Egypt stable for now but vulnerable, economists warn

Reuters/Amr Abdallah Dalsh

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A few days after Israeli forces launched a ground offensive in Gaza, Fitch Ratings downgraded Egypt’s credit score to B- from B.

The conflict could scare off tourists and investors, the ratings agency said in November, posing a risk to Egypt’s economy. This was Fitch’s second downgrade in six months: it stripped Egypt of B+ status in May.

Even before the upsurge in fighting close to its borders, the country of nearly 113 million people was in its worst economic crisis for a generation, beset by a foreign currency shortage and record high inflation.

In April, one-year credit default swaps on Egyptian sovereign bonds peaked at 2,283 basis points – reflecting market fears that it would not be able to repay its loans.

So far, however, the worst fears of how the war might affect Egypt have not come to pass.

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The Tourism Ministry recorded its second-highest visitor numbers in over 20 years for October, the stock market has been prospering, some foreign investors have returned and gas exports are expected to resume by early January.

Those investors have been taking comfort from the increased attention the country’s partners appear to be paying to Egypt’s debt crisis. 

Farouk Soussa, a Mena economist at Goldman Sachs, suggests the Israel-Gaza war has created “an opportunity for Egypt to get some financing”.

Since the fighting began, Gulf countries – which accounted for $29.9 billion of the $35.1 billion in foreign currency reserves the Central Bank of Egypt announced for October, according to local media reports – rolled over current deposits and made new ones to the tune of $6 billion.

China, too, has signed a currency swap agreement with the central bank worth $2.5 billion.

In addition, the IMF is considering increasing a $3 billion extended fund facility it has tentatively agreed with Egypt, pending reforms to Egypt’s currency exchange mechanism and progress on the privatisation of state assets.

Soussa said the market was expecting the revised loan to be around three times higher than initially proposed.

Speculation that Egypt may play a greater role in the war in exchange for debt forgiveness – comparable to a deal former President Hosni Mubarak struck with the US over the 1991 Gulf War – has subsided since the start of October. More likely, Soussa said, is a package, “just enough for Egypt not to topple over right now”.

Long term, Egypt’s structural problems are not easing. Its government debt-to-GDP ratio is now 93 percent and debt servicing for 2024 alone is close to $30 billion. Only Argentina owes more to the IMF.

But the country’s short-term debt obligations “don’t actually look too bad” on closer inspection, according to James Swanston of Capital Economics.

“The saving grace is that the repayment schedule on that debt is quite forgiving,” he said. “There are no big crunch points over the next few years. They’re all quite serviceable repayments.”

Despite the downgrades, ratings agencies are not warning of an imminent danger of default. “We are quite convinced by the financing they’ve presented to us,” said Laure de Nervo of Fitch. “We think the maturities that come up, most likely they would be able to repay them.”

De Nervo also cited healthy liquidity in the Egyptian banking sector, saying Fitch was tentatively confident in Egypt’s ability to meet its debt obligations over the next two years.

She warned, however, that the country’s high borrowing levels were “not a healthy long-term pattern”.

A big concern in the short run is how far the pound will fall against the dollar in January. The parallel exchange rate against the dollar topped EGP50 in November and it is still about 60 percent higher than the official EGP30.9 bank rate.

Capital Economics has suggested it could fall to between EGP35 and EGP40, while others are predicting a steeper drop. 

A devaluation is crucial to bringing more foreign currency into the system, but any spike in the exchange rate makes Egypt’s debt obligations a more daunting prospect, particularly external debt, which has risen from $40bn in 2015 to around $165bn today.

“Going over 100 percent of GDP looks scary,” said Swanston, “but it’s just pure mechanics. That will naturally come back down, all else being equal.”

Egypt’s position is stable for now – but vulnerable. As Paolo Manasse, an economist who helped draft an early-warning system for the World Bank to predict defaults, pointed out: “Things may be going pretty badly for some time and then without any explainable shock, things may deteriorate all of a sudden.”

A debt crisis turning into a default is not always “something that grows slowly and everyone sees coming”, he said. “Things may be going fine and then ‘boom’.”