Back in May 2024 several high-caliber economists and practitioners gathered in Berlin to discuss principles that should guide policymakers and finally came out with the Berlin Declaration. And there was a striking degree of consensus that policy reforms along the lines of market-liberal, “Washington Consensus” orthodoxy have disappointed in many countries. Specifically, pro-market policies have not focused enough on people’s real problems such as shared prosperity and decent jobs and, instead, resulted in an ever-rising income and wealth inequality. Not to mention depriving developing states and their citizens of control over key strategic interests. In fact, in one document cited by the influential economist Dani Rodrik, none other than the World Bank had already warned people “to be skeptical of top-down, comprehensive, universal set of solutions,” recommending instead selective, modest and local context-driven policy reforms.
So it is an interesting coincidence that Ethiopia adopted “comprehensive macroeconomic reforms” à la the Washington-Consensus, best-practice tradition only shortly after the latter’s postmortem was held in Berlin. To be fair, Ethiopia is only one among dozens of developing countries that have recently resorted to such policy reforms under intense fiscal and debt pressures. Ethiopia’s policy reforms have come in the form of conditionality attached to the IMF’s four-year Extended Credit Facility arrangement. The economic program has a distinctive focus on short- and medium-term macro stabilization, putting fiscal discipline, reorientation of public expenditures, tax reform, unified and competitive exchange rate, and financial liberalization at the top of the wish list. However, while the extra capital inflow secured from international financial institutions has definitely alleviated our national financial crunch, the macro stabilization program has deepened the socioeconomic pressure on typical Ethiopians.
Notwithstanding officially slowing inflation, Ethiopians are currently going through a dreadful cost-of-living distress and more anxious about affordability than ever before. True, we had difficulty in making ends meet even in pre-reform years. But the IMF-supported program could not come at a worse time, with prices of basic necessities subsequently jumping two- or three-fold. Most people’s purchasing power has gone through the floor. Middle- and lower-income households, who have no surplus to spare, are shouldering the heaviest burden – even more so in urban centers like Addis Ababa, where an increasing number of people are downgrading consumption to goods of cheaper variety, from sheger bread to “Sunday market” vegetables and to other items from street vendors. The overall consumer confidence could only have plunged.
How do we know that the macro stabilization program has hurt the typical consumer? Anyone who demands protest demonstrations as proof is foolish. Let’s instead look at the program’s main manifestations to date – namely, steep currency devaluation, tax escalation and subsidy cuts/removals. First, there has been a move toward a floating exchange rate regime in order to eliminate exchange rate overvaluation, which the IMF believes is “the source of deep, longstanding macroeconomic distortions.” So the birr has duly obliged and relinquished all its value in Forex in a year. However, not only that the regime change does not guarantee either confidence or a real exchange rate competitive enough to accelerate non-primary exports, but it has clearly inflated the values of many goods via import prices and price-setting behavior that incorporates inflationary expectations.
What about tax reform? It is supposed to broaden the tax base over time while lowering marginal rates, thereby enhancing the federal government’s fiscal position. It is not meant to take a spray-gun approach to taxation, including within the tax base whatever was untaxed or now looks taxable, or to push rates as high as possible, especially quickly. But the government has now levied or increased taxes on such basic goods and services as water, electricity, transport, modest owner-occupied homes, house rental incomes with too low a threshold, and retail mobile and digital transactions. One might argue that the prices of some of these are lower than regional averages, but our income per capita, adjusted for price level differences, is also significantly lower than the Sub-Saharan African average. Moreover, a tax reform is supposed to be distributionally at least neutral if not progressive. So the authorities’ increased use of a uniform value-added tax (VAT) to raise additional revenue, not even exempting basic food items and given limited coverage of social protection programs, represents a serious hit to the average consumer, especially in urban areas. This is because a VAT, being a tax on final consumption, is regressive in its incidence, falling most heavily on the poor and middle class, as the latter consume a higher fraction of their income than the rich. You may counter by pointing to the collected money’s welfare-improving effect on the poor, but that is far from being a sure thing.
Even more frightening, the reform program appears to have envisaged imposition of VAT and excise on fuel starting in the fiscal year 2025/26. This will indeed be very bad news, if acted upon. Mind you, fuel prices have already been increased three times in just under a year, by withdrawing subsidies, prompting additional inflationary pressures. True, fuel prices for an importing country normally reflect the global price of crude oil. But this should not be enforced at a time when the vast majority of people are already facing a major price shock and workers have seen overall consumer prices rise a lot faster than their wages, while carrying effective tax overburden. Why not? Because subjecting fuel to taxation will increase transport prices and operating costs of businesses even more, which will inevitably be passed onto consumers, not to mention reignite the general price level. So full cost recovery and further taxation in the provision of fuel (and also utilities) may gratify the IMF, but almost surely hurts ordinary families. A fuel tax is not compelling as an excise either, when our public transportation is inefficient and there is as yet no viable replacement in the market for energy.
But hasn’t the government set a goal to increase our tax-to-GDP ratio? Well, the first thing to remember is that tax is a policy instrument, not an objective. Second, the tax take varies with the business cycle regardless of tax policy (e.g., our tax-to-GDP ratio averaged 12% over the period 2009/10-2017/18, higher than current program target of 10%), so too much focus on the ratio is unwarranted. Last but not least, the government must beware of its triumphalism over the post-reform astronomical growth in tax revenue that is attained in no small part on the back of severe financial and mental strains for many households, workers and small businesses.
There’s more. To increase non-tax revenue, the authorities have also made some mind-blowing upward changes in governmental service charges, fees and fines, which play their part in the cost-of-living story.
Turning to public expenditure priorities, our government is correct to make an effort to save taxpayer money by reducing unnecessary bureaucracy, avoiding vanity projects, and cutting out waste and corruption in the management of worthwhile projects. There are also circumstances in which indiscriminate subsidies can be adjudged socially undesirable. Nevertheless, free-market ideologues’ “shoot-at-sight” approach to state subsidies in the name of raising efficiency is misguided (and, of course, hypocritical). Subsidies and transfers are key tools of income redistribution. And our subsidies for things like food, edible oil, water, electricity (home use), public transport, residential housing and fertilizers should not be dismissed as “waste and resource misallocation.” Rather, they should form part of the social safety net, as cutting or eliminating them would leave the poor majority worse-off and thus likely worsen poverty and social insecurity. As the saying goes, “a government is an insurance company with an army,” prioritizing spending based on public preference. So Ethiopians would also prefer to maintain the aforementioned subsidies – inasmuch as we value democratic consent in policymaking.
The point is, efficiency should not trump everything else, especially equity. If helping citizens to put food on the table results in a modest reduction in budgetary position, efficiency or growth, so be it – after all, growth will not trickle down to enrich everyone. It can also be viewed as a cost worth paying to avert the risk of sociopolitical crisis.
The IMF, for its part, says that part of their loans is to “strengthen targeted subsidies or social safety nets in order to help the poor and vulnerable groups.” Indeed, the government has given assistance along the same line, already accustomed to allocating life necessities like housing among citizens based on the “poorest of the poor” criterion. But think about it: Ethiopia is a low-income country where more than two-thirds of the population lives in multidimensional poverty. In this context, how can one make a distinction between targeted and untargeted subsidies in any meaningful sense? The “targeted social safety nets” advocated by the IMF are at best palliative and do little for the disadvantaged who make up the bulk of our population. Contra the IMF, what we need is proportionately universal social protection.
All in all, the anticipated socioeconomic pain from the IMF-supported reform program has well and truly begun to bite. But the worst may be yet to come as the inflationary impact of policy changes takes time to fully manifest. Yes, the government insists that it is taking temporarily painful means to beneficent long-term economic ends. But the means should not be grossly disproportionate to the ends. And mustn’t a society first survive to reach the long run?
Meanwhile, the IMF is worried about maintaining the reform momentum and whether quantitative targets are met – which would probably mean that there is no end in sight to the affordability nightmare that currently haunts Ethiopians’ sleep.
So what can be done? The authorities in effect reduced their “policy space” when they signed up for the IMF lending program and may not want to deviate from the latter now and risk losing the Bretton Woods institutions’ badly needed finances and approval. However, pragmatism dictates that they put the brakes especially on their fiscal efforts to meet overzealous budget targets by escalating taxation and suppressing subsidies, which typically end up pushing living costs upward for the majority vulnerable population, for which no targeted assistance will compensate.
The stakes are high, not least in the political field. Economically painful reforms are a proven political loser, not a winner. If the public discontent over kitchen-table issues continues unabated, it can produce a political backlash in one way or another. Or will the government get away with it? We’ll have to wait and see.
I am an Economic and Business Analyst based in Addis Ababa. I can be reached at matias.assefa@gmail.com
