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Egypt should say 'yes' to emergency assistance, but 'no' to the failed development model of the past

A new development model for a new revolutionary Egypt

Any short-term financial assistance for Egypt must enable a significant policy break with the failed development model of the past. By now, Egyptians should understand that the IMF is neither a development-friendly institution, nor an objective rescuer ready to help put out financial fires. Instead, it acts on behalf of its executive board whose members are directed by the US Treasury and the finance ministries of other leading creditor economies, who in turn are under immense pressure from the lobbying of their respective finance industries. The IMF’s job is to ensure borrowing countries stay creditworthy and repay their foreign creditors on time. In the last 30 years, a massive global shift of financial resources has occurred from the real sector of national economies (where real jobs and goods and services are created) to the financial sector (or casino sector) under the rubric of “financial liberalization”. The IMF’s priorities are to enforce reforms in borrowing countries that prioritize the short-term needs of creditors, while subordinating the needs of those living in the real economy. Egyptians who might instead prefer to prioritize job-creation and maintain a lifeline to its malnourished population should make no mistake about this being the core function of the institution.

For ordinary Egyptians, job creation is likely to be more
important than low inflation. Photo: Gigi Ibrahim

The IMF’s macroeconomic framework and financial programming model flows from a staunchly conservative logic ushered into ascendancy by US President Ronald Reagan and UK Prime Minister Margaret Thatcher over 30 years ago. In reality, it is little more than a value judgment insisting that where there is a trade-off it is better to have lower GDP, lower employment, lower tax revenues and lower spending than to have even moderate inflation or fiscal deficits. When this logic was first introduced it was widely understood as one very conservative option among an array of other viable policy choices. In the years since, it has come to be understood as the one and only “prudent” and “sound” option, and has been taught as such by the best economics departments at the best universities for several generations, including to Gamal Mubarak’s “technocrats”. However, as Nobel laureate Joseph Stiglitz has noted, “The idea that low and stable inflation would lead to a stable real economy and to fast economic growth was never supported by economic theory or evidence and yet became a central tenet of central bank policy.”

Today Egypt should reject this orthodoxy and instead maintain its freedom to consider a wider range of fiscal, monetary, financial and trade policies, many of which could proactively generate higher GDP growth, more employment, greater tax revenues, and increased public investment. All of these will be essential for creating the millions of jobs that are needed and, over the longer-term, closing the income gap.

Although the team of “technocrats” Gamal Mubarak put together in 2005 to step-up reforms claimed that the IMF macroeconomic policy would increase growth and create employment, the policies in fact failed to deliver equitable and inclusive economic growth or employment generation. Instead, the IMF program obliged the Egyptian Central Bank to pursue a rigid “inflation targeting” policy, which took low single digit inflation as the exclusive objective of monetary policy and subordinated fiscal policy goals to this objective. Under this monetary policy, other important aims —such as financial stability, faster economic growth and employment creation —have been seen as inappropriate targets for central bank policy. Rather, the orthodox approach views stability, growth and employment as the hoped for —even presumed — by-products of an inflation focused approach to monetary policy. Accordingly, the goal of Egypt’s monetary policy under a new IMF program is likely to be “stabilization”, rather than achieving higher growth, employment or public investment for development. This approach erroneously presumes that once “stabilization” is achieved, higher economic growth, employment, and poverty reduction will spontaneously follow.

Despite such claims by the IMF and its advocates over the last 30 years, the record has shown that higher growth and employment are not automatic by-products of the IMF’s “stabilization-focused” central bank policy. Although the IMF has successfully driven down inflation to low levels and “stabilized” many countries, growth and employment rates have been markedly lower these last 30 years than they were under different approaches more popular in the previous 30-year period, and income inequality has meanwhile worsened. Egyptians know this all too well. Such was the conclusion of Montek Singh Ahluwalia, a member of the high-level 2008 Spence Commission on Growth and Development, as he explained: “The international financial institutions, the IMF in particular, have tended to see public investment as a short-term stabilization issue, and failed to grasp its long-term growth consequences. If low-income countries are stuck in a low-level equilibrium, then putting constraints on their infrastructure spending [public investment] may ensure they never take off.”

The United Nations Department of Economic and Social Affairs has recently made the same point regarding the IMF’s approach: “Focusing on inflation and fiscal deficits alone reflects too narrow a view of stabilization. Therefore, stabilization needs to be defined more broadly to include stability of the real economy, with smoothened business cycles and reduced fluctuations of output, investment, employment and incomes. Achieving such stability of the real economy may require larger fiscal deficits and higher rates of inflation than prescribed by the conventional macroeconomic policy mix, especially in the face of economic shocks or natural calamities.” Despite such concerns, IMF policy is unlikely to allow anything of the kind in Egypt should the country adopt a new IMF program.

Today, Egypt should move beyond the IMF’s narrow “inflation targeting approach” to monetary policy and broaden its list of policy goals to include higher employment levels and higher growth rates, while being mindful of inflation. If the US Federal Reserve can be instructed by the Humphrey-Hawkins law to maintain both low inflation and high levels of employment as goals, then certainly Egypt should also be able to adopt similar changes to the Egyptian Central Bank’s monetary policy.

Regarding fiscal policy, Egypt should reject the restrictive IMF approach to “fiscal restraint” and instead be free to use international aid in a more expansionary stimulus program to immediately create jobs and kick-start GDP growth. It should likewise resist the IMF’s regressive prioritization of value-added tax (VAT) which disproportionately harms poor consumers and instead adopt a more progressive tax structure in which wealthier individuals and companies pay a higher share of taxes. Such an approach would be more equitable and raise more tax revenues. 

Egypt should be afforded the policy space to prioritize scaling-up of public investment and increasing employment to whatever degree it deems necessary, in accordance with a broader and more transparent and accountable public debate, rather than being limited by IMF policies that reflect the priorities of external creditors.

Egypt should work with other countries to renegotiate the General Agreement on Trade in Services (GATS) and Non-Agricultural Market Access (NAMA) arrangements at the World Trade Organization, as well as the many free trade agreements (FTAs) and bilateral investment treaties (BITs) that call for expedited and premature trade and investment liberalization. Under many such agreements, rules stipulate that governments may not be free to adequately reregulate their financial sectors so as to ensure stability, may not be allowed to implement capital controls and may be prevented from using adequate levels of trade protection for their nascent manufacturing industries. These limitations inhibit their capacity for economic development. Egypt should reject such constraints in its trade and investment agreements and instead maintain its freedom to use various industrial policy tools in the same way they were used by all of the industrialized countries.

Egypt should pursue a wider array of essential industrial policies as part of a long-term development strategy to build the technological skills and capacities of its workforce and domestic companies. It should adopt institutions and policies to support the emergence of new industries, and their acquisition of new technologies, with publicly-financed research and development (R&D), subsidies, temporary trade protection, subsidized credit and other mechanisms that were part of the mainstream development economics toolkit when wealthy countries were industrializing. It should also design its trade and foreign direct investment policies in ways that will ensure its workforce and domestic companies acquire the skills, technology and financing they need to advance onto the next rung of the development ladder in terms of technological sophistication and international competitiveness.

In the context of its current unemployment crisis, the state must be able to act as employer of last resort until domestic private companies can create more jobs. Meaningfully engaging in such a developmental approach would be forbidden under an IMF program as devised. Indeed, if Egypt adopts this new IMF program, it could face yet more years of job-destroying privatization, premature trade liberalization and restrictive fiscal and monetary policies that will serve only to exacerbate the current social and political tensions.

There is no doubt that Egypt needs emergency external financing to see it through the temporary economic side effects of the recent political transformation. If the IMF and its key member states refuse to provide financing free of damaging conditions, Egypt should instead look to its regional neighbors and other emerging markets —such as Brazil, China, the Gulf Arab states and East Asia —to source the financing it needs and thereby remain free to pursue serious development strategies that can prioritize human development and better fulfil both civil and political as well as economic, social and cultural (ESC) rights for its people.

Egypt needs short-term international financial assistance, but it does not need the same failed development model which spawned the revolution in the first place.

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The views expressed in this article are those of the author and do not necessarily reflect the institutional position of CESR