Egyptian pound plummets after interest rate hike, exchange rate change

The Egyptian pound fell to a new low against the US dollar today following two significant fiscal changes. 

What happened: The Central Bank of Egypt raised several key interest rates today by 2%, citing rising prices internationally. 

The bank also announced the start of a "durably flexible exchange rate regime.” This will measure the Egyptian pound against other foreign currencies.

Furthermore, the central bank announced it would start “gradually” stopping the use of letters of credit for import finance. They will completely stop the practice by December of this year, according to a statement. 

The Egyptian pound plummeted more than 13% against the US dollar today, falling to around 23 pounds to the dollar by 8:40 a.m. ET, according to market data. This constitutes an all-time low for the Egyptian pound. In 2016, the currency fell to around 19 to the dollar. 

What it means: Central banks typically raise interest rates in an effort to lower inflation. Higher rates tend to lead to less borrowing and thus cash in circulation. Like other countries, Egypt has experienced significant inflation this year, and this is not the first rate hike in recent months. 

The Egyptian government announced earlier this week that it would move to a “flexible exchange rate regime.” Acting central bank head Hassan Abdalla said Sunday that they would start measuring the Egyptian pound against foreign currencies and gold, as opposed to the US dollar. 

This is in response to the Egyptian pound performing poorly against the dollar in recent weeks. The pound is faring better against other currencies, such as the euro. 

Regarding the letters of credit, Egypt started requiring them for imports in February. Letters of credit are documents from banks that guarantee a seller will receive payment from the buyer by a certain time. The move allowed the central bank to control the demand for foreign currency, but also led to delays and increased administrative costs, according to a European Union document. 

Prime Minister Mostafa Madbouly said Tuesday that Egypt would abandon the letters of credit system after an apparent outflow of $25 billion from Egypt within a month. 

Why it matters: The moves constitute the Egyptian government’s latest efforts to deal with the economic crisis in the country. Egypt’s imports — particularly grain — have been under strain since the war in Ukraine. This partly explains the high inflation and poor performance of the pound. The last central bank governor resigned in August. Egypt is also seeking more investment from its wealthy allies in the Gulf to help boost the economy.  

Know more: The International Monetary Fund (IMF) praised Egypt for its new currency move. 

“The Central Bank of Egypt’s move to a flexible exchange rate regime is a significant and welcome step to unwind external imbalances, boost Egypt’s competitiveness, and attract foreign direct investment,” the IMF said in a statement. 

The Washington DC-based institution also confirmed they reached an agreement with Egypt on a 46-month “extended fund facility” for $3 billion. This is a type of loan.