Economic Research Forum (ERF Working Paper Series 1038)
Structural transformation in Egypt has been modest. Industry is growing at a slower rate than services. Within industry, the non-manufacturing sectors of mining, construction and utilities have grown faster than manufacturing. The moderate growth of manufacturing itself is sustained by that of the resource based chemicals and petroleum sector, the latter dominated by petroleum refineries. There has been no development in more sophisticated sectors such as machinery and equipment or electronics. Exports follow the same structure. High technology exports are almost absent at just 1% of total merchandise exports. These data demonstrate the failure of the Egyptian governments’ active industrial policy to achieve structural transformation. With the aid of some comparative perspective, to avoid further government failure this paper presents short (selective) and long term (neutral) policy recommendations. With respect to the former, incentives should be strictly performance-based, they should be dynamic with policies not set to contradict each other’s’ goals such as local content requirements. Whilst encouraging local production, such requirements reinforce inefficiency and reduce innovation and upgrading incentives. It is further recommended that incentives need be finite, pre-announced and enforced along with constant independent monitoring and evaluation. Improving incentives is conditional on a number of long term neutral or horizontal policies that raise the competitiveness of the entire economy and guard against capture. These policies include introducing profound governance and institutional reform to slash red-tape, remove the command and control economy, and clearly establish the rule of law with commercial dispute resolution and fair and expeditious contract enforcement. Second, improve the economy’s competitive environment and accentuate equality of opportunity between all market players rather than favoring some firms to others, and protecting market insiders at the expense of potential entrants. A non-equal level playing field has negative implications on Egyptian consumers’ welfare. This policy area also calls for clarifying the role of the Army in the economy within a framework which respects Egyptian competition law and equality of opportunity amongst all players. Next is the recommendation to focus on primary, secondary and vocational education as well as encouraging human resource innovation and improving the infrastructure not just in industrial and free zones which only partially deal with the problem. Labor markets require further easing of labor market regulations to reduce rigidities. Additionally, conditional transfers to subsidize private “not” public employment, not just to avoid politicization of government employment but to also offset the reduction in employment in construction sectors following introduction of the proposed wealth tax. These are the sectors crowding out industrial production keeping the labor force captive in low productivity sectors. Managing these schemes should not be limited to the government but can be fully run by civil society. These efforts should be coupled with flexible exchange rate policies to ensure availability of foreign exchange to producers, avoid reduced competitiveness and to limit the flow of resources into non-traded sectors. The combined effect of these recommendations will be to enhance productivity and technological content; in turn raising real wages, thus boosting effective demand and market size for more sophisticated high value products; finally realizing economies of scale for such products. All this will support growth with structural transformation, the eventual goal of Egyptian industrial policy.