Rug-weaving room at a government-run crafts center in Addis Ababa. Courtsey Food and Agriculture Organization of the United Nations (S. Pierbattistin)
The imperial government presided over what was, even in the mid-twentieth century, essentially a feudal economy, with aristocrats and the church owning most arable land and tenant farmers who paid exorbitant rents making up the majority of the nation's agriculturalists. Acting primarily through the Ministry of Finance, the emperor used fiscal and monetary strategies to direct the local economy. The various ministries, although not always effective, played a key role in developing and implementing programs. The government conducted negotiations with the ministries to allocate resources for plan priorities.
Officials formulated actual operations, however, without adhering to plan priorities. This problem developed partly because the relationship between the Planning Commission, responsible for formulating national objectives and priorities, and the Ministry of Finance, responsible for resource planning and management, was not clearly defined. The Ministry of Finance often played a pivotal role, whereas the Planning Commission was relegated to a minor role. Often the Planning Commission was perceived as merely another bureaucratic layer. The ultimate power to approve budgets and programs rested with the emperor, although the Council of Ministers had the opportunity to review plans.
After the revolution, the government's role in determining economic policies changed dramatically. In January and February l975, the government nationalized or took partial control of more than l00 companies, banks and other financial institutions, and insurance companies. In March l975, the regime nationalized rural land and granted peasants "possessing rights" to parcels of land not to exceed ten hectares per grantee. In December l975, the government issued Proclamation No. 76, which established a 500,000 birr ceiling on private investment and urged Ethiopians to invest in enterprises larger than cottage industries. This policy changed in mid-1989, when the government implemented three special decrees to encourage the development of small-scale industries, the participation of nongovernmental bodies in the hotel industry, and the establishment of joint ventures.
Under the Provisional Military Administrative Council (PMAC; also known as the Derg--see Glossary), Ethiopia's political system and economic structure changed dramatically, and the government embraced a Marxist-Leninist political philosophy. Planning became more ambitious and more pervasive, penetrating all regions and all sectors of the society, in contrast to the imperial period. Article ll of the l987 constitution legitimized these changes by declaring that "the State shall guide the economic and social activities of the country through a central plan." The Office of the National Council for Central Planning (ONCCP), which replaced the Planning Commission and which was chaired by Mengistu as head of state, served as the supreme policy-making body and had the power and responsibility to prepare the directives, strategies, and procedures for short- and long-range plans. The ONCCP played a pivotal role in mediating budget requests between other ministries and the Ministry of Finance. The government also sought to improve Ethiopia's economic performance by expanding the number of state-owned enterprises and encouraging barter and countertrade practices (see Industry and Energy; Foreign Trade, this ch.).
On March 5, 1990, President Mengistu delivered a speech to the Workers' Party of Ethiopia (WPE) Central Committee in which he declared the failure of the Marxist economic system imposed by the military regime after the 1974 overthrow of Emperor Haile Selassie. He also announced the adoption of a new strategy for the country's future progress and development. Mengistu's proposals included decentralization in planning and a free-market, mixed economy in which the private and public sectors would play complementary roles. The new strategy would permit Ethiopian and foreign private individuals to invest in foreign and domestic trade, industry, construction, mining, and agriculture and in the country's development in general. Although Mengistu's new economic policy attracted considerable attention, many economists were skeptical about Ethiopia's ability to bring about a quick radical transformation of its economic policies. In any case, the plan proved irrelevant in view of the deteriorating political and military situation that led to the fall of the regime in 1991.
During the imperial period, the government initiated the budget cycle each year on the first day of Tikimt (October ll) by issuing a "call for budget proposals." Supposedly, the various ministries and agencies adhered to deadlines in completing the budgetary process. These organizations submitted current and capital budget proposals to the Ministry of Finance; the Council of Ministers reviewed all requests. The ultimate power for approval rested with the emperor.
After the revolution, the government developed new guidelines on budget preparation and approval. Addis Ababa issued annual budget "calls" in July or August, with preliminary information and guidance. The new guidelines required ministries and agencies to complete their proposals by January, when budget hearings would begin. The hearings included discussions with ministries in which requests would be aligned with allocations, and justifications for requests would be evaluated. After the ministries submitted their current budget proposals to the Ministry of Finance for review, with a copy to the ONCCP, the ONCCP executive committee would approve, disapprove, or change the requests. Conversely, ministries would send capital budget proposals to the ONCCP with a copy to the Ministry of Finance. The ONCCP would conclude a similar process of budget hearings, which would include a review of adherence to guidelines, justifications for requests, and conformity to investment priorities identified in the national plan. Thus, under the new system, the Ministry of Finance developed the current budget, and the ONCCP developed the capital budget. Draft current and capital budgets prepared by the Ministry of Finance and the ONCCP, respectively, would then be reconciled with estimates of revenues, domestic resources, and other sources of funding such as loans and aid. The consolidated current and capital budgets then would go to the Council of Ministers for review and recommendations. The final approval was the head of state's prerogative (see Banking and Monetary Policy, this ch.).
Resources were allocated among the various sectors of the economy differently in the imperial and revolutionary periods. Under the emperor, the government dedicated about 36 percent of the annual budget to national defense and maintenance of internal order. Toward the end of the imperial period, the budgets of the various ministries increased steadily while tax yields stagnated. With a majority of the population living at a subsistence level, there was limited opportunity to increase taxes on personal or agricultural income. Consequently, the imperial government relied on indirect taxes (customs, excise, and sales) to generate revenues. For instance, in the early l970s taxes on foreign trade accounted for close to two- fifths of the tax revenues and about one-third of all government revenues, excluding foreign grants. At the same time, direct taxes accounted for less than one-third of tax revenues.
The revolutionary government changed the tax structure in 1976, replacing taxes on agricultural income and rural land with a rural land-use fee and a new tax on income from agricultural activities. The government partially alleviated the tax collection problem that existed during the imperial period by delegating the responsibility for collecting the fee and tax on agriculture to peasant associations, which received a small percentage of revenues as payment. Whereas total revenue increased significantly, to about 24 percent of GDP in EFY l988/89, tax revenues remained stagnant at around l5 percent of GDP. In EFY l974/75, total revenue and tax revenue had been l3 and ll percent of GDP, respectively. Despite the 1976 changes in the tax structure, the government believed that the agricultural income tax was being underpaid, largely because of underassessments by peasant associations.
The government levied taxes on exports and imports. In 1987 Addis Ababa taxed all exports at 2 percent and levied an additional export duty and a surtax on coffee. Import taxes included customs duties and a 19 percent general import transaction tax. Because of a policy of encouraging new capital investment, the government exempted capital goods from all import taxes. Among imports, intermediate goods were taxed on a scale ranging from 0 to 35 percent, consumer goods on a scale of 0 to l00 percent, and luxuries at a flat rate of 200 percent. High taxes on certain consumer goods and luxury items contributed to a flourishing underground economy in which the smuggling of some imports, particularly liquor and electronic goods, played an important part.
Although tax collection procedures proved somewhat ineffective, the government maintained close control of current and capital expenditures. The Ministry of Finance oversaw procurements and audited ministries to ensure that expenditures conformed to budget authorizations.
Current expenditures as a proportion of GDP grew from l3.2 percent in EFY l974/75 to 26.1 percent in EFY l987/88. This growth was largely the result of the increase in expenditures for defense and general services following the 1974 revolution. During the l977-78 Ogaden War, for example, when the Somali counteroffensive was under way, defense took close to 60 percent of the budget. That percentage declined after l979, although it remained relatively higher than the figure for the prerevolutionary period. Between l974 and l988, about 40 to 50 percent of the budget was dedicated to defense and government services.
Economic and social services received less than 30 percent of government funds until EFY l972/73, when a rise in educational outlays pushed them to around 40 percent. Under the Mengistu regime, economic and social service expenditures remained at prerevolutionary levels: agriculture's share was 2 percent, while education and health received an average of l4 and 4 percent, respectively.
The 1974 revolution brought major changes to the banking system. Prior to the emergence of the Marxist government, Ethiopia had several state-owned banking institutions and private financial institutions. The National Bank of Ethiopia (the country's central bank and financial adviser), the Commercial Bank of Ethiopia (which handled commercial operations), the Agricultural and Industrial Development Bank (established largely to finance state-owned enterprises), the Savings and Mortgage Corporation of Ethiopia, and the Imperial Savings and Home Ownership Public Association (which provided savings and loan services) were the major state-owned banks. Major private commercial institutions, many of which were foreign owned, included the Addis Ababa Bank, the Banco di Napoli, and the Banco di Roma. In addition, there were several insurance companies.
In January and February l975, the government nationalized and subsequently reorganized private banks and insurance companies. By the early l980s, the country's banking system included the National Bank of Ethiopia; the Addis Ababa Bank, which was formed by merging the three commercial banks that existed prior to the revolution; the Ethiopian Insurance Corporation, which incorporated all of the nationalized insurance companies; and the new Housing and Savings Bank, which was responsible for making loans for new housing and home improvement. The government placed all banks and financial institutions under the National Bank of Ethiopia's control and supervision. The National Bank of Ethiopia regulated currency, controlled credit and monetary policy, and administered foreign-currency transactions and the official foreign-exchange reserves. A majority of the banking services were concentrated in major urban areas, although there were efforts to establish more rural bank branches throughout the country. However, the lending strategies of the banks showed that the productive sectors were not given priority. In l988, for example, about 55 percent of all commercial bank credit financed imports and domestic trade and services. Agriculture and industry received only 6 and l3 percent of the commercial credit, respectively.
To combat inflation and reduce the deficit, the government adopted a conservative fiscal management policy in the 1980s. The government limited the budget deficit to an average of about l4 percent of GDP in the five years ending in EFY l988/89 by borrowing from local sources. For instance, in EFY l987/88 domestic borrowing financed about 38 percent of the deficit. Addis Ababa also imposed measures to cut back capital expenditures and to lower inflation. However, price controls, official overvaluing of the birr, and a freeze on the wages of senior government staff have failed to control inflation. By 1988 inflation was averaging 7.1 percent annually, but it turned sharply upward during 1990 as war expenditures increased and was estimated at 45 percent by mid-1991. Moreover, money supply, defined as currency in circulation and demand deposits with banks (except that of the National Bank of Ethiopia), rose with the expansion in government budget deficits, which reached about 1.6 billion birr in EFY 1988/89. To help resolve this deficit problem and numerous other economic difficulties, Addis Ababa relied on foreign aid (see Balance of Payments and Foreign Assistance, this ch.).
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