Egypt: Risk Assessment
Country Rating1
Rating: C
Business Climate Rating1
Rating: B
Risk Assessment2
Relatively uncertain political transition
The political transition, initiated by the resignation of President Moubarek on 11 February 2011 under popular pressure, remains uncertain.
The Supreme Council of the Armed Forces, headed up by Field Marshal Mohamed Tantawi, plans to lead the country until free legislative and presidential elections are held, scheduled for September and December 2011 respectively, which will lead to a revision of the Constitution and a civil government. There is likely to be increased participation in the range of political movements, including in particular the powerful Muslim Brotherhood, previously banned. However, the risk remains that popular dissatisfaction will not allow for a peaceful transition; it appears that the army will have to remain the ultimate arbiter.
Significant deceleration of growth
The scale of the repercussions on economic activity will depend on what happens during the transition period. At this stage, it appears that the economy is likely to escape the recession for the tax year July 2010-June 2011, given the growth established prior to the events.
Activity in the tourism sector, which is the country's key sector (6% of GDP in its strictest sense and 12% with indirect effects) will have dropped by half, since the period of unrest coincided with the peak tourist season. Other sectors were affected during the first months of 2011 - wholesale and retail trade, financial and marketing services, transport, telecommunications and the manufacturing industry. However, the oil and gas sector as well as traffic on the Suez Canal were not really affected.
Most sectors should be able to start up again as soon as things return to normal, but the tourism industry will probably be the slowest to recover.
In this uncertain political and economic environment, pressure on prices should remain high, with inflation staying up in double figures.
Public finances out of control, mitigated by international financial aid
The recent events will give rise to budget deficits that are higher than forecast for the financial years 2010/11 and 2011/12. This is primarily due to the decline in growth, and therefore revenues, and to expenditure that is higher than expected. Income from sales taxes and customs duties will drop significantly, due to the unrest.
At the same time, expenditure is higher than forecast, due to an increase in salaries in the public sector and in social security support, as well as larger subsidies (25% of total expenditure).
However, traditionally, the Egyptian government deficit is primarily financed by the domestic market. In addition, the international financial aid packages announced at the end of May 2011, at the G8 summit, should provide ample cover for the remaining financing requirement in 2011 and 2012.
Pressure on external accounts also eased by international financial support
Exports of goods are likely to increase at a moderate rate, due to the rise in oil prices, and important sources of currency, such as revenues from the Suez Canal or remittances of workers, are not expected to be significantly affected. The principal reason for the deterioration is the steep drop in tourism in the first half of 2011, leading to a marked increase in the current account deficit.
Foreign direct investment flows relating to the manufacturing industries, tourism and property (half of the total amount) were affected by the events. Conversely, those relating to the oil and gas sector were less affected. In addition, given the level of uncertainty, there have been capital flights and non-residents have also repatriated capital sums, selling Treasury bills.
However, external debt ratios should be maintained at moderate levels and the external accounts deficit should be largely covered by the anticipated international financial aid; support from Saudi Arabia and loans from the United States, the World Bank and the IMF (the latter being valued at $3 billion).
Egyptian pound put to the test
Under the current circumstances and in the framework of the floating regime managed with an informal anchorage to the US$, maintaining stability of exchange rates will be a major challenge. However, the risk of significant depreciation of the Egyptian pound should be tempered by interventions from the Central Bank, which has accumulated foreign exchange reserves and also has significant currency deposits in the banking system. The authorities have had to draw on these reserves and deposits to sustain the currency and the official foreign exchange reserves will decrease considerably.
Banking sector relatively unscathed
The banking sector, dominated by the large State banks, is sufficiently liquid but is still poorly capitalized, inefficient, plagued by a high rate of bad debt (15%) and not very profitable.
Since 2004, however, reforms have been undertaken that aim to improve its efficiency and the rules of governance, particularly in the public sector.
The Egyptian Central Bank has taken steps to avoid any panic in the banking system, by implementing a ceiling on withdrawals against deposits in local currency and hard currencies, and the situation should evolve in a relatively orderly fashion.
Strengths
- Strong development potential thanks to oil and gas reserves
- Diversified sources of foreign currency (Suez Canal, tourism, private transfers, gas exports)
- Moderate foreign debt and relatively comfortable foreign exchange reserves
- Political and financial backing of Western countries
Weaknesses
- Economy lacks diversification and is dependent on hydrocarbon
- Structural weaknesses: strong demographic growth, high unemployment, inadequate investment rate, inefficient public sector, governance difficulties
- Poverty (40% of the population) and social unrest
- Fiscal imbalances linked to inelastic spending and excessive public debt complicate matters in financing infrastructure
- Persistent weakness of the banking system
- Unstable geopolitical environment