* Financial problems force government to change policies
* Budget situation “extremely tense”
* Foreign exchange reserves fell by $88 bln since 2014
By Hamid Ould Ahmed
ALGIERS, Sept 11 (Reuters) - Algeria’s new government will introduce Islamic finance and develop its stock market to draw more investment into the economy as it struggles to cope with a sharp fall in energy earnings, according to an official document.
The measures are part of wider reforms by Prime Minister Ahmed Ouyahia’s government, which also said it plans to start fracking for shale hydrocarbons to boost oil and gas revenue, the main source of state income.
The North African OPEC member’s finances have been hit by a more than 50 percent drop in crude oil prices since mid-2014, prompting authorities to announce changes to the largely state-controlled economy.
“The situation remains extremely tense for the budget,” the government said in its economic action plan, using unusually blunt language. “In the current situation, 2017 will end with real difficulties, while 2018 looks to be even more complex”.
The crisis was likely to be sustained because “there is no prospect of a significant recovery in oil prices for the short and medium terms,” it said. “At the domestic level, the state of public finances is worrying.”
In a bid to ease financial pressure for the coming years, the government plans to “strengthen the supply of banking products, including leasing and products of the so-called Islamic finance”.
It is the first time the authorities have openly mentioned the introduction of Sharia-compliant Islamic finance, which respects the prohibition in Islam against paying interest.
This will coincide with plans “to ensure the development of the capital market as well as the stock exchange to offer alternatives to financing of investment and capital increases,” according to the action plan.
Algeria has failed in the past to modernise its stock market, now smaller than those in neighbouring Morocco and Tunisia, and has a very low level of liquidity.
Its firms currently rely on state finances, which in turn depend on the hard-hit oil and gas sector.
The government had previously dropped fracking plans after environmental protests in the Sahara desert. The new attempt “will be accompanied with a special effort of explanation ...in the direction of public opinion,” the government said.
It also plans to continue spending cuts, including to subsidies, which currently apply to almost everything from food and medicine to housing, education and energy.
Cutting subsidies would require “good preparation, which will be followed by consultation with economic and social partners and then with parliament,” the government said. It has slashed public spending by 14 percent this year, after a 9 percent reduction in 2016.
But analysts say spending cuts alone may not be enough to tackle the crisis. Foreign exchange reserves fell to $105 billion in July this year from $193 billion in May 2014 - mainly due to high imports, on which the government has spent $561 billion since 2000. (Reporting by Hamid Ould Ahmed; Editing by Mark Trevelyan)