The Political Economy of Reforms in Egypt. Khalid Ikram
A little more elaboration of the central message might be helpful. Thus, sixth, the essential messages of the book would be on the following lines.
1. During the past two hundred years, Egypt’s policymakers have been confronted with challenges of which a surprising number have proved enduring and continue to resonate today. Some of these challenges have been dictated by nature, such as the relative fixity of the arable land and the declining per capita availability of water. Some are a combination of nature and human agency, such as the inexorable growth of the population. But many represent inadequate policy attention, such as the failure to strengthen institutions that would support the rule of law, boost competition in the economy, and mobilize more resources for development and thereby avoid the political and economic vulnerabilities associated with external indebtedness. The recurrent political-economy message from Egypt’s experience is that concerns about regime survival trumped considerations of economic vulnerability in policymakers’ calculations, and that economic reforms tended to be adopted only when a crisis had extinguished all other options.
2. If one were asked to sum up in a few words the reasons for Egypt’s failure to perform to its economic potential, one could do worse than to say that its roots lay in the fragile political legitimacy of successive regimes, who sought salvation by continually increasing public consumption expenditures—between 1965 and 2016, real public consumption expenditures increased at an average rate of about 4.4 percent a year, well ahead of the population growth rate. The survival strategy also required regimes to minimize resource mobilization from domestic sources. This meant that taxes, and in particular the personal income tax, could be touched only very gingerly. The ratio of tax revenue to GDP in 1952 was estimated at 14.8 percent (el-Edel, 1982, 140) and at 14.4 percent in 1965 (World Bank, 1977), rising to a peak of 26 percent in 1982, and declining thereafter to about 16 percent in 2016; over the period as a whole the tax ratio averaged about 16.2 percent. About two-thirds of the total tax revenue during 1965–2016 was provided by indirect taxes—on production, consumption, imports, stamp duty, and so on; another 30 percent on business profits; personal income tax provided only about 7 percent of total tax revenue. The reluctance to tap domestic resources for revenues in turn compelled rulers to rely unduly on external economic rents and exogenous resources, and heightened Egypt’s vulnerability to foreign pressures.
There is a close convergence between the explanations offered by many writers for the political-economy behavior of successive Egyptian regimes. The reasons provided by, for example, Baker (1978, 167–68), Cooper (1979, 482–84), Roy (1980, 3–9), McDermott (1988), Springborg (1989), Waterbury (1983, 1985), Hansen (1991, 116–17, and 250–54). Wahba (1994), Marcou (2008), Soliman (2011), Kandil (2012), and others essentially boil down to the following paraphrase.
Egyptian regimes have felt exceptionally vulnerable because they lacked the legitimacy of a democratic election. The basic political-economy element in their survival strategy was to placate the population by offering an abundance of consumer and other subsidies (at times even cigarettes and halawa [a dessert] were subsidized); free education and health care; guaranteed employment; controlled rents for housing; redistribution of landholdings; regular increases in bonuses, industrial wages, and government salaries; ceilings on interest rates, and so on. The regimes also could not risk antagonizing the population by increasing taxes; hence they mobilized much of their resources from economic rents, whose burden for the most part fell on foreigners. The strategy for regime survival tended to be short-termist: a continual search for band-aids, most of which were to be provided by foreigners, especially in the shape of external assistance and debt forgiveness or restructuring. The Churchillian mantra of offering one’s own “blood, sweat, toil, and tears” never caught fire among the regimes’ leaders.
The political-economy strategy was threatened by two factors. First, the rapidly growing population and its continuing expectations of subsidized items required a constant expansion of public consumption expenditure. Second, Egypt’s foreign policy initiatives, especially from 1952 to 1974, carried very substantial costs. Egypt had projected itself as the leader of the Arabs; a leader of the Muslim world; a leader of Africa; a leader of the “nonaligned” group of countries; champion of Palestinian rights; supporter of Algerian resistance to French rule; a bulwark of the Third World against the West. It had been involved in wars with Israel in 1948, 1956, 1967, and 1973, plus a “war of attrition” (March 1969 to August 1970) and a war in Yemen against Saudi Arabia from 1962 to 1967, and in hostilities against Libya in 1977. All these severely depleted Egypt’s economic, financial, and human capital. The cumulative effect of these factors came to a head in the early 1970s.
The growing demands of the different constituencies could be met only by a continuous enlargement of the economic cake, that is, a sustained increase in the GDP. But the country’s political-economic strategy contained two fundamental contradictions that caused it to founder. One, the rising consumption demands worked against the imperative of increasing domestic savings to pay for the investment that would propel GDP growth. This meant that Egypt had to look to external sources to finance the gap between investment and domestic savings. But, two, the anti-West stance adopted by Egypt until 1974 depleted Egypt’s political capital in the world’s biggest sources of finance and modern technology, and drastically restricted the country’s access to these resources, especially those available on concessional terms.
In sum, Egypt’s failure to perform to its economic potential resulted chiefly from internal political pressures to maintain increases in public consumption while not mobilizing sufficient revenues from domestic sources and, especially until 1974, foreign policy overstretch. Major economic reforms tended to be introduced only in the wake of a military or economic crisis that eliminated all other options.
Egypt was trapped in a “trilemma,” or a political version of the “impossible trinity.” The original version of the “impossible trinity” was formulated by Robert Mundell and concerns the pursuit of incompatible economic objectives. Mundell (1963) showed that it was impossible to simultaneously adopt an independent monetary policy, a fixed exchange rate, and free capital movements; policymakers could successfully pursue only two of these aims. The political version would say that Egypt’s policymakers could simultaneously pursue only two of a policy of rapid GDP growth, prioritizing consumption over savings, and an anti-West political stance.
The political-economy strategy had become unsustainable. The continual enlargement of the cake required resources much in excess of what Egyptian regimes were willing to extract internally plus what foreigners were prepared to provide. Economic growth would be unable to meet the demands of the political-economy strategy, and this could jeopardize the survival of the regime. At least one element of the trinity would have to be abandoned.
The anti-West foreign policy was jettisoned in 1974. The financial rewards that the change procured enabled the regime to maintain the economic elements of the former strategy. The surge in the “Big Five” (Suez Canal dues, oil exports, tourism earnings, workers’ remittances, and foreign aid) resulting from the greater political stability in the region, the return to Egypt of oil-producing facilities after the Arab–Israel war of 1973, the reopening of the Suez Canal, and the major inflow of Western economic assistance expanded the economic cake and made it possible to afford the subsidies and other benefits that formed the heart of the political-economy strategy.
But the increasing population and the policy of large-scale subsidization meant that consumption demands kept rising, necessitating more imports and also cutting into the exportable surplus of many commodities, especially oil. Moreover, the “kindness of strangers” has limits, and it was not possible for foreign aid to keep increasing. Indeed, between 1980 and 2015, annual economic assistance from the United States (Egypt’s largest consistent donor) fell from $815 million to $250 million (and to even less in terms of purchasing power). See Sharp (2010).
Egypt had not taken advantage of the good years to adequately step up the investment rate, to strengthen the performance of key institutions, and to improve the productivity with which it used inputs. Policies will have to facilitate the structural transformation of the economy, that is, moving inputs from low-productivity sectors to those of higher productivity. The fifty-year period 1965–2016 saw only a slow transformation of the economy.