Short-run energy-economy interactions in Egypt

Two obstacles to the continuation of these increased earnings are the highly subsidized domestic price of oil, which encourages domestic consumption, and the prevailing uncertainty as to reserve generation and the future production possibilities of oil. This report analyzes the effects of oil price increases, using a short-run ten-sector macro-economic model with explicit treatment of oil extraction, oil refining, and a sector consisting of electricity and natural gas. While an increase in the domestic price of oil will diminish petroleum use and induce conservation of oil resources, the reduction in petroleum use will impose painful adjustment problems for the economy, causing increased inflation, a fall in the share of wage income, and sharp output losses. A gradual increase in the price of oil towards the world price level would be less painful than would a "quantum jump" rise, in terms of the adjustment burdens for the economy. The most effective policy would be interfuel substitution in the industrial sector; however a high elasticity of substitution in the production processes between petroleum and natural gas will not succeed without efforts to increase the short-run supply of natural gas as well. The macro-economic implications of domestic petroleum pricing strategies in Egypt are extremely important; an overall energy/economy strategy is required in which adjusting domestic prices toward international prices is only one element. (Author abstract, modified)