INTERVIEW: Uncertainties in the economy

Doaa A. Moneim, Saturday 30 Apr 2022

Al-Ahram Weekly talks to Roberta Gatti, World Bank chief economist for the Middle East and North Africa region, about projections for key Egyptian macroeconomic indices amid the ongoing Russia-Ukraine conflict.

Uncertainties  in the economy
Roberta Gatti


What are the World Bank expectations for the impact of the war in Ukraine on the Middle East and North Africa (MENA) economies through 2022?

The region’s GDP grew by 3.3 per cent in 2021 and is expected to grow by 5.2 per cent in 2022. Buoyed by high oil prices, the countries with the highest expected growth rates in calendar year 2022 are Iraq (8.9 per cent), Saudi Arabia (seven per cent), Kuwait (5.7 per cent), and Oman (5.6 per cent). Yet GDP per capita in 2022 will barely exceed (by 0.01 per cent) the region’s pre-pandemic GDP per capita as of 2019 due to the lackluster performance of most countries during 2020-21.

If these forecasts materialise, 11 out of 17 economies in the MENA region may not recover to pre-pandemic levels even by the end of 2022. The war in Ukraine and the persistence of the Covid-19 pandemic make economic projections uncertain. The MENA region, like the rest of the world, is facing rising prices, particularly for food and energy. Currency depreciation in some countries is augmenting inflationary pressures.

The war in Ukraine will have different effects across countries in the region. Oil-exporting economies may experience improvements in trade and fiscal balances as oil prices rise. That’s why the World Bank’s latest growth forecasts predict that the region’s fastest-growing economies in 2022 will be Iraq, Saudi Arabia, Kuwait, and Oman, in that order. But growth in the region will be uneven, precisely because oil and food-importing economies in the region will be hurt on average, and knock-on effects through capital markets will also create headwinds for middle-income economies, such as Tunisia, and even for Egypt.

However, and more importantly, food price inflation will hurt poor and vulnerable families in all countries of the MENA region, and indeed the world, because the poor tend to spend a higher share of their household budget on food and energy than do rich households.

There may also be potential delays or reversals of reforms in fiscal and social protection. There may be substantial impacts on food subsidies and reforms. For some oil-importers, food subsidies could be hard to maintain due to limited resources. Rising oil prices could delay reforms, however, as subsidies might rise with global food and energy prices. For oil-exporters, rising oil prices may reduce the pressure for reforms as oil revenues rise, thereby enhancing the fiscal space to raise subsidies. Oil-importers may face worsening fiscal balances as subsidies rise and structural fiscal reforms are stalled or reversed, which may also delay much-needed bold reforms.

There is also the possibility that humanitarian assistance towards fragile states in the MENA region may be diverted away when the focus is on Ukraine.

Considering the ongoing economic challenges, what are the bank’s projections for the region’s debt, including Egypt’s?

Egypt’s government debt-to-GDP ratio was already elevated at an estimated 92 per cent, as of end-June 2021. While Egypt remains committed to fiscal consolidation over the medium term, several factors are posing pressures on the budget, including the spike in international commodity prices and monetary tightening. This is expected to drive up the cost of government purchases and spending on subsidies and interest payments. Government debt is also expected to increase, including because of the recent currency depreciation and its adverse impact on the valuation of external debt.

To what extent has the current global inflationary wave affected the region’s countries over the medium term, including Egypt?

The pandemic-related disruptions to trade and global supply chains have recently been exacerbated by the war in Ukraine and the disruption of production and shipping channels in the war zone. Extreme weather conditions have also affected many countries where agriculture is a major contributor to growth and food security. Many countries in the MENA region rely heavily on food imports, including wheat from Russia and Ukraine. The rise in food and energy prices had already started before the war, and the higher risk of food insecurity is likely to affect commodity importing countries the most. Rising oil prices, on the other hand, may improve the trade and fiscal balances of oil-exporting countries, thereby enhancing their fiscal space to raise subsidies in the face of the current challenges.

In Egypt, annual headline inflation reached double digits in March 2022, reaching 10.5 per cent, up from 8.8 per cent in February, and exceeding the Central Bank of Egypt (CBE)’s seven per cent (+/- two per cent) target range. This reflects the surge in food prices, mainly of bread, grains, vegetables, poultry, and meat, unfavourable base effects, and the early impact of the exchange-rate depreciation. Further acceleration in domestic prices is expected after the recent upward adjustments in domestic fuel prices and the currency depreciation.

When can the inflationary pressure be expected to ease in the region?

As the world is now more prepared to face the pandemic, its initial effect on supply-side bottlenecks can hopefully subside. The recent geopolitical tensions are introducing a lot of uncertainty and their impacts on energy, products, and commodity markets are still unfolding. For instance, international oil prices surpassed $100 per barrel in mid-February 2022, for the first time since 2014, thereby intensifying pressures on international production and transport costs.

International food prices have also been soaring, as captured by world food commodity prices, which reached a historic high in March 2022. According to the UN Food and Agriculture Organisation (FAO), wheat and grain prices have taken a leap with the war in Russia and Ukraine escalating, as the two countries provided 30 per cent of global wheat exports and 20 per cent of global maize exports over the past three years. The lockdown of Shanghai, due to Covid’s resurgence in the city, is also expected to affect global supply chains, although the full extent is unknown and is also related to the speed at which the pandemic can be brought under control.

So, while countries around the world are taking action to curb inflation, including through monetary tightening, inflationary pressures are expected to continue at least until early 2023, but the supply-side factors that are pushing inflation contain an important component that is not easily predictable (new Covid outbreaks and geopolitical tensions). Hence, risks on the inflation front are clearly tilted towards higher and more sustained inflation.

How do you perceive the steps Egypt has taken to deal with the impacts of the Ukrainian war?

In response to the current international crisis, Egypt has recently undertaken exchange-rate, monetary, and fiscal measures to mitigate the impact of the war in Ukraine on the economy and population. The CBE has increased key policy rates by one per cent and allowed greater exchange-rate flexibility, which resulted in a 16 per cent depreciation of the Egyptian pound against the US dollar overnight. Additionally, the state-owned banks have offered certificates of deposit with very high yields (18 per cent) in an effort to prevent dollarisation, absorb excess liquidity, further control inflation, and mobilise private savings.

On the fiscal side, Egypt’s government has announced important measures to ease the impact of increasing prices on the population. A total of LE130 billion, 1.6 per cent of 2022-2023 fiscal year GDP, has been allocated to cover the expansion of the Takaful and Karama cash-transfer programmes and increase public sector wages and pensions, among other measures. At the same time, the government has also revised retail fuel prices upward by an average of three per cent through the automatic indexation mechanism to partially protect the budget from higher global oil prices, which reached an average of $85 per barrel during July-March in the 2021-22 fiscal year and $112 since the beginning of the Ukraine war in February — significantly higher than the $60 on which the 2021-22 budget was based.

In such times of turbulence, it is important for governments to preserve predictability for market players by avoiding disruptive policy measures. One important example is to make sure that trade flows freely and avoid placing restrictions on imports and exports, as trade barriers fall hardest on the poor and worsen inequality.

What about the bank’s projections for Egypt’s real GDP growth? What are the key drivers behind them?

The current baseline scenario assumes an initial decline in the pace of growth from the projected 5.5 per cent in the 2021-22 fiscal year to five per cent 2022-23, before witnessing an uptick to 5.3 per cent in the 2023-24 fiscal year.

The current 2021-22 growth projection is mainly a reflection of the solid performance of nine per cent growth during the first half of the fiscal year. Leading indicators point to a slowdown in growth during the last quarter of the current fiscal year, and through 2022-23, on the back of the adverse impact of international inflationary pressures, the decline in tourism due to the Russia-Ukraine war, and accelerating domestic prices (notably for inputs, raw materials, and transport) from the exchange-rate depreciation and the upward adjustments to fuel prices.

On the demand side, the lower growth projection in 2022-23 is due to the projected decline in private consumption as households’ purchasing power will be adversely impacted by inflation, including due to the exchange-rate depreciation. Similarly, investments may be constrained as investors will be faced with higher costs of inputs as well as the higher cost of finance due to monetary tightening. On the other hand, GDP growth is still expected to be supported by a switch from imports to local goods and services, due to the exchange-rate depreciation, while exports, notably of gas extractives, are expected to rise.

On the sectoral side, lower growth in 2022-23 is mainly driven by the impact of the Russia-Ukraine war on tourism activity. Overall industrial activity, notably non-oil manufacturing, is also expected to be relatively constrained by the higher cost of production, due to the exchange-rate depreciation and rising domestic prices, as well as the higher cost of finance due to the monetary tightening. On the other hand, GDP growth is still expected to be supported by the gas extractives, agriculture, construction, and communications sectors.

Starting in the 2023-24 fiscal year, domestic demand, consumption, and investment are projected to slowly recover as the shockwaves from the Ukraine war start abating. Sectoral activity is also expected to be supported by the gradual rebound in tourism, as well as continued growth in the gas extractives, communications, and construction sectors.

How can Egypt and the region cope with the challenge of capital outflows amid the ongoing crisis?

The increase in global investors’ risk aversion has led to capital outflows from emerging markets generally, and the MENA region is not an exception. These can indeed trigger currency depreciation, falling stock prices, and higher risk premiums in bond markets.

For Egypt, the tightening global financial conditions — and especially the hikes in the US Federal Reserve policy rates — have triggered an outflow of portfolio investments and have diverted investors’ interest towards other more established markets, triggering a decline in total international reserves in March.

In addition to the policy measures mentioned earlier, Egypt has received support from the Gulf Cooperation Council (GCC) countries in the form of a $5 billion Saudi deposit at the CBE, $2 billion in UAE investments, and $5 billion in in-the-pipeline Qatari investments. The government is also diversifying its financing sources and has issued its, and MENA’s, first Samurai bond worth $0.5 billion at end-March at an 0.85 per cent interest rate for five years.

Beyond these immediate policy responses, there are a range of reforms that would strengthen resilience to this type of shocks. They include ensuring flexibility in the exchange rate and good coordination between monetary and fiscal policies. More broadly, a rethinking of the economic growth model could drive more dynamic private sector-led growth that could strengthen the financial relationship with the rest of the world. Addressing barriers related to competition, skills shortages, an unattractive business environment, governance, and the rule of law are key to achieving this objective, as is the need to improve fiscal space and the efficiency of public finances.

How is the World Bank expected to help the region deal positively with the crisis, including Egypt?

The MENA region is unfortunately prone to the rapid evolution of the conflict in Ukraine. The region only appears to be a distant neighbour. On the economic front, many MENA countries are very close to Ukraine and Russia as trade partners.

The World Bank is prepared to respond with its instruments according to the nature of the vulnerabilities at the country level. In Egypt and other countries in the region, the Bank’s budget-support operations can be particularly effective, as the crisis is expected to be mostly felt at the level of national macro-fiscal constraints. The Bank can also step up support to domestic agri-food production and commercialisation and agricultural risk and food reserves management in countries experiencing shocks at that level, whether through increased energy and fertiliser costs, or other factors such as drought/climate-related stresses.

In the immediate term, the bank can expand nutrition-sensitive social-protection programmes in selected countries by capitalising on the work done since 2020 in the context of the Covid-19 pandemic response.

The World Bank is committed to continuing to provide technical and analytical assistance, especially to countries that will be more heavily hit on issues ranging from fiscal sustainability, subsidy reforms, food security, trade monitoring, and agricultural risk management.

*A version of this article appears in print in the 28 April, 2022 edition of Al-Ahram Weekly.

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