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AfricaJuly 22 2021

Cracks appear in Algeria's economy

Despite a change in leadership before the pandemic, Algeria is yet to embark upon a programme of much-needed reforms. 
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Cracks appear in Algeria's economy

Algeria’s economy has been stretched to breaking point by the coronavirus crisis. The country — the 10th most populous in Africa — had the continent’s fifth-highest caseload as of mid-July. Faced with fresh outbreaks of the Delta variant of the virus, the government has extended lockdowns in 14 of the country’s 58 provinces, including the capital Algiers, until early August.

The crisis has brutally exposed Algeria’s failure to pass much-needed reforms. Its state-dominated economy remains heavily reliant on oil and gas revenues, the steady decline of which has depleted foreign currency reserves to dangerously low levels. Lower government revenues have, in turn, prompted a wave of bankruptcies across the economy and seen unemployment rise.

The Algerian state must prioritise deep reforms that restructure the economy away from oil and gas dependency

Yasmina Abouzzohour, Brookings Doha Centre

Anger over unemployment was a key factor in the 2019 ‘Hirak’ movement — also known as the ‘Revolution of Smiles’ — an uprising that saw president Abdelaziz Bouteflika ousted after 20 years in power. However, hopes for significant reform from a new regime led by Abdelmadjid Tebboune, elected as president in December 2019, remain low, as evidenced by poor turnouts in subsequent elections.

Hydrocarbon dominance

Oil and gas are the most critical pillar of the Algerian economy, accounting for more than 90% of export earnings, 41% of fiscal revenues, and 20% of gross domestic product (GDP) in 2019, according to the World Bank.

“Algeria’s non-hydrocarbon exports are equivalent to around 2% of its total exports, meaning it is one of the most hydrocarbon-dependent countries in the world,” noted Yasmina Abouzzohour, a visiting fellow at the Brookings Doha Centre in a recent briefing note. “To achieve long-term change, the Algerian state must prioritise deep reforms that restructure the economy away from oil and gas dependency.”

The emergence of the US shale oil industry — and actions by Saudi Arabia and others to undercut shale oil prices — had an adverse impact on oil revenues well before the pandemic sent prices tumbling in early 2020. Algeria’s GDP growth had already been drifting lower, dwindling from 3.8% in 2014 to just 0.8% in 2019, according to the World Bank.

The steady decline in oil and gas revenues from 2015 onwards significantly impacted the non-oil economy as well, prompting a wave of bankruptcies in the construction sector (second only in size to the oil and gas sector), with slowdowns in public works, housing, agriculture and trade. Private consumption fell by half between 2012 and 2019.

Covid-19 shock

Against such a backdrop, the twin shocks of the coronavirus pandemic and the dramatic (if ultimately short-lived) price war between Russia and Saudi Arabia hit the country’s energy sector hard: total export volumes fell by 11% year-on-year in 2020 to 82.2 million tonnes of oil equivalent, while revenues sank by 40% year-on-year to $20bn, according to the Ministry of Energy and Mining.

GDP contracted by 5.5% in 2020 — its first year of negative growth since 1994, according to the World Bank. Algeria’s overall budget deficit more than doubled from 7.6% of GDP in 2019 to 16.4% in 2020. The current account deficit hit 14.4% of GDP in 2020, up from 10% in 2019.

This came in spite of government efforts to slow imports via a series of tariffs on foreign goods that have seen prices soar. Inflation, which stood at 2.4% in 2020, is expected to double in 2021 to hit 4.9%, before rising to 6% in 2022, according to the International Monetary Fund (IMF).

Such measures have so far failed to halt the rapid drop in foreign exchange reserves amassed during oil’s boom years, which stood as high as $200bn in 2014. After falling steadily since then, reserves took a major hit in 2020, falling by 24% to end the year at $47bn, according to the World Bank, equivalent to around 13 months of imports.

Tax revenues also sank by 21% in 2020, while public debt, which stood at 53.1% at the end of the year, is forecast to rise to 63.3% this year and 73.9% in 2022.

Debt dilemma

Further complicating matters is a reluctance on the part of the government to seek debt funding from conventional sources.

“The regime has avoided selling debt abroad since 2005 due to its negative experience borrowing from the IMF in the 1990s, and having to restructure billions of dollars in foreign loans,” noted Ms Abouzzohour.

Such a scenario has raised the prospect that the country’s largest state-owned banks, which dominate the sector with a market share of more than 80%, will find themselves in crisis once central bank forbearance measures are wound down.

“There is an opportunity to wind down or reform banks’ reliance on the government and lending to state-owned enterprises,” says Gabrielle Ventura, an economist with IHS Markit’s banking risk service.

“This would also provide an opportunity to increase financial inclusion and boost lending to the private sector, simultaneously reducing the banking sector’s reliance on oil revenues cycling through the economy.”

Political paralysis

The departure of Mr Bouteflika as president in April 2019 initially boosted hopes for significant economic reform, including diversification away from an over-reliance on oil and gas, and the nurturing of the private sector.

However, such hopes have been largely dashed since the election of Mr Tebboune, former prime minister and ally of Mr Bouteflika, to the presidency. The new president has done little to challenge the power of the country’s military establishment, and authorities have repeatedly postponed long-awaited economic and political reforms that the Hirak movement called for. Members of Hirak boycotted June’s parliamentary elections, leading to the lowest electoral turnout in 20 years.

Mixed outlook

The past months have provided a modest uptick in optimism for the economy, with oil prices rallying to three-year highs in early July, even though prices remain far below the IMF’s target price of $170 a barrel for Algeria to break even.

“As the world comes out of [the pandemic], demand for commodities has increased and the price of oil has recovered considerably,” says Ramz Hamzaoui, chief country officer at Citi Algeria.

“This is clearly a significant tailwind for Algeria — it will improve liquidity and support public spending and public investment, which are a big part of overall macro demand in Algeria.”

Perhaps of greater concern for the government in the short term is rising unemployment, raising the spectre of renewed political protests.

Algeria’s GDP growth will rebound in 2021, hitting 2.9% this year and 2.8% in 2022, according to World Bank projections. The African Development Bank’s forecast is even more optimistic, with GDP growth expected to hit 3.4% in 2021 if vaccines lead to global control of the pandemic.

In the meantime, on July 1 the Banque d’Algérie announced a AD2.1tn ($16bn) refinancing programme, involving “a temporary sale of liquidity contribution” carried out as an initiative of the central bank, and a syndicated loans programme to boost investment in state enterprises. 

Yet while a recovery in oil prices may buy the government a little time, the country’s dwindling resources make economic diversification an urgent priority. Oil reserves are expected to be depleted by the mid-2030s, and gas reserves by the mid-2050s, according to the IMF. Gas exports are forecast to drop from 45 billion cubic metres in 2020 to just 26 billion cubic metres in 2025.

Perhaps of greater concern for the government in the short term is rising unemployment, raising the spectre of renewed political protests. IMF data show that unemployment jumped to 14.1% in 2020, up from 11.4% in 2019, and it is forecast to rise to 14.9% in 2022.

Promising signals

There have nonetheless been some signs of hope on the horizon. In June 2020, the Supplemental 2020 Finance Law was promulgated, relaxing two regulations that had been a major impediment to investment: the 49/51 rule, which restricts foreign investments to joint ventures in which Algerian nationals residing in the country hold at least 51% of the business; and a state pre-emption right offering state-owned enterprises first crack at any share sales made by or to foreign shareholders.

The 49/51 restriction has now been removed for all sectors except upstream energy, mining, transportation infrastructure, pharmaceuticals outside of “innovative essential products”, and defence. Foreign investors are now also free to transfer shares in Algerian companies that do not operate in the aforementioned sectors.

Recent reforms to the country’s foreign exchange regime have also enabled exporters to retain any foreign currency export earnings, which could also help kick-start non-oil investment.

“In the context where there has been, over the years, a drop in the value of local currency against euro and dollar, the ability for an exporter to keep 100% of export proceeds in foreign currency and use them to pay for imports is a good move,” says Mr Hamzaoui. “I think there’s understanding that this regulation needs to be updated and simplified, and we’re seeing concrete steps.”

Continue reading: Rocky road lies ahead for Algerian banking sector

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Read more about:  Africa , Algeria