Fiscal Volatility Impedes Economic Stability

There is one macroeconomic contradiction that most Ethiopians witness these days. If taken at its face value, it makes no sense. Whereas the global oil price is declining to a historic low level, with the price of Brent crude, a benchmark in Europe, losing 70pc of its value in just one year, the price at the pumping stations remains almost stagnant. Associated transport costs seem to also stay static.

For many Ethiopians, this just reflects the state’s unwillingness to live by the game of the days. What they see in the state’s character is selfishness and unfairness. Had it been about increment, they often are heard arguing, the state would have acted in the blink of an eye. Some even argue that the state is acting like the very traders it is seen denouncing for their pricing behaviour.

Unfortunately, this seems to be the case everywhere. In Europe, for example, the reduction in pumping price over the last year has been 20pc, against a 71pc reduction in global oil price. The case in North America is no different with pumping prices falling only 30pc. And this very contradiction seems to be a shared puzzle for economists and policy analysts across the world.

One thing is very sure, though. Be it in poor countries, such as Ethiopia, or developed ones, such as the United States, the puzzle strongly relates to fiscal policy. Where states manage to get resource leverages due to unforeseen macroeconomic advantages, such as reduction in the import bill, they often opt to absorb it within the budgetary framework to ease the burden in other edges. Hence, little is transferred to consumers in the form of reductions.

The extent of the absorbed and the released amount, however, depends on the fiscal landscape under the feet of states. States with tight budgetary allocations would absorb more of the windfall than states with relaxed budgetary situations. Hence, the differentials in marginal change of pumping prices around the world.

In Ethiopia, for instance, the whole situation relates to a fiscal space suppressed by an ever-widening budget deficit and incessant expansion. Latest figures show that the consolidated budget deficit of the state stands at an unprecedented 54pc of the total budget. The number is shared almost equally between foreign and local components. Despite a decreasing rate of increase, the total budget has also continued to grow year in and year out.

Whatever leverages the Ethiopian state gets as a result of the decline in oil price, are therefore employed to ease the budgetary tension that was supposed to be filled with monetary means, largely through printing of new money. Nonetheless, if the expansion factor gains more weight, then, the deficit will be maintained as planned in the budget and the new resource gain will be used to finance budgetary ambitions. And this might translate into inflationary pressure.

Had the pressure in the fiscal space been only this, it would have been less burdensome for the Revolutionary Democrats. Yet, this is not the case. Instead, the fiscal space has seen a supplementary budget approved in the second quarter of the fiscal year instead of the usual last quarter and a disbursement lag that has become a norm in the policy space. Whereas the former shows a projection failure, largely driven by the formation of a new government, the later entails policy rigidity. Both, however, impose their own pressure on the fiscal space.

Be it in the form of an expanding deficit, budgetary growth, projection failure or disbursement lag, the fiscal space the Revolutionary Democrats are sitting on remains volatile. Not even a windfall, such as a decline in oil price, can solve it. What it requires is more thoughtful policy guidance that emphasises avoiding the volatility.

For the authorities in charge of fiscal policy, such as the new Minister of Finance & Economic Cooperation (MoFED), Abdulaziz Mohammed, former vice president of Oromia Regional State, the situation is a recipe for thoughtful policy action. Inaction will not only bring costs to the economy, but can also mean a lost opportunity for reforming the fiscal terrain. It therefore seems to be time to act in the direction of fiscal stability.

Draining out the volatility within the fiscal space requires acting on multiple fronts. Narrowing down the historically large budget deficit may necessitate either enhancing the revenue line of the budget or reducing the expenditure line. However, there is inherent conflict between the objective of narrowing down the deficit and facilitating growth through public investment. For the ruling EPRDF, then, the choice is all about finding an optimal range of deficit that could be entertained without affecting the growth of the overall macroeconomy.

No economic rationale justifies shouldering a deficit of more than half of the budget. It is only by risking the stability of the overall economy that this amount of deficit can be borne. The resource leverage brought by a decline in oil price can be used but this can happen only if some portion of the budgetary expansion, driven by planned and ongoing mega projects, can be sacrificed. Otherwise, the option will sustain the pressure for too long.

Budgetary growth, in and of itself, can be an indication of economic strength. Yet, the health of it is defined by its resource package. Ethiopia’s fiscal space is identified by lack of restraint. The list of projects included in the budget continues to increase unabated, regardless of warnings by international financial institutions. From the perspective of  the International Monetry Fund (IMF), the growth crowds out the private sector, underpins inflationary pressure and fuels the macroeconomic volatility.

In contrast, the disbursement lag that has become a common trait of the fiscal authorities, largely the MoFEC, is a procedural matter. With the lag growing every year, however, the cost borne due to postponement has continued. There seems to be a need for reform in disbursement requirements and practices.

No finance minister can feel at ease, while sitting on such fiscal volatility. Nor should Abdulaziz, even if he does not have prior experience in fiscal policy. The interwoven threads of volatility in the fiscal space can slowly translate into macroeconomic stability. And there cannot be a better time than this to stabilize them.

What the time demands is for Abdulaziz’s and his peers to review the Macroeconomic & Fiscal Framework (MEFF), a three-year rolling fiscal plan, in line with the ground realities. Further, they have to align it with the policy matrix of the second Growth & Transformation Plan (GTP II). Doing so will help adjust the fiscal space to the volatility driven by macroeconomic and planning presumptions.

If they have the right policy instruments at hand, they can guide the policy thoughtfully. Then, they can properly see not only how to utilize resource windfalls, but also how to accurately foresee unprecedented obligations.

In the short-term, this may not answer the question of consumers who would like to see reduction in global oil price translated into reduction in pumping prices and other related costs. But even these consumers stand to benefit from the overall macroeconomic stability, in such ways as stable prices and better public investments.

Published on Jan 18,2016 [ Vol 16 ,No 820]



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