Chronicle of the Middle East and North Africa

Dollar Crisis pushes Egypt’s Economy to the Brink

egypt dollar crisis economy
People wait to exchange money at a currency exchange office in downtown Cairo, Egypt, 10 August 2016. Photo Ahmed Gomaa Xinhua / eyevine

A small shop full of electronica and light bulbs is one of the black market spots for changing dollars in Cairo. Here EGP 12.40 per dollar is the exchange rate this day in August 2016. A day earlier it had still been EGP 12. The official rate is EGP 8.78 to the dollar.

Egypt is working hard to clamp down on the black market, in an attempt to contain its dollar crisis. Since the revolution in 2011 and subsequent political unrest foreign currency reserves of the Central Bank of Egypt have dwindled, from $35bn to $15.5bn this August.

In 2013, general-turned-president Abdel Fattah Al-Sisi vowed to turn around the economic downward spiral following the ouster of president Mohamed Morsi, supported by over 20 billion in cash deposits and petroleum shipments from friendly Gulf states Saudi Arabia, Kuwait and the United Arab Emirates.

Parallel, Egypt’s government started to work on measures to structurally improve its economic outlook. One part of the economic recovery plan is several ‘mega’ projects, such as the $8bn extension of the Suez Canal. It has been doubted whether this major investment would pay off, and the latest figures of the Suez Canal authority, updated up to March 2016, indeed have shown a decline in revenues rather than the anticipated increase.

A plan was set to scale down subsidies on fuel and electricity, which chuck a large portion of the state budget. Electricity subsidies were to be phased out by 2019. However, this timeline is delayed to 2026, in order to avoid increase of cost for the lower income segment.

For the fuel subsidies, a plan to reduce them by 30% by 2019 has also been delayed, largely motivated by the fact that low oil prices significantly reduced the import costs of fuel and subsequently the subsidy bill.

Another focal point of reforms is the new investment law, approved in March 2015, which aims to ease red tape surrounding investing in Egypt by for instance creating a one-stop-shop system. Investors would have one place to get approvals and licenses for projects, instead of being forced to go through multiple government bodies. However, as then Dutch ambassador Gerard Steeghs noted in an interview in 2015, “legislation has never been the actual problem. The key is implementation.” A recent halting of numerous ambitious solar energy projects over regulatory issues, in which multiple companies had invested heavily, indicates red tape is still an obstacle for doing business in Egypt.

All in all, a turnaround has yet to be realized. In August 2016 Egypt’s budget deficit stands at 12% of GDP, its trade deficit at 7% and the official unemployment rate is 13%. Among youth this number is even higher, 34% is unemployed according to the UNDP. In the World Bank’s annual ‘Doing Business 2016’ report Egypt ranked 131th out of 189 countries. The World Economic Forum ranked Egypt’s economy 116 out of 140 in its Global Competitiveness report 2015/16, while in 2010 Egypt still stood 70th.

The financial position of Egypt has been greatly worsened by the free fall of tourism in 2016, historically an important source of foreign currency. The downing of a plane with Russian tourists in October 2015 claimed by extremist Islamic State, killing all its passengers, raised questions about the security at Egyptian airports. Flights from for instance Russia and the UK to tourist destinations in the country were subsequently halted. As a result, already strained tourism numbers declined by around half in the first months of 2016 compared to the year before. In addition, the money flow from the Gulf as lifeline proved not endless. For instance a new petroleum supply deal with Saudi Arabia is founded on loans rather than direct support.

A direct result of the shortage in foreign currency is that Egypt is facing problems to pay its dues to foreign oil companies. Outstanding receivables add up to $3.4bn, a small improvement compared to the year before, but the numbers have been rising in the first half of 2016, while according to plan Egypt is to have repaid its dues by the end of 2016.

Several foreign companies have limited investments in domestic oil and gas production in Egypt, decreasing domestic oil and gas output, which in turn puts strain on another important current source of foreign currency, and thereby creating a vicious cycle.

In an effort to contain the dollar crisis, Egypt has made it increasingly difficult to access foreign currency in the country. ATMs do not give out dollars or euros. Thereby, also at exchange bureaus one can hardly change pounds to dollars.

Companies operating inside the country face difficulties accessing dollars to pay for imports. Several banks also limited Egyptian debit and credit card holders withdrawing money abroad to contain the flow of money out of the country.

Meanwhile, Egypt has clinged to a cosmetically high rate for the Egyptian pound to the dollar, driving traders to the black market. The state started combatting the black market trade, approving a bill for higher fines in June 2016 and closing down traders that did not uphold official rates. However, as the dollar shortage persists and the official rate is kept high, the black market will persist as well.

Hossam Mounir, a local business journalist covering the financial markets, told Fanack that the big gap between the official rate and black market is holding back investors. He expects the government will resort to a new 20% devaluation of the pound. However, the government will not let the pound float, Mounir said, as this will “destroy the currency”, and let to incontrollable inflation.

The reason for the government’s hesitation to devaluate was seen in March 2016, when the pound was depreciated by 13%. Directly after imported goods in supermarkets rose sharp in price, and some shops even had empty stocks. Prices of for instance laptops have risen sharply over the past months, if available at all. Hicham, a translator, said the laptop he bought five months before for EGP 7,000, costs now EGP 10,000, while in the entire store there was only one type of Dell laptop available.

In an effort to combat the black market, Egypt’s government approved tougher measures against illegal traders in June 2016, increasing possible jail time to 10 years and raising fines up to EGP 5000. Since the beginning of 2016, authorities have closed reportedly 48 foreign currency bureaus that did not stick to official rates.

To find a way out of the crisis, Egypt in August is negotiating a $12bn loan from the International Monetary Fund. According to Mounir, the loan will come at certain conditions, including scaling down subsidies, introducing a value added tax, and a devaluation of the pound.

However, as many observers including The Economist are noting, a new money injection will only prove a solution if combined with structural reforms of the economy, varying from subsidies, bureaucracy, the tax system and the military’s involvement in the economy.

Mounir agrees with this. “A 20% devaluation will not change anything in the black market rate unless reforms are in place to strengthen economic indicators as the trade deficit and government debts.”

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