In Egypt a new cabinet, but same old IMF problem

A senior International Monetary Fund official visited Cairo to discuss the type of concessions Egypt would be willing to make in exchange for a $4.8 billion loan that the government hopes will stem the precipitous decline of the Egyptian pound.

The conversation included the new and politically untested Finance Minister al-Mursi al-Sayed Hegazy, a professor of Islamic Finance with no track record in politics until he was sworn in as part of a cabinet reshuffle on Sunday. Minister Hegazy, a career academic, said he was "completely ready" to cut a deal with the IMF, at a time when Egypt's public coffers have been drained.

Egyptian foreign currency reserves now stand at about $15 billion, down from $36 billion at the time former President Hosni Mubarak was pushed from power in Feb. 2011. Much of that money has been spent in the beleaguered defense of the pound, which has lost about 4 percent of its value against the dollar in the past week.

That's why there's so much pressure to secure a deal with the IMF (famous for demanding tax increases and subsidy cuts from clients) at a time when the Egyptian economy is suffering from a collapse in tourism and a withdrawal of investment. 

But the economic – and political costs – of an IMF deal could be steep, with the Fund urging Egypt to raise taxes on a raft of basic goods and ultimately cut deeply into the subsidies that millions of Egyptian's rely on to survive.

Talk to an Egyptian cab driver, a housewife, the man that collects the rubbish, or a shop owner, and the refrain is the same: "Prices are rising, and our incomes remain the same."

Mustafa Said, who collects garbage in central Cairo and sells the recyclables such as glass and cardboard, says "the revolution promised a better situation, but it's only gotten harder to simply eat every day."

The last time President Mohamed Morsi's government sought to raise taxes was in December. It quickly reversed course amid violence outside the presidential palace in Cairo sparked by Mr. Morsi and the Muslim Brotherhood's efforts to drive through a new Egyptian constitution with hardly any input from Egypt's secular-leaning political groups.

While Morsi ultimately won the battle regarding the constitution, Egypt's political turmoil is far from over, with a promised parliamentary election slated for less than two months away.

A deal?

Will a deal with the IMF – which, no matter how well-crafted, is likely to create short-term economic pain – see the Muslim Brothers punished at the polls? And will a new parliament accept an agreement crafted by Morsi and his allies shortly before lawmakers take office? These political questions are being weighed by both Morsi and IMF officials. 

For now, all signs point to a deal. In addition to Hegazy's comment, IMF Middle East Director Masood Ahmed told reporters after meeting with Egyptian Prime Minister Hisham Qandil and ahead of a sit-down with Morsi: "We will attend many meetings with the Egyptian government today. The technical team will come later. All details will be discussed." 

The IMF has not been publicly specific about what it wants, and the Egyptian public has been left largely in the dark about what's being agreed to, which could make the deal a tough sell to average people once it's signed. Last November, the IMF did hint at the rough contours of what it wants. The Fund frequently speaks of the things it demands as coming from the desires of the sovereign they're dealing with, to avoid the public impression they're dictating to governments.

"Fiscal reforms are a key pillar under the program," the IMF's division chief for the Middle East and Central Asia Andres Bauer said in a statement last November. “Fiscal reforms" generally mean government spending cuts. That is, austerity. Mr. Bauer continued: "The authorities plan to reduce wasteful expenditures, including by reforming energy subsidies and better targeting them to vulnerable groups. At the same time, the authorities intend to raise revenues through tax reforms, including by increasing the progressivity of income taxation and by broadening the general sales tax (GST) to become a full-fledged value added tax (VAT)."

While the IMF is hoping that subsidies and social welfare programs will be better focused on the neediest, mechanisms to do so are often tricky and such ideas usually prove much easier on paper than in reality. It's clear the IMF is hoping for big changes. In the November statement, the Fund spoke of reducing Egypt's "large budget sector deficit" from 11 percent of gross domestic product in the last fiscal year to 8.5 percent in the fiscal year ending 2014.

What's more, the IMF hopes Egypt's "primary deficit" – essentially the balance of a government's revenue and expenses minus interest costs on existing debt – will plummet from 4 percent in the last fiscal year to almost zero in the fiscal year ending 2014 and to become a surplus by the year ending 2015.

That will require a swift, and drastic restructuring of Egyptian government spending and tax collection in the blink of an eye. Is it the right thing to do for Egypt's economic health long term? Arguably so. But it's hard to imagine avoiding serious pain for average consumers in the short and medium term.

Egypt is heading into dangerous waters. Proposed tax increases will hit the poorest hardest, and the government is focused on cutting fuel subsidies later this year, which will affect the price of everything from fresh fruit to cement. The country has a history of bread riots, and high food inflation in the winter of 2010/2011 contributed to the uprising against the government here and in neighbors like Tunisia.

Back to the cabinet reshuffle

And that comes back to the cabinet reshuffle. Three new ministers loyal to the Muslim Brotherhood's Freedom and Justice Party were sworn in, as was a new interior minister after his predecessor was blamed for allowing protesters to burn Muslim Brotherhood offices in Cairo and briefly besiege the presidential palace, which forced Morsi to rapidly leave in a convoy by a back exit.

New Interior Minister Gen. Mohamed Ibrahim, now responsible for the police and internal security, vowed upon being sworn in Sunday that the police "will strike with an iron fist whoever compromises the security of the country and its people."

With painful economic concessions and what promises to be a raucous election looming, not to mention the second anniversary of the start of the uprising against Mubarak on Jan. 25, General Ibrahim may well have his work cut out for him.

The IMF, meanwhile, may find it hard to get any deal struck now to stick long term.