Mona ElShazly
D. Proposed Reform Plan
12. The intricate political landscape of Libya requires a cautious and strategic approach.
As discussed, the main issue is not merely the price of fuel and electricity, as this is only one step in a long process of reform. To be successful, the energy reform program will have to be well designed and implemented with political consensus. Given the current political division and conflicting regimes, an open dialogue and a long negotiation process entailing compromise between the various political groups in Libya will be necessary.
In our view, and in line with the IMF’s approach, the reform plan should be implemented in successive phases in the following order:
- Establishing real fuel demand
- Controlling the fuel supply chain
- Launching a public communication plan
- Introducing a well-structured mitigation plan
- Gradually raising prices
- Implementing an automatic pricing mechanism
13. Establishing actual fuel needs is the first prerequisite.
An independent committee representing different entities must be established to assess real fuel requirements, in line with international consumption norms, for both individuals and institutional consumers. Imports would then be limited to these established quantities, after taking into consideration the local refining capacity. Furthermore, the real cost of subsidy must be quantified and properly reflected in the fiscal accounts.
The fiscal budget allocated to fuel and electricity must be separated from oil exports and not netted out from revenues directly. The cost of the crude oil that is locally refined and natural gas and diesel used in electricity generation must be included in the annual budget under fuel and electricity subsidies, respectively, to properly reflect their true burden on the budget. Currently, only the direct subsidy provided to the electricity company is included in the government’s fiscal presentation, which significantly undervalues the actual cost of subsidy.
14. The distribution and collection systems should be restructured before any reform is undertaken.
Any price increases will not be effective if there is no control over the fuel supply chain. Securing the distribution network through a digitalized monitoring system that tracks fuel quantities through the production, storage, distribution stages to final selling points will help identify any leakages outside the official network. This also must include fuel sold to the electricity company and to local refineries. At the same time, an effective collection system must be put in place to ensure the pass-through of price increases to all consumers equally, including state enterprises. The government may then allocate a subsidy to the electricity company to compensate for any losses until electricity tariffs reflect real production costs.
Furthermore, residential and commercial electricity meters must be changed to prepaid systems and illegal connections must be terminated to ensure enforcement of the new tariffs. There is already a new system being implemented in the South of Libya, whereby each citizen gets a weekly gasoline quota (using a QR code) that cannot be exceeded. This system could be further developed and implemented all over the country to track quantities sold and revenues collected.
15. A comprehensive communication strategy with the public is essential.
Before any reform is introduced, a clear and transparent communication plan must be undertaken to educate the public on the welfare losses under the existing system and potential benefits from reform. The substantial budget allocated to energy subsidies should be disclosed, along with the drawbacks of the existing system and how the public will be compensated for the anticipated price increases.
The key message should focus on the fact that not only are the Libyans paying inflated parallel-market prices but are also bearing the cost of a subsidy that they are not actually receiving. This will help foster public support and acceptance for the reform, and it will prevent social unrest that could arise if the people feel estranged from the reform process.
16. The proposed increase in prices must be sufficient to eliminate smuggling.
Gradualism is usually the preferred method for any subsidy reform to allow for adjustment by households and firms. However, subsidy reform must be customized to each country’s economic and political conditions.
Given the substantial price disparity and the large-scale smuggling, a front-loaded increase may be essential in Libya’s case. In the table below, an illustrative scenario is presented that eliminates around half of the current subsidy on gasoline and diesel in the first year and then phases out the remaining subsidy over the subsequent two years, coupled with a gradual reform for electricity and Liquified Petroleum Gas (LPG) cylinders over 5 years. In this scenario, the target price is based on the current import prices, after applying a 10 percent discount for the transportation costs of the locally refined portions of these products, except for electricity, which is based on current cost per kWh.
17. An automatic pricing mechanism should be introduced after total elimination of the subsidy to avoid any further build up in price gaps.
An automatic fuel pricing mechanism would pass through any change (increases and decreases) in international fuel prices to domestic fuel prices based on a pricing formula that takes onto account international prices, transportation costs and taxes (Coady et al., 2012). The formula is revised at regular intervals (monthly or quarterly) and may include a smoothing factor to avoid any sharp increase or decreases in prices. This ensures that prices continue to reflect actual costs and eliminates the need for fuel subsidies again in the future.
Establishing a credible and sustainable automatic pricing mechanism requires a number of institutional conditions to ensure transparency and effectiveness, including a clear legal and regulatory framework and appropriate infrastructure.
E. Mitigation Plan to Accompany Subsidy
Reform Plan
18. A well-structured mitigation plan for subsidy reform is vital to minimize potential negative impacts on the population and ensure a smooth transition. International experience suggests that countries that have adopted broad-based and relatively generous social protection programs covering a large segment of the population faced fewer implementation challenges and less pushback during the early stages of reform .
In the case of Libya, direct cash transfers may be the easiest to implement and the most accepted by the public. There are already several social programs in place that could be easily expanded to incorporate the subsidy reform transfers. A thorough design of the chosen compensation system will be essential.
The social protection plan needs to consider a few trade offs:
• Target groups: whether to target the lowest deciles of the population (lowest 40-50 percent) based on income or to extend the transfers to all citizens uniformly,
• Type of program: whether to expand existing programs or design new ones exclusively for subsidy reform,
• Size of budgetary savings: whether to redistribute all savings or re-invest them in other sectors,
• Timeline: whether the transfers will be permanent or temporary.
19. Libya has a unique chance to fully compensate the population for welfare losses and still achieve budgetary savings.
Whether the government decides to use general transfers or targeted support based on income brackets, it can compensate for the expected increase in energy prices and realize some budgetary savings at the same time. Based on the 2022 household spending survey, the average household spending on energy and transportation is LYD 78 per family with an average family size of 5.
The illustrative scenario below shows that transfers can cover the average welfare loss per family and still have sizable savings starting from the third year after smuggling is contained and the gasoline and diesel subsidies are fully phased out. These savings shall be reinvested in health, education, and public infrastructure-coordinated with the budget process according to a pre-determined and communicated plan with the public to ensure transparency.
F. Conclusion
20. Energy subsidy reform has become crucial for Libya.
Eliminating subsidies is always a challenging process. The cost to the budget is large, and Libyans are bearing the burden of a subsidy that they do not fully receive. Furthermore, energy subsidies lead to over consumption of energy, eventually leading to premature resource depletion.
Given the significant price disparities and considerable levels of smuggling, slow price gradual adjustments are unlikely to be effective in Libya. Libya has an opportunity to gradually phase out subsidies, compensate citizens for the anticipated welfare loss and realize budgetary savings.
A clear and effective communication with the public early on would facilitate adjustment and minimize potential public rejection.
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