Why is the Egyptian pound collapsing?

Egyptian pound crashes to near all time low

The Egyptian pound plunged on Monday to a near all-time low of more than 19 to the dollar, in the world’s number one wheat importer where prices have soared.

Egypt’s currency has not fallen so sharply since December 2016, when it hit 19.3 to the US greenback after a drastic devaluation.

The central bank on Monday was buying one dollar for 19.01 pounds, compared with a rate of 15.6 in March. That amounts to a drop of about 22 percent.

In late March, inflation-hit Egypt also devalued its currency, which lost around 18% of its value overnight.

Foreign currency reserves fell more than $7 billion in April and May to stand at $33.4 billion at the end of June, as a result of moves “to calm the markets” as well as “external debt repayments,” the central bank said at the time.

The Arab world’s largest country, where almost one-third of the population lives below the official poverty line, is grappling with inflation of around 15%.

Egypt has been one of the countries in the Middle East and North Africa hardest hit by the Russia-Ukraine war. It is the world’s largest importer of wheat, with almost 80 percent of its supply coming from Russia and Ukraine last year.

The tourism sector – which employs 9.5 percent of Egypt’s workforce – is also reliant on Russia and Ukraine, which sent a third of all the tourists who visited the country in recent years.

Thus, among developing countries, Egypt has been exceptionally vulnerable to the commodity price shocks resulting from Russia’s ongoing war in Ukraine.

Overall inflation in Egypt, including food prices, decreased slightly in June from the previous month due to slightly eased food prices, but consumer prices in the country are also still higher than they were before Russian troops began invading Ukraine in February.

Pound expected to fall further

Despite the extent of the drop, the value of the Egyptian pound is expected to fall even further.

Analysts forecast that the currency will reach up to 21 to the dollar by the end of this year, as the Arab world’s most populous country grapples with the economic fallout of the Russia-Ukraine war.

“This [the downward trend] has been happening for the last month and a half. We had gone down from 18.17 to about 18.25 and then from 18.25, we never looked back. And we expect that trend to continue,” Allen Sandeep, director of research at Cairo-based Naeem Holding, told The National.

The pound needs to weaken about 23 percent to help the economy adjust and reduce Egypt’s funding gap, according to Bloomberg Economics.

Derivatives traders are also pricing in further declines, even after Egypt’s currency posted 11 weeks of losses in the offshore market, its worst streak in almost a decade. In the non-deliverable forwards market, the three-month contract was around 21 per dollar Tuesday, 9 percent weaker than the offshore spot rate.

“Policy makers may be concerned about the side effects of devaluation, such as rising inflation when it’s already in double-digits, and the risk of social unrest. Egypt may well end up weakening its currency, but by less than the economy needs.

Speculation that the IMF would demand for more flexibility in the pound as part of the conditions attached to a new package has pushed the currency closer toward its record low reached in 2016.

Still, the extent of the remaining overvaluation “should displease the IMF, which appears to have stricter lending terms across most illiquid markets, Citigroup analysts including Lydia Rangapanaiken said in a report.

“Investors have persistently priced further devaluation, given the decline in net foreign assets, they said.

Businesses in the Egyptian non-oil economy recorded weaker performance in July, as output and new orders declined, albeit at slower rates compared with June. The S&P Global Egypt Purchasing Managers’ Index reached 46.4 last month, well below the 50 neutral mark.

“This kind of a situation, with all these factors happening at the same time, is unprecedented for Egypt,” Mr Sandeep said.

“We have a growing current account deficit of $20bn and we are also faced with another problem, which is maturing external debt repayments, which comes up to about $15bn for the next 12 months,” he said.

Egypt’s current account deficit stood at 4.3 per cent of GDP on a four-quarter sum basis in the first quarter, according to a recent research note from Capital Economics.

The Central Bank of Egypt seems to be shifting to a more flexible exchange rate regime that allows market forces to dictate how the pound moves, rather than staying flat.

“The IMF has said a flexible exchange rate is very much needed,” Mr Swanston said.

Egypt and the IMF have been in negotiations since March, but in a note released on July 26, the Washington-based lender said Egypt must make “decisive progress” on fiscal and structural reforms to ultimately receive more financial support from the fund.

“We assume that Egypt’s external funding conditions will improve as an agreement on an IMF programme is eventually reached later this year,” Krisjanis Krustins, director at Fitch Ratings, told The National. “However, we also expect gradual depreciation from current levels, amid continued high ― albeit declining ― current account deficits and inflation.”

Will Egypt recover?

Despite the negative trajectory of the pound expected in the next months, largely due to the Russia-Ukraine war, there are signs that could alleviate the currency crisis and its impact on the Egyptian economy. Cairo is seeking to secure another loan from the International Monetary Fund, after receiving $20bn worth of loans since 2016.

The intensive Emirati orientation towards the Egyptian market comes amid the political and military relations that are currently boosted with unique economic and investment commitments.

The most recent action was seen in late July when ADNOC Distribution, the UAE’S largest fuel and retail distributor, inked an agreement to acquire an over 50 percent stake in TotalEnergies Egypt in a deal worth $186 million, with an additional earn-out of up to $17.3 million.

In a meeting with Prime Minister Mostafa Madbouly in May, Secretary-General of the UAE International Investors Council (UAEIIC) Jamal Saif Al-Jarwan stated that the UAE is looking forward to raising its investments in the Egyptian market to post $35 billion over the coming five years, up from the current $20 billion.

Al-Jarwan said that this tendency comes as the Egyptian economy is flexible and attractive to investors, affirming that foreign investments in Egypt are being boosted under the supervision of President Abdel-Fattah El-Sisi.

In fact, 2022 has been witnessing a notable presence of Emirati investments in Egypt’s economic activities, especially following the outbreak of the Russia-Ukraine war in February.

A few days ago, the UAE-based Chimera Investments completed the acquisition of a controlling stake in Egypt-based Belton Financial Holding — an Orascom Financial Holding subsidiary — in a deal estimated at $20 million.

Non-banking financial and energy sectors were not the only areas of focus for the recent Emirati investments in Egypt. A few months after acquiring a majority stake (over 75 percent of shares) in Egypt-based food processing company Atyab in a deal valued at about EGP 3.2 billion, Agthia Group ­– owned by Abu Dhabi Investment Holding (ADQ) – acquired in July a majority stake (60 percent of shares) of  Egypt-based healthy snacks and coffee manufacturer Abu Auf in a deal worth EGP 2.9 billion.

“The UAE eyes the beneficial and successful investment opportunities available in the Egyptian market. These are in real estate, non-banking financial sector, food processing, and energy. Egypt has a host of opportunities for development that are qualified to be tapped; especially amid the ongoing global crisis, the elevating inflationary wave, and rising interest rates,” economic affairs expert Mostafa Badra told Ahram Online.

Badra pointed to Egypt’s recently announced State Ownership Policy Document that charts a new chapter in partnerships between the private sector and the state.

For now, the Egyptian government’s firm grip on power and plans to increase social spending will likely keep the country’s deteriorating economic situation from spiraling into mass unrest. But if the fallout from the Ukraine crisis continues to deplete its finances, Cairo may eventually be forced to enact painful austerity measures, which could raise the risk of disruptive protests.