Weakened currency unlikely to benefit Egyptian economy

Marwa Hussein, Wednesday 16 Jan 2013

The theory that currency devaluation will bolster exports has proven invalid in Egypt's case, say economists, who warn of devaluation's inevitable impact on trade deficit, inflation and state budget

Egyptians hold money inside a currency exchange office in downtown Cairo, Egypt (Photo: AP)

Unlike China or India, where a weaker Yuan or rupee can help boost exports, the structure of the Egyptian economy will not permit it to take advantage of recent currency devaluations. The decline of the Egyptian pound against the US dollar by 6 per cent in recent weeks, say experts, is unlikely to benefit the national economy.

Economists say that Egypt should worry about its trade deficit, inflation and ongoing budget deficit. After Egypt floated its currency in 2003, the theory that local currency devaluation would enhance exports has been proven invalid – at least within the Egyptian context – since many of the inputs used in different industries are imported.

"Some exporters can benefit from the devaluation, but on the national level there will be no gains," Wael Ziyada, head of research at Cairo-based investment house EFG-Hermes, told Ahram Online.

"Exports increase if they occur concurrently with an increase in import prices," Ziyada said. "But the fact that most Egyptian exporters also import equipment, spare parts and raw materials prevents significant cost decreases that would otherwise support the competitiveness of Egyptian products."

"We cannot attribute any subsequent export increases to the 2003 currency devaluation," he added.

Amr Hassanein, economy professor at the American University in Cairo, agreed with this assessment.

"The sectors that might benefit from currency devaluation are agribusinesses – and, to a lesser extent, textiles – as these depend on local materials," Hassanein said. "But the global effect will ultimately be negative."

Meanwhile, economists do not expect a significant decrease of imports due to the recent devaluations.

"We don't expect major declines in imports, even of luxury goods," Ziyada commented. "A person who buys imported cheese at LE80 per kilo, for example, will not stop buying it if it reaches LE100."

Rising trade deficit, inflation

Therefore, economists note, Egypt's trade deficit is likely to increase as a result of the pound's recent loss of value.

In 2011/12, Egypt's trade deficit reached $31.7 billion. It improved in the first quarter of 2012/13 compared to the same period the year before, dropping from $7.8 billion to $6.8 billion.

But the main concern for the Egyptian economy is soaring inflation. In the absence of further currency devaluations, EFG-Hermes expects inflation in Egypt to vary between 8.5 and 10 per cent in the first half of 2013.

"Inflation may jump further if the pound continues to decline in value," ventured Ziyada.

EFG-Hermes, for its part, expects the dollar to reach LE6.6 in 2013; it currently stands at 6.56 against the greenback. "The maximum expected decline would be to about LE7 to the dollar," Ziyada believes.

Meanwhile, the prices of many goods have increased in the first days of the new year, including those for some basic foodstuffs such as cooking oil, dairy products and poultry, among others. Automobiles and construction materials have also seen their prices rise: one week after December's currency devaluation, steel rebar prices jumped by LE190 per tonne, while per-tonne cement prices soared by LE90.

Impact on state budget

The currency devaluation has also had an impact on Egypt's state budget, which is likely to increase as expenditures rise. The main concern for Egypt is subsidies, both on foodstuffs and petroleum products, as the country remains a net importer of both.

Egypt's General Authority for Supply Commodities (GASC), tasked with providing subsidised wheat and cooking oil, recently sent a reassuring message concerning the national wheat supply. Shortly after the pound began to lose value last month, GASC said it had already purchased wheat supplies – at the original prices – for the remaining six months of the 2012/13 financial year.

Thus there is no need for additional allocations for wheat subsidies, which are expected to reach LE16.2 billion in the 2012/13 budget. The situation remains less clear for other subsidised items.

This month, supplies of subsidised food products – including cooking oil, sugar and rice – were delivered two weeks later than usual. It is therefore possible to envision an increase of the LE10.4 billion currently allocated to these items in this year's state budget.

Troubles regarding fuel supplies have also already been sensed. Reuters reported that the state-owned Egyptian General Petroleum Corporation had only purchased 3 million barrels of crude oil for the first quarter of this year – only half of what it had originally sought.

Debt service, which requires dollars, will be another burden. The main boost to the budget will come in the form of increased customs tariffs, according to a finance ministry source. The effect will be minimal, however, as customs revenues are forecast to reach some LE20.8 billion – a meagre 5.3 per cent of total state revenues.

All these factors will affect the budget deficit. Before the recent currency devaluations, Egypt’s minister of planning and international cooperation announced that the deficit was expected to reach LE200 billion in 2012/13, compared to the LE134 billion laid out in the budget.

Effects on investment

Generally, currency devaluation can enhance foreign direct investment as devaluation makes it cheaper to invest in the country. However, in Egypt's current context of political and economic uncertainty, investors have other reasons to be wary.

Ziyada, however, believes the devaluation gave a "positive message"to would-be investors.

"Devaluation of the pound was expected with the recent sharp fall of reserves. Investors had initially been reluctant to invest in Egypt fearing a sudden devaluation,"he said. Now that the devaluation has happened, Ziyada believes, potential investors will be much less anxious.

Hassanein, for his part, sees a golden lining to the recent devaluations.

"The good thing about the devaluation is that we did not create a black market," he said."That would have been more damaging for the economy."

Egypt’s foreign currency reserves have dropped from LE36 billion in January 2011 to some LE15 billion by the end of December. The Central Bank of Egypt recently described the latter figure as "a minimum and critical level that should be preserved."

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