2023 Yearender: Exchange rate woes

Niveen Wahish , Tuesday 19 Dec 2023

A year of trials and errors and then the war on Gaza. Niveen Wahish reports on the way international events have impacted the Egyptian economy


“OMG why has it become so expensive?!”, a meme circulating on Facebook featuring a motherly figure of the type common in classic Egyptian movies, sums up the ordeal faced by many Egyptian families in 2023 as the year brought a string of dizzying price hikes.

November urban inflation, announced on 10 December, came in at 34.6 per cent, down from 35.8 per cent in October. In the same period last year, inflation was 18.7 per cent.

Higher prices have been driven by a depreciating pound and a shortage of hard currency which adversely affected production costs and caused supply shortages. Sugar, rice and cigarettes were among the items most affected, with the problem compounded by monopolistic practices.

Although trading at around LE31 against the dollar in banks, the pound has risen in leaps and bounds on the thriving parallel market, reaching LE50 per dollar in late November. Delays in rolling out the $3 billion Extended Fund Facility (EFF) with the International Monetary Fund (IMF) added fuel to the fire. Following the disbursement of the first installment of $347 million, subsequent tranches have been delayed pending due reviews by the IMF.

The IMF loan was necessary to cover Egypt’s hard currency financing gap, estimated at the time to be $17 billion annually over four years. A note by National Bank of Kuwait (NBK) issued in April 2023 placed Egypt’s gross external financing requirement at $90 billion over the coming three to four years and the IMF loan was supposed to catalyse broader financial support from international and bilateral partners and private sector investors.

The IMF wants Egypt to implement a flexible exchange rate regime and move faster with the sale of state-owned assets to attract investments and bring in hard currency revenues. Then the Gaza war happened.

“Because of the additional burdens” caused by the war in Gaza, IMF Managing Director Kristalina Georgieva said the fund was “very likely” to increase the extent of its support for Egypt. Julie Kozak, director of the IMF’s Communications Department, told a press briefing on 7 December that the IMF was in discussions with the authorities on a set of policies that will support the completion of the first and second reviews under the EFF.

“Additional financing will be critical to ensure the success in the implementation of the policy package for Egypt,” she said. Though the exact sum had not been revealed by the time this edition went to press, reports have suggested the loan could be quadrupled to $12 billion. With an extended IMF deal in the works, experts say a further devaluation is only a matter of time.

According to Ali Metwally, director of economic intelligence at ITI Consulting, continuing IMF support provides assurance that Egypt is taking economic reforms and business development seriously. While there hasn’t been much progress in the IMF reviews this year, the international lender and the Egyptian government have maintained a solid relationship and constant communications, something which Metwally says constitutes positive news in and of itself.

“The Egyptian government has been carefully trying to balance implementing structural economic reforms and placing more pressure on Egyptians,” he said. “The government could have gone ahead and blindly executed the terms negotiated with the IMF but they would have done more damage than good, at least in the short-term.”

Metwally believes a permanent solution to the currency crisis appears is in the making, though the timeline is unclear. A permanent shift to a more flexible exchange rate regime, either through pegging the pound to a basket of currencies or through a managed floating regime, now looks inevitable.

The foreign exchange shortage, combined with monetary tightening, is constraining GDP growth according to a macro note issued by HC Securities in November. Minister of Planning Hala Al-Said said in December that the expected growth rate for the current fiscal year was 3.5 per cent. To control inflation and anchor inflation expectations, the Central Bank of Egypt (CBE) has increased policy rates by 11 per cent since fiscal year 2021-22, noted HC.

Though HC does not expect the CBE to raise interest rates again before the end of 2023 unless there is a movement in the exchange rate, other analysts believe the CBE could significantly raise rates as the IMF delivers the needed funds. The CBE is scheduled to hold its last monetary policy meeting of the year on 21 December.

“A more than three percentage point hike is needed to absorb excess liquidity, reduce current FX market pressure and raise real interest rates,” Metwally explained. He does not, however, think the rise is a foregone conclusion. Higher interest rates will place additional pressure on the government in terms of domestic debt. Increases in the cost of public debt service and in the budget deficit could yet undermine financial sustainability and discipline.

“We estimate the budget deficit will widen to 7.1 per cent of GDP in fiscal year 2023-24, mainly on the back of higher interest payments,” said HC financial analyst Heba Monir.

Though the year ended much like it began, with speculation about an impending devaluation and the IMF deal the centre of attention, much happened in between.

In July Prime Minister Mustafa Madbouli announced that the government had made deals worth $1.9 billion in a handful of state-owned companies. The sales were part of the government’s plan to allow a greater role for the private sector and attract hard currency revenues. President Abdel-Fattah Al-Sisi said in April 2022 that he wanted the government to attract $40 billion in fresh investments over four years by selling stakes in state-owned assets to local and international investors. The State Ownership Policy Document, which outlined a strategy to expand private sector participation in the economy from 30 per cent to 65 per cent within three years, was finalised in December 2022.

In February, Madbouli said the government would sell stakes in 32 state-owned companies through sales to strategic investors and public share offerings. The number was subsequently increased to 35, with ChillOut fuel stations the latest addition to the list announced by Minister of Planning El-Said. Owned by the National Company for Roads, a subsidiary of the National Service Projects Organisation (NSPO), ChillOut is the second military-owned fuel station chain after Wataniya to be slated for sale. Sale of the latter, El-Said said during COP28, has been delayed yet again.

Disputes over the valuation of companies, a fallout from the existence of a parallel exchange rate, lies behind delays in the sale of state-owned companies. Nonetheless, according to HC’s Monir, the government “secured $2.63 billion from selling stakes in companies in July and September and is on track to offload assets worth more than $2 billion by the end of June 2024.”

While progress in selling state-owned stakes was noted by S&P, it still downgraded Egypt’s long-term sovereign credit rating in October one notch to B- as a result of continuing foreign exchange liquidity challenges.
“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. The costs of delaying exchange-rate liberalisation, including a reduction in remittances and investment inflows and weaker private-sector confidence, are high and rising, it continued.

It nonetheless affirmed a B short-term rating and 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,” said the credit ratings agency.

Moody’s also downgraded Egypt earlier in October by a notch to Caa1 from B3, citing worsening debt affordability.

On a more positive note, S&P underlined higher foreign direct investment (FDI) inflows, noting that they increased to nearly $10 billion in fiscal year 2023, the highest level on record. The agency said it expected FDI’s to remain around this level in 2024.

According to Metwally, Egypt saw two of the highest FDI flows on record in 2022 and 2023, suggesting the country is attracting businesses despite current challenging times.

Tourism revenues also improved and the sector is on course to reach its goal of 15 million visitors this year, said Tourism Minister Ahmed Issa in November. Tourism is one of Egypt’s main hard-currency earners. In fiscal year 2022-23, tourism revenues reached $13.6 billion, compared to $10.7 billion in 2021-22. S&P Global Ratings warned in November, however, that the recovery could be affected by the war in Gaza.

Also over the course of the year trading on the stock market picked up pace on the back of inflation and a weaker currency.

While increased funding from the IMF will alleviate the hard currency crunch and help an orderly devaluation of the pound, it means Egypt accumulating more debt.

The CBE registered external debt at $164.7 billion at the end of June 2023, up 5.8 per cent on the year before. Between short and long-term obligations, Egypt is due to repay $42 billion next year.

The government has been exploring alternatives for hard currency financing. Avoiding western debt markets because of high interest rates, it has offered Panda bonds to China and, for the first time, Samurai bonds to Japan. The minister of finance also said bonds could be offered to India in 2024.

A scheme has been launched to denominate real estate purchases in dollars. Egyptian nationality is being offered in return for dollar deposits with the Central Bank of Egypt or a non-refundable sum paid in dollars to the Egyptian treasury; a dollar-denominated pension scheme was announced for expatriate Egyptians along with an initiative exempting expatriates from compulsory military service in return for a fee paid in hard currency. The Egyptian Railway Authority also announced it would raise $40 million in 2023-2024 by selling tickets in dollars to non-Egyptians.

The two leading public sector banks, the National Bank of Egypt (NBE) and Banque Misr both offered dollar-denominated deposits with annual interests ranging between seven and nine per cent. Cars imported by expatriate Egyptians were exempted from taxation in return for a five-year foreign currency deposit placed with the CBE and the Tax Authority announced it would collect VAT in dollars for all services and commodities offered inside Egypt for hard currency.

* A version of this article appears in print in the 21 December, 2023 edition of Al-Ahram Weekly

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