Economic challenges continue

Niveen Wahish , Tuesday 24 Oct 2023

Niveen Wahish looks at the effects of credit downgrades and the war in Gaza on Egypt’s economy

Hard currency shortages are triggering credit downgrades
Hard currency shortages are triggering credit downgrades


Global ratings agency S&P downgraded Egypt’s long-term sovereign credit rating on Friday by one notch to B- on the back of current foreign-exchange liquidity challenges, explained Allen Sandeep, director of research at Naeem Brokerage.

“Slow progress on key monetary and structural reforms has delayed the disbursement of multilateral and bilateral funds critical to covering Egypt’s high external funding needs,” S&P said in a statement.

Fearing inflationary pressures on Egyptian households, Egypt has delayed implementing the liberalisation of the currency as part of its 46-month $3 billion Extended Fund Facility agreement with the International Monetary Fund (IMF) signed in December 2022.

Egypt’s inflation rate reached a record of 38 per cent in September.  

“The costs of delaying exchange-rate liberalisation are high and rising. These include a reduction in needed remittance and investment inflows, alongside weaker private-sector confidence,” S&P said.

It affirmed a B short-term rating and kept a stable outlook. “The stable outlook balances the risk that the Egyptian authorities may be unable to finance high external debt redemptions or address the country’s foreign-currency shortage against the possibility of an acceleration of key monetary and economic reforms that would help bridge Egypt’s large external-financing gap,” the agency said.

Although this is the first downgrade by S&P to Egypt’s credit ratings since May 2013 more than a decade ago, the downgrade had been expected, particularly following the downgrade by Moody’s earlier in October, said Mohamed Abdelhamid, an economist at Dcode Economic and Financial Consulting.

S&P had put Egypt on a negative outlook since April, he pointed out.

Earlier this month, Moody’s downgraded Egypt’s credit rating also by a notch to Caa1 from B3, citing the country’s worsening debt affordability.

The rationale for S&P’s downgrade, Abdelhamid said, was mainly the exacerbation of external imbalances, increasing foreign-currency shortages in the official banking system, and delays in implementing necessary monetary and structural reforms in line with the IMF’s $3 billion loan programme.

After receiving an initial tranche of around $350 million, further loan disbursements were stalled because reviews have not been completed.

For Sandeep, the silver lining is that S&P still has Egypt within the B category. However, it remains to be seen what credit rating Fitch will give the country, he said. It currently has Egypt as B with a negative outlook. It is scheduled to release its rating for Egypt in early November.

Downgrades feed into negative investor sentiment regarding the current macroeconomic situation in Egypt and will adversely impact the country’s external borrowing, said Abdelhamid. The new downgrade could fuel speculation on the currency, partly also due to current regional geopolitical tensions, he said.

While the Egyptian pound is officially trading at LE31 per dollar, it is reported to be trading at around LE45 in the parallel market.

According to Sandeep, there is no sense in another round of devaluation, however, unless the Central Bank of Egypt (CBE) has already secured sufficient foreign-exchange buffers beforehand.

“Without having that cushion, we would only be staring at higher inflation as the informal exchange rate spread would continue to persist and the widening budget deficit,” he said, adding that the key objective of any future devaluation, which could be expected early in 2024, would be to achieve a sustainable market-clearing exchange rate within the banking system and eliminating the black market.  

On a positive note, S&P noted that the government has made progress in selling stakes in various state-owned companies, also part of its agreement with the IMF and meeting its target for fiscal year 2023.

“The related dollar inflows of about $2.5 billion are gradually being released,” S&P said. “As a result, foreign direct investment (FDI) inflows increased to nearly $10 billion in fiscal year 2023, the highest level on record.”

The agency said it expected FDI to remain around this level in 2024. The government is working on a further $4.6 billion in asset sales this year, it said.

It is hoped that the present regional tensions do not make things harder for Egypt’s economy. For now, Sandeep said, the impact of the war in Gaza is still minimal on tourism, one of Egypt’s top hard-currency earners, as tourist cancellations have not been significant.

“What we are seeing right now is postponements of bookings rather than outright cancellations,” he said.

However, he said that if the conflict drags on for a longer duration, then tourism, especially in the Red Sea destinations, could be impacted.

Abdelhamid agreed, saying that the impact on tourism has been moderate thus far, largely due to the country’s success in diversifying source markets for inbound tourism since the start of the Russia-Ukraine war, leading to new record high revenues in 2022-2023 at $13.6 billion.

He believes that the valuations of state-owned companies under the ongoing sale of state-owned assets will be long-term oriented and will be affected more by the currency trajectory and other structural economic conditions than being directly impacted by the current war.

Nonetheless, further escalations and the potential prolonging of the crisis would negatively impact the overall investment sentiment while putting more pressure on the current foreign-currency shortage in the economy, he noted.

On the bright side, Abdelhamid said local investors continue to hedge against record high inflation and a potential currency devaluation, coupled with rising macroeconomic uncertainties, through utilising the Egyptian Stock Market whose main index (the EGX30) is currently at an all-time high.

Another positive point is that Gulf Cooperation Council (GGC) support and the backing of multilateral institutions, on top of which is the IMF, will continue in case of additional external shocks from the current war.

 “Geopolitically, the conflict places Egypt at the centre stage of negotiations aimed at achieving peace… Indirectly, Egypt’s bargaining power could work in its favour, as Egypt’s multilateral creditors could be advised by their donor partners to be more flexible on reviews, additional funding, and the ongoing restructuring path,” Sandeep said.

One area that has been affected by the war in Gaza, however, has been Egypt’s liquified natural gas (LNG) exports, Abdelhamid said. Despite ample supplies in Europe, one-month European natural gas futures have increased by more than third to stand at over 51 euros per megawatt-hour on fears of reduced LNG exports from Egypt resulting from declining imported pipeline gas from Israel, he explained.

There is also the onset of the high-demand winter season.

Israel has ordered the closure of the Tamar Gas Field, with Egypt’s daily imports of Israeli gas from the Tamar Field subsequently being reduced to around 650 million cubic feet from 800 million cubic feet of gas. 

* A version of this article appears in print in the 26 October, 2023 edition of Al-Ahram Weekly

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