2016 after reaching a peak of 9.5 per cent in 2013.
The IMF numbers also indicate that the growth rate averaged 3.75 per cent in the MENA region in 2015, compared to three per cent in the period from 2011 to 2014. It expects that the growth rate will increase and will reach nearly four per cent on average in 2016 and 2017.
Oil has been a significant factor here, but it is not the only factor that determines growth opportunities in the world’s economies, either for importers or exporters. As a huge oil importer, one might think that the currently plummeting oil prices would be in favour of Egypt. However, analysing the impact of the recent changes in oil prices cannot be addressed using a single dimension. The impact has various dimensions, and the new oil prices have numerous implications for Egypt’s economy on a macro-level.
According to Gamal Al-Qaliyubi, a professor of petroleum and energy, “before the drop in oil prices, the Egyptian government used to spend $1.4 billion per month to cover the country’s consumption of petroleum products. This means annual spending equal to $24 billion. However, the current prices have helped the government to reduce its spending to $790 million per month, keeping the amount of oil consumption constant. Thus, the Egyptian state currently spends between $11 and $13 billion dollars annually,” instead of the $24 billion it used to spend.
Cutting the bills for oil has been positively reflected in Egypt’s general budget, leading to reduced budget deficits and cutting the burden of government subsidies on oil products. According to then 2016 Egypt Economic Report, an official publication, the country’s budget deficit started sloping gradually over the past two years from 13 per cent of GDP in 2013 to 12.2 per cent in 2014, reaching 11.5 per cent in 2015. The Report expects that lower energy subsidies will contribute to narrowing the overall budget deficit to 8.9 per cent in the 2016 fiscal year.
Al-Qaliyubi added that “Egypt consumes about 6.5 million tons of petroleum derivatives from diesel, butane, gasoline, jet fuel (kerosene) and heating oil. It produces 3.7 million tons of petroleum materials and imports the residual 2.3 million tons from outside the country. For this reason, the state is trying to increase the country’s production of oil and natural gas so that our coverage will reach 85 per cent in 2018, instead of the 60 per cent that represents the current coverage.”
“The attainment of this goal depends on five key points. First, intensifying prospecting for and exploiting oil, notably the exploration of the Western Desert and the Gulf of Suez. Second, increasing and restructuring the petroleum refining system. Third, importing oil from abroad at a rate of 100,000 barrels per day. Fourth, setting up strategic petroleum reserves (SPR) in the country to meet consumption for three to six months. Fifth, using Egyptian natural gas at home instead of selling it abroad and exploiting it to use for gas cylinders.”
FOREIGN CURRENCY: In the light of the exchange-rate crisis in Egypt and the devaluation of the Egyptian pound against the dollar due to shortages in foreign currency inflows to the country and the gap between supply and demand, the collapse of world oil prices is considered somewhat beneficial for Egypt.
Falling oil prices lessen the pressures arising from the urgent need for foreign currency to finance oil imports. Reduced oil-import bills mean reduced outflows of foreign currency and less local demand for dollars.
According to Hesham Ibrahim, a professor of finance and investment at Cairo University, “lower oil prices are considered an advantage in terms of less spending in foreign currencies.” The potential upshot could lead to a reduction in the intensity of the devaluation crisis facing the Egyptian pound, which could positively affect the status of the pound against other major currencies.
Moreover, in 2014 Egypt invested $8.2 billion in the national project of the Suez Canal expansion. The new lane of the Canal was seen as a promising project for the economy that would increase revenues to $13.5 billion by 2023 by allowing the passage of more vessels and reducing transit times.
However, the winds do not always blow as ships desire, and in the wake of falling oil prices it has become more costly for ships to sail through the Suez Canal due to high fees. Shipping companies have found it cheaper to travel around the Cape of Good Hope, and skipping the Canal has saved them money since passage through the Canal can cost $350,000, according to shipping firm Maersk.
The reduction in oil prices has enabled shipping companies to find cost-cutting solutions and shift to alternative passages. This imposes a current and future hazard for Suez Canal revenues even after the crisis of low oil prices has passed as cost-cutting solutions are always preferable for the private sector.
“Cheap oil is taking shipping routes back to the 1800s,” said Chris Baraniuk, a commentator, in March 2016. In 2015, the Suez Canal Authority (SCA) said its annual revenues were $5.1756 billion after reaching $5.4653 billion in 2014. The decline in the 2015 figures indicates a slip of 5.3 per cent in revenues when compared to 2014. This decline is linked to the devaluation of international currencies against the dollar, and the oil-price cuts have led to additional revenue reductions.
For Egypt, transfers from expatriates living abroad are also a significant factor in the country’s external accounts and are a key source of foreign currency that is used by the government to stimulate the economy and compensate for the budget gap caused by reductions in tourism revenues.
But “remittances from abroad have been negatively affected by the oil-price reductions as Egyptians working in the Arab oil-exporting countries have become more careful in their financial transfers to Egypt,” Al-Fiqi said. A large number of expatriates working in the Arab oil-exporting countries are threatened by negative impacts, either as a result of downsizing or fewer working opportunities, due to the austerity practices that could be adopted by governments in response to the deterioration in global oil prices.
In the 2015-2016 fiscal year, net private transfers were $16.8 billion versus $19.2 billion in 2014-2015, as a result of the slump in workers’ remittances by 11.7 per cent, according to Central Bank of Egypt (CBE) estimates.
FINANCIAN AID: In order to fill the deepening financial gap, Egypt has been receiving financial assistance and cheap credit from the Gulf countries. But the halving of oil prices threatens a potential shrinkage in the flow of revenues from the Gulf, leading to cuts in such economic aid.
“A 60 per cent reduction in the price of oil has affected the ability of the GCC countries to continue providing Egypt with generous grants,” Al-Fiqi said. Funds coming from the Gulf Cooperation Council (GCC) countries to Egypt went down from $13.7 billion in 2014 to $13.5 billion in 2015, according to the 2016 Egypt Economic Report.
Moreover, since the three consecutive hits to the tourism sector in Egypt, starting with the mistaken killing of Mexican tourists by the armed forces in September 2015, followed by the Russian plane crash at the end of October 2015, and ending with the death of the Italian student Giulio Regeni in January 2016, tourism in Egypt has been greatly reduced.
As a temporary solution to minimise losses, internal tourism has been supported, as well as tourists from the Arab countries. However, the percentage of tourists coming from the Middle East to Egypt is only 14.2 per cent overall, while the percentage from the European countries is 75.6 per cent, according to the CBE’s 2014-2015 Economic Review.
Russian tourists are a key factor in Egypt’s tourism sector. However, the numbers of Russians visiting Egypt have decreased due to a decline in the value of the Russian rouble since 2014. This devaluation was caused by the drop in international oil prices by almost 50 per cent. In 2014, the exchange rate was 34 roubles per dollar. In 2016, the value of the dollar was sometimes in excess of 64 roubles. A continued devaluation in the value of the rouble remains an obstacle in the recovery of Egypt’s tourism sector and threatens the number of potential tourists coming from Russia.
The oil sector in Egypt has also been considered a main attraction for foreign investors, meaning that as oil revenues descend oil-related investment in the Egyptian market also shrinks. Foreign direct investments (FDI) related to oil coming to Egypt declined from $7814.8 million in the 2013-2014 financial year, making up 71.1 per cent of total FDI flows, to $7699.6 million a year later, or 59.6 per cent of total FDI flows to Egypt, according to the CBE.
“Foreign direct investment in the energy sector has been negatively affected by the reduction in oil prices as foreign investors seek profit and high returns. Cheap oil prices make investment in the energy sector less profitable,” Ibrahim told the Weekly.
TRADE DEFICITS: Egyptian imports of oil and its derivatives are greater than oil exports. In fiscal year 2015-2016, the value of Egypt’s petroleum exports registered $5.6743 billion, while the value of Egypt’s petroleum imports were $9.2936 billion. As a result, the Egyptian oil trade deficit was $3.6193 billion, according to the CBE.
The CBE added that the country’s trade deficit was $37.6 billion, due partly to the decline in world oil prices which had a bearing on Egyptian exports and imports.
“Merchandise exports retreated by $3.5 billion to $18.7 billion from $22.2 billion. Such a retreat is traceable to the drop of $3.2 billion in oil exports (crude oil and products) to stand at $5.7 billion in the wake of the fall in world prices of crude oil by 41.3 per cent on average in 2015/2016 relative to the previous year, despite the increase in the quantities exported (Egypt’s exports of crude oil made up 62.7 per cent of its total oil exports and 19.0 per cent of total merchandise exports in the reporting year),” the CBE said.
Moreover, proceeds from non-oil exports rolled back by 2.4 per cent from $13.4 billion to $13.0 billion,” it added for Egypt’s 2015-2016 balance of payments.
According to Al-Fiqi, “the drop in international oil prices has led to a decline in Egypt’s exports from crude oil and petroleum derivatives, gas and diesel. On the other hand, it has had a positive impact on Egypt’s imports from oil products. However, the impact on Egypt’s trade balance is not even. Imports are less responsive to the drop in oil prices than exports. Therefore, the trade balance is slightly affected negatively.”
While the major impact of a change in oil prices falls mostly on the economies of the GCC countries and Russia, considered as supporters of the Egyptian economy, low oil prices have major implications for the Egyptian economy on the macro level. Some of these positively affect the economy, but others have a negative impact. The decline in oil prices also affects almost all sources of foreign currency, meaning that higher oil prices are more favourable for Egypt’s economy than cheap prices.
Al-Fiqi predicts that “the price of oil will range from $50 to $60 per barrel. And prices should start recovering in 2017. This rise in prices will lead to positive implications for the Egyptian economy and restrict the negative consequences.” Ibrahim says that “oil prices will slightly rise or fall, but eventually they will remain around $50 per barrel.”
Concerning the government’s plans for the energy sector, Al-Qaliyubi commented that it had “adopted a plan that started in 2015 and will last until 2020 to be achieved within five years. This plan involves allocations of $80 billion for petroleum investments and $65 billion for prospecting for natural gas and crude oil. There is also $8 billion earmarked for restructuring the petroleum refineries system, in order to give the country the capabilities needed by 2030 when the country will be counting on domestic production for 95 per cent of its fuel.”
“In 2017-2018, Egypt is expected to rely on fuel produced domestically, to cover all domestic consumption in 2018-2019. The government want to focus on the value added by the petrochemical industry, estimated at $3 billion for the development of infrastructure and petrochemical plants for the production and sale of Egyptian gas. It wants to develop the natural gas system such that this is available to all domestic dwellings, one of the strategic goals for the coming period being to eliminate gas cylinders by 2018.”
“In order to achieve these goals, $1.7 billion has been set aside to build natural gas pipelines to Upper Egypt, as well as remote areas of Lower Egypt. Some remote areas are excluded in Marsa Matrouh, the New Valley, and northern Sinai,” he said.
As the IMF stated in 2014, “no two countries will experience the drop in oil prices in the same way,” and as a result it cannot be said that Egypt or any other oil-importing country will benefit from lower oil prices without addressing the repercussions of these on the wider economy. It is not agreed who gains and who loses. But undoubtedly no country will benefit from oil-price instability, supply insecurity, market uncertainty, and natural resource unsustainability threats.
Regarding the best price for oil, for the GCC countries this means meeting five criteria: Rewarding revenues from a depleting national resource; stable financial revenues; the continuation of future oil demand; political and social stability in the oil-producing and consuming countries; and oil as one of the energy sources needed to meet the growing demand for energy in the future.