Egypt must deal with its fundamental challenges

Mohamed Abd El Ghany/Reuters

Abu Dhabi’s announcement that it would invest $35 billion certainly looked like a gamechanger for the challenged Egyptian economy.

Fifteen billion dollars was due to be received during the first 10 days of March, either in cash or through the conversion into equity of deposits already placed with the Central Bank of Egypt.

The remaining $20 billion is due by the end of April, again mostly in cash, and partly through the conversion of deposit liabilities into equity. 

On March 7, Moody’s changed its outlook on Egypt’s credit rating to positive from stable. It said that the Abu Dhabi investment will not only double Egypt’s foreign exchange reserves (which Moody’s says were $26.5 billion at the end of January) but also close Egypt’s external funding gap for the next two years. 

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A few days after Abu Dhabi’s announcement, the IMF confirmed that it had reached a staff-level agreement to increase its current economic support programme to $8 billion from $3 billion. On March 17, the EU announced an $8 billion package of loans and grants to be disbursed over three years. 

Abu Dhabi’s investment, which will be channelled through ADQ (one of its sovereign wealth funds) entails paying $24 billion for the rights to develop 40,600 acres – about 63 square miles – of land at Ras El Hekma on Egypt’s north coast. 

Ras El Hekma is about 100km west of Alexandria and is just one of the many areas of Egypt’s north coast that have been transformed in recent years through the construction of hundreds of holiday villages and tourist resorts.

Economic stability is simply not possible when inflation and interest rates are this high

Much of this development has been aimed at middle-class Egyptians, seeking respite from Cairo’s polluted air and gridlocked streets. But it is also attractive to Gulf citizens as climate change makes their home cities less habitable during the summer months. 

But does Abu Dhabi’s investment offer Egypt’s economy anything more than short-term relief? 

• Egypt central bank cancels meeting after interest rate hike
• Egypt gets $6bn from World Bank to spur growth
• EU agrees $8bn funding package with Egypt

Certainly the cash injection reduces the likelihood of debt defaults over the next two years. Although none of the three international ratings agencies has yet raised its rating from a level implying a high probability that Egypt will not be able to meet debt service obligations.

In addition, the new funds will enable the Egyptian central bank to make foreign exchange available to those wanting to import food and other essentials. 

Consequences for citizens

But the IMF deal that followed the Abu Dhabi announcement has led to dramatic  changes in monetary policy, which will have immediate consequences for businesses and Egyptian citizens. 

On March 6, the Central Bank of Egypt devalued the pound as part of its commitment to the IMF to let the local currency float freely.

The exchange rate now stands at about 50 to the dollar, down from around 15 two years ago. On the same day, the central bank raised its overnight lending rate by 6 percent to 28.25 percent. 

Year-on-year price inflation was running at about 30 percent in the first weeks of this year and is expected to rise further in response to the currency devaluation. 

Economic stability, with consistent growth, is simply not possible when inflation and interest rates are this high. 

Banks are unwilling to lend to the private sector at such rates (and firms are reluctant to borrow), while ordinary citizens find it hard to afford everyday items, many of which are imported and therefore affected by foreign currency devaluations. 

Slow progress

Of course, pessimism is always easy when analysing the prospects for Egypt’s economy, but one does have to step back and recognise the long-term progress that has been achieved.

I first lived in Egypt as a student in the early 1980s, and I lived there again 20 years later. I have lost count of the number of business trips I’ve made over the past 40 years.

I have seen for myself that the volume of private sector activity is far greater now than in the past, and the level of poverty, even in rural areas, is much reduced. Telecommunications, transportation, and power supply are more reliable and more efficient.  

Yet fundamental budgetary issues remain: too much is spent on subsidies and debt servicing, not enough is collected in taxes. The Egyptian state continues to stifle private sector growth. Job prospects for young people are dismal. 

For decades, the Egyptian economy has staggered from one IMF or World Bank support agreement to another, implementing just enough of the agreed reform packages to keep the agreements, and financial disbursements, on track. 

Abu Dhabi’s $35 billion investment, welcome and significant though it is, will not break that cycle.

Andrew Cunningham writes about and consults on risk and governance in the Middle East and sharia-compliant banking systems