The marginal improvement in the pound-dollar exchange rate at the end of last week after a period of sustained losses came on the back of foreign investors transferring some $925 million into the market, said a note by the Central Bank of Egypt (CBE) this week.
The pound gained some strength to stabilise at around LE29.6 to the dollar after hitting an all-time low last Wednesday at LE32.2 as foreign investment poured into the country over the following three days.
The CBE note, issued on Monday, highlighted that inflows from remittances from Egyptians abroad and tourism revenues had further supported the pound.
It followed a virtual press conference held by the International Monetary Fund (IMF) on 10 January that revealed commitments made by the Egyptian authorities under a deal that allows Egypt to secure a loan of $3 billion over four years.
Topping the list of Egypt’s commitments to the IMF is the adoption of a flexible exchange-rate regime. The currency’s peg to the dollar has been loosening, with a view to letting the currency float freely.
Egypt has been experiencing a shortage of hard currency due to the war in Ukraine, which has inflated import bills and led to almost $25 billion of portfolio investments leaving the country.
Adopting a flexible foreign-exchange regime would benefit the Egyptian economy, as it would allow the exchange rate to be set according to supply and demand, according to banking expert Hani Abul-Fotouh.
Such a regime is unlike the one followed in recent years that saw the CBE intervening in the market to support the pound, a policy that led to its using its international reserves to do so, he explained.
It is too early to dub the new regime as successful, but it has had consequences for the foreign-exchange parallel market as indicated by figures the CBE announced this week. According to the CBE, interbank trading has also grown since Wednesday by over 20-fold.
The CBE added that the banking sector has covered over $2 billion of importers’ and clients’ demands for the US dollar over the past three days.
For the fourth consecutive month, CBE net international reserves (NIRs) have risen, this time by $470 million to a total of $34 billion, up from $33.5 billion at the end of November.
Over the past four months, Egypt’s NIRs inched up by over $860 million despite the repayment of about $2.5 billion in external debt liabilities in November and December. December’s NIRs are the highest since May 2022, covering around 5.4 months of imports.
But Abul-Fotouh said that the flexible foreign-exchange regime required under the IMF loan programme would require continued currency inflows, especially from planned state-owned asset sales over the coming four years and remittances from expatriates, together with indirect foreign investments in local debt instruments.
According to its agreement with the IMF, Egypt is committed to shift to a flexible exchange rate, tighten its fiscal position, and reduce the role of the state and the military in the economy, all of which will mean the country will face multiple financial challenges in 2023, according to a report by ratings agency Standard and Poor’s Global (S&P Global).
The CBE allowed the Egyptian pound to devalue by seven per cent on 5 January, following two similar rounds of devaluation in 2022. The pound has now fallen 75 per cent from its rate of LE15.78 against the US dollar before the initial devaluation in March 2022.
However, despite the sizeable depreciation, the Standard and Poor’s report noted that the new level does not reflect a “market clearing” value for Egypt’s currency, as indicated by the continuation of activity in the parallel foreign-exchange market.
It highlights the fact that unlike in 2015 and 2016, the parallel market is currently of limited value as a market indicator, as it lacks depth and primarily serves individuals.
While the report praised the latest policy action as a step in the right direction, it added that the immediate outlook for the dollar-pound exchange rates remains challenging.
Speaking to Al-Ahram Weekly, senior economist for Middle East and North Africa (MENA) Economics and Country Risk at S&P Global Yasmine Ghozzi noted that the outlook for the pound’s performance remains unclear, adding that a clearer value will not be reached before the start of the second half of 2023.
“Further weakening is expected and volatility is obvious,” Ghozzi said.
The S&P Global report described a number of risks that Egypt’s flexible exchange rate faces under the IMF programme, as further depreciation of the Egyptian pound could encourage investors to defer switching from dollar investments.
“Similar concerns will also discourage Egyptian workers located in other countries from remitting money through official channels, resulting in at best a limited increase or even a decline of remittances in the six-month outlook,” it said.
For both portfolio and remittance inflows, the position should improve once the currency market adjusts further. This led S&P Global to forecast that Egyptian expatriates will return to using official channels, with “remittances increasingly strong during 2023 and contributing to the narrowing of the current account deficit in the 2022-23 financial year,” according to the report.
Meanwhile, the report expected Egypt’s inflation to worsen and debt-service burdens to remain challenging, as foreign-exchange weakness together with the possibility of domestic fuel price hikes continuing to raise pressure on inflation and, consequently, to impact consumer spending.
That said, the report projected Egypt’s consumer price index (CPI) to hit 25 per cent in the first quarter of 2023 and to keep its upward trend throughout the year, ending 2023 at a forecast inflation rate of around 17.5 to 18 per cent.
“This will prompt the CBE to raise policy rates by an expected one to 1.5 per cent in the first quarter of 2023, although faster tightening may be required in the event of currency weakness,” the report predicted.
Since March last year, the CBE has raised key interest rates by a total of eight per cent (800 bps), an unprecedented hike record.
Moreover, the National Bank of Egypt (NBE) and Banque Misr have issued three types of certificates of deposit (CDs) with high yields to encourage Egyptian holders of foreign currencies, especially the US dollar, to invest in Egyptian pounds by purchasing them.
The two banks said on Monday that they would stop issuing the CDs soon as they had achieved their target with more than LE200 billion being poured into them.
*A version of this article appears in print in the 19 January, 2023 edition of Al-Ahram Weekly.