11

MANAGING PRICE SHOCKS

Oil and Food Subsidies in Jordan

First MENA-SBOMEETING

CAIRONovember 24-25, 2008

Dr.Hamzah Jaradat, Ph.DMoF Jordan

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BackgroundBackground

Subsidies EliminationSubsidies Elimination

Impact of Subsidies EliminationImpact of Subsidies Elimination

Compensatory MeasuresCompensatory Measures

Presentation Presentation OverviewOverview

33

During the last few years 2004-2008, the During the last few years 2004-2008, the continuous increase of food and energy continuous increase of food and energy prices, whose consumption is subsidized prices, whose consumption is subsidized by the government, has put great pressure by the government, has put great pressure on the Kingdom’s fiscal stance. The oil on the Kingdom’s fiscal stance. The oil imports bill has increased, as a percent of imports bill has increased, as a percent of GDP, from 12% in 2004 to 18.5% in 2007. GDP, from 12% in 2004 to 18.5% in 2007. These imports are expected to increase These imports are expected to increase further in 2008; it will be around 22% - further in 2008; it will be around 22% - 30% of GDP assuming that oil prices will 30% of GDP assuming that oil prices will average in the range of $90-$120 a barrel average in the range of $90-$120 a barrel in 2008.in 2008.

BackgroundBackground

44

12.0

17.1 17.4 18.5

22.325.0

27.3

29.7

0.0

5.0

10.0

15.0

20.0

25.0

30.0

2004 2005 2006 2007 $90 $100 $110 $120

%GDP

20082008

Oil Imports, Percent of GDP

55

the Kingdom’s imports of subsidized food the Kingdom’s imports of subsidized food items (mainly wheat, flour of wheat, bran items (mainly wheat, flour of wheat, bran and barley) have also been increasing and barley) have also been increasing over the same period. The imports of over the same period. The imports of these items reached $577 million in 2007 these items reached $577 million in 2007 and expected to rise to $655 million this and expected to rise to $655 million this year.year.

As the figure below shows, the relative As the figure below shows, the relative weight of these imports has risen from weight of these imports has risen from 2.3% of GDP in 2004 to 3.6% in 2007 and 2.3% of GDP in 2004 to 3.6% in 2007 and expected to be at the same level in 2008.expected to be at the same level in 2008.

66

Food Imports of Subsidized Items, percent of GDPFood Imports of Subsidized Items, percent of GDP

2.3 2.3 2.4

3.6 3.6

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

2004 2005 2006 2007 2008

% of GDP

77

The abovementioned developments The abovementioned developments have resulted in higher government have resulted in higher government subsidies to absorb the rising subsidies to absorb the rising international food and oil prices and to international food and oil prices and to mitigate the impact on the poor. The mitigate the impact on the poor. The total amount of subsidies increased total amount of subsidies increased from 3.2% of GDP in 2004 to 4.5% in from 3.2% of GDP in 2004 to 4.5% in 2007.2007.This happened despite the fact that the This happened despite the fact that the government has increased the prices of government has increased the prices of petroleum products several times petroleum products several times during 2005 and 2006 as part of its during 2005 and 2006 as part of its strategy to gradually liberalize the local strategy to gradually liberalize the local prices of all petroleum products.prices of all petroleum products.

88

Had not the government started Had not the government started gradually to remove oil subsidies and gradually to remove oil subsidies and liberalize prices in February 2008, oil liberalize prices in February 2008, oil and food subsidies would have reached and food subsidies would have reached about $1.3 billion in 2007 and $1.7 about $1.3 billion in 2007 and $1.7 billion in 2008; that is about 8.2% and billion in 2008; that is about 8.2% and 9.7% of GDP for 2007 & 2008 9.7% of GDP for 2007 & 2008 respectively.respectively.The following graph compares what The following graph compares what would have been the situation if no would have been the situation if no change has been made to oil subsidies change has been made to oil subsidies (red bars) with what happened as a (red bars) with what happened as a result of those policy changes.result of those policy changes.

99

3.2

6.7

8.7

2.9

7.2

4.5

8.2

3.1

9.7

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

9.0

10.0

2004 2005 2006 2007 2008

Oil & Food Subsidies, % GDP

1010

Oil subsidies alone was estimated to reach Oil subsidies alone was estimated to reach about $1 billion in 2008, which is 5.8% of about $1 billion in 2008, which is 5.8% of GDP, assuming that the yearly average of GDP, assuming that the yearly average of international price of oil is $90/ barrel; international price of oil is $90/ barrel; while these subsidies would reach about while these subsidies would reach about $1.4 billion if the price is $100/ barrel; i.e., $1.4 billion if the price is $100/ barrel; i.e., 7.5% of GDP.7.5% of GDP.

Also, it was estimated that the targeted Also, it was estimated that the targeted budget deficit of 6.5% of GDP in 2008 budget deficit of 6.5% of GDP in 2008 would have increased to 9.3% if would have increased to 9.3% if international oil prices is $90 /barrel and to international oil prices is $90 /barrel and to 11.3% if oil price is $100/ barrel.11.3% if oil price is $100/ barrel.

1111

2.7

5.34.4

5.56.5

9.3

11.3

0

2

4

6

8

10

12

2004 2005 2006 2007 2008Budget

$90 $100

%, GDP

20082008

Budget Deficit, percent of GDPBudget Deficit, percent of GDP

1212

About JD 375 million ($530 million); i.e., About JD 375 million ($530 million); i.e., about 3% of GDP of food subsidies are about 3% of GDP of food subsidies are allocated in 2008 budget. The increase in allocated in 2008 budget. The increase in these subsidies compared to previous years these subsidies compared to previous years is mainly due to sharp increases of the is mainly due to sharp increases of the international prices of the subsidized food international prices of the subsidized food items like barley and wheat. items like barley and wheat.

However, budget re-estimates for 2008 However, budget re-estimates for 2008 shows that a saving of about $ 190 million shows that a saving of about $ 190 million would be achieved as a result of decreasing would be achieved as a result of decreasing wheat and barley prices during the last few wheat and barley prices during the last few months.months.

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Subsidies EliminationSubsidies Elimination

Studies by the IMF and the Ministry of Finance Studies by the IMF and the Ministry of Finance found that the lowest 20% income decile gets found that the lowest 20% income decile gets only 8.9% of the allocated fuel subsidies, only 8.9% of the allocated fuel subsidies, while the highest 20% income decile gets 42% while the highest 20% income decile gets 42% of the subsidies. Further, livestock farmers on of the subsidies. Further, livestock farmers on average get fodder subsidy of about JD 3370 average get fodder subsidy of about JD 3370 ($ 4760) per year, compared to an average of ($ 4760) per year, compared to an average of JD 718 ($1014) per year the beneficiary JD 718 ($1014) per year the beneficiary families get from the National Aid Fund, NAF.families get from the National Aid Fund, NAF.

Therefore, a four year plan was approved in Therefore, a four year plan was approved in 2004 to gradually removing oil subsidies by 2004 to gradually removing oil subsidies by 2008 and to fully liberalize2008 and to fully liberalize domestic fuel domestic fuel market and prices.market and prices.

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During the period 2005-2007, domestic fuel During the period 2005-2007, domestic fuel prices were increased several times but not prices were increased several times but not as high as that of February 2008. as high as that of February 2008. The sharp increases of international oil The sharp increases of international oil prices in particular since the second half of prices in particular since the second half of 2007, put immense pressure on the budget, 2007, put immense pressure on the budget, where a year around one dollar increase in where a year around one dollar increase in international oil price would cost the budget international oil price would cost the budget additional $28 million per year of subsidies.additional $28 million per year of subsidies.Therefore, in February 2008, the Therefore, in February 2008, the government decided to fully remove all fuel government decided to fully remove all fuel subsidies and liberalize prices except of subsidies and liberalize prices except of Liquefied Petroleum Gas, LPG. This resulted Liquefied Petroleum Gas, LPG. This resulted in increasing most fuel prices as high as in increasing most fuel prices as high as 40%.40%.

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Since then, a “Pricing Committee” sets Since then, a “Pricing Committee” sets prices on a monthly basis to reflect the prices on a monthly basis to reflect the changes in international oil prices.changes in international oil prices.

The remaining energy subsidies are The remaining energy subsidies are estimated at 1.3% of GDP in 2008 estimated at 1.3% of GDP in 2008 compared to 2.7% in 2007. compared to 2.7% in 2007.

Removing the impact of delays in voting Removing the impact of delays in voting the budget would reduce the 2008 number the budget would reduce the 2008 number to slightly below 1% of GDP.to slightly below 1% of GDP.

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Oil Subsidy, % of GDPOil Subsidy, % of GDP

3.2

5.9

2.1

2.7

1.3

0.0

1.0

2.0

3.0

4.0

5.0

6.0

2004 2005 2006 2007 2008

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Food subsidies have been through many Food subsidies have been through many reforms in the past. As the figure below reforms in the past. As the figure below shows, there were no food subsidies in shows, there were no food subsidies in 2004. Starting in 2005, food subsidies 2004. Starting in 2005, food subsidies started to increase. The government was started to increase. The government was aware of the issue, but these subsidies, in aware of the issue, but these subsidies, in particular those directed to wheat and flour particular those directed to wheat and flour of wheat ware considered crucial to social of wheat ware considered crucial to social stability in Jordan at this time. stability in Jordan at this time. As mentioned above, the costs of importing As mentioned above, the costs of importing these food products increased sharply these food products increased sharply during the last few years. Therefore, the during the last few years. Therefore, the subsidies allocated to food items has subsidies allocated to food items has increased from 0% of GDP in 2004 to 1.8% increased from 0% of GDP in 2004 to 1.8% in 2007, and was expected to reach to 3% in in 2007, and was expected to reach to 3% in 2008.2008.

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Food Subsidies, % of GDPFood Subsidies, % of GDP

0.0

0.8 0.8

1.8

3.0

1.9

0.0

0.5

1.0

1.5

2.0

2.5

3.0

2004 2005 2006 2007 2008 2008Budget Budget

Re-estimate

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Impact of Oil Subsidies Elimination and Impact of Oil Subsidies Elimination and

Compensatory MeasuresCompensatory Measures

A study by the Ministry of Finance shows A study by the Ministry of Finance shows the inflationary pressures resulted from the inflationary pressures resulted from eliminating oil subsidies in 2008. The eliminating oil subsidies in 2008. The following diagram shows the non-fuel following diagram shows the non-fuel expected inflation and fuel push inflation expected inflation and fuel push inflation for different international prices of oil US$/ for different international prices of oil US$/ barrel.barrel.

2020

4.8

4.5

7.0

4.5

8.1

4.5

9.3

4.5

11.5

4.5

13.8

4.5

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

18.0

20.0

$80 $90 $95 $100 $110 $120

Average Price of Oil US$/ Barrel

Expected Inflation of 2008 Non-fuelFuel

2121

The average oil price for the first nine The average oil price for the first nine months of the year was $111.59/ barrel. months of the year was $111.59/ barrel. Given this price, the expected inflation Given this price, the expected inflation rate (fuel and non-fuel) was about 16%.rate (fuel and non-fuel) was about 16%.

During this period, the actual inflation rate During this period, the actual inflation rate was 15.5%.was 15.5%.

2222

3.4 3.5

6.3

5.4

15.5

6

0

2

4

6

8

10

12

14

16

2004 2005 2006 2007 Jan-Sep.2008

Expected2009

Inflation Rate, 2004-2009

2323

Compensatory MeasuresCompensatory Measures

1- Social Safety Net1- Social Safety Net. The cost of which is . The cost of which is estimated at JD 391 million ($552 million) estimated at JD 391 million ($552 million) of the 2008 budget, i.e., about 4.3% of of the 2008 budget, i.e., about 4.3% of GDP. The main features of the net are:GDP. The main features of the net are:

- Increase the salaries of all public - Increase the salaries of all public sector employees; civil servant workers, sector employees; civil servant workers, military and security agencies personnel, military and security agencies personnel, and civil and military pensioners.and civil and military pensioners.

- Direct cash payment to non - Direct cash payment to non government workers or pensioners who government workers or pensioners who have average per family income of less have average per family income of less than JD 1000 ($1400) per annum.than JD 1000 ($1400) per annum.

- Increase the payment to the - Increase the payment to the beneficiaries of the National Aid Fund. beneficiaries of the National Aid Fund.

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2- Maintain the price of bread2- Maintain the price of bread at the same level at the same level after liberalizing the diesel prices through additional after liberalizing the diesel prices through additional subsidy.subsidy.

3- Maintain electricity tariff fixed3- Maintain electricity tariff fixed to households to households who consume less than 160 kilowatt per month.who consume less than 160 kilowatt per month.

4- Partially increasing the price of LPG4- Partially increasing the price of LPG, while , while the government bears the additional subsidy. The the government bears the additional subsidy. The cost is estimated at $ 113 million for 2008.cost is estimated at $ 113 million for 2008.

5- Maintain barley subsidized price5- Maintain barley subsidized price until early until early next year. The Government is expected to liberalize next year. The Government is expected to liberalize the price of barley in April 2009. The cost is the price of barley in April 2009. The cost is estimated at $42 million for 2009.estimated at $42 million for 2009.

6- Exempting6- Exempting 13 essential commodities, energy 13 essential commodities, energy saving products, and agricultural production inputs saving products, and agricultural production inputs from custom duties and taxes. The cost was from custom duties and taxes. The cost was estimated at $141 million.estimated at $141 million.

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7- Salaries indexation 7- Salaries indexation with inflation and with inflation and productivity or at least performance. For 2009, an productivity or at least performance. For 2009, an increase of 7% on the base salary of employees increase of 7% on the base salary of employees and retirees was suggested. The cost is estimated and retirees was suggested. The cost is estimated at $ 88 million.at $ 88 million.

8- Direct cash payment to kerosene users8- Direct cash payment to kerosene users of of low income groups; expected cost is $ 28 million.low income groups; expected cost is $ 28 million.

9- Establishing parallel markets9- Establishing parallel markets for for vegetables and fruits and exempting sellers from vegetables and fruits and exempting sellers from fees paid to municipalities to encourage farmers fees paid to municipalities to encourage farmers to sell directly to consumers.to sell directly to consumers.