Why Painful Economic Reforms Are Less Risky in Tunisia Than Egypt

Why Painful Economic Reforms Are Less Risky in Tunisia Than Egypt Amr Adly, Hamza Meddeb Article March 31, 2017 Summary: Despite their divergent paths after the 2010–2011 uprisings, Egypt and Tunisia are today facing similar economic challenges. Despite their divergent paths after the 2010–2011 uprisings, Egypt and Tunisia are today facing similar economic challenges. Both countries are pursuing reforms that include tax increases, spending cuts—including cuts in public sector wages—and devaluations of their national currencies. Such unpopular measures test their capacities to act without undermining political and social stability. Reform may appear to be easier to push through under Egypt’s authoritarian system, where dissent can be suppressed more readily. However, Tunisia’s democratic and pluralist regime is better positioned to negotiate economic restructuring programs with various domestic stakeholders and to base these policies on a political consensus that minimizes sociopolitical risks. International financial institutions, creditors, and investors should make sure that economic restructuring does not undermine the region’s only potentially successful democratization or allow Tunisia to revert to authoritarianism under the guise of economic efficiency. Egypt and Tunisia’s Economic Woes Since 2011, both Egypt and Tunisia have faced a host of economic problems, including declining GDP growth rates, high unemployment, and low levels of investment. In Tunisia, the average GDP growth rate from 2011 to 2015 was 1.8 percent, compared to about 4.6 percent from 2006 to 2010. In Egypt, the average growth rate was 2.5 percent between 2011 and 2015, down from 6.2 percent between 2006 and 2010. Unemployment increased in both countries, from approximately 9.0 percent in 2010 to 12.6 percent in 2016 in Egypt and from approximately 13.0 percent in 2010 to 15.5 percent in 2016 in Tunisia. Net foreign direct investment as a percentage of GDP dried up in both countries after the uprisings. In Egypt, such investment declined from 2.9 percent in 2010 to 2.1 percent in 2015. In Tunisia, it went down from 3.0 percent to 2.2 percent during the same period. These macroeconomic trends had a negative impact on public finances in both countries. In Egypt, the budget deficit jumped from 8.1 percent of GDP in 2010 to 11.6 percent in 2015. Egypt’s public debt as a percentage of GDP increased from 73.7 percent in 2010 to 85.0 percent in 2015. According to some media reports, the country’s external debt may grow substantially in the coming years, although IMF relief has been designed to help rein in government spending deficits. Meanwhile, in Tunisia, the budget deficit increased from 2.6 percent of GDP in 2010 to 3.7 percent in 2015. Tunisia’s public debt, in turn, increased from 44.5 percent of GDP in 2013 to 54.6 percent in 2016. According to the World Bank, the country’s total external debt stock denominated in dollars, which includes both public and private debt, increased remarkably from 53.5 percent of gross national income (GNI) in 2010 to 65.6 percent in 2015. The figure for Egypt is much lower (14.4 percent of the country’s GNI in 2015). This, however, does not account for a prospective increase in the coming few years given government plans to expand foreign borrowing. The two countries’ balance of payments outlooks deteriorated as their capacities to generate foreign currency earnings declined rapidly after the 2010–2011 uprisings. Tourism collapsed because of mounting terrorist attacks, capital flight increased, and foreign currency reserves decreased sharply. In Egypt, reserves fell by more than half after the uprising, declining from $37.0 billion in 2010 to $15.9 billion in 2015. In Tunisia, the decline was less dramatic, but still remarkable, falling from $9.8 billion in 2010 to $7.5 billion in 2014. This put downward pressure on the national currencies, leading to higher inflation rates and economic recessions. IMF Loans and Reform Measures After 2013, the two countries were deeply divided between Islamists and secularists, and they both received substantial capital inflows in the form of cheap loans and financial assistance. However, this enabled ruling elites to avoid contentious austerity measures and keep in place fragile political arrangements, despite economic decay and worsening standards of living. Yet these inflows only bought time and were not used to address the structural economic problems Egypt and Tunisia faced. Hence, by 2016, as their economies worsened, both countries found no other option but to negotiate financial stabilization packages with the IMF in return for credit lines. In November 2016, the Egyptian government took steps to secure a $12 billion IMF loan. These measures included floating the Egyptian pound, slashing fuel subsidies, and introducing a valueadded tax (VAT). Egypt has already received $2.75 billion from the IMF. The remaining amount will be disbursed in tranches between 2017 and 2019, subject to reviews. The consequences have been felt immediately. The Egyptian pound lost approximately half its value against the U.S. dollar in just over two days, while the respective prices of gasoline, diesel, and butane canisters each rose between 30 percent and 47 percent, according to official sources. The introduction of the VAT will raise taxes on consumption to 13 percent in 2017 and to 14 percent in 2018. In April 2016, Tunisia reached a deal with the IMF for a $2.8 billion financing package tied to economic reforms over four years. However, the Tunisian government has shown much less capacity than Egypt to take difficult economic steps. In its 2017 budget, the government of Tunisian Prime Minister Youssef Chahed proposed austerity measures aimed mainly at cutting the budget deficit and reducing central government debt from 53.2 percent of GDP to 50.9 percent by 2019. To make this possible, the government sought to freeze hiring in the public sector, suspend a salary increase that had already been agreed upon with the Tunisian General Labor Union (UGTT), reduce the country’s public sector wage bill from 13.5 percent of GDP in 2015 to 11 percent by 2018, and raise taxes on companies and certain professions. However, representatives of labor, business, and professional groups pushed back. Lawyers and primary and secondary school teachers took to the streets, and the UGTT threatened to hold a general strike on December 8, 2016. The government eventually had to back down from implementing its fiscal and economic reform program. When the IMF halted disbursement of the second tranche of the loan in response to this, the prime minister, desperate to show his commitment to reform, removed the minister in charge of public sector reform, who was close to the UGTT. This created a political crisis, with the UGTT threatening to end its support for the government. Egypt’s authoritarian regime may be in a better position to impose economic policies the public opposes. However, by failing to seek a consensus, the government makes itself more vulnerable in the event of adverse economic developments. That is why democratic states such as Tunisia are better placed to avoid the kind of long-term turbulence that could create uncertainty for investors and creditors. Having a national unity government that agrees on economic reforms with institutional labor and business representatives makes the reversal of approved economic policies more difficult and less likely. Tunisia’s approach limits the risks associated with introducing austerity measures. Pursuing economic reform in a democratic setting does not mean that reform measures, such as those that tend to be a part of IMF packages, would be passed without amendments. Rather, the pace, scope, and sequencing of such measures would have to be decided, partially or totally, through a dialogue between Tunisian political and social representatives. International financial institutions, creditors, investors, and sponsors of reform packages should be prepared to give the Tunisian government enough leeway to reach meaningful arrangements in a way that balances economic revival measures with the preservation of Tunisia’s still fragile democratic system. Economic restructuring should not inadvertently pave the way for an authoritarian resurgence. Divergent Postrevolutionary Paths After the Arab uprisings, Egypt and Tunisia went in very different political directions. In Egypt, profound divisions that surfaced among the country’s political elite and population during 2011 to 2013 led to a collapse of the country’s brief experiment with political pluralism and democratic elections. This brought about a military takeover in July 2013, following mass demonstrations against then president Mohamed Morsi and his Muslim Brotherhood–led government. Morsi was removed from office and put in jail. Authoritarianism returned under the auspices of the all-powerful military. The regime imposed unpopular economic measures, exploiting the absence of institutionalized representation for business and labor interests. From the time of former president Gamal Abdel Nasser (1956–1970), both business and labor had been collectively represented by state-controlled corporatist organizations. This structure was revived following the July 2013 takeover. Independent labor unions were denied recognition by the state amid a crackdown on public protests and strikes. The statecontrolled Egyptian Trade Union Federation reasserted its monopoly over labor representation. As for businesses, they had no real input on the drafting of policies, laws, and regulations governing investment, which were formulated by the state-controlled Federation of Egyptian Chambers of Commerce and the Federation of Egyptian Industries. Given that neither the business nor labor classes in Egypt are in a position to collectively defend their interests, the only political risks posed by austerity measures come from their potential to ignite public protests. That is probably why the government avoided introducing painful economic measures after July 2013, before worsening economic circumstances compelled it to do so at the end of 2016. The measures provoked little public reaction, despite reported popular anger and frustration. Evidently, the government’s restrictions on protests paid off, at least for a time. But will that always be the case? Circumstances change, and if economic austerity persists and Egyptians do not feel that their situation is improving, then discontent is bound to rise. In such an event, the dissuasive power of repressive state institutions will gradually disappear, spurring political opposition that may threaten not only public order and stability but also the durability of the regime itself. In Tunisia, developments went in a very different direction after 2010. The government and corporate representatives—namely the UGTT and the Tunisian Union of Industry, Trade, and Handicrafts (UTICA), the employers’ union—were able to push the political elite, both Islamist and non-Islamist, into approving a national pact that paved the way for the 2014 constitution to be passed and pluralistic elections to be held. The crucial role played by the UGTT and UTICA, acting as kingmakers, limited the capacity of post-2014 governments to rule in a peremptory fashion. Subsequently, politicians were often eager to secure the unions’ support in order to remain in office. However, the consensus-building process gave Tunisia’s many social forces veto power over whatever the government decided. This made economic reform and the implementation of austerity measures much more dependent on negotiations and compromise. The UGTT and UTICA had considerable latitude to block reforms that might harm their respective constituencies. The UGTT and UTICA did not spring out of a vacuum once the Tunisian regime was overthrown in 2011. They both had been major sociopolitical actors from the time of Tunisia’s independence in 1956. Despite being penetrated and occasionally co-opted by the regimes of former presidents Habib Bourguiba (1957–1987) and Zine el-Abidine Ben Ali (1987–2011), the organizations, especially the UGTT, maintained a relatively high level of financial, political, and organizational autonomy. During the uprising against Ben Ali, UGTT representatives in inland areas called for antiregime demonstrations in Sfax in December 2010, spreading the revolt to the country’s main coastal cities. The UGTT’s potency underlines how much more influential its members’ efforts have been than those of corporate actors in Egypt. At the same time, Tunisia’s governance system makes compromise necessary. Politicians generally have to reach a consensus over unpopular measures that may prove costly in elections. Moreover, because the capacity of governments to physically repress social and political opposition is limited, they face a higher frequency of public protests. Indeed, in 2016, there were more than 8,000 instances of social action in Tunisia, including demonstrations, sit-ins, occupations of land or state buildings, or public sector strikes. This represents a significant increase from the total instances estimated in 2015. Reform Measures and State-Dependent Middle Classes In both Egypt and Tunisia, the reactions to austerity measures have remained potentially volatile, because they do not evenly affect all social groups. Prolonged fiscal crises and the conditions set by international financial institutions tend to disadvantage the urban middle class—primarily salaried workers in the public sector. Austerity measures—including cuts in fuel subsidies, which raise electricity and gas prices—translate into reduced real incomes. Floating a national currency lowers its exchange value, leading to higher inflation. This is exacerbated by increases in indirect taxation, such as higher customs duties and VATs. What about the poor? As long as the Egyptian and Tunisian governments uphold basic food subsidies, the poor are not likely to feel dramatic decreases in their consumption levels. Unlike the middle classes, they do not spend much beyond paying for basic foodstuffs, housing, and transportation. There are no plans to slash food subsidies in either country, while the increases in electricity fees thus far implemented in Egypt have been progressive, in that those who consume more pay more. However, that does not mean that the poor will be completely spared the repercussions of austerity. In Egypt, drinking water prices have increased and further price hikes are planned for 2017. Transportation costs are also set to rise, particularly for privately owned forms of transportation, especially microbuses and motorized rickshaws, which have been affected by higher energy prices. In Tunisia, there has also been a general push for austerity, albeit less sweepingly than in Egypt. Following the 2011 uprising, the government increased energy subsidies to alleviate popular anger over rising prices. However, starting in 2012, it reversed course, marginally reducing these subsidies with the aim of gradually eliminating them. The government increased electricity fees by 10 percent in January 2014, then again by a further 10 percent in May 2014. A significant segment of the educated and primarily urban Egyptian and Tunisian middle classes has been historically dependent on the state, by way of public employment and subsidized fuel, food, and public services. The most recent official data on public employment in Egypt are those from the 2006 census. In 2012, Egypt’s Central Agency for Public Mobilization and Statistics calculated that 36.9 percent of all active workers were employed by the state. In Tunisia, the World Bank estimated that public sector workers constituted 13.5 percent of the total active population in 2011.1 The ability of the middle classes in Egypt and Tunisia to consume and maintain their standards of living has been dependent on generous, untargeted fuel subsidies, despite claims that the subsidies were made to benefit the poor. In Tunisia, richer segments of the population benefit more from energy subsidies. According to a 2013 World Bank report, the poorest category of households received an average of 13 percent of energy subsidy funds, whereas the richest class of households received 29 percent and the remaining subsidies go to the middle classes. This is to be expected, perhaps, since the wealthy tend to consume more energy than the poor. Similarly, in Egypt, the middle class has been the greatest beneficiary of fuel subsidies. Not surprisingly, both before and after the 2011 uprisings in Egypt and Tunisia, it was public sector workers who were the most active in opposing neoliberal reforms and attempts to privatize stateowned enterprises and downsize the civil service. In 2013 and 2014, for instance, almost two-thirds of strikes, sit-ins, and demonstrations in Egypt were concentrated in the public sector. Historically, the public sector has been the most unionized sector in the two countries, and in Egypt, it used its functional importance as leverage to extract economic concessions from the state during the presidency of Hosni Mubarak. In Tunisia, the UGTT’s local and regional branches similarly played a major role in calling for strikes and other forms of protest before the uprising and also contributed to the 2010–2011 antiregime demonstrations. Governments in Egypt and Tunisia have sought to appease and neutralize these state-dependent middle classes through higher wages, greater public employment, and subsidies. In Egypt, because state employees lacked an independent union, such an approach took a less institutionalized form than in Tunisia, where the UGTT acted as a systematic interlocutor with the government on all matters related to employees. After 2011, more and more young people were recruited into the civil services of both countries, increasing their public sector wage bills and adding to their budget deficits. In Tunisia, more than 155,000 new public sector jobs were created between 2010 and 2014, along with a temporary mass employment program for unemployed youth, named Les Chantiers. The number of those hired by the program doubled from 62,875 in 2010 to about 125,000 in 2011. Les Chantiers served as an important instrument for absorbing unemployment by hiring approximately 100,000 workers in 2015, hence helping to mitigate social tensions in the country’s interior areas. The most recent data from 2015 show that about 37 percent of those Les Chantiers hired hail from the disfavored regions of Sidi Bouzid and Kasserine, both prominent locales during the uprising. Seventy-seven percent are from Tunisia’s marginalized border and interior regions. Future austerity measures and further deteriorating economic conditions among public sector workers may trigger a return to strikes and sit-ins calling for higher salaries and better working conditions. In Egypt, civil servants remain a potent force. In 2015, they successfully mobilized against a civil service law (No. 18/2015) that President Abdel Fattah el-Sisi had issued by decree, and they blocked it in Parliament. The law would have allowed the downsizing of the civil service and encouraged early retirement. Instead, a new watered-down version was passed in 2016. It was designed to achieve the same goals but in a less radical manner and without mass layoffs. Egypt is committed to ensuring that the annual increase in public sector salaries remains lower than the annual inflation rate. If the government fails to deliver on this, the budget deficit will rise, as will inflation, and then protests may resume, despite the draconian law curbing protests the Egyptian government enacted in 2013. Reform By Consensus or By Decree? This reality shows why Tunisia is better positioned to negotiate tough economic reform measures and to base them on a more sustainable political accord, even though this approach sometimes hampers the government’s ability to implement certain measures. The country can take advantage of its institutionalized forms of representation for workers and employers. Granted, negotiating how to distribute the burdens of economic restructuring by seeking societal consensus instead of by issuing unilateral government dictates is never easy. But as hard as this may be, it is worth the effort and the political investment to better ensure the long-term stability and viability of economic measures. The main challenge facing the government will be to extend political consensus building to cover the debate on Tunisia’s development model, given the pressures on the Tunisian economy as well as global economic uncertainty. Change is inevitable. Beginning in the 1970s, Tunisia developed an economy based on tourism and low-cost outsourcing, whereby incentives for investment relied on maintaining competitiveness and access to international markets through low wages and restrictions on the labor movement. This model is no longer sustainable in a context of political pluralism and freedom. Tunisia’s politicians, along with those representing employers and employees, need to compromise on a structural transformation of the economy. In light of the strong presence of unionized labor and the low barriers to popular protest, any reform model the country adopts will have to be balanced, with a social component and greater burden sharing between labor and capital. A key aspect that may help determine the outcome of reform plans in both Egypt and Tunisia is whether their provisions can be altered to alleviate the burden on certain segments of the population. This possibility, again, favors a democratic Tunisia where a dialogue between employees and the government is easier. This is necessary because the current reform packages in both countries have regressive features. Fiscal restructuring has generally been based on increasing indirect taxation and reducing expenditures, with little effort to raise tax revenues from big businesses and property owners through direct and progressive tax policies. This has placed the burden of reform on the working and middle classes in a way that has undermined popular acceptance of reform programs. Indeed, more tax holidays and other incentives are being extended to businesses in both Tunisia and Egypt to encourage investment and spur economic recovery. In Egypt, for instance, a capital gains tax levied in 2014 was suspended for two years and has been virtually dropped. Moreover, the country’s maximum income tax rate was reduced from 25 to 22.5 percent and a temporary additional tax on high incomes was rescinded before going into effect. In Tunisia, the situation has been relatively different, as the government has tried to find an arrangement that would accommodate both the UGTT and UTICA. However, businesses have also been favored by the government. In September 2016, the parliament adopted a new law on investment (No.71/2016), which will take effect in April 2017, granting private enterprises significant tax incentives. Interestingly, the initial draft weighed the option of taxing offshore companies before dropping this element in the final version. Offshore companies, mainly comprising foreign investors, have enjoyed significant privileges since the inception of economic liberalization in the 1970s. At the same time, the Tunisian government has pursued tax policies that, because they tax consumption rather than income, tend to hurt the middle class more. In its budget for 2017, the government is planning increases in the country’s VAT and other consumption taxes, including those on vehicles and electricity. The VAT and other taxes on consumption constitute around 58 percent of total tax revenues, whereas direct taxes constitute about 42 percent. The Chahed government has tried to compensate for these regressive measures by adopting an exceptional tax on companies to be collected only this year and by increasing taxes on property transactions. These measures are aimed at raising much-needed revenues while distributing the burden among socioeconomic classes. However, given the government’s historical hesitancy to impose an income tax on the wealthy, it remains to be seen whether these reforms will be implemented. In Egypt, similarly, capital gains taxes and taxes on industry and commerce averaged only around 11.5 percent of tax revenues between 2006 and 2014, according to statistics from the Central Bank of Egypt. At the same time, property taxes accounted for 5.3 percent of tax revenues during the same period. In contrast, 45.8 percent of tax revenues during that time came from indirect taxation, namely sales taxes and higher customs duties. Why Being Flexible With Democracies Pays Off Overall, the economic crises in Tunisia and Egypt, and the reforms deemed necessary to address them, are likely to have profound sociopolitical repercussions for both countries. That is why economic reform must proceed within an institutionalized process of negotiation that is oriented toward forging a consensus on future policies. Under both democratic and authoritarian systems, economic reforms often have an impact on political stability. This is because the policies introduced tend to adversely affect some economic actors more than others, leading to protests. However, given the gravity of the economic situations in Egypt and Tunisia, waiting is not an option. Introducing fiscal and economic restructuring measures is hardly a technical matter. Rather, these measures are deeply political because of their consequences on the distribution of wealth and of economic burdens. Because of this, international financial institutions, creditors, and investors should be flexible in allowing democratic countries such as Tunisia to create a proper domestic framework to implement economic reform. The process may take more time, but the benefits will likely be greater if such countries are allowed to forge agreement on often contested policies. Consolidating Tunisia’s nascent democratic order should be a priority of the international community, especially the EU, with its overwhelming sway over Tunisia’s external economic affairs and its member states’ own experiences with social dialogue. That means enabling Tunisians to negotiate their way out of the current economic crisis. There is much to build upon, ranging from the national consensus of the past two years to the existence of autonomous and genuinely representative organizations such as the UTICA and UGTT. In Egypt, by contrast, the absence of any real social dialogue mechanism and institutionalized representation of labor and business does not bode well for the future. Egyptian society faces economic austerity under an authoritarian regime, with no real say in what its leaders decide. Hamza Meddeb is a research fellow in the Middle East Directions Program at the European University Institute and an associate fellow in the Middle East and North Africa Program at Chatham House. Notes 1 The figures for Tunisia indicate the share of public sector workers in the total active population, which refers to all Tunisians of working age regardless of whether they are in the labor force. Meanwhile, the percentage for Egypt refers to the share of public sector workers in the labor force, which includes only those of working age that are looking for jobs. End of document Carnegie Middle East Center Emir Bechir Street, Lazarieh Tower Bldg. No. 2026 1210, 5th flr. Downtown Beirut, P.O.Box 11-1061 Riad El Solh, Lebanon Phone +961 1 99 15 91 Fax +961 1 99 15 91 Contact By Email © 2017 All Rights Reserved