Consolidation, not austerity: Prudent measures are being taken to help restrain government spending

Following three years of rapid fiscal expansion, in 2013 Algeria’s government began attempting to consolidate its budget spending and raise domestic revenue. While the outlook for the non-hydrocarbons segment remains somewhat uncertain, authorities plan to continue limiting government expenditures to help guarantee the country’s fiscal sustainability over the medium term. This presents a challenging position in which the need to meet social demands in the run-up to the 2014 elections must be pursued alongside the goal of balancing the country’s books in anticipation of a post-oil era.

FISCAL STIMULUS: Between 2010 and 2012, the state’s total budget increased by 14.7% to AD7.77trn (€71.48bn), although efforts were made to restrain this growth in 2013 when the budget dropped to AD6.58trn (€60.54bn). The lion’s share of increases was made up of unproductive recurrent expenditure, mainly public-sector wages, pensions and subsidies.

Operating costs grew 25% in 2011 and another 15% in 2012 to AD4.93tn (€42.41bn) before dropping to AD4.34trn (€39.93) in 2013, although this still accounted for 65.93% of total budgeted spending, a significant increase from the 50.84% of spending registered in 2010. In total, operating expenses nearly tripled in the six years from 2007 to 2012. Subsidies on food, employment, housing and interest accounted for 13.6% of GDP in 2012, while implicit subsidies – mainly on energy prices – accounted for another 6% of GDP in 2010 (the most recent data available), according to the IMF.

The spending cut was impressive, particularly considering Algeria’s large hydrocarbons reserves allow it to absorb the high levels of current expenditures. While higher oil prices and the consequent windfall revenues helped contain the budget deficit, which has been growing since 2009, the shortfall has remained relatively high, fluctuating from 1.8% of GDP in 2010 to 1.3% in 2011 and 3.2% in 2012, according to the IMF. Higher wage and pension transfers also stoked inflation, which reached a 15-year high by early 2013. “Large increases in public expenditures and imports in recent years have exacerbated inflation,” Mohamed Seghir Babes, president of the National Economic and Social Council, told OBG. The majority – roughly three-quarters – of the deficit is financed through drawdowns on the Revenue Regulation Fund (Fonds de Regulation des Recettes, FRR), Algeria’s sovereign wealth fund, which had some $77.2bn in holdings as of June 2013.

BREAK-EVEN: Although Algeria has contributed earnings derived from oil revenues above $37 a barrel since 2008, the build-up in FRR reserves has been constrained by consistent drawdowns that have accelerated since 2010 particularly. Indeed, while the fiscal rule aims to insulate budgetary stability from the vagaries of global oil prices, the IMF has calculated that the actual build-up of reserves only takes place when oil prices are above $89 a barrel (in 2011) given that FRR draw-downs are not capped. The IMF has advised the government to limit these transfers and supplement them through debt issuance on local and international markets, most recently as part of the first-quarter 2013 Article IV consultations. However, although authorities have entertained the idea of more fixed-income debt issuance, they also intend to preserve the flexibility of high FRR drawdowns. The rapid increases in government spending has prompted an equal rise in the price of oil required to balance the budget – the so-called breakeven point. This has risen from $85 a barrel in 2010 to $109 in 2011 and $121 in 2012, above the still-high average world prices of around $111 in 2012, according to figures from the US Energy Information Administration. Due to the prospect of falling production volumes and significant uncertainty over world energy prices in coming years, the government has sought to rebalance growth in budgeted spending to ensure sustainability over the medium term.

BUDGET CONSOLIDATION: The 2013 budget marks a first step towards consolidating spending, given the 15.3% year-on-year reduction in expenditure to AD6.58trn (€60.54bn). Despite this consolidation, the recurrent share of total spending grew slightly from 63.35% in 2012 to 65.93% in 2013, or AD4.34trn (€39.93bn). The budget’s AD2.24trn (€20.61bn) in capital expenditure includes AD2.03trn (€18.68bn) in new investment, part of the government’s five-year plan to 2014 to invest a total of $280bn (€213.5bn) in infrastructure and capital spending.

The more conservative assumptions of the budget include a $71 a barrel oil price, although the IMF estimates that the break-even point could end up being as high as $110.60. Furthermore, while the budget banks on a GDP growth rate of 5% for 2013, the African Development Bank (AfDB) forecasts full-year growth of only 3.2%. Generally, the annual budget is signed into law in December and a supplementary budget bill is usually enacted mid-year, which typically includes higher spending provisions linked to explicit and implicit subsidies. However, in 2013 the supplementary budget was cancelled in August 2013, with authorities announcing key provisions would be rolled over into the 2014 budget – an encouraging sign of further consolidation.

NEW BUDGET: The 2014 budget proposals circulated in the fourth quarter of 2013 consist of what the MoF calls “consolidation, not austerity”. In practice, this entailed an 11% rise in spending, including 8.7% growth in recurrent expenditure. With a slightly lower projected GDP growth rate of 4.5% in 2014 (compared to AfDB forecasts of 4%) and the same forecast break-even oil price of $71 a barrel, the budget deficit is expected to increase by 12.4% to some AD3.44trn (€31.65bn).

OTHER FINANCING: Although the budget balance continues to fluctuate in line with the price of oil and gas, revenues from which account for roughly 70% of government income, authorities have recorded some success in boosting non-hydrocarbons tax receipts. These have sustained double-digit growth since 2009, increasing 13.2% in 2010, 21.6% in 2011 and are projected to grow by 18.1% to AD1.86trn (€17.11bn) in 2012, according to IMF figures. Although the informal sector remains a large part of the economy and therefore constrains growth in the tax base and overall revenues, tax authorities have made some headway in boosting revenue.

The most significant measures since 2012 have included speeding up the pace of value-added tax reimbursements and first steps at rationalising the numerous tax exemptions extended to industries. The tax office has also sought to improve its administration and overall compliance, establishing a tax investigation department in late 2012 to boost compliance, particularly for those in higher tax brackets. Although the IMF projects non-hydrocarbons revenue growth to slow to 4% in 2013 and 7.9% in 2014, Algeria has ample fiscal space to finance ongoing deficits through transfers from the FRR. While it is also entertaining the idea of relying more on debt issuance to fund its budget deficits, upon the IMF’s recommendation, the MoF does not plan to cap annual FRR transfers. Yet with spending forecast to continue rising, albeit at more restrained levels, the IMF expects the budget deficit to continue.

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