Feature: Syria now running a war economy as conflict spreads

AMMAN Wed Nov 21, 2012 7:54pm IST

A man uses an ATM machine in this picture taken through a glass panel, in Damascus November 13, 2012. REUTERS/Muzaffar Salman

A man uses an ATM machine in this picture taken through a glass panel, in Damascus November 13, 2012.

Credit: Reuters/Muzaffar Salman

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AMMAN (Reuters) - At a rebel-controlled border crossing in northern Syria, camps housing thousands of refugees trying to flee the country occupy an area that less than two years ago was usually crammed with lorries queuing to pass through customs.

The capture of Bab al-Hawa, previously a throughfare for exports from Turkey and the Gulf to the rest of the Middle East and Europe, highlights the loss of transhipments through Syria as conflict has spread, causing a sharp drop in income from customs duties.

Plunging public revenues are a sign of the fiscal pressures Damascus is facing in the wake of the 20-month-old uprising against President Bashar al-Assad's government, which has crippled industrial output and oil production and triggered a sharp depreciation in the Syrian currency.

As the government focuses on trying to overcome the rebels it is directing economic resources to Assad supporters by maintaining high subsidies, increasing public sector wages and stockpiling wheat and other staple goods - o n top of having to increase defence spending.

That is putting a severe strain on public finances, raising the risk that the authorities will eventually have to resort to printing money to support the economy, something Damascus has long tried to avoid for fear of fuelling hyperinflation and further social unrest.

Finance Minister Mohammad Juleilati, unveiling next year's budget last month, announced a 13 percent rise in public sector salaries and a 25 percent increase in subsidies on food, fuel, power and agriculture.

"This is a war budget in which the bulk is spent on the army and state employees to keep the government machinery going so that it continues to function, especially in the areas that are still under its control, and to show that the state is still on its feet," said Samir Seifan, a prominent Syrian economist.

He was involved in policymaking before the crisis but has since fled the country.

Juleilati's 2013 budget was 4 percent larger than this year's at 1.38 trillion Syrian pounds despite plummeting revenues, notably from oil, which used to account for 45 percent of budget income. Now it contributes only 20-30 percent, economists estimate, as oil production has halved since the crisis to around 200,000 barrels a day.

"Revenues have deteriorated and the authorities have used up their reserves and what is keeping them afloat is some financial aid from Iran and possibly Russia," said Seifan.

The budget, moreover, does not fully reflect the state of the economy or government finances given secrecy surrounding military spending and a flourishing unofficial economy in which hundreds of thousands of Syrians pay no tax on income from working in small workshops, doing seasonal agricultural work or conducting illicit smuggling.

Sanctions imposed by Western countries banning the import of arms from Syria and blocking the Assad government's access to Western financial systems are aimed at choking off the m o ney Assad needs to fund the Syrian military.

Seifan estimates that Syria's gross domestic product shrank by at least 30 to 40 percent last year due to the collapse of tourism, which used to account for 11 percent of GDP, and the drop in oil output which previously contributed 23 percent of GDP.

A near 65 percent drop in the Syrian pound since the crisis began has sent the cost of importing fuel and other goods surging and shortages are also evident.

"The shortages in gasoline and diesel are mainly due to rising demand by the army," said a Syrian civil servant working in a non-defence ministry, interviewed via Skype.

The government's budget deficit had been a manageable 3-5 percent of GDP before the crisis but the 2013 budget forecasts a 745 billion Syrian pound deficit, or nearly a quarter of the country's pre-crisis GDP of $50 billion-$60 billion.

Subsidies on a range of goods from diesel to electricity to sugar and rice consume almost 40 percent of government spending while electricity costs eat up around 15 percent of the budget.

Sanctions against money transfers meanwhile have depleted remittances from Syrians living abroad, whose transfers of $800 million annually had provided a social safety net. Their loss has added to the plight of a population where military conflict has displaced hundreds of thousands and reduced many towns and city districts to rubble.

MYSTERY BUDGET

As the civil war has spread military spending has shot up, including the costs of a myriad of security forces to defend Assad. Exact figures are impossible to ascertain as military spending is always shrouded in secrecy even in peace time, according to Syria watchers.

"The bigger expenditure is on the army and security forces but reliable figures are not available," said a senior researcher at a Syrian government agency who requested anonymity.

"There is a part we don't see, this is why the budget is a mystery," he said.

The touchiest subject remains how much the authorities have drawn on their real war chest - foreign and gold reserves that were at least $18 billion before the crisis.

Prior to the conflict, it was an open secret that most of the country's oil revenues would go to a secret defence budget. In its 2013 budget, the government has at least 400 billion Syrian pounds in unallocated items, which economists assume are set for military purposes.

To help stem falling revenues, the authorities have reduced penalties for customs violations to encourage businessmen to pay back what they owe and have offered tax discounts to encourage tax payments.

They have also retained the flow of some subsidised goods to rebel-held areas as they hope to take back control.

"Even as planes bomb Syrian cities, the regime is still trying to eventually win the loyalty of the people," said Samir Aita, a prominent Syrian economist living in France.

In areas under rebel control in Aleppo and northern Syria, however, tens of thousands of public sector workers have not been paid because they participated in anti-government demonstrations, economists say.

The government has been building up a secret stockpile of staples including wheat, sugar and rice to use when it needs to bolster popular support.

Many more internal tenders for wheat, barley and corn have been held in recent months with the government securing supplies. Traders say the buzz word among state grain buyers to traders is "Set the price and mark-up and we will give it to you."

Businessmen say government agencies have also cut red tape to facilitate the procurement of commodities from eastern Europe a n d to help businesses.

"There is now much more receptiveness by government agencies to facilitate business," said Khalil Touma, managing partner of GATSCO, a Syrian-based i n vestment firm.

Investment in road building and other infrastructure projects has come to a halt as the conflict has spread, economists say. They estimate that reconstruction costs to repair damage so far to the country's infrastructure, including homes, will amount to at least $40 billion to $50 billion.

"Reconstruction and rehabilitating the infrastructure needs an investment budget whose allocations can only be tapped through foreign loans," Finance Minister Juleilati told parliament in November.

Syria has requested a loan from Russia to support its economy, with economists saying it is asking for up to $2 billion, although Russia has made no comment. If Damascus fails to secure substantial overseas aid economists say it will have to resort to money printing, raising the risk of pushing inflation - already running at 40 percent on an annual basis - even further into hyperinflation.

Bankers in Damascus reported in June that the authorities had already released new cash, printed in Russia, into circulation to ensure the payment of public sector salaries and expenses, although Syria's central bank denied such a move.

Economists say it may soon be forced to print money on a much bigger scale.

"If they don't get enough loans from their allies Russia and Iran they will print money and the pound will just jump from 100 to 200 to 300 against the dollar," said Seifan.

"The state is afraid of printing money because it will create a social time bomb," he said. "But it could be increasingly forced to do so to pay the army's salaries."

(Editing by Susan Fenton)

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