Wednesday, September 3, 2008

Fiscal Deficit On The Rise

Egypt's budget spending has increased sharply over the past two years as the government has made supplementary allocations to food and fuel subsidies so as to avoid passing on the full costs of the escalation in commodity prices to consumers. However, the government has managed to keep the deficit within the target range thanks to the strong revenue performance, which has arisen both from the robust rates of real GDP growth, averaging about 7%, and from improved tax collection.

According to final budget outturn figures issued by Mr Boutros-Ghali earlier this month, the fiscal deficit in 2007/08 was E£59bn, equivalent to 6.8% of GDP, compared with E£54.7bn and 7.5% of GDP the previous year. The primary deficit, excluding debt service payments was about 1% of GDP.

He said that total revenue rose by 21.2% year on year to E£218bn, with tax and customs revenue increasing by 20.2% to E£137.4bn and non-tax revenue (including Suez Canal dues, petroleum surpluses and proceeds of the sale of 3G telecoms licences) rising by 23.1% to E£81.1bn. Income tax rose by 15% to E£76bn, while sales tax proceeds increased by 30.9% to E£40bn. Customs revenue rose by one-third to E£14bn.

Total expenditure in 2007/08 increased by 25% to E£277 (32% of GDP) from E£222bn (30.4% of GDP) the previous year. Subsidies became the largest category of budget spending, rising 56% year on year to E£84.2bn. This sum included E£60.3bn for fuel and E£16.5bn for food. The public-sector wage bill went up by 19% to E£62bn.

Although the government has managed to keep the fiscal deficit under control, Egypt has the highest inflation rate in the Arab world. The most recent official figures show that consumer prices rose by 22.2% year on year in July. The tight monetary policy adopted by the Central Bank of Egypt (which hiked interest rates in August for the fifth time this year) and the stabilisation of commodity prices will probably bring the inflation rate down below 10% on average in 2009.

Egypt's Economy Grows At 7.2% In the Year To June

The Egyptian economy beat forecasts and grew at a 7.2 per cent in the fiscal year which ended in June. This was the fastest pace in at least two decades, although slowing private consumption indicates growth may well ease back in the second half of the year.

Since the Egyptian Government had previously stated that gross domestic product grew at an annualised rate of 7.4 per cent in the first nine months of the financial year, the whole year figure would seem to indicates that growth slowed to an annualised of around 6.6 per cent in the April-June quarter.

The Egyptian economy is battling rising inflation, which hit a 16-year high of 22 percent in the year to July. Inflation is expected to remain high until the end of the year before dropping in 2009.

Tourism Minister Zoheir Garrana said earlier this month that the number of people visiting Egypt increased more than 25 per cent in the fiscal year 2007/2008, while revenue increased 32 per cent.

The challenge is that the global economic environment is deteriorating, with all major economies (US, Eurozone, UK and Japan) slowing down. At the same time, on the domestic front, inflationary pressures seem to continue unabated: money supply growth as measured by M2 rose 15.45% y/y essentially unchanged from the June figure at 15.72%, according to Central Bank data released on Sunday. While this better than expected performance of the Egyptian economy is reassuring and the long term prospects of the country are positive, there will be cyclical headwinds facing Egypt in the short term, with the budget deficit, inflation and food prices being the main concerns.

Is Egypt Similar To Vietnam?

Citibank analyst David Lubin looks at the Egyptian economy and asks whether there is a risk that the Egyptian pound follows the Vietnamese Dong. He concludes the risk is slight, and I tend to agree. Here are his arguments.

There are some superficial similarities between the two countries: both governments have strongly pursued rapid GDP growth, and both have relied on rather inflexible exchange rates. Both have enjoyed large capital inflows in recent years, and the inflationary shock of the past few months has caused real interest rates to fall sharply into negative territory in both cases. Yet we think the decline in Egyptian real interest rates should be interpreted in a different way than makes sense for Vietnam, for two reasons. The first is that there is really no evidence of a credit boom in Egypt, and so a collapse in real interest rates runs little risk of generating a credit bubble in the short run. While the stock of Vietnamese private credit rose from 66% to 93% of GDP between 2005 and 2007, the stock of Egyptian credit actually declined from 51% to 46% over the same period! A second reason why low real interest rates in Egypt pose fewer risks than they do in Vietnam has to do with the balance of payments position. Vietnam’s very large current account deficit means that it needs to attract net capital inflows from abroad. The exchange rate risk that is normally associated with a large current account deficit requires positive inflation-adjusted returns for investors to feel compensated for that risk; Vietnam’s failure to do so likely created incentives for capital flight. Egypt’s balance of payments is much more robust than Vietnam’s.

The stability of Egypt’s nominal exchange rate is also underpinned, we think, by the strength of Egypt’s foreign exchange balance sheet. Vietnam is now a net debtor in foreign currencies to the international banking system, while Egypt is a substantial net creditor. At a broader level, too, Egypt’s net creditor status is secure: its total gross external debt is just over US$30 billion, while its foreign assets are some US$57 billion, of which central bank reserves make up around US$33 billion. Although we believe Egypt’s balance of payments is set to deteriorate, it would take some time for fundamentals to become as weak as Vietnam’s.

The pound’s weakness in recent weeks is thanks to the depreciation of EUR/US$. Even if the dollar strengthens substantially, we don’t believe that the Central Bank will offset such a move versus the euro with a like-for-like depreciation of the pound against the dollar. The reason we hold this view is that we think Egyptian inflationary expectations are more influenced by EGP/US$ than by EGP/EUR. Since the Central Bank of Egypt (CBE) has to worry as much about inflation as about competitiveness, we think it will tread a middle path. Our forecasts suggest a return to 5.3 for EGP/US$ this year, and a period of stability at that level. Citi’s expectation that EUR/US$ will weaken towards 1.25 next year means that our EGP/US$ forecast implies some appreciation of Egypt’s nominal trade-weighted exchange rate. We think this appreciation is modest and consistent with the CBE’s aim to control inflation.

Friday, August 22, 2008

Moody's and Fitch Downgrade Egypt's Sovereign Ratings & Outlook on Account of Inflation

Fitch: Egypt's Long-term foreign currency Issuer Default rating (IDR) was revised- on Aug 18- to Stable from Positive, while affirming the rating at 'BB+'. The agency has also downgraded the Long-term local currency IDR to 'BBB-' (BBB minus) from 'BBB' with a stable outlook. Such a change in ratings reflects the prospect of double-digit inflation continuing well into next year

This downgrade follows that of Moody's in June 08 where the outlook for Egypt's foreign currency bonds was revised to negative from stable due to surging inflation. Fitch cited the higher inflation the country has experienced in recent years and the fact that it is more volatile than its 'BB' peers. This in turn entails a higher interest risk premium and can be coupled with increased macro-economic instability.


Egypt's monetary tools to curb inflation remains weak, raising the prospect of double-digit inflation (almost 23% in July 08) continuing well into next year (Fitch)

The downgrade in the local currency rating reflects the weak public finances. Despite the fact that the gross and net debt ratios continue to fall, at 70% and 56% of GDP, respectively, they stand at least at twice the 'BB' and 'BBB' median of under 30%. Also, there is no reduction in the very high budget deficit in the plan this year, with the timing of critical fiscal measures - subsidy reductions and the introduction of VAT - sensitive to their impact on inflation.(Fitch)

Implications of the downgrades and the negative outlooks:

Selling Eurobonds may become difficult; the Egyptian government had announced its plans to raise up to €1.3bn ($2bn, £1bn) but such a ratings decision may hamper such plans (Saleh). -Yields on local currency debt maybe pushed up, which have already jumped on higher inflation and a 20% tax on treasury bill yields announced in May (BI-ME).


Fitch Press Release



Fitch Ratings has today revised the Outlook on the Arab Republic of Egypt's Long-term foreign currency Issuer Default rating (IDR) to Stable from Positive, while affirming the rating at 'BB+'. The agency has also downgraded the Long-term local currency IDR to 'BBB-' (BBB minus) from 'BBB'. The Outlook remains Stable. The Short-term foreign currency IDR and Country Ceiling are affirmed at 'B' and 'BB+', respectively.

"This year's surge in global food and fuel prices has increased the challenges facing Egypt's policymakers," says Richard Fox, Head of Middle East and Africa Sovereign Ratings at Fitch. "The power of Egypt's monetary tools to curb inflation is still quite weak, raising the prospect of double-digit inflation continuing well into next year. And no reduction in the very high budget deficit is planned this year, with the timing of critical fiscal measures - subsidy reductions and the introduction of VAT - sensitive to their impact on inflation."

The change in the FC rating Outlook to Stable reflects the more challenging policy environment as demonstrated by the slowdown in deficit reduction compared to what Fitch expected a year ago. The general government deficit remained at 7.7% of GDP in FY08 (fiscal year ended June 2008) - amongst the highest of any Fitch-rated sovereign, with other high-deficit countries rated lower. Nevertheless, the authorities did well to contain the narrower 'budget sector' deficit to a less-than-budgeted 6.7% of GDP, including measures to offset the rising cost of energy subsidies, but this was still higher than Fitch had expected. Substantive deficit reduction is now unlikely until FY10. The introduction of VAT, legislation for which is expected to be introduced to the People's Assembly in November, will inevitably raise prices so its timing will be sensitive to inflation dynamics. Despite increased interest rates and stronger sterilisation efforts, double-digit inflation is likely to continue well into next year.

The downgrade in the LC rating reflects several factors. Public finances are much weaker than external finances: although gross and net debt ratios continue to fall, at 70% and 56% of GDP, respectively, they are still more than twice the 'BB' and 'BBB' median of under 30%. Egypt's inflation in recent years has also been higher and more volatile than its 'BB' peers, which exacts a higher interest risk premium and can be associated with increased macro-economic instability. And while Egypt's ability to fund itself domestically is an important strength, high inflation is a factor in the predominantly short-term nature of that funding: two thirds of marketable debt and the bulk of this year's issuance comprise short-term treasury bills. Finally, with foreigners now holding almost a quarter of treasury bills, the distinction between domestic and external debt is narrowing.

External finances are a key rating strength. Egypt is a solid net external creditor and although the current account is likely to move into deficit in the coming year, it will remain well covered by increasing FDI, which is itself a testament to the credibility of the reform programme and the improved business climate. An overall investment rate of approaching 25% of GDP is encouraging as it will help sustain economic growth in the 6% to 7% range, notwithstanding current more difficult global conditions.

The success of Egypt's reform programme and the government's commitment to advance it provides crucial support to the ratings. The Stable Outlook on both ratings reflects Fitch's expectation that reform momentum will continue in the medium-term and that as inflation subsides, deficit reduction will resume. Future positive rating action will require appreciable progress towards the FY11 3% 'budget sector' deficit target and reduction in debt ratios closer to peer group medians; a strengthened monetary policy framework and further progress of banking sector reform; and sustained growth in per capita incomes, supported by further improvement in the business climate. A stalling of reforms or an ineffectual policy response to future shocks would prompt negative rating action.


Moody's

Moody’s, the ratings agency, lowered its outlook for Egypt’s foreign currency bonds from stable to negative on Monday 22 June, citing inflation that has reached its highest level in 20 years. Moody’s further explained its decision by pointing to the increases in Egypt’s subsidy and wage bill as a result of government moves aimed at helping poorer citizens cope with inflation. This added 0.8 per cent to the national deficit in the 10 months starting July 2007.

Mr Cooper said that because of the size of its deficit and public debt, Egypt was “more fiscally constrained than similarly rated countries”. This reduced its ability to raise public expenditure to address the social impact of inflation.

More than half the Egyptian budget goes on wages and subsidies. In recent months the country has seen a wave of protests against high food prices.

Hosni Mubarak, the president, ordered a 30 per cent salary increase for civil servants at the end of April. The government has also widened its food subsidy programme to include a further 15m people.

But it increased fuel prices to the public in an attempt to limit the impact on the deficit.

Moody’s said it acknowledged the positive aspects in Egypt’s economy, such as its high growth rates and the government’s commitment to economic reform, but it was still concerned.

The agency warned this month that of all the International Monetary Fund’s regional groupings the countries of the Middle East experienced the highest average inflation in 2007, at 10.4 per cent, and that it expected this to accelerate this year.

It said that while the sovereign ratings of poorer regional states such as Egypt, Jordan and Morocco were most likely to be affected, even the richer oil-producing countries could suffer in the longer term if price rises continued.

Thursday, August 21, 2008

Egypt's Inflationary Pressures: Increasing With No End in Sight?

Egypt's inflation jumped to 22% in July o8; the highest rate in almost two decades on account of sky-rocketing food price rises which soared to 27% in May yoy from 16.8% in February, making economic reform less likely. Food prices make up 40% of CPI basket

Year-on-year inflation in urban areas was 22 percent for July while rural areas saw an increase of 24.3 percent (Reuters)

Food and beverage prices rose 3.1% in July from the month before, compared with 0.8% in June, and 3.6% a month earlier.

The accelerating inflation has promoted the government to cut customs duties on imported poultry, ban exports of cement and rice, increase food subsidies and authorize 18 million additional people to receive subsidized food (Bloomberg).


Inflation is expected to accelerate in the second half of 08 jumping to around 22% in Q4 08 with the average inflation expected to be 18.2% in fiscal year 08-09 (Bloomberg)

The central bank has also increased its overnight deposit and lending rates four times this year by a total of 2 points


Egypt has gradually been cutting energy subsidies because of their fiscal costs but the government fears political costs of rising food and energy prices. Several groups protesting for higher wages to meet costs

FT: Rising international commodity prices have increased subsidy costs. Govt allocated $14bn for food and fuel subsidies for 2008 with wheat bill expected to reach $2.67bn for 07-08

EIU: inflation undermining purchasing power and fueling general dissatisfaction and increase in protests. Building materials, especially steel and cement, have also seen sharp increases as government tried to lift prices


Since 1977/78 bread riots - triggered by an attempt to lift subsidies - the bread subsidy has been sacrosanct, despite the fact that it is not targeted

JP Morgan: Low earners have yet to feel the benefits of growth (7% average in recent years). Government plans to phase out subsidies by 2010 but Subsidy reform is proving difficult as protests grow in response to rising prices

FAO: Wheat policy is seen as an important component of the safety net for the poor. food security concerns and the fear of an excessive dependency on imports mean that the Egyptian government does continue to intervene in several markets, including the wheat market

Al-Ahram: the huge difference between the price of subsidized flour and its market price tempts some bakery owners to sell their quota on the black market for profit

Similar trends affecting other emerging markets. Water shortages will only rise in the middle east, reducing their arable land. This will have upward pressure on grain prices

Tuesday, August 19, 2008

Egypt Inflation At 22% In July

Egyptian inflation rose to an annual 22 percent in July, the highest since 1992, putting pressure on the central bank to raise interest rates for a sixth time this year. Urban inflation accelerated from 20.2 percent in June, the Cairo-based Central Agency for Public Mobilization and Statistics said today in a faxed statement. In the month, consumer prices rose 2.2 percent from June. Inflation was 26.1 percent in January 1992, according to the agency.


The central bank raised the benchmark overnight deposit rate for a fifth time this year by 50 basis points to 11 percent on Aug. 8 and said it will ``not hesitate'' to increase it again to combat the highest inflation rate in the Middle East. The Cairo- based bank has raised the deposit rate by 2.25 percentage points this year.

The CASE 30 stock index fell 3 percent to 8,609.39 to a 11- month low today, in the first trading since the central bank raised rates, according to the Web site of the Egyptian Exchange. The index has declined 17 percent this year.

Food and beverage prices rose 3.1 percent in July from the month before, compared with 0.8 percent in June, CAPMAS said. Transport prices increased 1.7 percent in July, it said.

Egypt's parliament approved price increases on May 5 for items including fuel and cigarettes, and boosted taxes on vehicles to fund a 30 percent pay raise for state workers. The salary increases came after three people were killed in riots on April 6 and 7 in the northern textile town of Mahalla El-Kobra, part of a series of protests against the selling of state enterprises, firings and high food prices.

The economy in Egypt, the Arab world's most populous nation, will probably expand 7.1 percent in 2009 compared with 7 percent in 2008, the International Monetary Fund said in its latest report on its Web site.

Emerging markets, including Turkey, Brazil, South Africa and India, have increased interest rates in past months to fight inflation fueled by high global oil and food prices.

Egypt is the world's biggest wheat importer. The country bought 7 million tons of wheat from abroad in the last marketing year, half of its annual consumption, according to U.S. and Egyptian government statistics.

Thursday, August 14, 2008

Egypt's central bank seen raising rates again this year

Egypt's central bank, which has already raised overnight interest rates by 225 basis points this year, is seen likely to increase them again, by at least 50 bps, by the end of 2008 as it battles inflation at a 16-year high.

Five out of eight economists interviewed by Reuters on Tuesday and Wednesday said they expected the bank to nudge rates higher by 50 more basis points (bps) to 11.5 percent for deposit and 13.5 percent for lending in what would be its sixth rate hike this year.

One economist said the bank could raise rates by up to 75 basis points, while another expected the deposit rate to hit 12.5 percent. Only one economist predicted that the rates will remain unchanged.

Rising food prices drove urban inflation to 22 percent in the year to July, from 20.2 percent in the year to June.

"As long as inflation remains quite high during the rest of this calendar year, the central bank will continue to have an obligation to show how concerned it is," said David Lubin, an emerging markets economist at Citigroup in London.

"Inflation is going to stay above 20 percent in August and may dip slightly below that in September, but it remains far too high," he added.

Lubin said he expected the central bank to raise rates by 50 basis points before starting to cut them in early 2009 as inflation falls due to base effects. The central bank's Monetary Policy Committee, which meets every six weeks, has three more meetings this year, the first on September 18.

With the economy growing at its fastest pace in decades, rising inflation has emerged as a tough challenge for the government in a country that has a low per capita income and a high poverty rate relative to other Middle East nations.

Food price rises triggered violent protests in some areas in the country this year. This prompted the government to raise public sector salaries by 30 percent and then nudge up fuel prices to finance the wage increase.

Ania Thiemann, senior Middle East and North Africa analyst at the Economist Intelligence Unit, said the central bank is likely to raise rates by 50 basis points in the remainder of 2008 and then pause to monitor the prices of global commodities.

She said the Economist Intelligence Unit forecasts that international commodity prices will fall in 2009.

Many economists doubt that monetary policy tightening alone is enough to bring down inflation because of abundant liquidity in the banking system. Some expect the central bank to allow the Egyptian pound, which has gained more than 7 percent against the dollar over the past two years, to appreciate more.

"Another rate hike is not going to do much to current inflation," said Caroline Grady, an emerging markets economist at Deutsche Bank. She expected rates to rise by 50 basis points.

"The effect will be down the line, so it depends on how much more they feel they need to anchor inflation expectations."

Grady said the central bank may push rates higher by more than 50 bps "because to have these negative real interest rates is pretty unprecedented, but if you look back to 2006, real interest rates were pretty negative but they didn't move much."

But Matthew Vogel, head of EMEA research at Barclays Capital in London, said he expected the central bank to raise rates by 150 basis points to 12.5 percent for the deposit rate.

"They are supposed to be targeting inflation and they cannot justify having policy rates so low," he said.

Friday, August 8, 2008

Egypt Raises Key Rate To 11%

Egypt's central bank increased its benchmark interest rate for a fifth time this year and warned it will ``not hesitate'' to raise it again to combat the highest inflation rate in the Middle East.

Policy makers increased the benchmark overnight deposit rate by half a percentage point to 11 percent and the overnight lending rate by the same amount to 13 percent, the central bank said in a statement on its Web site today. The Cairo-based bank has raised the deposit rate by a total of 2.25 points this year.

``Inflation expectations are still high,'' said Simon Kitchen, an economist at Cairo-based EFG-Hermes Holding SAE, the biggest publicly traded investment bank in the Arab world. ``There are still inflationary risks that warrant raising rates.''

Emerging markets, including Turkey, Brazil, South Africa and India, have increased interest rates in past months to fight inflation fueled by rising global oil and food costs. Egypt's inflation rate rose to 20.2 percent in June, the highest since the government began regularly releasing records to the public in 1998.

``The monetary policy committee remains concerned about possible propagation of food inflation to non-food inflation,'' Rania Al-Mashat, division chief of the monetary policy unit, said in the statement. ``The monetary policy committee will not hesitate to adjust the key central bank rates to ensure price stability over the medium term.''


Egypt is the world's largest wheat importer. The country bought 7 million tons of wheat from abroad, half of its annual consumption, in the year ending June 30, according to U.S. and Egyptian government statistics.

Accelerating inflation has promoted the government to cut customs duties on imported poultry, ban exports of cement and rice, increase food subsidies and authorize 18 million additional people to receive subsidized food. Public discontent and protests against rising wages led the government to increase the wage of state workers by 30 percent in May.

The economy in Egypt, the Arab world's most populous nation, will probably expand 7.1 percent in 2009 compared with 7 percent in 2008, the International Monetary Fund said in its latest report on its Web site.

Egypts Central Bank Raises Interest Rates Again

Egypt's central bank increased its benchmark interest rate for a fifth time this year today and warned it will ``not hesitate'' to raise it again to combat what is currently the highest inflation rate in the Middle East. Policy makers increased the benchmark overnight deposit rate by half a percentage point to 11 percent and the overnight lending rate by the same amount to 13 percent. The Cairo-based bank has raised the deposit rate by a total of 2.25 points this year.


Emerging markets, including Turkey, Brazil, South Africa and India, have increased interest rates in past months to fight inflation fueled by rising global oil and food costs. Egypt's inflation rate rose to 20.2 percent in June, the highest since the government began regularly releasing records to the public in 1998.

``The monetary policy committee remains concerned about possible propagation of food inflation to non-food inflation,'' Rania Al-Mashat, division chief of the monetary policy unit, said in the statement. ``The monetary policy committee will not hesitate to adjust the key central bank rates to ensure price stability over the medium term.''




Egypt is the world's largest wheat importer. The country bought 7 million tons of wheat from abroad, half of its annual consumption, in the year ending June 30, according to U.S. and Egyptian government statistics. Accelerating inflation has promoted the government to cut customs duties on imported poultry, ban exports of cement and rice, increase food subsidies and authorize 18 million additional people to receive subsidized food. Public discontent and protests against rising wages led the government to increase the wage of state workers by 30 percent in May.

Egypt's economy will probably expand 7.1 percent in 2009 compared with 7 percent in 2008, the International Monetary Fund said in its latest report on the country.