Complete Elimination of Subsidies

Recall that we are estimating the complete elimination of subsidies as of October 2014, after the 2014 reforms and when subsidies on gasoline had been already removed. Therefore, simulations concern petroleum products that still benefited from some subsidies and the food products that were not affected by the 2014 reforms. The products considered are LPG, diesel, sugar, flour, and electricity. The baseline data for these simulations are those in Table 3.6 (October 1, 2014).

Direct Effects

The total impact of subsidies removal on households is estimated at DH -23.6 billion or DH -707 per capita (Table 3.12). The impact rises with income groups from 2.7 billion for the lowest quintile to 7.3 billion for the highest quintile. By far, the largest contributor to this impact is LPG, which alone contributes for 11.8 billion, followed by electricity with 7 billion. In terms of household welfare, the elimination of subsidies reduces welfare by 4% on average, with the impact being almost three times as large for the poorest quintile (-7.8%) as compared to the richest quintile (-2.6%).

This reduction in welfare, in turn, created a significant increase in the poverty level from an estimated 4.2% before the reform to 5.6%. It should be noted that the low poverty level observed before the reform is a rough estimate based on the last available survey (2007) inflated to 2014 prices. Therefore, the poverty level is likely to be an incorrect estimate of the true poverty level in 2014. But what is of interest here is the relative change in poverty, which is estimated at more than 34%. This is a very large increase as compared to the initial poverty level. About a third of this increase is explained by the removal of subsidies on LPG alone. We can also observe an increase in inequality estimated with the Gini coefficient, from 42.4 to 43.4, a relative increase of about 2%. The removal of subsidies on products that are

Table 3.12 Direct effects on welfare of subsidies elimination, in DH million

Quintile 1

Quintile 2

Quintile 3

Quintile 4

Quintile 5

Total

LPG

-1405.9

-1844.9

-2321.1

-2641.6

-3619.3

-11,832.8

Diesel

-0.6

-2.3

-10.5

-29.2

-257.2

-299.8

Sugar piece

-232.0

-253.4

-252.5

-254.5

-217.7

-1210.2

Cube

-0.1

-2.9

-9.6

-36.2

-129.7

-178.6

Granulated

-70.0

-97.4

-112.0

-125.8

-160.1

-565.4

Flour free

-33.6

-91.1

-138.0

-233.1

-291.9

-787.6

Natural

-397.2

-451.5

-363.1

-285.4

-123.4

-1620.6

Electricity

-579

-974

-1318

-1684

-2501

-7057

Total

-2719

-3718

-4525

-5290

-7301

-23,552

Source World Bank estimations using SUBSIM Note LPG = liquefied petroleum gas

particularly associated with the rich, such as diesel, contributes to less inequality, but, on aggregate, inequality increases.

The elimination of subsidies would naturally save the government the equivalent of total subsidies or DH 23.6 billion. However, it is instructive to see what the cost would be to the government of providing a universal cash transfer to all households that would maintain the prereform poverty level unaltered. This amount is estimated at 12.0 billion and would result in government savings of 11.5 billion (Table 3.13). This amount should be considered as an upper bound for transfers. If the government is able to target cash transfers to the poor to compensate for their losses in subsidies revenues, the cost for the government would be much lower.

To better understand the trade-offs between the gain in terms of government revenues and the losses in terms of poverty increases of subsidies reforms, see Fig. 3.3. The data show the increase in poverty (panels a, c, and e) and the impact on government revenues (panels b, d, and f) of price increases between 1 and 100% for all products considered. Note that these price increases may not be realistic and even above the increases necessary to eliminate subsidies. The only purpose of this exercise is to show which product is the most promising in terms of positive impact on government finances while maintaining poverty low.

Concerning food products, increasing the prices of flour results in larger poverty increases as compared to sugar, but this is true only up to increases of about 40%.

Table 3.13 Direct effects of elimination of subsidies

Prereform

Postreform

Change

Welfare (per capita)

17,420

16,713

-707

Poverty

4.16%

5.60%

1.44%

Inequality

42.43%

43.42%

0.99%

Subsidies

23,552 m.

0.000

-23,552 m.

Transfers

0

12,044 m.

12,044 m.

Total budget

23,552 m.

12,044 m.

-11,508 m.

Source World Bank estimations from household budget survey data

Sensitivity of changes in poverty and government revenues to changes in prices

Fig. 3.3 Sensitivity of changes in poverty and government revenues to changes in prices. Source World Bank estimations using SUBSIM. Note The y-axes in panels a, c, and e represent the change in poverty expressed in percentage points. The y-axes in panels b, d, and f represent the gain in the government budget in local currency

After this threshold, it is sugar that increases poverty. In terms of government finances, increases in prices of flour provide more government savings than increases on sugar all along the price increasing spectrum. There is clearly a trade-off here. If the government increases prices of flour, it will gain more than it would by increasing prices of sugar, but the cost for poverty will also be higher than increasing prices for sugar. This is true up to price increases of 40%. After that, a good strategy is to continue increasing prices for flour while maintaining prices of sugar as sugar becomes more costly in terms of an increase in poverty and flour continues to be superior in terms of government savings.

Petroleum products (panels c and d) are simpler to interpret. The only poverty-increasing product is LPG given that poor households do not use diesel and that gasoline has no subsidies. Because increasing prices of gasoline and diesel further can increase government savings, it would be a good strategy to keep LPG subsidies while financing these subsidies with further increases in gasoline and diesel prices (from a purely poverty-savings perspective). However, we saw that LPG is prorich while panel d shows that the largest savings would be made with the increase in LPG prices. If we consider direct effects only (as we do in this section), increasing gasoline and diesel prices alone is not sufficient to fix government finances, and the government will have to address the large subsidies currently allocated to LPG.

The picture is even simpler with electricity (panels e and f). Increases in electricity prices are more promising for government savings than other products but they also have a much greater impact on poverty. What is noticeable here is that price increases of electricity beyond 60% bring very little additional government revenues (households start to consume much less), but poverty would continue to increase steadily. The reform of electricity subsidies therefore is quite complex and needs to take into account the elasticity of consumption to price increases as well as the tariffs’ brackets. The price increases that are considered in reality—for example, the 2014 reform of electricity tariffs—are below 20%. This is the area of the graphs that is most of interest in Morocco today.

Indirect Effects

As a reminder, what we are considering is the elimination of subsidies in October 2014. By that time the subsidies for gasoline had been already removed, and this product will not be considered here. We also do not consider LPG and flour, assuming that these products do not have indirect effects. Although some enterprises may use LPG bottles and some large industrial bakeries may use subsidized flour, these effects are expected to be small. Household businesses such as small street restaurants and cafes and small bakeries run by households are captured in household consumption and therefore already accounted for in the direct effects. Instead, subsidized sugar, which is used as an intermediary product by the food industry, will be considered as well as diesel, which is used by commercial transport. In addition, we will consider the elimination of subsidies on electricity, as this sector functions as inputs to other sectors.

With input-output tables, price shocks can be applied only to sectors rather than individual products. For goods with linear pricing (gasoline and diesel), the price

Table 3.14 Baseline information of simulation of subsidies removal (indirect effects)

Unit

Subsidized unit price

Unsubsidized unit price

Share in I/O sector

(%)

Price

increase

(%)

HBS

sector

Corresponding I/O sector

Diesel

L

9.89

10.69

38.6

3.12

Petroleum

D23-Oil

refining

Sugar

kg

5.82

8.67

1.6

0.78

Food

A001-2

agriculture

Electricity

kWh

1.04

1.56

100

49.95

Electricity

E001 electric energy

Source World Bank estimates from baseline prices and household data

Note HBS = household budget survey; I/O = input/output; kg = kilogram; kWh = kilowatt hour; L = liter

shock for the sector (petroleum) is estimated as an average of the price shocks of gasoline and diesel resulting from the elimination of subsidies. For goods with nonlinear pricing (electricity), the price shock is estimated as the increase in average tariffs weighted by the number of households consuming in each block. Table 3.14 describes the price increases considered for the simulations.

Note that it is not possible to compare these simulations with the simulations on direct effects for various reasons: the simulations in this section do not cover all products simulated in the direct effects section; they include both direct and indirect effects; they consider a joint shock to different sectors; the impact is estimated on consumption items that are more aggregated than individual products as in the direct effects section; and for goods like electricity, we cannot simulate price shocks for individual tariffs’ blocks with an I/O table. It is, however, possible to gauge the relative importance of indirect effects if simulations are run one at a time.

Consider diesel. This product is mostly consumed by commercial transport and only moderately by households. We should therefore expect shocks to this product to have large indirect effects and small direct effects. The elimination of subsidies on diesel would result in a price increase to the petroleum sector of 3.12%, and this increase has indirect effects that account for 87.8% of the total effects (Table 3.15). As predicted, indirect effects are much greater than direct effects for a product like diesel. If we consider instead a product like sugar, which is mostly consumed by households and we repeat the exercise, we find direct effects for only 2% of the total (recall also that industries using sugar as a production input have to reimburse the equivalent of the government subsidy).

Table 3.15 Indirect effects of subsidies elimination of selected products, percent

Quintile

Diesel

Sugar

Electricity

1 (poorest)

99.55

1.03

30.10

2

98.87

1.22

30.31

3

96.48

1.48

30.52

4

93.43

1.67

33.89

5 (richest)

81.33

2.84

42.17

Total

87.79

2.00

36.55

Source World Bank estimations using SUBSIM

The ratio of direct and indirect welfare effects changes very significantly across products and also across quintiles (Table 3.15). For diesel, indirect effects are almost 88% of the total, but for sugar they are only 2%. For electricity, indirect effects are estimated at 36.5% of total effects. An important difference also exists across quintiles. For diesel, the indirect effects are practically the only effects for the poorest quintile, but they become 93.4% for the richest quintile. For sugar, these shares are 1.03 and 2.84%, respectively, and for electricity they are 30.1 and 42.2%. These are gross estimates based on the price shocks described in Table 3.14. If the government should decide, for example, to change electricity tariffs for the production sector, the effects on household welfare may be very different.

 
Source
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