Egypt to stick to flexible foreign exchange rate regime amid economic turmoil 

To:

Al-Monitor Pro Members

From:

Marc Español

Freelance journalist covering Egypt and Sudan

Date:

Nov. 4, 2022

Bottom Line:

Egypt moved on Oct. 27 to a liberalized exchange rate regime as it struggles to weather volatility in the global economy. The local currency has since plunged to record lows against the dollar, and in the short term it will import additional inflation. But the measure aims to restore investor confidence, rebuild foreign reserves and boost exports.

Background Facts:
  • Shocks in the global economy, a strong dollar, the cost of an unofficial currency peg, a heavy debt repayment schedule and a shortage of dollars in the market have put the Egyptian pound under increasing pressure over the past year.
  • Against this backdrop, the Central Bank of Egypt (CBE) decided to let the pound drop by 14% against the greenback last March in order to relieve some pressure.
  • Since then, the local currency continued to fall at a steady and controlled pace until reaching nominal historical lows of 19.54 against the dollar on Sept. 26.
  • In parallel, however, the Egyptian pound appreciated against other currencies such as the euro, British pound and Chinese yuan, suggesting it was still overvalued.
  • In August, CBE governor Tarek Amer, seen as reluctant to liberalize the currency, stepped down and was replaced by Hassan Abdalla, considered to be in favor.
  • Finance Minister Mohamed Maiet, inclined to liberalization, kept his seat in a parallel cabinet reshuffle in August.
  • Another key figure of Egypt’s economic policy, Planning Minister Hala El Said, stated that there is consensus in the government on the need for a flexible regime.
  • Liberalization of the pound was also a key demand of the International Monetary Fund (IMF) to grant Egypt a new loan to help it stem the economic bleeding.
  • On Oct. 27, the CBE finally moved to a “durably flexible foreign exchange rate regime” that leaves market forces to determine the value of the currency. A $3 billion IMF loan was announced right after.
  • The loan Egypt secured is smaller than expected because of its reluctance to meet more conditions from the international lender, according to independent news site Mada Masr. This has made the flexible exchange rate the cornerstone of the deal.
  • The key word, which appeared in both the CBE and the IMF statements on their announcements of a flexible exchange rate, is that the regime will be “durable.”
  • Since its liberalization, the pound has fallen another 22% against the dollar and almost the same percentage against the euro. Since March, it has lost 54% of its value against the greenback and 38% against the euro.
  • Most experts agree that the pound will stabilize somewhere between 21-24 against the dollar as the Egyptian economy stabilizes, the country begins to benefit from the devaluation and the dollar reaches its peaks.
  • The liberalization is good news for investors as it dispels the threat of another sharp devaluation and sets the value of the currency within credible market ranges.
Alternative Scenarios:

Scenario 1: Egypt re-pegs pound to dollar at lower value

Cairo has pledged to adopt far-reaching economic reforms in the past, including on the exchange rate, and has taken steps in that direction while negotiating with the IMF, only to backtrack shortly thereafter and meet its agenda halfway when momentum calms down.

Price stability remains the CBE’s No. 1 priority, and the devaluation of the pound will translate in the short term into more inflation, which already hit 15% in September, the highest in the last four years and well above the entity’s 5% to 9% target. If authorities perceive risks to social stability, they may choose to resume currency intervention.

Scenario 2: Egypt moves to soft peg

If inflation remains unabated and in view of the current uncertainty in the global economy, Egypt could also contemplate moving to a soft peg, which is a more flexible, middle ground alternative between a costly fixed peg and the pledged floating exchange rate.

Abdalla, the CBE governor, said on Oct. 23 that the institution is considering a new currency indicator for the pound that would consist of a basket of currencies — other than the dollar — as well as gold. But he offered few details and stopped short of saying whether they are considering any kind of peg to this new index.

Conclusion - Most Likely Scenario:

Egypt has shown in the past a wavering commitment to its economic reform pledges, including on the exchange rate regime. But this reluctance is holding the economy back and has led to growing unease among its allies in the Gulf and the IMF. This time around there is consensus and a clear political will, both in the CBE and the government, to push for exchange rate liberalization, which is otherwise perceived as an acceptable concession by those most reluctant to change. The authorities hope this move will help fix external imbalances, restore investor confidence, encourage FDI inflows, help replenish falling foreign exchange reserves and increase the competitiveness of exports, which are some of the key pillars of the economic program that the government wants to implement.

Contributor Background:

Marc Español has been reporting on Egypt since 2017, with a focus on the economy and the human rights situation in the country. He has been a contributor to Al-Monitor since 2018 and his work has appeared in other publications such as El País and the think tanks Fundación Alternativas and the European Institute of the Mediterranean (IEMed). 

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