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The Proper Identification And Delivery Of Subsidy Benefits Economics Essay

Food subsidy programs are common tools used by the governments of developing nations to provide food items to consumers at a price well below their market price. There are a number of objectives that are sought after through the implementation of a subsidy system. First, food subsidies can be utilized as a form of partial wage compensation to individuals employed by the public sector, or the military officers and workforce. Second, the subsidy program can be used to improve the dietary level of certain groups who are at risk of malnutrition, such as pregnant women and school children. Third, in some countries food subsidies are employed to increase the income and the nutritional level of broad and ill-defined groups such as the poor.

The main success factor for subsidy programs is the proper identification and delivery of subsidy benefits to their intended groups. In general, a screening process is performed in order to determine which individuals are in need of subsidy benefits and which individuals are not. The screening process can be done either by administrative targeting or self targeting. The administrative targeting, which is employed in Egypt to some extent, requires the use of government bureaucracy in order to choose beneficiaries based on a certain criteria, which is predominantly household income. However, in the majority of developing nations, data such as household income is arduous to collect and verify due to the prevalence of the informal sector activities, making the screening process required to implement administrative targeting impractical, unless other indicators which exhibit positive correlation with household income such as the nature of the area of residence are used in the screening process. However, the alternative indicators, in particular the geographical indicator, are not properly devised for realizing target demographics.

The second type of screening, which is applied in Egypt and most developing nations, is self targeting. This method of selecting beneficiaries takes place when the subsidized food items are available to all individuals; rich and poor; however the system is planned so that only the intended group chooses to participate. This system works best when the intended needy groups consume different food items than the population at large. For example, self targeting of wheat subsidy can be effective if the poor consume more wheat than the more affluent segments of the population who for instance could prefer rice. Moreover, a subsidized food item is considered to be self targeted, when it is an inferior good that is consumed in the absolute and relative senses by both the poor and the wealthier groups. However, this can prove to be a delicate condition to suffice. In other words, the poorer segments of the populations may be spending relatively more of their incomes on particular food items than the non-poor, while the non-poor in turn spend more, in the absolute sense, on food. It is rather complex to find food items that the poor consume or spend more on, in absolute terms than do the rich. The common exception to the rule is the production and furnishing of different quality levels of the same food item. For instance, in Tunisia the rich spend more in the absolute and relative terms on subsidized bread of a particularly high quality, while the poor spend more in both the absolute and relative terms on subsidized common, low -quality bread. In other words, the choice of food commodity is vital in achieving self targeted food subsidies. (Adams,2000)

The food subsidy system in Egypt constitutes the cardinal component of the Egyptian social safety net. The food subsidy system covers local coarse bread or “baladi” bread, baladi flour, sugar, and cooking oil. The Egyptian system employs both administrative targeting and self targeting, with debatable outcomes. Food items such as baladi bread are self targeted, while cooking oil and sugar are administratively targeted. The Egyptian subsidy system has been acknowledged by the World Bank as the principle guarantor of affordable food staples for the impoverished segment of the Egyptian population. The system has also been credited with helping reducing malnutrition and infant mortality. The food rationing system began in Egypt as a temporary counter-inflationary measure in the aftermath of World War II. After the agrarian reforms brought about by the 1952 revolution, the government became increasingly involved in the making and distribution of agricultural food products. In the 1960’s and the 1970’s the Egyptian government expanded the system to areas such as transport and energy as a part of a social welfare program that persists today in order to protect the poor against the increases in consumer prices.( Gutner,1999)

In spite of it being a stronghold for political stability and a mechanism for promoting social equity, the subsidy system does have its shortcomings including it constituting a heavy economic and logistic burden on the Egyptian Government. The bread subsidy system alone costs Cairo an estimated $2 billion annually, more than the government spends on health and education. The government spends 3.06LE to transfer 1.00LE of income to a low income household via the food subsidy system. The cost of transferring 1.00LE to common consumers of local bread is 1.16LE. However, due to the fact that 61% of the gain from the local bread subsidy goes to the non-poor, the cost of reaching a poor household rises up to 2.98LE. At 4.64 LE, the cooking-oil subsidy is the least effective in terms of cost in targeting 1.00 LE of income to the poor. The expenses incurred as a result of transferring 1.00 LE of subsidy benefits to the poor consumers through the sugar and wheat flour subsidy system are 3.34LE and 3.71 LE, respectively. The current local bread subsidy is considered to be a relatively effective means of providing benefits to the poor, specifically the urban poor, helping to protect them against supply and price shocks that may arise from the economic reform process in Egypt. ( Ahmed, Bouis, Gutner, Lofgren, 2001)

The relationship between cutting consumer subsidies and political instability, with the particular consideration of developing countries, has been subject to debate. One study, which has examined cases where subsidy cuts have resulted in violence, argued that riots and protests are a negligible encumbrance for political stability. The study attributed the inconsequential nature of such riots to the generally accepted notion of them being unprompted and unsustainable acts of violent response with no intent beyond rescinding the price increases. Also, such protests are often revealed as exhibitions of broader resentment towards the government. Conversely, such an assumption is contested by the argument that maintaining food subsidy benefits are tantamount to promoting and sustaining political stability in Egypt. This side of the argument is substantiated by the impact of the only contravention of the subsidy maintenance which occurred in the late nineties. In 1977, Egypt’s first standby agreement with the International Monetary Fund was on the verge of entry into force. During that time Egypt’s external debt amounted to 5.7 billion dollars (42% of GNP). A component of this debt was the rolling over of the short term loans that were used to fund food imports, before food aid increased in 1974. In addition to an accumulating foreign debt, the international creditors were reluctant to provide Egypt with any additional funds until its policy makers reduced public spending. A prominent example of this disinclination, was the guld Organization for the Development of Egypt’s refusal to originate a one billion dollar loan fun the Egyptian balance of payments deficit. The Egyptian government decided to reduce public spending by drastically reducing subsidies. According to Dr. Hamed Latif el-Sayeh, former Minister of Economy and Economic Cooperation:

“(In 1976) we had a government budget deficit of over US $2.0 billion. When we

came into the (Egyptian) Cabinet, we decided that this must be reduced. There are four

major items in the budget: military, investment, subsidies and debt service. Should we

cut back on our military? You can’t do that. Investment? That’s growth and without

growth Egypt cannot live…. Debt service? We have more than $2.5 billion in mediumand

long-range debt. You can’t touch that. . . . (So the only thing left) is subsidies. A

few years ago we started with bread subsidies. Then we went into all kinds of things.

The subsidies went from US $175 million four years ago to US $1.7 billion. This is why

we moved immediately, and without thinking politically, I guess, to reduce subsidies. The problem was it was a bad strategy. We are not trained politicians. We did not anticipate any trouble. We told the International Monetary Fund there would be no trouble (reducing subsidies).”

On January 19th 1977, the Egyptian government declared an increase in the prices of subsidized foods including fino bread, refined flour, tea, ration rice and sugar. This declaration also increased the prices of non-food commodities such as gasoline and cigarettes. Prices for other subsidized commodities such as baladi bread, sugar, and cooking oil were not impacted by this pronouncement. Violent riots ensued in response to the announcement. Police stations were besieged, shops were ransacked, and seventy seven people were killed in Cairo. The decision was remanded and rescinded, and within a week of the announcement the IMF granted a 140 million dollar loan to Egypt to allay the political instability in the country.

The effect of the riots was the reaffirmation of the long enduring government legacy of unyielding caution regarding subsidy reform policies, in order to avoid any strategies that might be a marked target for public dissent, and over time, the food subsidy system has crystallized into a social contract between the Egyptian government and its subjects. In addition, parallel unrests in neighboring countries in the Middle East and North Africa, such as Morocco and Yemen, have armored the accent on gradualism in reform. (Self targeted)

According to the report by the International Food Research Policy Institute( IFPRI), corruption and loopholes in the system are prevalent due to the strong incentive for the intermediaries to sell the subsidized commodities at their market prices illegally. Research has shown that 28% of wheat, 20% of sugar, 15% of cooking oil, and 12% of bread are leaked and sold at market prices. This process is aided by the susceptibility of the government inspectors to bribery. The process and why the system was subject to abuse were explained to Michael Slackman, a reporter in the New York Times. Slackman explains that the government sells bakeries 25-pound bags of flour for 8 Egyptian pounds, the equivalent of about 1.50 dollars. The bakeries are then believed to sell the flatbread at the subsidized rate, which gives them a profit of 10 dollars from each sack of bread. However, the baker can simply sell the flour on the black market for 15 dollars a sack. If the inspector, who is supposedly paid 42 dollars per month, attests that after three months the baker has honestly used the flour to bake the bread, the baker gets reimbursed one dollar per bag. A baker who goes through 40 sacks of bread per day over the course of three months receives approximately 18,000 Egyptian pounds, a substantial sum that could be shared with grossly underpaid inspector. In spite of the availability of some information on corruption unofficially, it is difficult to appraise the actual level of corruption because corrupt practices are not regularly reported. In a prominent 2007 survey that ranked 180 countries by their inhabitants’, Egypt fell to 105 from 70 the previous year. (Slackman)

The nature of the Egyptian food subsidy policy separates the system into two categories according to the aforementioned screening criteria. The first category includes the untargeted system that is confined to bread and baladi wheat flour. The Subsidized baladi bread and baladi wheat are intended to be available to the Egyptian population in its entirety. However, this untargeted system’s logistic impracticality is alleviated by the assumption that mass participation in the system is inhibited by the proximity of the bread outlets and the willingness of the consumers to stand in queue to make a purchase. Such an untargeted system bears the advantage of maximum coverage without government bureaucracy to resolve eligibility for the subsidy benefits. On the other hand, the untargeted system also allows for a profound financial cost on the government, as the non-poor also have access to subsidy benefits.

Bread in Egypt is divided into three categories; the coarse baladi bread, the white shami bread, and the fino bread which bears a resemblance to French bread. The Egyptian government allows for “quality differentiation” by permitting the free market to make and sell high quality loaves of unsubsidized fino and shami bread that are larger in size. The higher quality bread is channeled towards the wealthier households, and the lower quality baladi bread remains for consumption by the poor. The price increases received little fanfare due to the fact that the baladi bread remains heavily subsidized. In 1996 the loaf of baladi bread sold at five piasters, while the coverage cost for a single loaf was twelve piasters. This obviously substantial size of the subsidy illustrates the sizeable cost of bread and wheat subsidy which accounts for sixty percent of Egyptian food subsidies. The Egyptian policy makers have lessened the incurred cost of baladi bread subsidies by instigating a policy of gradual and slow reduction of the quantities of subsidized bread, and substituting them with a more expensive version. For instance, in 1984 the price of baladi bread was increased from one piasters to two piasters without protest as the government introduced a higher quality two piaster version alongside the staple one piaster loaf. Over time, the one piaster loaf became increasingly hard to find and its quality severely deteriorated. Subsequently, most consumers switched to the higher quality, slightly more expensive loaf and the production of the one piaster loaf was terminated, without complaints. The Egyptian government also utilized the same strategy in 1989 and increased the price of the loaf to five piasters, also without protest. Other examples that illustrate the same quiet reform policy include reducing the size of the loaf from 168 grams in 1984 to 130 grams in 1991, the addition of maize flower, and removing subsidies on other types of bread (The government ended subsidies on fino bread in 1992 and 72% extraction flower, and shami bread in 1996 with 76% extraction flower). (Adams, 2000)

In order to overcome the hindrances posed by the system a number of measures should be undertaken in order to minimize costs and ensure the proper channeling of subsidy benefits. principally, the distribution outlets should be located primarily in poor areas or neighborhoods, as the number of outlets per capita in wealthier areas is more than it is in poor neighborhoods. Such areas should receive a greater share of the total amount of food subsidies, as there is strong favoritism towards urban areas, which is substantiated by the 1996 population census which places 57% of the population in rural areas with the allocation of only 30% of food subsidies. In addition, allocations at the level of the Governates disregard the geographical distribution of poverty. The production should be separated from the distribution, forcing the bakers to sell to the bakers to sell solely to the distribution, facilitating the supervisory process. Also, a more technical solution proposed in a report by the International Food Policy Research Institute is to mix maize with wheat flour used in producing the local bread. This would prevent intermediaries from sifting the mixed flour in order to separate the superior quality wheat to sell at higher market prices.

The second category of food subsides is the administered ration card system. This system encompasses food products such as edible cooking oil and sugar. About three quarters of the Population in Egypt are in possession of ration cards that provide monthly quotas of sugar and cooking oil at subsidized prices. Consumers use the ration or “ tamween” cards to purchase the subsidized commodities from outlets located in private groceries that also sell nonsubsidized consumer goods. The outlets or the “ tamweens” register with the Ministry of Trade and Supplies to receive their quotas from public wholesale companies operated by the ministry. The “ tamween” card holders register the cards with a grocer at their own discretion, and in turn the grocer notates the monthly purchases on the cards which have spaces for recording purchases for an extended time period that could last for over a decade. The cardholder must report changes in family size and deaths and migration of members to local offices run by Ministry of Trade and Supplies. However, in 1989, Ministry of Trade and Supplies stopped registering newborn children for the ration system.

There are two categories of ration cards for sugar and cooking oil, a green card and a red card. The green card, originally a non-subsidy ration card from World War II, now has a high rate of subsidy for low- income families. The red card, initiated in 1981, has a low rate of subsidy intended for people with higher incomes. The monthly quota for subsidized cooking oil varies between regions. In metropolitan Cairo, Alexandria, coastal cities, and the frontier governorates, the per capita monthly quota is 500 grams, while it is 300 grams in all other parts of the country. Oil is sold for LE 1.00 per kilogram to green cardholders, while red cardholders pay LE 1.25. For sugar, the monthly quota per capita is 1 kilogram, which is uniform throughout the country. Sugar is LE 0.50 per kilogram for green cardholders and LE 0.75 for red cardholders.

At present the Egyptian government is prepared to address subsidy reform for oil and sugar, however, there are some serious structural flaws in the current system. The government needs to ameliorate the system and enhancing equity by reducing the benefits to the non-poor and expanding the scope of coverage to protect the poor. The current “ tamween” card system is very poorly executed, with regards to providing the subsidies to the poor. A large number of wealthy Egyptians carry the highly subsidized green cards instead of the lower subsidy red cards, all the while a substantial number of the impoverished Egyptians hold red cards or no cards at all.The data extrapolated from the wide scale Egypt Integrated Household survey conducted in 1997, placed emphasis on how poorly targeted the card system is. The survey found that an aggregate 26% of household belonging to the poorest percentile of the population are not in possession of ration cards. Furthermore, 11% of the lowest quintile hold red ration cards, which are intended for higher income households. In addition, 61% of households that hold green ration cards, which are intended for the poor, belong to the three richest expenditure quintiles. ( Alderman, Harold, Von Braen, Sakr,1982)

The main objective of any policy reform would have to be the transference of non-poor customers from the high subsidy green cards to the low subsidy red cards, and poor consumers from the low subsidy red card to the high subsidy green card. Concurrently, the strategy would also transport the poor who presently do not have any ration card into the green card system. This manifestation of the government’s intent to supply a ration-card safety net to the poor who have fallen through the structure should boost the political viability of the reform. Besides, the exchange of red cards to green cards for deprived families would mirror government labors to provide a higher level of food subsidy reimbursement to the poor, which should alleviate public disparagement that the reform is targeted mainly at decreasing overall subsidy expenditures by switching people from green cards to red cards.

In order to properly target the system, the government has to have procedures in place that would readily differentiate the poor and the non-poor. In such a process, the Egyptian government is faced with a substantial administrative challenge represented by how the system will identify the income level of households accurately and cost effectively. The Ministry of Trade and Supplies and Ministry of Social Welfare provide standard application forms for ration cards that account for self reported incomes of the members of the households. This application is administered every three years in order to clear the names of each of the deceased, migrants, and to move the wealthy households to the red cards. This poses a problem because some people can understate their incomes in order to qualify for full subsidy benefits that they don’t deserve, which is made easier by the problematic nature of verifying household incomes in Egypt because it is difficult to document both the levels and sources of incomes of individuals within the household. Because measurement of household income or spending necessitates costly and time consuming examinations, such dealings of welfare are barely used in developing nations to determine eligibility or benefit levels. An alternative method would be to measure household incomes by proxies. This administration wouldn’t require a direct survey about incomes; instead however, it will utilize indicators that are strongly positively correlated with household income and consumption spending. Such indicators are relatively easy to observe and verify. A point system can be put in place and eligibly would be determined on the foundation of total scores on the indicators. Such proxy tests as the one carried out in Chile, have proven the most effective in accurately targeting subsidies to those who need them. ( Alderman, Harold, Von Braen, Sakr,1982)

Some of the proposed reforms are practical and realistic in terms of logistic and political feasibility, as any losses undertaken under these reforms by the non-poor are relatively minor. However, there is a lack of urgency in terms of instigating progressive and wide spread change as the government officials’ view that any measures taken to increase the prices of subsidized commodities to eliminate the subsidies or targeting the needy by using stamps and coupons are improbable. They are also bearish about concentrating outlets, especially bread outlets, to impoverished neighborhoods and allocating supplies to the Governates according to their poverty level, as they feel that such policies might spur public opposition. However, some actions on the government’s behalf are likely to generate insignificant political opposition such as overhauling the ration card system by lowering rations for the non-poor and taking measure to reduce leakage and combating illegal selling of subsidized commodities at market prices, such as separating production from distribution, forcing bakers to sell only to distributors, who can be more easily monitored. The policy that the Egyptian government has been pursuing is reducing the coverage and subsequently the costs of the system in a gradual manner by decreasing the number of food subsidies from twenty to four, and the kinds of subsidized bread from three to one.

In conclusion, reducing subsidy dependence is a subset of economic reform, and undertaking such policies is largely dependent upon the political economy of the country considering a policy of reform. A number of actors who stand to suffer the adverse effects of subsidy cuts can create a disturbance on the political scene. Workers can go on strike, low income segments can riot, students revolt, and the private sector can experience a capital flight. A significant number of challenges face the Egyptian policy makers who have to proceed with careful consideration. Issues such as proper targeting and combating leakage are crucial in outlining a comprehensive reform policy that is needed in order to reduce the hefty costs of the Egyptian food subsidy system, while maintaining the social safety net that protects the fragile and impoverished citizens of the developing nation.

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