Arab Today, arab today fitch egypt devaluation positive economic challenges remain
Last Updated : GMT 12:32:47
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Fitch: Egypt devaluation positive, economic challenges remain

Arab Today, arab today

Arab Today, arab today Fitch: Egypt devaluation positive, economic challenges remain

Fitch Ratings
New York - MENA

Decisions by the Central Bank of Egypt (CBE) last week, including a devaluation of the Egyptian pound, are broadly credit positive but the country faces a difficult year of slower growth, high inflation and large financing needs, Fitch Ratings says.

On 14 March, the central bank devalued the currency by 14% against the US dollar and said it would adopt a more flexible exchange-rate policy. The CBE supported the devaluation by auctioning $1.5 billion to help importers two days later, and hiked its main policy rates on Thursday by 150 basis points. These decisions reflect the pressures on the currency from a widening current account deficit, insufficient capital inflows and low levels of international reserves, which are less than three months of current external payments.

The auction on Monday devalued the currency from EGP 7.73 to EGP 8.85, while the auction on Wednesday was at the slightly stronger rate of EGP 8.78. This is more than a minor adjustment and takes the rate closer to the parallel market rate, which had weakened to above EGP 9.5, Fitch Ratings said in a press release.

"Our forecast builds in further exchange-rate weakness to above EGP 9 by the end of 2016, given the challenges the economy still faces," it said.

Much will depend on the CBE's attempts to rebuild its stock of foreign reserves, which stood at $16.53 billion at end-February, down from $37 billion at end-2010 before the Arab Spring uprisings. The trade deficit has widened, insecurity has hit tourism revenue, political uncertainty has deterred foreign capital and financial support from the Gulf Cooperation Council has decreased for now. Expectations of devaluation have also restrained foreign inflows into Egypt. The CBE hopes that its decisions last week will bolster confidence in the currency and nudge portfolio investors off the sidelines.

Two initiatives in the banking sector may help. Two state-owned banks are now offering foreign investors options on treasury bills with exchange-rate hedging. These banks are also offering 15% on three-year certificates of deposit for domestic investors who buy them within 60 days in exchange for foreign currency. If constraints on the supply of foreign exchange persist around current levels, Egypt could turn to the IMF. Fitch believes an IMF programme is within reach if required by the authorities.

It is unclear exactly what the central bank means by a more flexible exchange-rate policy. Inflation will be the central consideration. Consumer price inflation dipped to 9.1% year-over-year in February after averaging 10.4% in 2015. The central bank referenced this as supporting the timing of the devaluation. However, inflation is likely to rise again as the weaker exchange rate will make imports more expensive. If plans to implement VAT come to fruition this year, that could also put upward pressure on prices. In this context it was no surprise that the central bank raised interest rates following the depreciation to try to anchor inflation expectations.

"While we view these monetary policy developments as credit positive, there are fiscal implications as higher interest rates raise the government's cost of borrowing. Interest payments on government debt already accounted for 26% of budget spending in the fiscal year ending June 2015. This highlights the importance of consolidation measures for the budget currently under discussion for the 2017 fiscal year." 

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Arab Today, arab today fitch egypt devaluation positive economic challenges remain Arab Today, arab today fitch egypt devaluation positive economic challenges remain

 



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