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Algeria: Selected Issues

Author(s):
International Monetary Fund. Middle East and Central Asia Dept.
Published Date:
February 2014
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Price Competitiveness in Algeria1

A. Introduction

1. Improving Algeria’s competitiveness is critical for developing a strong nonhydrocarbon sector and decreasing the economy’s vulnerability to fluctuating commodity prices. Despite efforts to diversify, Algeria’s economy remains heavily reliant on the hydrocarbon sector. In 2012, hydrocarbons accounted for 65 percent of budget revenues,34 percent of GDP, and 98 percent of exports. Although Algeria has succeeded in maintaining growth and stability by effectively managing its natural resource endowment, the dominant role of the hydrocarbon sector has left the economy exposed to terms of trade shocks and has failed to generate enough jobs to address high levels of unemployment. A competitive, private sector–led nonhydrocarbon sector is therefore essential for creating new sources of growth and jobs.

2. Reforms to enhance competitiveness would lead to higher levels of investment and faster growth. Since 2000, real GDP growth in Algeria has averaged 3.7 percent—well below the average for oil exporters and emerging markets. Growth has been driven mostly by the accumulation of factors of production, especially labor, while total factor productivity growth (TFP) has been negligible. Staff simulations suggest that Algeria’s growth could have been as high as 6 percent per year if capital accumulation and TFP growth had been in line with international averages.2 Reforms aimed at creating a more open and competitive business environment would encourage private investment and support productivity gains.

3. Lackluster investment levels are due not to inadequate savings but rather to a poor investment climate. Algeria has recorded consecutive current account surpluses since 1998, reflecting ample savings relative to investment levels. Over the past decade, national savings have averaged nearly 50 percent of GDP per year. At end-2012, gross official reserves amounted to nearly three years of imports of goods and services, while savings in the oil stabilization fund represented 35 percent of GDP. Physical capital accumulation, however, has lagged. Although physical capital accumulation accelerated in the 2000s, it remained significantly below international averages.

4. Algeria has traditionally ranked low in survey-based measures of competitiveness and the investment climate.3 In the World Economic Forum’s Global Competitiveness Report 2013–2014, Algeria ranked 100 out of 148 economies. Since the first report was issued in 2007, Algeria has fallen from the 63rd to the 68th percentile among all countries covered. In the 2014 Doing Business rankings, compiled by the World Bank, Algeria placed 153rd out of 189 economies, slightly worse than the previous year. The Heritage Foundation’s 2013 Index of Economic Freedom ranked Algeria 145th worldwide, and 14th out of 15 in the MENA region, with a score of 49.6 out of 100—the country’s lowest score since the index’s inception in 1995. Algeria’s poor marks in these surveys reflect a number of factors, including the high cost of doing business (the focus of this paper), excessive government regulation, corruption, underdeveloped financial markets, and inefficient goods and labor markets.

5. This paper will assess Algeria’s competitiveness by looking at a variety of price indicators that affect the country’s export performance and ability to attract foreign investment. Section B looks at the evolution of Algeria’s real effective exchange rate and the performance of nonhydrocarbon exports. Section C examines three basic costs to businesses: labor costs, start-up costs, and taxes. Section D considers the cost of key infrastructure services: energy, information and communication technology (ICT) services, and transportation. Section E concludes and offers policy recommendations.

B. Real Effective Exchange Rate and Nonhydrocarbon Exports

6. The net depreciation of Algeria’s real effective exchange rate (REER) over the past decade has implied some gains in competitiveness compared to the country’s trading partners.4 The REER depreciated 21 percent from 2001–07, in tandem with a depreciation of the nominal effective exchange rate. Since 2007, the REER has been on a modest upward trend, in contrast to a downward trend in neighboring Morocco and Tunisia. In 2012, a spike in inflation fueled by expansionary fiscal policy led to a 4.5 percent appreciation of the REER, raising Dutch Disease concerns. Staff estimates that the dinar is currently somewhat on the strong side compared to its equilibrium value.5

7. Despite the increase in competiveness stemming from the real depreciation of the dinar over the past decade, nonhydrocarbon exports remain marginal. From 2001 to 2011, the ratio of nonhydrocarbon exports to total exports, in real terms, increased from 2.8 percent to just 4.4 percent. As a share of real imports, real nonhydrocarbon exports fell from 6.0 percent to 3.7 percent. Moreover, Algeria’s exports have become less diversified, as indicated by a decline in the number of product types exported and by an increase in the Herfindahl index.6 That the nonhydrocarbon export sector remains small in size and has failed to diversify, despite the government’s stated intention to decrease the economy’s reliance on hydrocarbons, suggests that factors related to competitiveness may play a role.

Real Effective Exchange Rate

(Index 2001=100)

Source: IMF staff calculations.

Real Nonhydrocarbon Exports

(Share, in percent)

Sources: Algerian authorities; and IMF staff calculations.

8. Although the REER is widely used as a measure of competitiveness, the results presented here should be interpreted with caution. For Algeria and most other countries, the IMF constructs REER series based on consumer price indexes (CPIs). While CPI-based REERs are quite common, it is not necessarily straightforward to derive conclusions on international competitiveness solely on the basis of the evolution of a CPI-based REER. The remainder of this paper will go beyond the REER and explore other indicators of price competiveness.

C. Labor Costs, Business Start-up Costs, and Taxes

9. Unit labor costs have increased sharply in Algeria, as growth in wages has surpassed productivity gains.7 Over the period 2005–10, Algerian unit labor costs increased by 50 percent, exceeding gains in OECD countries (on average) and in selected emerging markets. Real wages increased by nearly 50 percent over this period while productivity increased by 18 percent. Although wage data beyond 2010 are not yet available, the divergence between real wage and productivity growth is likely to have continued as a result of successive increases in civil servant wages and an increase in the minimum wage.

Unit Labor Costs

(Index, 2005=100)

Sources: Algerian authorities, OECD; and IMF staff calculations.

Wages vs. Productivity

(Index, 2005=100)

Sources: Algerian authorities; and IMF staff calculations.

10. Productivity in Algeria is low by regional and global standards. In an analysis of 104 countries, Algeria’s productivity (i.e., output per capita) ranked in the bottom third and was the lowest among MENA oil exporters.8 Low productivity levels coincided with low overall competitiveness, as assessed by the World Economic Forum. Productivity gains in the Algerian economy have been limited mainly to the agricultural sector and, to a lesser extent, to the service sector. The Global Competitiveness Report 2013–2014 ranked Algeria 140th out of 148 countries in the category “pay and productivity” and next to last worldwide in overall labor market efficiency.9

Productivity vs. Competitiveness

(2012)

Sources: World Economic Forum; and IMF staff calculations.

Productivity by Sector

(Index, 2005=100)

Sources: Algerian authorities; and IMF staff calculations.

11. To address rapidly increasing unit labor costs, the government should avoid further wage increases absent a commensurate increase in productivity. Recent public sector wage increases and back payments resulted in a significant increase in compensation in real terms. Further increases in public sector wages would reduce incentives for seeking private sector jobs,10 exacerbate skills mismatches (by encouraging skills acquisition geared to the public sector), and contribute to a deterioration of the nonhydrocarbon fiscal deficit. Algeria should also avoid minimum wage increases that outpace productivity gains.11 Increasing productivity will require more competition and more flexible labor markets, as well as investments in infrastructure, education, training, and health.

12. The cost of starting a business in Algeria is higher than in most countries in the region and has not improved over time. The procedures necessary to legally start and operate a company in Algeria cost an estimated $541. As a percent of income per capita, this represents more than double the average in OECD countries and is higher than the median in the region (though lower than the MENA average, which is skewed by extremely high costs in a few countries). Also noteworthy is the fact that the cost of starting a business in Algeria (as a percent of per capita income) has remained flat over the past decade, whereas it has been falling across the region, and the number of procedures required to start a business in Algeria (14) has not changed since the World Bank began tracking this indicator in 2003. In addition to start-up costs, businesses face other high costs. Dealing with construction permits requires 19 procedures, takes 241 days, and costs 60.1 percent of income, placing Algeria 147th out of 189 economies. Registering property involves 10 procedures, takes 63 days, and costs 7.1 percent of the property value, leaving Algeria in 176th place.

Cost to Start a Business

(2012, percent of per capita income)

Source: World Bank Doing Business Indicators.

Cost to Start a Business

(Percent of per capita income)

Source: World Bank Doing Business Indicators.

13. Taxes on businesses are exceptionally high. Businesses in Algeria pay four types of taxes: (1) a tax on professional activity (taxe sur l’activité professionnelle, or TAP), equal to 2 percent of turnover; (2) social security contributions, equal to 26 percent of gross salaries; (3) a corporate income tax, equal to 19 percent of taxable profit; and (4) an apprenticeship tax, equal to 1 percent of net salaries. Together, these taxes amount to 72 percent of profit—the highest rate in the region, more than double the MENA average, and higher than the total tax rates in OECD countries and in East Asia and Pacific. The TAP and social security contributions constitute nearly 90 percent of the total tax burden on businesses operating in Algeria. Notwithstanding a reduction in the corporate income tax rate in 2009 (from 25 percent to 19 percent for certain activities), Algeria’s total tax rate as a percent of profits is little changed since the World Bank began tracking this indicator in 2008.

Total Tax Rate on Businesses

(2012, percent of profit)

Source: World Bank Doing Business Indicators.

Total Tax Rate in Algeria, by Category

(2012, percent of profit)

Source: World Bank Doing Business Indicators.

14. Heavy administrative costs add to the tax burden on businesses. On average, companies in Algeria make 29 tax payments per year and spend 451 hours a year filing, preparing, and paying taxes. Both of these figures are well above the respective MENA averages. Taking into account the tax rate as well as the administrative burden of paying taxes, Doing Business ranked Algeria 174th in the category of paying taxes.

Tax Payments

(2012, number per year)

Source: World Bank Doing Business Indicators.

Time to File Taxes

(2012, hours per year)

Source: World Bank Doing Business Indicators.

15. To improve the business climate, the government needs to lower the cost of doing business. To reduce start-up costs, the government should streamline procedures for starting a business and improve the efficiency of one-stop shops. The government should also reform the TAP business tax. Because revenues from the TAP are critical for the financing of local governments, alternative sources of revenues would need to be found. Reform options include broadening the tax base (for example, by rationalizing tax exemptions), imposing excise taxes on High-rent sectors, expanding property taxes, and strengthening tax collection.

D. Cost of Energy, ICT Services, and Transportation

16. The domestic prices of hydrocarbon products are very low by both regional and global standards. As part of a policy to share the country’s natural resource wealth, the Algerian government has kept the prices of hydrocarbon products at levels below international market prices. This policy of implicit subsidies has resulted in some of the lowest prices for hydrocarbon products in the world. Gasoline prices in Algeria are below the MENA average and much lower than the prices found in Europe and the United States. The price of diesel fuel is lower than the subsidized prices found in other oil-exporting countries such as Bahrain, Kuwait, and the United Arab Emirates. Algerian natural gas, which fuels 98 percent of power and water generation, is the cheapest in the region after Libya. Retail prices have been frozen since 2005 and are now below operational costs.

Gasoline Prices

(2012, US$ per liter)

Source: World Development Indicators.

Diesel Fuel Prices

(2012, US$ per liter)

Source: World Development Indicators.

Wholesale Gas Prices

(2013, US$/Mbtu)

Source: APICORP Research.

Electricity Tariffs

(US$/kWh)

Sources: Association of Power Utilities of Africa; and International Energy Association.

17. Electricity prices are also very low, but getting access to electricity is costly. Almost all of Algeria’s electricity generation comes from natural gas. Like natural gas prices, electricity prices have been frozen since 2005 and are much lower than in most other emerging and advanced economies for which data are available. Low tariffs, however, mask other costs. Obtaining an electricity connection is time-consuming and expensive, involving five procedures that take 180 days and cost the equivalent of 1,563 percent of per capita GDP. Taking these factors together, Doing Business ranked Algeria 148th in terms of the ease of getting electricity. Moreover, Sonelgaz, the public utility company, has seen its debt rescheduled on multiple occasions by the government as a consequence of supplying services at below-market prices.

18. Water prices have also been frozen at very low levels. By decree, water tariffs in Algeria are supposed to evolve in line with costs of production and distribution. Nevertheless, water prices have not changed since 2005, and are currently below the MENA average and well below the price of water in most advanced economies. Like hydrocarbon products, the water sector receives significant public subsidies.

Water and Waste Water Costs

(2011, US$ per cubic meter)

Source: Global Water Intelligence.

19. The advantages of cheap energy for private business must be weighed against the hidden costs. These include:

  • Large fiscal costs. Implicit subsidies on hydrocarbon products crowd out spending on infrastructure, education, health care, and other essential public goods that impact costs and productivity. Staff estimates that implicit subsidies on diesel, gasoline, liquefied petroleum gas and natural gas (final consumption), and natural gas (intermediate consumption) amounted to US$22.2 billion in 2012, or 10.7 percent of GDP. Implicit subsidies also give rise to episodic and costly bailouts of public companies that supply services at below-market prices.

  • Increased domestic energy consumption. Since prices were frozen in 2005, domestic electricity consumption has grown at an average annual rate of 6 percent, including a 20 percent increase in 2010. To keep up with demand, the government has brought additional capacity on line and at times has imposed rationing. Domestic consumption of petroleum and natural gas products has nearly doubled over the past decade while production has declined since 2005, squeezing exports and putting pressure on budget revenue. Algeria’s overall energy intensity (measured in kilograms of oil equivalent per capita) is on par with that of middle-income countries and has been growing at a rate of 2.8 percent over the last decade.12

  • Smuggling. Large price differentials with neighboring countries create incentives for smuggling. The price of gasoline in Algeria is three times less than in Tunisia and nearly five times less than in Mali, Mauritania, and Morocco. The authorities estimate that 1.5 billion liters of gasoline and diesel fuel were smuggled into neighboring countries in 2012, equal to a quarter of domestic production.

20. Algeria’s ICT sector is relatively underdeveloped and costly by regional standards.The International Telecommunication Union (ITU) ranked Algeria 106th out of 157 economies in 12 its 2012 ICT Development Index.13 Within the MENA region, Algeria’s ICT development score of 3.07 is one of the lowest. In terms of costs, Algeria ranked 84th out of 161 economies according to the ITU’s ICT Price Basket, which measures the consumer prices of a basket of ICT services as a percent of per capita income.14 Within the MENA region, Algeria’s ICT costs are among the highest. Privatization of the telecommunications sector began in 2000. The sector is currently dominated by three companies: Algeria Telecom, a state-owned entity, and two private operators, Orascom Telecom Algeria and Wataniya Telecom Algeria.

ICT Development Index

(Higher score = more developed)

Source: International Telecommunication Union.

ICT Price Basket

(Percent of GNI per capita)

Source: International Telecommunication Union.

21. Notwithstanding Algeria’s advantageous location on the Mediterranean Sea, export and import costs are high. The cost to export a standard container in Algeria is $1,270—one of the highest costs in the region (though only slightly higher than the MENA average), and much higher than the averages in OECD countries and across East Asia and Pacific.15 The bulk of this cost relates to the preparation of documents, inland transportation, and port and terminal handling fees. The cost of preparing documents, at $460, is more than three times that in Morocco and eight times that in South Korea. The number of documents that must be prepared—eight—is two more than the MENA average and double the average in OECD countries. With respect to imports, the cost to import a standard container is $1,330, higher than in most MENA countries (but in line with the MENA average), and well above the averages in East Asia and Pacific and in OECD countries. Similar to the case with exports, most of the cost of importing relates to the preparation of documents, inland transportation, and port and terminal handling fees. A total of nine documents must be completed—one more than the MENA average and more than twice the average in OECD countries. Port and terminal handling fees, at $400, are more than twice those in the United Arab Emirates and four times those in South Korea. Despite the competitive disadvantage that these administrative costs place on Algeria, the government has not implemented any reforms in recent years to reduce these costs, according to the World Bank. Indeed, export and import costs have increased slightly since 2007.

Cost to Export

(2013, US$ per container)

Source: World Bank Doing Business Indicators.

Cost to Export in Algeria, by Category

(2013, US$ per container)

Source: World Bank Doing Business Indicators.

Cost to Import

(US$ per container)

Source: World Bank Doing Busines

Cost to Import in Algeria, by Category

(2013, US$ per container)

Source: World Bank Doing Business.

22. To reduce export and import costs, the government should streamline administrative procedures and take steps to reduce port and terminal handling fees. Egypt offers a useful example. In 2006, the cost to export a standard container of goods was $1,014— comparable to the cost in Algeria today. Thanks to a series of reforms implemented by the Egyptian government, including creating one-stop shops for import and export, streamlining regulations, and reorganizing customs, the cost to export today stands at $625, one of the most competitive levels in the region.

23. Other indicators point to shortcomings in Algeria’s transportation infrastructure, adding to costs, stunting productivity, and further weighing on competitiveness. Algeria has the second- worst trade and transport–related infrastructure in the MENA region, according to an index developed by the World Bank. The country has just 4.8 kilometers of road per 100 square kilometers of land area, less than half the road density in Tunisia and Morocco, and far less than in more advanced countries.16 In terms of air transportation, Algeria is one of the few markets in the world with almost no presence of low-cost carriers. Indeed, low-cost carriers account for less than 1 percent of scheduled seats flown to and from Algeria.17 By contrast, in Morocco, low-cost carriers have a 35 percent market share on international routes. Together, these factors could explain in part why tourism plays a relatively minor role in Algeria compared to other countries in the region.

Quality of Trade and Transport-Related Infrastructure

(1=low to 5=high)

Source: World Development Indicators.

Road Density

(Kilometers of road per 100 square kilometers of land area, 2010)

Source: World Development Indicators.

Travel and Tourism Receipts

(Percent of GDP)

Source: World Travel and Tourism Council.

Travel and Tourism’s Contribution to Employment

(Percent of whole economy employment)

Source: World Travel and Tourism Council.

E. Conclusions and Policy Recommendations

24. The range of indicators presented above paint a mostly unfavorable picture of price competitiveness in Algeria. The price of basic energy inputs—gasoline, diesel fuel, natural gas, electricity, water—are very low by both regional and global standards, providing a distinct advantage to businesses and potential investors, but at a high cost. Meanwhile, unit labor costs are rising rapidly as wage increases outpace productivity gains, starting a business is time-consuming and expensive, taxes and other administrative costs are the most onerous in the MENA region, the ICT sector is relatively underdeveloped and costly, and transportation costs are elevated.

25. Algeria will need to take measures to enhance its price competitiveness. Reforms in the following areas should be pursued:

  • To enhance overall external competitiveness and support growth in the nonhydrocarbon sector, the authorities should continue to target a real effective exchange rate that is consistent with economic fundamentals.

  • To address the high cost of energy subsidies, the government should gradually roll back these subsidies and allow energy prices to move closer to market prices. This would provide a strong incentive to modernize and reduce energy intensity, and could be accompanied by the measures indicated below to reduce other costs of doing business.

  • To address rising unit labor costs, the government should anchor further wage increases— including minimum wage increases—to improvements in productivity.

  • To reduce the cost of starting and operating a business, the government should streamline administrative procedures, improve the efficiency of one-stop shops, and reform the TAP business tax. The TAP should be replaced by excise taxes, particularly in high-rent sectors.

  • To accelerate development and reduce costs in the ICT sector, the government needs to attract more foreign investment, generate more competition, and increase public awareness.

  • To reduce export and import costs will require reforms to lower port and terminal fees and streamline administrative procedures, including by creating one-stop shops.

26. Beyond these specific measures, Algeria should target broader reforms that attract foreign investment and foster private sector development. Foreign direct investment (FDI) levels in Algeria are among the lowest in the region, contributing to an underdeveloped private sector that is performing far below its potential. Deterrents to FDI include tight foreign exchange controls, corruption, and cumbersome government regulations, including the requirement of at least 51 percent Algerian ownership of foreign investments. Reforms aimed at enticing more foreign investors would help jumpstart the private sector. A more dynamic private sector would create new jobs and allow the government to channel more resources to investments in infrastructure, education, training, and health, which in turn would strengthen the country’s competitiveness.

References

Prepared by A. Jewell (MCD).

See “Algeria: Selected Issues Paper,” IMF Country Report No. 13/48.

The survey-based reports noted here derive their results in part from price indicators, some of which are cited in this paper.

The real effective exchange rate is a frequently used indicator of international competitiveness that measures relative prices and/or costs, expressed in a common currency. The REER referenced here is CPI-based: it is computed as a trade-weighted geometric average of the level of consumer prices in Algeria relative to its trading partners.

The equilibrium REER is calculated as a function of (1) government spending as a percent of GDP, (2) Algeria’s terms of trade, and (3) output per worker relative to Algeria’s trading partners. In 2012, a sharp increase in government spending relative to GDP led to an increase in the estimated equilibrium REER.

According to UN COMTRADE data, the number of different types of products exported by Algeria fell from 1,143 in 2002 to 789 in 2012. The Herfindahl index is another measure of export diversity, ranging from 0 (many types of exports with small market shares) to 1 (a single type of export with complete market share). Algeria’s Herfindahl index increased from 0.24 in 2002 to 0.28 in 2012, indicating a decrease in diversity.

Data limitations prevent a direct comparison of unit labor costs in Algeria to costs in other countries. Instead, this analysis compares the growth in unit labor costs since 2005, with the caveat that the construction of the unit labor cost index differs across comparator countries.

IMF 2013.

The pay and productivity ranking is based on the question, “In your country, to what extent is pay related to worker productivity?” The labor market efficiency category comprises pay and productivity as well as other labor market indicators.

The average monthly salary in the public sector is 45,500 dinars compared to 25,700 dinars in the private sector.

Adjustments to Algeria’s minimum wage are negotiated by a tripartite group comprising representatives from government, business, and labor. The minimum wage was last raised in January 2012, from 15,000 to 18,000 dinars (US$219) per month.

Source: World Bank, World Development Indicators.

The ICT Development Index comprises 11 indicators: (1) fixed-telephone subscriptions per 100 inhabitants, (2) mobile-cellular telephone subscriptions per 100 inhabitants, (3) international internet bandwidth (bits/s) per internet user, (4) percentage of households with a computer, (5) percentage of households with internet access, (6) percentage of individuals using the internet, (7) fixed (wired)-broadband subscriptions per 100 inhabitants, (8) wireless-broadband subscriptions per 100 inhabitants, (9) adult literacy rate, (10) secondary gross enrollment ratio, and (11) tertiary gross enrollment ratio.

The ICT Price Basket is a composite basket that includes three sub-baskets: (1) fixed telephone, (2) mobile cellular, and (3) fixed broadband. The value of the overall basket is calculated as the sum of the price of each subbasket (in U.S. dollars) as a percent of a country’s monthly GNI per capita, divided by three.

The figure captures the cost necessary to complete all official procedures for exporting the goods. The cost of sea transport is not included. The same methodology is used for calculating the cost to import.

It should be noted, however, that more than four-fifths of Algeria’s surface area is desert.

Source: CAPA Centre for Aviation.

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