Back Matter

Back Matter

Author(s):
Carlo Sdralevich, Randa Sab, Younes Zouhar, and Giorgia Albertin
Published Date:
July 2014
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    Annex 1. Synopsis of Subsidy Reform Case Studies1
    A. Fuel Subsidy Reforms
    EpisodeReform TriggersTime and Scope of the ReformCommunication and Mitigating MeasuresRole of IMF and Other PartnersOutcomes
    Bolivia 2010The increase of fuel prices was considered necessary to curb smuggling, promote investment in the oil industry, and strengthen the finances of the central government.The price increase was announced by the vice-president on December 26, 2010, while President Morales was out of the country. Prices were increased immediately for regular gasoline by 73 percent, for super gasoline by 57 percent, and for diesel by 83 percent.The authorities explained the rationale for the increase in prices, but only after they were adopted. After the increase in prices, compensatory measures were announced (increases in the minimum wage and wages for state employees) in an attempt to tame the adverse popular reaction.The reform was designed by the authorities. IMF technical assistance had been provided on distributional effects of subsidies on hydrocarbon products (in 2005 and 2009).The price increases were cancelled five days after their announcement, following a countrywide strike and violent protests. The wage increases were also cancelled.
    Brazil 1990s–2001The subsidy reform was part of a broader effort to liberalize the energy market with the objective of introducing competition and improving efficiency. The removal of subsidies would also increase budget revenues and promote conservation.The adjustment of prices was gradual, beginning in 1991 with petroleum products used by few consumers (asphalt, lubricants) and moving progressively to widely used products (gasoline, diesel, fuel oil, LPG). In general, the first products to lose subsidies were those used by politically weak interest groups, while the more politically difficult subsidies (liquid fuels for transport and manufacturing) were removed later.The government followed a gradual approach for subsidy reform. To build public support, the authorities argued that privatization and liberalization in the energy sector would lower fuel prices and improve energy services.

    Fuel subsidies to thermal power plants in Amazonia were kept for 10 years until 2012. In 2001, the government introduced a new tax on the importation and marketing of petroleum products used to fund targeted subsidies, environmental protection projects, and construction of roads. The government introduced targeted programs (the gas voucher in 2002 and Bolsa Escola in 2001), which in 2003, were integrated into the Bolsa Familia cash transfer program.
    The subsidy reform was a government-led initiative but there was also an IMF-supported program with conditionality on energy subsidy reform during the reform episode.Although officially oil prices are determined by Petrobras, a state-owned oil company, in practice the government has used them as a tool to control inflation. The government reduced taxes on gasoline and diesel in 2004 and removed the taxes on LPG and fuel oil to keep petroleum prices constant for final consumers.
    Ghana 2001Delays in adjusting petroleum prices during 2000 led to large accumulated losses for the state-owned public energy company, TOR, which reached 7 percent of GDP.In 2001, a 91 percent adjustment of petroleum pump prices was driven in part by the desire to restore TOR’s financial health.No particular public communication strategy was implemented.

    The minimum wage was increased by about 18 percent in real terms in April 2001.
    Ghana had an ECF arrangement during 1999–2002 but the program did not have fuel price–related conditionality.The reform was soon abandoned, however, in the face of rising world prices and a depreciating currency. TOR’s losses were largely absorbed by the state-owned Ghana Commercial Bank, whose solvency was threatened.
    Ghana 2003In early 2003, the financial position of both TOR and Ghana Commercial Bank became unsustainable.The government renewed its commitment to cost-recovery pricing with a 90 percent increase in pump prices.No particular public communication strategy was implemented.

    No specific mitigating measures were introduced in the context of the fuel subsidies reform.
    Ghana had an ECF arrangement during 2003–06. The program included the implementation of the pricing mechanism as a structural performance criterion.Facing widespread opposition to the price increase, the government partially reversed the price increase in the run-up to the 2004 elections, and it abandoned cost-recovery adjustments until 2005.
    Ghana 2005In 2004, the subsidies to TOR reached 2.2 percent of GDP, and the company continued to borrow from Ghana Commercial Bank to finance its operations.In February 2005, the government increased petroleum prices by 50 percent on average, including gasoline and kerosene. In parallel, it introduced a price-adjustment mechanism, which is reviewed twice a month, and established an independent authority, the National Petroleum Authority, to administer it.The deregulation of petroleum product pricing in 2005 was accompanied by strategic measures meant to ensure broad popular support for the reform. The strategy was supported by research, communication, and programs to mitigate the impact on the most vulnerable groups.

    The government introduced a number of programs aimed at mitigating the effect on the most vulnerable, including the elimination of fees for state-run primary and secondary schools, an increase in public-transport buses, a price ceiling on public-transport fares, more funding for health care in poor areas, an increase in the minimum wage, and investment in electrification in rural areas.
    Ghana had a PRGF arrangement during 2003–06. The program included the implementation of the pricing mechanism as a structural performance criterion. The IMF provided technical assistance to help assess the impact of fuel price adjustments on poor and vulnerable households.In the wake of the 2007–08 global fuel and food crisis and the run-up to the 2008 elections, the automatic price adjustment was temporarily suspended. Prices were adjusted twice in 2011, by 30 percent in January and 15 percent in December. Prices were not adjusted in 2012, with the exception of a small downward adjustment early in the year. A 20 percent increase in February 2013 and subsequent gradual adjustments on the basis of a biweekly assessment have kept prices broadly in line with cost-recovery levels.
    Indonesia 1998The 1998 reform was triggered by the Asian financial crisis.Instead of the gradual phase-out strategy that was originally envisioned, the government announced increases in the prices of kerosene by 25 percent, of diesel fuel by 60 percent, and of gasoline by 71 percent in 1998.There was little reform-related communication initially. The government stepped up communication efforts in the course of the reform, but did not articulate a comprehensive communication strategy.

    The reform was accompanied by programs to protect the poor. Subsidies were created for rice, spending was increased on health, education, and social welfare, and support for small business was increased by providing low-interest loans. However, many of the announced compensation programs did not materialize for the reform between 2002 and 2003.
    Indonesia had IMF programs in 1997–98 (SBA), 1998–2000, and 2000–03 (both EFF). There was conditionality on energy subsidy reform in the program.A number of price increases were implemented between 2000 and 2003 with mixed success, and were then rolled back.
    Indonesia 2005Fiscal pressure and a negative current account balance were the main causes of the 2005 reform as Indonesia became a net oil importer in 2004.The government undertook two large fuel price increases in 2005. As a result, the price of diesel fuel doubled and that of kerosene nearly tripled. In 2008, with international fuel prices at their peak, petroleum product subsidies reached 2.8 percent of GDP. Fuel prices were raised by 29 percent, on average, and were later reduced as international prices started to fall, though remaining above their preincrease levels. The government also ceased paying subsidies to larger industrial electricity consumers.There had been considerable discussion among domestic stakeholders of subsidy reform during the tenure of the previous government, plus a commitment to eliminate fossil fuel subsidies as a G-20 member. The need for reform was explained and communicated.

    Mitigating measures were introduced, including unconditional monthly cash transfer payments targeted at poor households, health insurance for the poor, school operational assistance, and expanded rural infrastructure support. Indonesia also initiated a program to phase out the use of kerosene in favor of LPG in 2007.
    Technical assistance from other development partners supported the poverty survey needed to prepare the cash transfer program.Protests again took place in opposition to the reform, but with less intensity than in 1998 and 2003. In 2011, fuel subsidies were around 2.2 percent of GDP.
    Iran 2010The reform was motivated by the authorities’ broader structural reform agenda to foster growth and job creation.Despite an initial sharp increase, gradual adjustment in prices was a key design feature of the reforms, which planned to increase domestic prices over a five-year period to 90 percent of international prices. In the first phase of the reform, the prices of all major petroleum products and natural gas, as well as electricity, water, and bread, were substantially increased.The reform was preceded by an extensive public relations campaign to educate the population on the growing costs of low energy prices and on the benefits expected from the reform.

    About 80 percent of the revenue from price increases was to be redistributed to households as bimonthly cash transfers. The remaining balance of the revenue from price increases was to provide support for enterprise restructuring, with a view to reducing their energy intensity. Multitier tariffs on electricity, natural gas, and water were used to moderate the impact of the price increases on small users, mostly the poor.
    The IMF provided advice on macroeconomic policies and certain reform design aspects in the context of staff visits.Despite a good start at the end of 2010, the implementation of the second phase of the reform program was postponed in late 2012 due to concerns over its financing and the deteriorating macroeconomic situation.
    Jordan 2005Jordan had been subsidizing petroleum products for many years, but the fuel bill in the budget rose sharply to 5.9 percent of GDP in 2005 following the loss in 2003 of low-cost oil supplies from Iraq.In 2005, the government implemented a series of price increases by up to 68 percent to limit the budgetary impact.The authorities announced a plan to eliminate fuel subsidies by 2007, to be followed by the introduction of an automatic formula-based fuel price adjustment mechanism. During the reform, the minimum wage was increased and cash transfers were given to low-income households. The government also increased funding to the National Aid Fund, which provides cash transfers to the poor.The IMF provided technical assistance on the distributional effects of eliminating petroleum subsidies in 2005 and 2011. The National Aid Fund was also supported by the World Bank.By 2008, fuel prices were tracking international prices via a monthly automatic pricing regime with full pass-through of international prices to domestic fuel prices. Following rising international oil prices, regional unrest, and social pressures, pass-through under the fuel pricing mechanism ceased in January 2011.

    In November 2012, fuel subsidies were eliminated and in January 2013, the monthly fuel price adjustment mechanism was resumed.
    Mauritania 2008The reform was motivated by a fiscal expansion after the oil discovery in 2005 and spikes in international fuel and food prices.In late June 2008, the government increased the prices of petroleum products by 17.5–20 percent.No particular public communication strategy was implemented.

    No specific mitigating measures were introduced in the context of this fuel subsidy reform episode.
    Mauritania had a PRGF arrangement during 2006–09. The program did not have fuel price–related conditionality.The one-off price adjustment triggered protests, which contributed to a climate of political instability that culminated in a military coup in August 2008. The increase was reversed in November 2008.
    Mauritania 2011The reform was motivated by the large increases in international fuel and food prices in 2011, which led to further fiscal pressures.The government introduced in May 2012 a new diesel price formula, following a simplified cost structure. Despite substantial increases in international fuel prices, the rigorous application of the new simplified automatic fuel price formula on a biweekly basis helped bring domestic fuel prices up to international levels by June 2012.No particular public communication strategy was implemented.

    In 2011, the Mauritanian authorities introduced emergency relief measures to mitigate the impact on the poor of higher international fuel prices and a drought.
    Mauritania had an ECF arrangement with the IMF from March 15, 2010–June 25, 2013. Technical assistance was provided to conduct poverty and social impact analysis.By and large, international prices were followed domestically, and the government has consistently been able to maintain prices at international levels.
    Nigeria 2012The rationale for subsidy removal was that (1) fixed prices led to a huge, unsustainable subsidy burden, (2) fuel subsidies mostly benefitted the rich, (3) weak subsidy administration led to leakages, (4) subsidy costs diverted resources away from investment in critical infrastructure, (5) subsidies discouraged competition and stifled private investment in downstream petroleum, and (6) the huge price disparity encouraged smuggling to neighboring countries.On January 1, 2012, the price of gasoline was raised to a cost recovery level—a 117 percent increase. The price of kerosene, a cooking fuel used mainly by poorer households, was not changed.The main plank in the government’s campaign for the subsidy removal was the Subsidy Reinvestment and Empowerment Program. It summarized the government’s case for subsidy removal, spelled out how much the federal government and states and local governments stood to gain from the subsidy removal, and announced how the federal government would spend the money saved.

    The Subsidy Reinvestment and Empowerment program outlined a variety of social safety net programs to mitigate the impact of the subsidy removal on the poor segment of the population. These included urban mass transit, maternal and child health services, public works, and vocational training.
    Nigeria did not have an IMF arrangement at the time of the reform. Fuel subsidy reduction was discussed in the context of the 2011 Article IV Consultations.The price increase came as a surprise and set off widespread protests across the country. On January 15, the price increase was partly reversed but it would still represent a 40 percent increase over its end-2011 level.
    Poland 1996Poland sought to harmonize its VAT regime to the European Union ahead of its accession. This required bringing the reduced VAT rate of 7 percent on energy products, introduced at the time of the VAT launch in 1993, to the basic rate of 22 percent. In addition, the reduced VAT rate on energy products implied foregone fiscal revenues.The reform was started in 1996 and involved increasing the VAT rate on energy products in three stages.No particular public communication strategy was implemented.

    The National Housing Fund provided credit at low interest rates to finance the modernization of heating sources.
    Poland had an SBA with the IMF at the time of the reform. While the SBA was formally expiring in March 1996, it was fully repaid in 1995 and the program did not have conditionality on energy prices.The VAT rate on energy products was increased to 12 percent in 1996, to 17 percent in 1997, and to 22 percent in 1998. The rate was maintained thereafter.
    Senegal 1998The government had introduced LPG subsidies in 1987 to provide incentives to consumers to substitute the use of charcoal with LPG and thus reduce deforestation. But by the mid-1990s, the budgetary costs of the LPG subsidy had increased significantly, reaching 0.5 percent of GDP in 1997.A gradual reform of LPG subsidies was begun in 1998. The reform aimed at phasing out LPG subsidies by 2002 through annual price increases of 20 percent.No particular public communication strategy was implemented.

    No specific mitigating measures were introduced in the context of the LPG subsidy reform.
    Senegal had a PRGF arrangement with the IMF from 1998–2002. The program did not include fuel price–related conditionality.The reform broadly achieved its objectives. LPG prices were gradually increased by 20 percent annually during 1998-2001. However, plans to completely phase out subsidies were put on hold in 2002, and the last planned 20 percent price increase was not implemented. Overall, the LPG subsidy reform removed about 80 percent of the subsidies.
    Syria 2008Subsidy reform was part of a broader push for gradual but wide-ranging economic reforms. These reforms were motivated by the decline in oil production, high world energy prices, and the transition from a centrally controlled to a social market economy.Diesel prices were increased to a level that eliminated about 55 percent of the gap between domestic and international prices in 2008. Historically, diesel accounted for about two-thirds of total energy subsidies. The reform produced savings of about 7 percent of GDP in implicit subsidies in 2008, with compensatory measures amounting to about 4.5 percent of GDP.The authorities publicly committed to fuel subsidy reform prior to the recent uprising. They announced plans to dismantle Syria’s remaining energy subsidies and allow prices to gradually rise to market levels in the context of the 11th five-year plan (2011–15).

    Public wages were increased by 25 percent in 2008. The authorities also issued diesel coupons, allowing the purchase of 1,000 liters per household at a subsidized price of SP 9 per liter in 2008. These coupons were replaced in 2009 by targeted cash transfers of SP 10,000.
    The IMF provided advice on reforming petroleum price subsidies in a Selected Issues Paper in the context of the 2006 Article IV Consultation. The World Bank provided technical assistance on fuel subsidies in 2007 and an update in 2008. However, the authorities only partially adopted these recommendations.Due to political turmoil and civil unrest, reforms were halted or partially reversed in early 2011; however, according to press reports, after international sanctions were imposed in the spring of 2011 and government revenues faltered, the government dismantled the country’s social safety net and raised fuel (and food) prices to cut back on subsidies.
    Yemen 1995After the end of the civil war, the government launched a financial adjustment and structural reform program in early 1995 in the context of an IMF-supported SBA. Yemen’s main goal in subsidy reform has been to improve its fiscal position, while paying due attention to social considerations.In 1995–96, the government implemented more price increases, which affected four products; gasoline increased by 80 percent, diesel by 100 percent, kerosene by 189 percent; and LPG increased in two steps (first by 123 percent and then by 85 percent). However, prices in dollar terms remained well below their 1994 levels. During 2000-04, the government increased the price of diesel again by 30 percent in two consecutive years. Still, in dollar terms it remained below its level of a decade earlier.No specific communication strategy was implemented.

    The Social Welfare Fund was established in 1996 and started providing conditional cash transfers to the poor.

    Other mitigating measures included conversion to less expensive fuels. For example, the government promoted the conversion from kerosene to LPG for residential use starting in the early 2000s.
    An SBA arrangement with the IMF was in place and envisaged a ceiling on subsidy spending. The Social Welfare Fund was partly financed with donor resources.Throughout the 1994-2004 period, the depreciation of the currency wiped out all the gains from domestic price increases. Spending on fuel subsidies remained around 5 percent of GDP in 2000 compared to 6.1 percent in 1995, reflecting higher global oil prices.
    Yemen 2005Fiscal pressures from subsidies became unsustainable, with spending on fuel subsidies reaching 8.7 percent of GDP in 2005.This reform aimed at gradually adjusting domestic prices over the medium term. In July 2005, domestic prices increased by 130 percent on average. This led to violent protests, and the government had to partially reverse it. However, the net price adjustment remained substantial at 71 percent for gasoline, 106 percent for diesel, 119 percent for kerosene, and 7 percent for LPG. There was no increase in the price of mazot.The government acknowledged the need for reform in its third development plan for poverty reduction (2005–10) but did not undertake a public information campaign.

    The Social Welfare Fund continued to be used to provide cash transfers to the poor, but in the 2005 subsidy reform episode, it took three years to approve a social protection law allowing for more streamlined application for benefits and increase monthly transfers.
    This reform was based on a World Bank study and IMF policy advice.The initial relative success of the fuel price adjustments was cancelled by the spike in commodity prices in later years. Thus, the subsidy bill remained high, at almost 9 percent of GDP in 2005.
    Yemen 2010The objective of this reform episode was to reduce fiscal pressures, following the record-high fiscal deficit of 10 percent of GDP in 2009.In 2010, the prices of gasoline, diesel, and kerosene were gradually increased by about 30 percent on average, and the price of LPG was doubled over a period of nine months. The government also introduced some efficiency-promoting measures, such as replacing diesel-fueled power generators with gas-fueled ones. In late 2010, Yemen started to differentiate diesel prices by charging higher prices to commercial users. In 2011/12, because of fiscal pressures, the government increased the price of gasoline by 66 percent and doubled the prices of diesel and kerosene.The public information campaign component of the strategy was not adopted. Instead, the government implemented small, surprise increases.

    The 2010 reform was almost simultaneously mitigated by a 50 percent expansion of the coverage of the cash transfer scheme. Coverage of the Social Welfare Fund was expanded to 500,000 additional families. Other mitigating measures included conversion to less expensive fuels. In 2010, the diesel-fueled electricity plants were converted to natural gas.
    This was a part of the reforms supported by an IMF ECF arrangement. The reform strategy was based on technical assistance from the World Bank, which drew lessons from the experience of the previous reforms.Subsidies declined from 8.2 percent of GDP in 2010 to 7.4 percent in 2011.
    B. Food Subsidy Reforms
    EpisodeReform TriggersTime and Scope of the ReformCommunication and Mitigating MeasuresRole of IMF and Other PartnersOutcomes
    Iran 2010By 2008, the domestic prices of wheat flour were out of line with international prices (the price was less than 1 cent per kg in Iran).In 2010, Iran moved the wheat flour price closer to international levels, which required an increase from less than 1 cent per kg to 28 cents, as part of a comprehensive package of energy and food subsidy reform.The government launched a comprehensive consensus-building process involving all key stakeholders (government, parliament, academia, business, etc.). The president, parliament, and government interacted extensively with the public for nearly 18 months from the start of the reform.

    Generalized cash transfers were put in place in the context of the reform of fuel and food prices. These transfers were eventually received by 95 percent of the population.
    The IMF provided advice on macroeconomic policies and certain reform design aspects, during staff visits.Domestic prices are moving toward international prices. Flour consumption declined by 10 percent from 2009 to 2011, and smuggling to neighboring countries stopped.
    Jordan 1990–96Fiscal pressures had become unsustainable, with spending on food subsidies (wheat, rice, milk, sugar, and barley) reaching 3 percent of GDP by 1990.In the first phase in 1990, rationing of sugar, rice, and powdered milk was introduced. In the second phase, subsidies were gradually reduced through a number of upward adjustments in administered prices and eliminated by 1997.In the first phase of the reform (1990), not much outreach with the public took place. In a second phase (1996), parliament approved a budget that put a cap on food subsidy costs.

    The government compensated the poor with cash transfers through the National Aid Fund established in 1993.
    The IMF provided advice in the context of SBA (1990) and EFF (1996) arrangements, which included conditionality on subsidy reform.By 1997, Jordan had implemented all aspects of the wide-ranging subsidy reform program resulting in net gains of 3 percent of GDP. However, food subsidies were reintroduced in 2005 to mitigate the impact of fuel subsidy reforms implemented over the same period.
    Mexico 1990–1999In the mid-1980s, Mexico embarked on a broad set of market-oriented reforms. These included replacing guaranteed prices for certain crops (corn, beans, rice, wheat, barley, sorghum, soybean, cotton seed, sunflower, copra, and sesame) and establishing a more targeted food subsidy program. Guaranteed prices were eliminated for all crops (except corn and beans) in 1990.Mexico controlled the price of a number of basic food products, while subsidizing some of the fundamental inputs used in their production. The most important of these general food subsidies was the one for tortillas (the focus of this analysis), which entailed subsidizing maize prices to mills while controlling the retail price for the processed goods (tortillas, maize flour, and dough). There were also targeted subsidies, usually through special stores (Conasupo) and ration cards (e.g., for milk). Subsidies on tortillas were eliminated and price controls were lifted on January 1, 1999.The authorities showed strong commitment by taking ownership of policy measures outlined in a World Bank program. However, no information is available on whether there was a specific public communication campaign. In parallel with the reduction of general food subsidies, the government introduced targeted ones. In 1990, vouchers were distributed to urban consumers who used them to buy tortillas at below-market prices (tortibonos). This program was replaced in 1991 by a targeted subsidy on tortillas. The targeted subsidy was later phased out and integrated into the conditional cash transfer program Progma.This reform was undertaken in the context of two World Bank agricultural adjustment loans (1988–90 and 1991–93).After a sharp increase in tortilla prices following the lifting of price controls, the Commerce Ministry and tortilla producers reached an agreement at the beginning of 1999 to discourage price gouging by setting a ceiling for the next three months. Moreover, after a rapid spike in tortilla prices in late 2006 and early 2007, the government established a voluntary “price pact,” where retailers agreed to cap tortilla and corn flour prices, and the pact has been renewed at least twice.
    Morocco 1999The cost of food subsidies had become too high, representing 1.6 percent of GDP in 1999.In 1999, the government implemented a food subsidy reform that eliminated sugar subsidies for processing industries (mainly food and beverage industries) and started liberalizing cooking oil prices. At the same time, import tariffs on these products were significantly reduced.No particular public communication strategy was implemented.

    The government set up a social development agency in 1999 and introduced a targeted compensatory scheme for poor households. It also provided assistance to small farmers affected by the removal of customs protections.
    The World Bank provided technical assistance in assessing the effects of the subsidy reform and helped with its design.The budget cost of food subsidies was brought down from 1.8 percent of GDP in the early 1990s to 0.8 percent in early 2000.
    Tunisia 1983The budgetary costs of the generalized food subsidy program had become too high, at about 3 percent of GDP in 1983, and there were significant leakages of benefits to the nonpoor.At end-December 1983, the government doubled prices of cereals and cereal products, including bread, semolina, pasta, and couscous.The price hikes were announced to the public only 24 hours in advance. Consumers were taken by surprise. Minimum wages were increased by 1.5 dinars (US$2.20) per month per person.There was no involvement.The food subsidy reform was abandoned after only a month in January 1984, following widespread riots and protests.
    Tunisia 1991The budgetary cost of the generalized food subsidies program had increased since the 1980s, reaching about 4 percent of GDP in 1990. In addition, several studies had pointed out that the distributional incidence of the food subsidies system was regressive.During 1991–93, the Tunisian government implemented a gradual reform of the food subsidy system, moving from a generalized to a self-targeted system. Subsidies were shifted to products consumed mostly by the poor (according to the 1990 Household Expenditure Survey), such as lower-quality bread, generic edible oil, and powdered milk. Subsidies on food products mostly consumed by the rich were eliminated.The government built a general consensus in favor of the reform through an awareness campaign and well-timed announcements of food price adjustments. In addition, the press provided wide coverage on the weight of food subsidies system on the budget expenditures. Construction workers’ salaries and the minimum wage were increased. In addition, social safety nets were strengthened: (1) cash transfers provided to needy families were increased and a larger number of families was covered, and (2) school feeding programs were expanded.The food subsidy reform was undertaken in the context of an EFF arrangement. However, the program did not include food price conditionality. The World Bank provided technical support for the design and implementation of the reform.As a result of the reforms, the targeting of the food subsidy program improved and fiscal costs declined.
    Yemen 1996After the end of the civil war in late 1994, the government launched a financial adjustment and structural reform program in early 1995 in the context of an IMF-supported SBA program.In January 1996, the base prices for wheat and wheat flour were increased by 150 percent. The authorities had a medium-term strategy for phasing out food subsidies over a five-year period.No specific communication strategy toward the public was implemented. The Social Welfare Fund was established in 1996 and started providing cash transfers to the poor, partly with donor-financed resources.An SBA arrangement with the IMF was in place, with an imposed ceiling on subsidy spending. The IMF also provided technical assistance focusing on the wheat subsidy incidence in 1996.Gradual price adjustments took place since January 1996. As of May 1999, there were no remaining subsidies on wheat or flour.
    Note: ECF = Extended Credit Facility; EFF = Extended Fund Facility; LPG = liquid petroleum gas; PRGF = Poverty Reduction and Growth Facility; SBA = Stand-By Arrangement; TOR = Tema Oil Refinery; VAT = value-added tax.
    Annex 2. Subsidies in Selected Middle East and North Africa Countries1,2,3

    Egypt

    Initial conditions: The political transition that started in January 2011 has been difficult and generated high expectations and challenges. The turmoil and political uncertainty associated with the regime change led to a sudden drop in economic activity and exacerbated preexisting vulnerabilities, particularly in the fiscal sector and the balance of payments. The overall budget deficit for 2012/13 reached 13.7 percent of GDP, compared to an original budget target of 8.7 percent of GDP, while the general government’s debt-to-GDP ratio increased to over 80 percent (Figure A2.1). The weak fiscal performance is explained mainly by dwindling tax revenues and lower-than-projected transfers from the public oil company EGPC, as well as higher spending on wages, interest, and subsidies. Egypt is facing an energy crisis as evidenced by recurrent energy outages and declining energy production.

    Figure A2.1.Egypt: Key Macroeconomic Indicators

    Source: IMF, World Economic Outlook database.

    Background: Untargeted price subsidies for basic food commodities and energy products are an important component of social protection in Egypt. Egypt’s system of generalized price subsidies is among the most extensive and generous in the world, with explicit budgetary costs representing 8.7 percent of GDP and 26 percent of total public spending in 2012/13. This cost reflects their generalized provision as well as high international commodity prices.

    • Energy subsidies account for about three-quarters of the total subsidy bill in the budget (6.8 percent of GDP). The true cost of energy subsidies is estimated to be about 50 percent higher, because petroleum products delivered to the public oil company EGPC as part of its production sharing contracts are valued at zero cost.

    • Food subsidies amount to 2 percent of GDP and include a generalized subsidy on baladi bread and rationed quantities of subsidized rice, edible oil, sugar, and tea, potentially available to the almost 80 percent of the population that holds ration cards.

    Subsidies are poorly targeted. For example, according to the 2008–09 survey, the poorest 40 percent of the population receive only 3 percent of the direct gasoline subsidy, 7 percent of natural gas subsidies, and 10 percent of diesel subsidies. Food subsidies are somewhat better targeted than energy subsidies, but the majority of the subsidies still benefit the nonpoor. Nearly 50 percent of the subsidy on baladi bread goes to the top 40 percent of the income distribution. Nearly 68 percent of households hold ration cards, and 80 percent of households consume subsidized bread. Leakages in food subsidies are large: two-thirds of the households in the richest quintile hold a ration card.

    Recent reforms: The Egyptian government has recently taken the first steps toward gradually reducing energy subsidies and replacing them with better-targeted social assistance programs. In 2012–13, prices for 95 octane gasoline increased by 112 percent for high-end vehicles, fuel oil for non–energy-intensive industries by 33 percent, and for energy-intensive industries by 50 percent. In January 2013, electricity prices for households increased by 16 percent on average, while natural gas and fuel oil prices for electricity generation were raised by one-third.

    Reform plans: Restoring medium-term fiscal sustainability requires the gradual phasing-out of generalized price subsidies and the strengthening of social safety nets to protect the poor. The implementation of subsidy reform has yet to gain steam in an unsettled political and social situation. The government has announced its intention to reduce subsidies over the medium term. Discussions have revolved around the following main components:

    • Liquid petroleum gas (LPG): A new distribution system to provide access to subsidized LPG cylinders for eligible households holding ration cards. Consumption beyond these allocations and for commercial use would be charged at the cost recovery price.

    • Gasoline/diesel: Car owners would be issued smart cards to help reduce smuggling.

    • Fuel oil: A gradual increase of prices for energy-intensive industries toward the cost recovery level.

    • Electricity: Gradual adjustment of electricity tariffs toward the cost recovery level, with the magnitude rising with the volume of consumption. The first tariff block—for consumption up to 50 KwH per month—would be excluded from price increases.

    Mitigating measures: The envisaged rationing system will provide protection to low-income consumers, but poor households may still be negatively affected by the indirect cost of the fuel subsidy reform through higher prices of other goods and services that they consume.

    To compensate for this, the government intends to use some of the savings obtained from structural revenue-generating and expenditure-reducing measures, including the fuel subsidy reform, to further expand priority social programs. At the same time, the authorities are considering the introduction of a targeted cash transfer system that would compensate vulnerable households for the increases in energy prices, as part of consolidating and scaling up fragmented social safety nets. Operational steps identified so far (with the assistance of the World Bank) and planned in the short term include finalizing a database on vulnerable households and setting up a committee to oversee the preparation and introduction of the cash transfer programs.

    Impact on the productive sector: The electricity tariff adjustment would increase production costs of sectors for which electricity is an important input. These are mainly the basic metals industry, paper, accommodation, and food services. The increase in the prices of fuel oil and natural gas for the cement and brick industries would increase the production costs, given their significant share in the cost structure.

    Communication and strength of government ownership and commitment to the reform: There has been significant debate on subsidy reform and coverage of it in the press over the past few years. The IMF and the World Bank have provided substantial technical assistance on subsidy reform.

    Challenges: Given the difficult political and social context, implementation of further subsidy reform could be challenging because it is difficult to achieve the needed broad political and social consensus. The magnitude of energy subsidies in Egypt and the social importance of food subsidies for the poor may suggest that subsidy reform can potentially have a wide-ranging impact on the population and businesses. Given their current low levels, energy prices may have to increase significantly over the next few years to reach cost recovery levels, entailing significant adjustments for households and businesses. Hence, the importance of designing well-targeted social safety nets: these would help mitigate the effects of the subsidy reform on the vulnerable segments of the population.

    Jordan

    Initial conditions: Energy subsidies make Jordan highly vulnerable to external shocks. Energy imports increased from 9 percent of GDP in 2003 to 19 percent of GDP in 2011, to a large extent reflecting higher fuel imports for electricity generation (Figure A2.2). The current account deficit deteriorated substantially in 2012 to 18 percent of GDP. Natural gas inflows from Egypt were severely reduced for most of 2012, resulting in expensive fuel imports and the request for an IMF program.

    Figure A2.2.Jordan: Key Macroeconomic Indicators

    Source: IMF, World Economic Outlook database.

    Background: Beginning in 2005, Jordan implemented a gradual phasing-out of fuel price subsidies. By February 2008 all domestic fuel prices (excepting LPG) followed international prices, as Jordan had adopted an automatic fuel pricing mechanism, which instituted full pass-through. Pass-through under the mechanism ceased in January 2011. During August–October 2012, higher oil prices led to a substantial increase in the fuel subsidy.

    Fuel subsidies disproportionately benefited the rich, according to a 2008 household survey. Overall, energy subsidies received by the richest one-fifth (quintile) of households were about 20 percentage points higher than those received by the poorest one-fifth of households. The leakage of subsidy benefits to rich households is most pronounced in the cases of gasoline and diesel; the richest one-fifth of households receives nearly 6½ (12) times more in gasoline (diesel) subsidies than the poorest one-fifth. This leakage of subsidy benefits made fuel price subsidies a particularly inefficient social protection tool. For example, every dinar transferred to the bottom two income quintiles through gasoline subsidies cost the budget five times as much.

    Food subsidies represented 1.1 percent of GDP in 2011 and 0.9 percent of GDP in 2012.

    Electricity prices remain regulated. Prior to 2011, prices were set at a level that ensured cost recovery for electricity. The disruption in gas inflows from Egypt, combined with an increase in commodity prices, resulted in a substantial increase in the costs of electricity production. With electricity tariffs lagging behind, electricity is now heavily subsidized. The cost of the subsidy is borne by the national electricity company (NEPCO) and was 5.2 percent of GDP in 2012.

    Recent reforms: The authorities removed the general fuel subsidy on November 14, 2012. Retail prices were increased for 90 octane gasoline (14 percent), LPG (54 percent), and diesel and kerosene (33 percent). This brought all fuel products back to cost recovery, with the exception of LPG, which retains a small subsidy. The authorities also resumed on January 1, 2013, the monthly price adjustment mechanism that had been suspended in early 2011. Savings from the elimination of the subsidy depend on the oil price. Based on an average oil price of $100 per barrel, the elimination of the subsidy yields gross savings of about 2½ percent of GDP. Savings on a net basis should take into account the spending on compensatory cash transfers and transfers to NEPCO to compensate for the end of subsidization of fuel inputs. In June 2012, electricity tariffs increased for selected sectors (banks, telecommunications, hotels, mining) and large domestic corporations and households. In August 2013 and January 2014, electricity tariffs increased by 7.5–15 percent for selected nonhousehold consumers (and, in January, rich households).

    Reform plans: Future subsidy reform in the context of the Stand-By Arrangement (SBA) will focus on bringing NEPCO back to cost recovery by 2017. This will require a combination of gradual tariff increases and development of new energy sources, particularly liquefied natural gas. The increase in tariffs will be differentiated by consumption brackets, and is expected to affect mostly high-end users, with the poorer households partially or totally shielded from any increases. Most nonhousehold consumers will be expected to pay rates at or above cost recovery.

    Mitigating measures: The government introduced cash transfers to mitigate the social impact of subsidy reform. A cash transfer (estimated at 0.8 percent of GDP in 2013) compensates 630,000 (70 percent of the population) families with an annual income below JD 10,000 ($14,100) if the oil price is above $100 per barrel. The transfer amounts to about $100 per person per year and is capped at a maximum of six family members. The transfer is paid in three installments, the first of which was disbursed in the last few weeks of 2012 in parallel with the increase in fuel prices. The cash transfer is very generous and is estimated by the World Bank to overcompensate for the increase in fuel prices. The government is studying how to limit access through proxy means testing (e.g., through a combination of declared income and personal wealth).

    Communication and strength of government ownership and commitment to the reform: There was an IMF technical assistance on subsidy reform in 2011, and a three-year SBA was signed on August 3, 2012. The government launched an extensive communication campaign before raising fuel prices. This contrasts with the lack of any outreach during the first attempt to raise prices at the pump in September 2012.

    Impact on the productive sector: By removing distortions in electricity pricing, the reform will have an impact on the productive sector, even though this will be limited for manufacturing companies that have already been affected by the June 2012 increase. The impact is estimated to have been stronger for energy-intensive sectors, such as the phosphate industry, but relatively limited for the less energy-intensive light industry, which makes up for the bulk of Jordan’s nonprimary exports. However, these effects must be seen in the perspective of better provision of electricity in Jordan compared to neighboring countries, where the unreliability of the electricity network forces operators to rely on expensive private generators. Furthermore, the electricity subsidy was effectively in place for a limited period after 2010 and had a relatively contained effect in promoting energy-intensive industries compared to the effects in countries with more established subsidy systems.

    To reduce Jordan’s dependence on energy imports, other energy sources are being developed (with varying but significantly lower than present generation costs). The construction of solar and wind farms has been fast-tracked, with two major projects expected to start generation by 2016. Jordan is also exploring the potential for shale oil exploitation, which could provide a cheap source of energy; a facility based on this technology, though, would not become operational before 2017.

    Jordan also seeks to increase energy efficiency, reducing distribution losses and contingency measures. The strategy includes a number of actions—either already implemented or close to adoption—to reduce Jordan’s energy intensity. These include the introduction of low-voltage bulbs, energy efficiency ratings for buildings and appliances, and new building regulations requiring a share of energy use to be self-generated. The electricity regulator will revise the operational framework for distribution companies in order to provide incentives to reduce distribution losses and invest in the low-voltage network. Demand management measures (such as rolling blackouts and selective interruption of service for commercial activities at night) are also considered in the event the planned measures prove insufficient to keep NEPCO losses within IMF program targets.

    Macroeconomic impact of the reform: During the year, higher food and energy prices and public sector wage increases weighed on inflation. Following the liberalization of fuel prices in mid-November 2012, inflation picked up to 6.5 percent at year-end but abated to 3.3 percent by end-2013. Electricity tariffs were not found to have a sizeable impact on inflation.

    Challenges: Achieving cost recovery in the energy sector in a socially acceptable way requires a broad buy-in from key stakeholders, which could be affected by the ongoing political reforms.

    Mauritania

    Initial conditions: Fiscal pressures were the main driver of the energy subsidy reform starting in 2008 (Figure A2.3). Spending increased unsustainably after the discovery of oil reserves in 2005—which later proved very minor—and spikes in international fuel and food prices in 2008 and 2011.

    Figure A2.3.Mauritania: Key Macroeconomic Indicators

    Source: IMF, World Economic Outlook database.

    Background: An attempt at energy subsidy reform took place in 2008, but the increase in fuel prices was ultimately unsuccessful partly because of the lack of mitigating measures and a communication campaign. As a result, the reform contributed to a climate of political instability that culminated in a military coup in August 2008.

    Before 2011, the timing and magnitude of changes in the prices of petroleum products were discretionary and ad hoc. Prices of petroleum products were controlled by the government and set according to a price structure and formula that was, in principle, to be adjusted monthly, whenever changes in international prices or the exchange rate exceeded ±5 percent. In practice, the authorities were reluctant to increase retail prices when international prices were high (e.g., in 2008), thus causing large losses for distribution companies; they were similarly reluctant to allow for domestic price declines when international prices collapsed in 2009, to let petroleum companies make up for past losses.

    The fiscal cost of the food subsidies under the EMEL (the government’s emergency response plan) was about 1.1 percent of GDP in 2012.

    High international energy prices also boosted subsidies to the electricity sector in order to cover losses incurred by SOMELEC, the public electricity company that produces almost all the electricity in Mauritania, mostly using thermal plants. Despite higher fuel prices, the government did not adjust residential and commercial tariffs, which are among the lowest in the region and estimated at more than 30 percent below cost recovery prices.

    The increases in subsidies (diesel, LPG, electricity) that accompanied the rise in international fuel prices benefitted rich households at the expense of the neediest. According to a 2008 household survey, almost 80 percent of all energy subsidies were captured by the richest 40 percent of households, thus widening income inequality.

    Recent reforms: Following the stabilization of the political situation after the coup, subsidy reform, along with wage bill containment, became the cornerstone of the government’s fiscal adjustment strategy, which was supported by the program under the 2010 Extended Credit Facility (ECF). The adjustment strategy was designed to free resources while still allowing for much-needed higher social and infrastructure spending. In May 2012, the government introduced a new diesel price formula, agreed with petroleum distribution companies, following a simplified cost structure. The reform met with relatively limited opposition, despite a price increase of more than 20 percent since January 2011 and the lack of a real public communication strategy. However, unlike the 2008 episode, the introduction of mitigating measures was an explicit component of the energy subsidy reform strategy. The new fuel price structure brought domestic fuel prices in line with international prices in 2012.

    In the context of the ECF, the government also moved to address electricity subsidies. A restructuring plan was laid out with the help of the World Bank and the French Development Agency. The government recapitalized SOMELEC, and clarified its financial relationship with it by (1) paying its electricity bills on time, (2) providing SOMELEC with the required subsidy for its operations at regular intervals throughout the year, and (3) drawing up a plan for the settlement of arrears accumulated through end-2010. Furthermore, the low electricity rates for the services sector were aligned with the rates for medium-voltage electricity, starting at the beginning of 2012. These measures, together with a new credit line from the Islamic Development Bank, enabled the company to significantly limit its recourse to bank borrowing at high interest rates, which had been a drain on its finances in the past.

    Reform plans: Future reform efforts will focus on ensuring that the diesel pricing formula can continue to be applied automatically, even in the face of sharp fluctuations in international prices. The government intends to introduce a cap of 3 percent on any one adjustment. This smoothing approach should avoid excessive domestic retail price volatility, which could undermine political support for the formula. In the electricity sector, the authorities intend to raise tariffs—particularly for large consumers. Based on the outcome of an electricity tariff study, conducted by an international firm and completed in 2013, tariffs should increase on average by 30 percent to recover costs. In addition, the authorities have called on a consulting firm to establish a performance contract between SOMELEC and the government.

    Mitigating measures: Mauritania has relied on emergency food subsidies to help the most vulnerable cope with the 2011–12 drought and rising food prices; however, these subsidies were generally ill-targeted and costly. To strengthen social safety nets, the authorities are transforming the emergency food program into a permanent well-targeted program aimed at reducing the number of households at risk of food insecurity.

    • Emergency measures. In 2011, the Mauritanian authorities introduced emergency relief measures to mitigate the impact on the poor of higher international fuel prices and a drought, which had led to a food emergency. The new package, which at about UM 40 billion (3.4 percent of GDP) was the largest in terms of GDP among the region’s oil importers, comprised mostly reversible measures. A centerpiece of the package was the expansion of the existing scheme of subsidized food shops; the number of these was increased from 1,000 to 1,223, mostly in rural areas.

    • Cash transfers. With the assistance of the World Food Program, in the course of 2012 the government quickly put in place a cash transfer program that targeted 10,000 vulnerable households in Nouakchott. Each household receives UM 15,000 monthly, or $51 (equivalent to half of the legal minimum wage) via a bank transfer, thus also allowing beneficiaries to gain access to financial services. The authorities are now developing a nationwide cash transfer program with the World Bank, to be deployed after the results of the 2014 household survey.

    • Broader social protection. A broader social protection strategy, developed with the UN Children’s Fund, was adopted by the Council of Ministers in early June 2013. It will further strengthen the coverage of the social protection system and better protect the poor and vulnerable. Accordingly, with the assistance of technical and financial partners, the authorities plan to strengthen programs such as free school cafeterias, food-for-work, and support for pregnant women. Moreover, recognizing the adverse effects of drought on food security, they are developing a national food security strategy for the period 2015 to 2030, and an associated national investment program.

    Communication and strength of government ownership and commitment to the reform: Technical assistance on subsidy reform from the IMF in 2011 fed into the policy dialogue. There was an ECF from March 15, 2010, to June 30, 2013. There was no real public communication strategy.

    Impact on the productive sector: The authorities plan to restructure the national electricity and gas companies to improve their management and efficiency, helping limit fiscal risks. A comprehensive strategy to diversify energy generation away from fuel will result in improved electricity supply from 2014 onwards.

    Macroeconomic impact of the reform: Inflation fell to 3.4 percent in December 2012, significantly lower than projected, as the regular increases in retail fuel prices were more than offset by the decline in food prices (food makes up 49 percent of the consumption basket).

    Challenges: It may be difficult to increase electricity tariffs before the upcoming presidential elections planned for June 2014, which will take place in a difficult political environment.

    Morocco

    Initial conditions: The subsidy bill has been a drain on the budget, reaching 6 percent of GDP in 2011 and 6.5 percent in 2012, with fuel subsidies representing the bulk of the subsidy expenditure. As part of their efforts to contain the subsidy bill, the Moroccan authorities increased the administered price of some fuel products in June 2012. However, increases in the wage and subsidy bills (the former reflecting wage increases decided in 2011 as part of a broad social dialogue, and the latter due to higher international commodity prices) led to a widening of the fiscal deficit to 7.4 percent of GDP in 2012, compared to 6.7 percent in 2011 (Figure A2.4). The current account deficit widened from 8.1 percent of GDP in 2011 to 9.7 percent of GDP in 2012, mainly as a result of higher fuel and food imports (the latter because of the drought) and lower tourism receipts and remittances from Europe.

    Figure A2.4.Morocco: Key Macroeconomic Indicators

    Source: IMF, World Economic Outlook database.

    Background: Fuel subsidies are not a cost-effective tool for improving the welfare of the poorest in Morocco.4 Studies based on household data published by Haut-Commissariat au Plan indicate that about 43 percent of total food and fuel subsidies go to the top quintile of the population. By contrast, the poorest quintile receives only 9 percent of all subsidies. The impact on the poverty rate is estimated at zero if subsidies on super or diesel were to be removed, but is nonnegligible if butane subsidies were to be abolished; butane is disproportionally used by the poor.

    Recent reforms: On June 2, 2012, the prices of diesel, gasoline, and fuel oil were increased from 7.15 dirham/liter to 8.15 dirham/liter, 10.18 dirham/liter to 12.18 dirham/liter, 3,678 dirham/ton to 4,666.04 dirham/liter, respectively. In July 2013, the authorities adopted a mechanism to index the domestic prices of fuel, gasoline, and diesel to world prices. This action was combined with a hedging operation for diesel to cap the price increases that might be needed in the first year of implementation. The indexation rule, based on a rolling moving average of the last two months, provides for the automatic adjustment of domestic prices when the difference between implied world prices and actual domestic prices exceeds 2.5 percent. Subsidies on diesel, gasoline, and fuel represented over half of total subsidies in 2012. Additionally, the quota of subsidized wheat was reduced by 6 percent. On September 15, 2013, implementation of a partial indexation mechanism for certain petroleum products was begun. As a result, diesel prices increased by 8.5 percent, gasoline by 4.8 percent, and fuel by 14.2 percent. Starting in January 2014, subsidies on gasoline and industrial fuel were eliminated; their prices are reviewed twice a month. In February 2014, the per-unit subsidy of diesel was reduced, with additional quarterly reductions announced for the remainder of 2014. The 2014 budget also includes a reduction by 0.2 percent of GDP of food subsidies.

    Reform plans: In accordance with the objective of reducing untargeted subsidies to 3 percent of GDP by 2016, the 2014 budget seeks to reduce this budgetary envelope to 3.7 percent of GDP, through the full-year impact of the price indexation system and the new measures introduced at the beginning of the year.

    Mitigating measures: The government is gradually strengthening the social safety net and its targeting to vulnerable groups. Along with the continuous improvement of actions taken in the context of the National Initiative for Human Development to reduce poverty and social exclusion, the coverage of the TAYSSIR education program and of the RAMED health insurance program has been expanded under the 2014 finance law, while the resources of the social cohesion fund were increased, in particular to finance a program of assistance for widows in precarious situations and for the disabled. Also, measures were taken in support of public transport, to ease the impact of fuel price hikes.

    The National Initiative for Human Development is the first public program that attempts to comprehensively target vulnerable groups. The initiative was established in 2005 under the Ministry of the Interior. It currently adopts a dual geographic and social targeting approach against poverty in rural communities and specific urban areas. In the first phase (2005–10), 22,000 projects were initiated to benefit a total of 5 million citizens (approximately 15 percent of the population) in several areas (infrastructure, vocational training, improvement of living conditions, etc.).

    Two pilot programs, RAMED and TAYSSIR, provide financial support to the poor in the areas of education and health. TAYSSIR is designed to prevent school dropout in five targeted geographical areas: l’Oriental, Marrakech-Tensift-Al Haouz, Meknes-Tafilalet, Souss-Massa-Draa, and Tadla-Azilal. Scholarships are paid to students, subject to compliance conditions (school absences fewer than four times per month). The number of student beneficiaries increased from 88,000 in 2009 to 450,000 in 2011. RAMED was introduced in 2008 as a pilot in the Tadla-Azilal region. Those eligible receive full or partial benefits for medical services related to hospitalization, surgery, and childbirth. The program is expected to be generalized to 8.5 million people in the country, including 4 million poor inhabitants and another 4.5 million who are vulnerable, in addition to 160,000 prisoners, homeless persons, and orphans.

    Communication and strength of government ownership and commitment to the reform: A Precautionary Liquidity Line was agreed for August 3, 2012, to August 2, 2014. There has been large information campaign, discussions with parties and parliament, as well as extensive coverage in the press. The World Bank supported a technical assistance on subsidy reform in 2008.

    Impact on the productive sector: Development of access to alternative energy sources by investing in and developing renewable energy sources, notably solar energy.

    Macroeconomic impact of the reform: Though inflation remains low, it has been increasing since the end of 2012, reaching 2.8 percent at end-May 2013, induced in part by the increase in the price of subsidized fuel products in June 2012. Monetary policy will aim to remain vigilant against potential second-round effects on inflation in domestic energy price increases related to the subsidy reform. The current account improved in 2013, in part because imports of energy products fell as a result of both volume and price effects, driven by weaker nonprimary growth and higher domestic alternative energy production in early 2013, as well as by lower international prices.

    Challenges: In the context of continued regional tensions and domestic social pressures, forging consensus on difficult reforms has proven challenging.

    Sudan

    Initial conditions: Sudan felt the full impact of the July 2011 secession of South Sudan, as the country lost three-quarters of its oil output, almost 60 percent of its fiscal revenues, and about two-thirds of its current account payment capacity (Figure A2.5). In the face of such a major shock, the authorities put together a medium-term emergency strategy.

    Figure A2.5.Sudan: Key Macroeconomic Indicators

    Source: IMF, World Economic Outlook database.

    Background: Subsidies cover mostly petroleum products and, to a limited extent, food items and electricity. Petroleum product subsidies have weighed heavily on the budget in the recent past. The lack of an automatic fuel price mechanism, in the context of increasing and volatile international oil prices, has caused fuel subsidies to increase steeply since 2003, when the rally in oil prices began. Petroleum product subsidies accounted for about three-quarters of tax revenues in 2011 and have been on the rise as a consequence of the secession of South Sudan and the related loss of oil production. Fuel subsidies in Sudan disproportionately benefit the rich: the poorest 20 percent of the population receive about 3 percent of the subsidy, whereas the richest 20 percent receive more than 50 percent.

    Recent reforms: To address these imbalances, the authorities introduced a package of measures in June 2012 that included, among other things, an increase in prices at the pump of gasoline, diesel, and LPG of 47 percent, 23 percent, and 15 percent, respectively, as well as the full liberalization of jet fuel. Those price adjustments are estimated to have reduced fuel subsidies by about 25 percent. At end-2012, overall subsidies were estimated at 2.8 percent of GDP, with the following breakdown: (1) fuel subsidies equivalent to 2.1 percent of GDP, (2) food subsidies representing 0.4 percent of GDP, and (3) electricity subsidy equivalent to 0.3 percent of GDP. Despite the June 2012 increase in fuel prices, subsidies remain high. This is mainly a result of the 66 percent devaluation of the exchange rate, which makes the cost of crude oil in local currency more expensive. In June 2012, the authorities also liberalized the price of sugar.

    On September 22, 2013, the Sudanese authorities introduced a set of corrective measures, including an increase in domestic petroleum prices at the pump, as follows: diesel: 74.7 percent; gasoline: 68 percent; LPG: 66.7 percent. This represents a weighted increase of 68 percent.

    Reform plans: In the context of the government’s strategy, the authorities started implementing a revised subsidy policy based on a gradual approach that would lead to the elimination of those subsidies by 2017, to coincide with the expiration of the oil flows triggered by the transitional financial arrangements signed between Sudan and South Sudan. At the same time, the authorities plan to strengthen the social safety net through higher social spending and a more coherent and better-targeted social safety net.

    Mitigating measures: A salary adjustment by an average of about SDG 100 (or $17.5) for all civil servants, (2) a monthly grant allocation of SDG 150 for about 500,000 urban poor families, (3) a reduction in the premium for health insurance for about 500,000 poor families, and (4) an exemption of school and transportation fees for disabled people. However, the wage increase in the civil service could be inflationary, because of its contagion effects on the rest of the economy.

    Communication and strength of government ownership and commitment to the reform: The authorities approved in late June 2012 a comprehensive reform program to address the deterioration of the country’s economic and financial situation. The program—which builds on the authorities’ Three-Year Emergency Program—includes an exchange rate devaluation of about 66 percent, an increase in key taxes, a sharp reduction in fuel subsidies, cuts in nonpriority spending, and a strengthening of the social safety nets.5 IMF staff supported the authorities in the implementation of this subsidy strategy, through policy advice as well as provision of technical assistance in reviewing the structure of the fuel subsidies and recommending steps to better target price increases, and in the implementation of social safety nets. Further technical assistance is planned to ensure that the implementation of the upcoming phases of the reformed subsidy policy reflect the range of social, political, economic, and institutional constraints faced by the government.

    Challenges: Sudan’s high and rising inflation and unstable political conditions have long hampered a swift implementation of the necessary subsidy reform.

    Tunisia

    Initial conditions: After the sharp economic decline following the revolution, the Tunisian economy embarked on a moderate recovery in 2012 while facing a challenging international economic environment and persistent domestic and social tensions. The deteriorating current account deficit—caused partly by falling demand from Europe—has been financed by sustained donor financing, strengthened foreign direct investment, and market access, which helped increase reserves (though to a level still below 2010) (Figure A2.6). Fiscal space has been reduced to meet pressing social and investment needs, though public debt remains at sustainable levels.

    Figure A2.6.Tunisia: Key Macroeconomic Indicators

    Source: IMF, World Economic Outlook database.

    Background: Price subsidies on basic food, oil products, electricity, and transport approximate 5 percent of GDP. The cost of energy subsidies tripled from an average of 0.9 percent of GDP before 2010 to 2.8 percent in 2012, mainly reflecting the incomplete pass-through of international oil prices to domestic retail prices. LPG and heavy fuel have had the highest subsidy levels, while gasoline and diesel have had the lowest.

    The benefits of energy subsidies accrue mostly to high-income households. The highest-income households benefit almost 40 times more from energy subsidies than do the lowest-income ones. This leakage of subsidies to the nonpoor makes the existing system not only costly but also inequitable and inefficient as a social protection tool.

    Recent reforms: The government’s fiscal consolidation strategy relies largely on subsidy reduction and containment of the wage bill. As a result, in March 2013, the authorities increased the prices of gasoline and diesel products, and electricity tariffs, by an average of 7–8 percent. This measure complements the 7 percent increase effected on the same products in September 2012. Energy subsidies to cement companies were reduced by half as of January 1, 2014, by increasing the electricity tariff by 47 percent and natural gas prices by 35 percent, with a view to eliminating them by June 2014; and tariffs and natural gas prices for medium- and low-voltage consumers were increased in a two-step process, comprising a 10 percent rate hike as of January 1, 2014, and a further 10 percent price increase in May 2014. The government introduced a new automatic price formula for gasoline in January 2014 to allow for convergence to international prices over time, but without a smoothing mechanism.

    Reform plans: The authorities are committed to increasing fuel prices by a further 6 percent on average in July 2014.

    Mitigating measures: The government introduced new social programs in parallel with the implementation of the energy subsidy reform, namely a new lifeline electricity tariff to protect households consuming less than 100 kwh per month, a new social housing program for needy families, and an increased income tax deduction for the poorest households. The government plans to launch a targeted household strategy by July 2014, which expands the number of beneficiary families in the existing cash transfer system for the poor (PNAFN) from 220,000 to 250,000, broadens the definition of vulnerable households, and increases school allowances for children and university students. Furthermore, the effectiveness of the PNAFN will be improved through the creation of a unified registry and a better targeting system, currently under preparation.

    Communication and strength of government ownership and commitment to the reform: Tunisia signed an SBA for June 07, 2013–June 06, 2015. The authorities—with World Bank and IMF technical assistance—have analyzed the welfare and social impact of reforms for each energy product and the design of the new automatic fuel price formula for gasoline, and are finalizing a targeted household strategy to accompany the subsidy reform. Additional programs—as well as a new communication campaign to explain the subsidy reform—will be carried out prior to any new price increases.

    Impact on the productive sector: An in-depth study of the impact of an increase in subsidized energy prices on vulnerable households and different productive sectors—conducted with the technical assistance of the World Bank—was just finalized. The study will help in building a new targeted cash compensation scheme that will accompany the development of a unified registry of vulnerable households.

    Macroeconomic impact of the reform: The increase in headline inflation from 5.1 percent in January 2012 to 6.4 percent in April 2013 is mainly explained by higher food and energy prices. However, inflation has remained contained since, with core inflation stable at about 5 percent even after increases in electricity prices. For energy, all of the increase reflects recent rises in administered prices of petroleum products and energy tariffs, while food price rises reflect increases in non-administered prices.

    Challenges: A prolonged period of political uncertainty, a worsening of the security situation, and a deterioration of the international economic environment could all delay the economic recovery, stop progress in the reform agenda, and affect confidence.

    Yemen

    Initial conditions: The budget deficit widened to 6.4 percent of GDP in 2012 because of higher spending, including spending on wages and subsidies (Figure A2.7). Although the subsidy bill is at less than its peak of 14 percent of GDP in 2008, it remains high at more than 9 percent of GDP in 2012. This amount constitutes two-thirds of hydrocarbon revenue and exceeds the total of infrastructure and social expenditures.

    Figure A2.7.Yemen: Key Macroeconomic Indicators

    Source: IMF, World Economic Outlook database.

    Background: Since the 1990s, Yemen has undertaken several reforms to reduce fuel subsidies, with the main goal to improve the fiscal position while paying due attention to social considerations. However, the fuel price increases had to be reversed, at least partially, during all episodes. Even the gains made during the most successful episode, the reform attempt in 2005 with the advice of the World Bank and IMF, were erased by the spike in commodity prices in following years. The authorities have since 2013 taken steps to unify the price of diesel for most users, including particularly the electricity sector. The electricity sector had been paying about half of the prevailing domestic price.

    Electricity production also benefits from high subsidies. The state-owned Public Electricity Company purchases mazot, diesel, and natural gas at highly subsidized prices compared to domestic and international prices. Electricity tariffs are kept very low, on average 50 percent below cost recovery, creating losses for Public Electricity Company, even with subsidized fuel; these losses are covered by transfers from the government.

    Well-off Yemeni households benefit disproportionately from fuel price subsidies, both directly (because they consume more energy than poorer households) and indirectly (because they consume more energy-intensive products and services). Overall, about 40 percent of fuel subsidies go to the richest 20 percent of households, while only 25 percent go to households in the bottom 40 percent (based on updates of the 2005 Household Budget Survey data). The unequal distribution of benefits varies widely by fuel product. In the case of gasoline, for example, households in the bottom 40 percent receive only 10 percent of the direct value of the subsidy.

    Fuel subsidies exacerbate Yemen’s critical environmental problems by artificially reducing the cost of pumping scarce underground water.

    Recent reforms: In 2010, as a part of the reforms supported by an IMF ECF arrangement, and with technical assistance from the World Bank, the prices of gasoline, diesel, and kerosene were gradually increased by about 30 percent on average, and the price of LPG was doubled over a period of nine months. In addition to fuel price increases, the government also introduced some efficiency-promoting measures such as replacing diesel-fueled power generators with gas-fueled ones. In late 2010, Yemen started to differentiate diesel prices by charging higher prices to commercial users.

    In 2011–12, as a consequence of the political crisis and tight fiscal space, the government increased the price of gasoline by 66 percent, and doubled the prices of diesel and kerosene.6 Allowing prices to increase addressed the fuel scarcity that derived from acts of sabotage on the major pipeline to domestic refineries; it also addressed the government’s capacity to import only limited quantities of refined fuel products, which had given rise to a black market and severe gasoline rationing. In 2013, diesel prices were unified across users, including the electricity sector.

    Reform plans: The authorities recognize the need for subsidy reform, but are not ready to implement stronger measures at this stage, even gradually. Price adjustment is currently not included in the government’s reform plan.

    Mitigating measures: To mitigate the impact of the past subsidy reforms on the poor, the authorities introduced or strengthened the following components of the social safety net:

    • Conditional cash transfers. The Social Welfare Fund was established in 1996 to provide conditional cash transfers to households as a poverty alleviation program. The coverage of the fund was expanded gradually, and transfers were increased in steps. The transfers were partly meant to mitigate the impact of fuel subsidy reforms, but their timeliness varied. For example, in the 2005 subsidy reform episode, it took three years to approve a social protection law to allow for more streamlined application for benefits and increased monthly transfers. On the other hand, the 2010 reform was almost simultaneously mitigated by a 50 percent expansion of the coverage of the cash transfer scheme. The coverage of the Social Welfare Fund was expanded by 500,000 families after 2011, with the assistance of the World Bank. In addition, the government is considering a further increase in the Social Welfare Fund coverage or in the size of existing transfers.

    • Public works. The Public Works Project, a program focusing primarily on poverty prevention, provides short-term employment and support for small-scale contractors through a labor-intensive public works program.

    • Community and enterprise development. The Social Fund for Development promotes community and small and microenterprise development, and provides short-term employment for both the temporarily and chronically poor.

    • Fuel conversion. As an additional mitigating measure, the government promoted the conversion to less expensive fuels, particularly from kerosene to LPG for residential use, starting in the early 2000s. Also, in 2010 the diesel-fueled electricity plants were converted to natural gas.

    Communication and strength of government ownership and commitment to the reform: During the 2010 reform, the public information campaign component of the strategy was not adopted. Instead, the government implemented small, surprise increases. An IMF technical assistance mission in 2012 looked closely at the impact of energy subsidies and different scenarios for reform that would ensure social protection to mitigate the impact of price adjustments.

    Impact on the productive sector: Many industries in Yemen are highly dependent on subsidized energy products. Energy intensity, both direct and indirect as measured through the input-output matrix, is highest in electricity production, oil refining, light manufacturing, and water.

    Macroeconomic impact of the reform: Inflation (eop) reached nearly 23 percent in 2011 from 12.5 percent in 2010, mainly reflecting supply constraints arising from shortages of fuel and essential goods.

    Challenges: Risks include political and security developments:

    • Possible popular unrest in a highly unstable political situation;

    • Strong macroeconomic impact given the large adjustments still needed;

    • Need to differentiate increases of fuel products to alleviate immediate impact on the poor;

    • Implement mitigating measures to soften the impact on those productive sectors that are dependent on low energy prices.

    Subsidy figures in this annex refer to budgeted numbers and therefore differ from the pretax energy subsidy figures presented in the chapters.

    Most of the analysis in this annex reflects information as of end-February 2014.

    Subsidy figures in this annex refer to budgeted numbers and therefore differ from the pretax energy subsidy figures presented in the chapters.

    Information for this annex draws from several staff reports for Article IV Consultations.

    The generalized subsidy system—“compensation” system—currently comprises flour, sugar, and petroleum products, including fuel, butane gas, and diesel.

    In mid-2011, the authorities adopted a Three-Year Emergency Program for 2012–14, which outlines a comprehensive strategy to address the economic and social challenges posed by the secession. Its objectives are to maintain fiscal and external sustainability, boost inclusive growth, and gradually reduce unemployment.

    The price of gasoline was initially increased by 133 percent for 90 percent of consumers, and for 10 percent of consumers (poor households who use gasoline) it was left unchanged. In 2011, the increase was partially reversed, but prices were unified.

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