Egypt: Depreciating pound stokes fears about external debt, FDI

By Mourad R. Kamel
Posted on Tuesday, 13 December 2022 17:46, updated on Wednesday, 14 December 2022 11:52

Newly-minted coins bearing the slogan 'Egypt's Medical Teams', to commemorate Egypt's frontline workers fighting the coronavirus disease (COVID-19) pandemic, are seen in Cairo, Egypt February 15, 2021. Picture taken February 15, 2021. REUTERS

Egypt’s new deal with the IMF has so far done little to allay the North African nation’s fears over mounting external debts and hard currency shortages.

Some of the Fund’s requirements, as a matter of fact, seem to have added to Egypt’s financial woes, with the Egyptian pound set for yet another steep slide, possibly before year-end.

“With Egypt’s devaluation of the pound, the burden of servicing the external debt makes it more difficult to pay in foreign currency,” Ziad Daoud, Chief of Emerging Markets at Bloomberg, tells The Africa Report.

Egypt’s external debt stood at $155.7bn last June, according to official data.

The debt servicing of the most populous Arab nation amounts to nearly $16bn in the 2022/2023 fiscal year, which ends next June.

The new Extended Fund Facility (EFF) arrangement is worth $3bn and paves the way for an additional $6bn from international creditors.

The total amount of $9bn, or 56% of Egypt’s foreign debt repayments in the current financial year, is not expected to be disbursed in a single year.

Pressures on pound

Upon announcing last October the 46-month arrangement with the IMF, Egypt’s fourth deal with the global lender since 2016, the third-largest Arab economy devalued its local currency by more than 15%.

It came after an almost equivalent devaluation last March in the wake of the Russian invasion of Ukraine. 

Egypt was thrown lifelines over the past months, including increasing Suez Canal revenues and Egyptian expatriates’ remittances. What’s more, deposits and investments from energy-rich Gulf nations have exceeded $22bn in value since the beginning of the war.

This, however, has proved insufficient to offset the global headwinds. 

The pound, the world’s worst-performing currency after Ghana’s cedi in the last quarter of 2022, has lost more than half of its value this year and is set for a third dive.

  • A black market has re-emerged of late, with informal EGP exchange rates exceeding 30 against the USD, considerably higher than the official nearly 24.7 rate.
  • Currency depreciation usually sees the informal market dwindle and channels more hard currency into the banking system.
  • Speculation abounds a third devaluation might take place, along with a rate hike near Egypt’s meeting with the IMF’s representatives scheduled for 16 December as a prerequisite for final approval of the new facility.
  • A flexible exchange rate regime is often advocated by the Fund.

Last November, Fitch Ratings downgraded its outlook for Egypt, citing weaker external liquidity and reduced prospects for access to bond markets, which makes it more prone to global spillovers.

The credit agency has also underlined other risks, such as the high youth unemployment rate.

Positive impact on trade balance

The currency depreciation could, theoretically, bode well for debt servicing by narrowing the trade gap. 

“Imports become more expensive, exports become more competitive, and therefore the country would have more space to service its external debts because it cuts its imports,” Daoud points out.

Egypt’s trade deficit last September declined 41.3% year on year, standing at $2.44bn amid import restrictions the authorities have imposed since March to avoid a severe liquidity crunch. 

The import-dependent economy has incurred soaring bills of commodities due to the war. The government expects the budget deficit to be 5.6% of GDP in the current fiscal year. 

“If you have a gap in your funding needs like Egypt currently does, the currency weakens, and the weakening of the currency would make you cut some of the imports,” Daoud says.

But last October, Prime Minister Mostafa Madbouly said the import restrictions will be lifted by December, as per the IMF’s directives to boost the depleted private sector.

Better business environment

Egypt for years heavily relied on hot money by offering one of the world’s highest real interest rates, until it suffered an exodus of non-resident investors that saw the country wave goodbye to $23bn worth of foreign holdings due to the war.  

Last June, Finance Minister Mohamed Maait said Egypt must instead bolster its foreign direct investment to avoid investor exoduses, which usually coincide with global crises. 

Hany Tawfik, an economist and the founder and Secretary General of the Egyptian Capital Market Association (ECMA), believes Egypt needs to “create a positive ecosystem to increase foreign direct investments”. 

“This will allow investors to settle, create jobs, increase production, and more importantly increase exports to nourish the foreign reserves that we badly need,” he tells The Africa Report.

“Tourism can no longer be our main source of revenue in foreign exchange, as it has proved in the past and also in other countries that it is not a sustainable source of foreign exchange.

“This said, we need to grow our tourism and protect it, but we need to focus on FDI and Exports as our primary source of foreign exchange.”  

Tawfik, who has also played a pivotal role in establishing EFG-Hermes, Egypt’s largest investment bank, says there are quite a few obstacles to overcome in order to attract FDI in the country, including:

  • An ancient bureaucracy filled sometimes with corruption
  • A disadvantageous fiscal policy that imposes 50-60% of taxes on a single project, including a tax on profit, and on dividends, the Value-Added Tax, stamp duties, permits, among others
  • A judicial system where disputes could last for years
  • Unfair competition from the state and military-related organisations which the private sector cannot beat off
  • An unstable exchange rate, which increases investment risks

No green respite

Egypt, which hosted the COP27 last month, has been relentlessly seeking to attract billions worth of green investments, particularly in the green hydrogen industry, having signed over a dozen of preliminary deals with foreign companies to build green hydrogen plants in the Suez Canal Economic Zone (SCZone). 

Tawfik sees these non-binding agreements as a positive outcome for Egypt’s efforts to widen its green investments, but not a booster to the state’s finances.

“These are all Memorandums of Understanding and initial agreements that are non-binding. In addition, these are investment costs which generally means that 60% of this cost emanates from loans, and the other 40% is equity,” he says.

“I would not rely heavily on these non-binding agreements as they are set on the long term, between seven and nine years. It also must be said that in previous conferences, many initial agreements have not come to fruition. 

“That said, it is positive that companies and states believe in our capacity to become a regional hub for green energy, yet they shouldn’t be considered as a source of repayment of Egypt’s growing debt.” 

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