1 MANAGING PRICE SHOCKS Oil and Food Subsidies in Jordan First MENA-SBO MEETING CAIRO November 24-25, 2008 Dr.Hamzah Jaradat, Ph.D MoF Jordan

2 Background Subsidies Elimination Impact of Subsidies Elimination Compensatory Measures Presentation Overview

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

Oil Imports, Percent of GDP

5 the Kingdom’s imports of subsidized food items (mainly wheat, flour of wheat, bran and barley) have also been increasing over the same period. The imports of these items reached $577 million in 2007 and expected to rise to $655 million this year. As the figure below shows, the relative weight of these imports has risen from 2.3% of GDP in 2004 to 3.6% in 2007 and expected to be at the same level in 2008.

6 Food Imports of Subsidized Items, percent of GDP

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

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

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10 Oil subsidies alone was estimated to reach about $1 billion in 2008, which is 5.8% of GDP, assuming that the yearly average of international price of oil is $90/ barrel; while these subsidies would reach about $1.4 billion if the price is $100/ barrel; i.e., 7.5% of GDP. Also, it was estimated that the targeted budget deficit of 6.5% of GDP in 2008 would have increased to 9.3% if international oil prices is $90 /barrel and to 11.3% if oil price is $100/ barrel.

Budget Deficit, percent of GDP

12 About JD 375 million ($530 million); i.e., about 3% of GDP of food subsidies are allocated in 2008 budget. The increase in these subsidies compared to previous years is mainly due to sharp increases of the international prices of the subsidized food items like barley and wheat. However, budget re-estimates for 2008 shows that a saving of about $ 190 million would be achieved as a result of decreasing wheat and barley prices during the last few months.

13 Subsidies Elimination Studies by the IMF and the Ministry of Finance found that the lowest 20% income decile gets only 8.9% of the allocated fuel subsidies, while the highest 20% income decile gets 42% of the subsidies. Further, livestock farmers on average get fodder subsidy of about JD 3370 ($ 4760) per year, compared to an average of JD 718 ($1014) per year the beneficiary families get from the National Aid Fund, NAF. Therefore, a four year plan was approved in 2004 to gradually removing oil subsidies by 2008 and to fully liberalize domestic fuel market and prices.

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

15 Since then, a “Pricing Committee” sets prices on a monthly basis to reflect the changes in international oil prices. The remaining energy subsidies are estimated at 1.3% of GDP in 2008 compared to 2.7% in Removing the impact of delays in voting the budget would reduce the 2008 number to slightly below 1% of GDP.

16 Oil Subsidy, % of GDP

17 Food subsidies have been through many reforms in the past. As the figure below shows, there were no food subsidies in Starting in 2005, food subsidies started to increase. The government was aware of the issue, but these subsidies, in particular those directed to wheat and flour of wheat ware considered crucial to social stability in Jordan at this time. As mentioned above, the costs of importing these food products increased sharply during the last few years. Therefore, the subsidies allocated to food items has increased from 0% of GDP in 2004 to 1.8% in 2007, and was expected to reach to 3% in 2008.

18 Food Subsidies, % of GDP

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

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21 The average oil price for the first nine months of the year was $111.59/ barrel. Given this price, the expected inflation rate (fuel and non-fuel) was about 16%. During this period, the actual inflation rate was 15.5%.

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23 Compensatory Measures 1- Social Safety Net. The cost of which is estimated at JD 391 million ($552 million) of the 2008 budget, i.e., about 4.3% of GDP. The main features of the net are: - Increase the salaries of all public sector employees; civil servant workers, military and security agencies personnel, and civil and military pensioners. - Direct cash payment to non government workers or pensioners who have average per family income of less than JD 1000 ($1400) per annum. - Increase the payment to the beneficiaries of the National Aid Fund.

24 2- Maintain the price of bread at the same level after liberalizing the diesel prices through additional subsidy. 3- Maintain electricity tariff fixed to households who consume less than 160 kilowatt per month. 4- Partially increasing the price of LPG, while the government bears the additional subsidy. The cost is estimated at $ 113 million for Maintain barley subsidized price until early next year. The Government is expected to liberalize the price of barley in April The cost is estimated at $42 million for Exempting 13 essential commodities, energy saving products, and agricultural production inputs from custom duties and taxes. The cost was estimated at $141 million.

25 7- Salaries indexation with inflation and productivity or at least performance. For 2009, an increase of 7% on the base salary of employees and retirees was suggested. The cost is estimated at $ 88 million. 8- Direct cash payment to kerosene users of low income groups; expected cost is $ 28 million. 9- Establishing parallel markets for vegetables and fruits and exempting sellers from fees paid to municipalities to encourage farmers to sell directly to consumers.