El-Sisi’s Economic Challenge: Expand the Middle Class

I have recently returned from Cairo with the feeling that Egyptians may need to be reminded of Albert Einstein’s definition of insanity as “doing the same thing over and over again and expecting different results.” Following the same economic policies that contributed to the fall of the Mubarak regime over again would probably lead to discontent and political instability–maybe even another revolution with all the human and economic costs that this entails.  It is important that the El-Sisi administration adopt a new economic strategy that gives Egyptians hope for a better future, and avoids repeating past mistakes.

A recent Pew Center survey shows that 82 percent of Egyptians believe that “improving the economy is very important for Egypt’s future,” which is more than double those who say the same thing about religious freedom, the right to peaceful protest, or civilian control of the military. This does not necessarily mean that those other issues are not important for Egyptians.  The same survey shows that a majority of Egyptians continue to believe that democracy is the best form of government.  However, this result does mean that fixing the economy is Egyptians’ top short-term priority.

It is legitimate to ask: what would be wrong with a return to Mubarak era economic policies?  After all, during the ten year period leading to the January 25, 2011 revolution, the Egyptian economy was doing well. GDP was growing at 5-7 percent a year while the current account was under control and foreign reserves were high.  This strong performance continued even during the global financial crisis.  But this growth was far from inclusive.  Mubarak-era economic policies increased the gulf between a struggling middle class and the elite.

Recent research [1] has identified 469 firms that were directly or indirectly owned by businessmen close to the Mubarak regime.  Those politically-connected firms have been able to take control of a large part of Egypt’s formal private sector. Before the 2011 revolution, their revenues represented about 55 percent of total private sector revenue while their employment represented only 11 percent of private sector employment. 

Politically-connected firms grew faster than other firms and became much larger (their average revenue was four times higher than the sector average) because they were able to capture government protection and subsidies, many of them in energy intensive sectors.  This allowed them to increase their market shares relative to competitors and to leverage their equity with a dominant access to the capital market.  Growth of those politically-connected firms was at the expense of small and medium enterprises, and hence at the expense of the middle class. 

According to estimates carried out at the Brookings Institution the number of people living below the middle-class level (and thus may be considered poor) increased from 60 million in 2000 to 63 million in 2010.

The Egyptian middle class did not expand rapidly enough during the period 2000-10, the last decade of the Mubarak regime. According to estimates carried out at the Brookings Institution
[2]
the number of people living below the middle-class level (and thus may be considered poor) increased from 60 million in 2000 to 63 million in 2010.  Moreover, a large proportion of the middle class was trapped in lower middle class status, living very close to the poverty line.

Failure to raise the standards of living of the poor and especially the lower middle class distinguishes Egypt’s pre-2011 economic performance from that of successful developing countries. World Bank data shows that the proportion of Egyptians living on less than $5 a day has been stagnant at around 85 percent during the first decade of the 21st century, and their absolute number increased from 57 to 66 million.  During the same period Brazil reduced its proportion from 52 to 36 percent, China from 93 to 72 percent, and South Africa from 72 to 62 percent.  The absolute number of people living on less than $5 a day declined from 92 to 72 million in Brazil, from 1.1 billion to 950 million in China and from 32 to 30 million in South Africa.

The fact that 85 percent of Egyptians remained trapped in poverty or lower middle class status (living on less than $5 a day) could, at least partly, explain why the majority of Egyptians were dissatisfied in spite of economic growth.  They saw a small politically-connected group benefit from economic growth while they remained, for all intents and purposes, poor. 

Of course it is possible to argue that given enough time the benefits of growth would have “trickled down” to the lower middle class and the poor.  Regardless of whether “trickle down” actually works, this is unlikely to be a politically feasible alternative.  People do not seem to be willing to wait.  They want their living standards to improve now.

All of this means that the newly-elected El-Sisi administration needs to prioritize expanding the middle class and removing the policy bias against small and medium enterprises.  This is clearly a difficult task that will require time as it involves legal and regulatory reforms, as well as instititutional development and the control of corruption. 

Such a program cannot be implemented if large businesses continue to monopolize the policy debate and access to decision makers.  Therefore, as a first step it is necessary to develop ways of providing voice to small businesses and other representatives of the middle class so that they can fully participate in policy discussions.  Alone, giving those groups voice will not lead to more inclusive growth and an expansion of the middle class, but it would be a good start for the new administration as it would provide a strong signal of its desire to change the course of the Egyptian economy.

[1] See Diwan I., Keefer P., and Schiffbauer, M. (2013), The Effect of Cronyism on Private Sector Growth in Egypt, Mimeo, The World Bank:  Washington DC.

[2] For more on the different estimates of the Egyptian middle-class and its evolution over time, see Ghanem, H. (2013), The role of Micro and Small Enterprises in Egypt’s Economic Transition. The Brookings Institution: Washington DC.