Middle East economists and analysts have tried and often failed to answer Egypt’s million dollar question: Will the country’s economy collapse and, if so, when?
Finally, someone has crunched the numbers to give us an answer.
London-based economist Ziad Daoud pored over Central Bank data and reckons the scare-mongering (of which the media is to blame of course…) of Egypt’s imminent economic collapse is largely unwarranted.
Egypt needs to raise $11.7 billion in the next 12 months, according to International Monetary Fund estimates.
هذا هو الجزء الثاني من سلسة ممتازة مكونة من جزئين من إعداد إيزابيل إسترمان وترجمة ريم مكين، تدور حول السندات الحكومية: أذون الخزينة وأدوات الدين الأخرى المباعة من قبل الحكومة (بما في ذلك الحكومة المصرية) لتسديد قروضها. الجزء الأول هنا.
هذه المرة ننظر إلى تأثير الإعتماد على السندات الحكومية لتغطية إحتياجات الإقتراض.
لا يوجد شك في أن إقتصاد مصر يعاني، لكن إذا انتبهت لإصدار السندات ونتائجها، فستجد أن الحلقة المفرغة من الدين مستمرة. طالما أن دين مصر ينمو أسرع من إقتصادها، فستصبح الأمور سيئة.
تحتاج مصر إلى تنظيم حساباتها عن طريق خفض الإنفاق (إعادة توزيع الطاقة والدعم على الطعام هي الأشياء الأولى البدء بها) ورفع العوائد (زيادة الضرائب، وإدخال التمويلات العسكرية والوزارية داخل الخزينة إن أمكن). إذا لم يتم ذلك بطريقة صحيحة، فمن الصعب تجنب الإضرار بالضعيف أو إغضاب القوي، ومن الصعب رؤية كيف تمتلك الإدارة الحالية القدرة السياسية للقيام بذلك.
هذا هو الجزء الأول من سلسة مكونة من جزئين من إعداد إيزابيل إسترمان وترجمة ريم مكين، تدور حول السندات الحكومية: أذون الخزينة وأدوات الدين الأخرى المباعة من قبل الحكومة (بما في ذلك الحكومة المصرية) لتسديد قروضها.
في السنتين الماضيتين أعتمدت مصر بشدة على البنوك المحلية في محاولة لتقليل العجز وتمويل إحتياجات القروض.
اقتراض المال من المقرضين يشبه إلى حد كبير إقتراض شخص من البنك: يُقيم البنك تاريخ رصيدك، تقترض مبلغ X من الدولارات وتدفع Y في المائة فوائد.
إصدار السندات مشابه جداً لهذا المثال
الرسم بأسفل هو مقدمة عن السندات الحكومية والغرض منها. نشرح المزيد عن ما تسببه لمصر في الجزء الثاني.
If you have tried to exchange US dollars and Euros at any bank in Egypt, you will likely be met by an apologetic shrug and asked to come back another time.
As Egyptians flock to a parallel market to meet their needs – either to cover import costs, before travelling abroad or to protect against the depreciation of the pound, a new website, EshteriDollar.com (Arabic for “Buy Dollars”) is aiming to fill a gap left by the government and currency dealers. Aimed at anyone living in Egypt, the website invites individuals wishing to either buy or sell foreign currencies at a better price than the official or black market.
Egypt is struggling to slow a fall in the domestic currency, which at official rates has fallen about 10 percent against the dollar this year.
The Central Bank has tried to control the decline in the Egyptian pound by introducing weekly dollar auctions. But dollar supply remains scare, and the government is having to give priority to importers of essential goods (including for wheat and fuel), leaving other importers and individuals to meet their hard currency needs via the parallel market.
The currency’s value on the black market, meanwhile, is falling fast. Dealers and market participants say dollars are being offered at rates as low as 8 pounds. That is compared to 7.50 pounds just a few days ago. The official rate is 6.80 pounds to the dollar.
Rebel Economy spoke to the owner of EshteriDollar, an economist based in Egypt, who asked to remain anonymous:
EshtariDollar: We started the website in February of this year, it started to pick up in April, when the “real” price of the dollar started to spike in comparison to the official rates.
The only reason the website exists is because there is a deviation between the official and real dollar price. We hope that some day (the sooner the better) we can shut down the website, because we are no longer “needed”.
I don’t think the currency market in Egypt is free. A free market exists when the price is defined by the supply and demand. But in Egypt, there is an officially set price for the dollar, interfering in the price setting mechanism.
At the artificially low rates the demand for dollars is high, but there is no supply meaning we come to a standstill and no transactions take place. What market participants do in these situations is basically turn to an un-official market to be able to conduct their transactions. Who benefits from such a situation? Mainly, the black market dealers.
The black markets are not transparent and the dealers tend to be able to generate large profits from the BID/ASK spread (the spread is the difference between the price you can buy and sell at). This is where EshteriDollar comes in, we take the dealers out of the equation and allow buyers and sellers to get together without a middle man (we don’t charge any sort of commission).
If the idea of the website catches on I am sure it will lead firstly to higher transparency (because you have a vast amount of different offers you can choose from) and also to lower prices.
- How does EshteriDollar work? How can I get involved?
ED: It is pretty simple: If you need foreign currency or Egyptian pounds you go to the website and post your ad (under Offers) you can alternatively enter “The Market” and scan who is selling or wants to buy foreign currencies. You can contact the seller (or buyer) by phone or email and negotiate between yourselves.
EshteriDollar is not involved in any form in buying or selling currencies, we have simply put together a market place for people to meet and trade. We should also mention that we do not verify the ads, meaning users should be cautious when trading with large amounts of cash.
- What do you make of Egypt’s currency policy decisions in the last two years?
ED: I am in general a critic of central bank policies worldwide and I am a proponent of Friedrich A. Hayek’s view that the production of money should be denationalised. Central banks tend to neglect one important function of money, namely that money should be a store of value. Their continuous “money printing” increases the supply of money relative to goods, thus driving the prices up. This is the main reason for the existence of inflation. These actions impoverish the lower and middle classes. This is especially problematic in Egypt where wages are not adjusted according to inflation, end in loss of savings.
Egypt is now repeating history. We had a similar situation during the Asian crisis. Foreign Direct Investment suddenly and abruptly stopped, most countries had a “quasi-peg” to the dollar and depleted most of their central bank reserves in an effort to keep the exchange rate stable and in the end they were forced to devalue the currency massively, because they simply didn’t have enough dollars to hold the rate.
It took nearly two years and a depletion of more than 50% of the central bank’s assets to finally, move away from setting the dollar at a rate of around 6 pounds. Ideally, they should have stopped intervening a long while ago.
The current devaluation is a step in the right direction, because its bringing the Egyptian pound closer to its real rate. I do however think one should speed up this process, especially in the economic situation we are in. Imagine the blessing for the tourism or export industry if all our goods were 20-30% cheaper for foreigner importers and tourists? At the same time imports to Egypt would decrease, which would be good for the growing balance of trade deficit.
- What do you get out of this? Commission from the currency exchange?
ED: Nothing! Anyone can post free of charge on the website and we are not involved in the transaction in any form and therefore can’t (even if we wanted to) charge any sort of commission. The whole idea is more ideological than anything else.
For the sake of transparency I should mention that we have some ads on our website, which generate some negligible revenues that don’t cover hosting and other expenses.
- What makes your website different and better to, say, a normal currency exchange on the street or a black market dealer?
ED: Our goal is to cut out the black market dealer, by bringng together buyers and sellers directly. When you trade with a bank, currency exchange office or a black market dealer there is always a spread. This spread is typically higher in black markets than other markets, because the black market dealers are taking on a risk by acting illegally or having to pay off police officers (which has been reported in Egypt recently). By cutting out the middle man both buyers and sellers benefit.
Here is an example:
Someone sells their dollars to a black market dealer at rate of 7.5 Egyptian pounds. The dealer will then sell these dollars to a willing buyer for 8.0 pounds and pocket the difference of 0.5 pounds per dollar. If you cut out the dealer you can get a better price for both parties. The seller can sell his dollar for 7.75, getting 0.25 EGP more on the dollar than the official rate, and at the same time the buyer will get the dollars 0.25 pounds cheaper. In essence, a win for both parties.
This is PART 2 of an excellent two-part series by Isabel Esterman on government securities: treasury bonds and bills, and other debt instruments sold by a government (including Egypt) to finance its borrowings. Here is Part 1.
This time we’re looking at the impact of relying on these financial instruments to cover borrowing needs.
We all know that Egypt is in really bad shape, but if you start paying attention to bond issuances and yields, you can watch (in horror) as this vicious circle of debt continues. As long as Egypt’s debt grows much faster than its economy, things are going to be rough.
As to how to solve this, one possible route is for Egypt to get its accounts in order, by cutting spending (restructuring energy and food subsidies is the obvious place to start) and raising revenues (increasing taxes, and possibly bringing military and ministerial funds into the treasury). Unless this is done very well, though, it’s hard to avoid hurting the vulnerable or angering the powerful, and it’s difficult to see how the current administration has the political capital to do either.
In theory, Egypt could also come up with a comprehensive stimulus plan, and convince lenders (domestic and foreign), that a big enough infusion of cash will get Egypt’s economy back in gear without the need to resort to austerity measures. For this to work, it would have to be a whole lot more detailed and credible than what we’re seeing come out of either the ruling party or the opposition.
Disclaimer: In the course of the research for this graphic, it was discovered that the proportion of government spending on debt servicing (to cover the repayment of interest and principal on a debt) was actually much larger than the figure extensively used in the media. It stood at 35.7% rather than the “25%” often quoted in mainstream media.
We have consulted bankers and financial analysts to confirm this, but there is still controversy over how it the figure should be calculated. It is a matter of terminology, so for number geeks out there, we have chosen to look at entries (sources below) for “interest” and “loan repayment” as a percentage of total budget outlay, rather than “interest” as a percentage of “expenditures”, which yields the more widely-cited figure of 25%.
This is PART 1 of a two-part series by Isabel Esterman on government securities: treasury bonds and bills, and other debt instruments sold by a government (including Egypt) to finance its borrowings.
In the last two years the Egyptian government has been leaning more heavily on domestic banks in an attempt to narrow its deficit and fund its borrowing needs.
Borrowing money from lenders is pretty much like an individual borrowing money from a bank: the bank evaluates your credit history, you borrow X dollars and pay Y% interest. This makes it relatively easy to have critically important public conversations about whether taking on a loan is a good idea.
Bond issuances aren’t actually that much more complicated, but the process is usually obscured by specialised jargon — YTM, coupons, issuances, securities, t-bills. People’s eyes glaze over, and transactions involving billions of dollars of public funds get shunted off to the financial pages.
Instead of headlines like “Government borrows LE6 billion at 14.77%” we see “CBE offers 6 billion in t-bills; average yield climbs to 14.77%”.
What is more, we often conflate government borrowing via treasury bond and bills (a key element of fiscal policy) with the secondary market for bonds (buying and selling government debt), which is a specialized, complicated financial tool where bonds are traded between investors.
Confusing the two is a problem because it means that people who aren’t bond traders (most of us) also aren’t kept well informed about how much money the government is borrowing.
The below is an introduction to government bonds and their purpose. We will explain more about what this means for Egypt in Part 2, coming tomorrow.
Last week, Egypt’s Central Bank decided to hike interest rates to slow down inflation and curb a sliding pound.
But what are the economics behind the move? What does it really mean to raise interest rates and what impact does this have?
Contributor Isabel Esterman has drawn up a genius cartoon to explain all.
She says that this is, of course, hugely over-simplified. In order to keep it at a manageable length, the cartoon glosses over things like how fractional reserve lending actually adds to the money supply, repo and discount rates (we don’t need to get that technical anyway…), as well as examples of when these theories don’t work – all topics for another day.
Still, we hope this is enough to make people feel more confident tackling something like the CBE Monetary Policy Committee’s most recent press release.
The people at Cairo-based brokerage firm Pharos Holding have sent investors a thorough breakdown of the reasons behind Egypt’s diesel crisis.
Titled “Diesel Crisis: Unquoted Figures and Untold Stories. The Secret behind Diesel Shortages in Egypt” the document sheds light on the country’s fuel crisis.
Pharos Research sourced diesel import data from the main government statistics agency, the Central Agency for Public Mobilization and Statistics (CAPMAS) to understand the nature and magnitude of the current diesel crisis. They found that diesel import statistics are extremely alarming in terms of magnitude, reasons and implications.
Firstly: Diesel imports have been rising sharply and now make up about half of consumption, or around 9% of imports.
The media quotes Egypt diesel imports at around 25% of annual consumption. However, CAPMAS figures show that the true figure jumped to around 50.0% and accounted for around 9.0% of Egypt’s merchandise imports, up from only 2.5% in 2007.
Secondly: There is a growing rift between EGPC and foreign partners.
The reasons behind the surge in diesel imports and the current diesel shortage crisis is down to growing debts to foreign oil partners from the state oil company, Egyptian General Petroleum Corporation (EGPC).
But this rift has forced foreign partners to export their share of crude oil directly to third parties rather than sell it to the EGPC and risk further debt exposure. This has not only deprived Egyptian refineries from feedstock but triggered a surge in imports from foreign suppliers.
While the minister of petroleum said earlier this week outstanding liabilities to foreign partners have been settled ($ 6.5 billion), Pharos says liabilities have most likely been paid using the deposits of Qatar, Saudi Arabia and Turkey. Hence, Egypt has only managed to rollover rather than settle debt.
That’s not the only problem.
Although Egypt may have averted full erosion of its foreign reserves by delaying payments to foreign partners (yet at the expense of reputation and delays in upstream investments), it will not be able to defer payments to foreign suppliers (for imports).
What is alarming is that Egypt has run out of cash for diesel imports due to the inability of EGPC to secure payment guarantees from local banks, as Rebel Economy has reported before.
If this continues and foreign reserves inflows remain muted, Egypt will have no diesel for energy subsidies. It faces the prospect of food price inflation and social unrest that will pose huge challenges to political and economic stability.
This is exactly why Egypt has no choice over implementing energy subsidy reforms. The government must make normal Egyptians pay higher prices for fuel so that the administration can supply subsidies to those who really need them.
“Nightmare over!” said tailor Saad el Din Ahmed, 65, in Cairo. “Now we have our freedom and can breathe and demand our rights. In Mubarak’s era, we never saw a good day. Hopefully now we will see better times,” said Mostafa Kamal, 33, a salesman.
“We are not here to celebrate but to force those in power to submit to the will of the people. Egypt now must never be like Egypt during Mubarak’s rule,” said Mohamed Fahmy, an activist.
Two years ago today, Egyptians made history sweeping Hosni Mubarak from power and sending a warning to other dictators across the world.
But as Egyptians and close watchers of the nation are well aware, the country’s political and economic situation is not better than 2011, and has in fact deteriorated in many areas.
The numbers speak for themselves.
As the political crisis has deepened, the currency has dipped to such a point that the public have lost faith in the pound and turned to the black market, the jobless rate has increased and the country’s twin deficits in the budget and balance of payments is putting further pressure on the level of GDP growth, which has slowed down to about 2%. The government is well on its way to exceeding its original deficit target of 7.6% of GDP for this fiscal year.
Foreign direct investment may be in the green, helped by one-off investment deals including France Telecoms of Egypt’s Orascom Telecom Media and Technology, but the level is nowhere near the $4.1 billion in FDI Egypt recorded in the first half of 2010.
Remittances, an important source of hard currency, are one bright spot in an otherwise negative outlook. But it is not enough to comfort economists and investors who say Egypt must apply harsh austerity measures for the fiscal situation to improve.
Capital Economics made some important points in a note this morning:
We estimate that fiscal tightening of 3% of GDP is needed just to stabilise the debt ratio. However, measures to put the public finances onto a more sustainable path will only be possible if the political situation calms down. Until then, the fiscal position is likely to worsen.
The deterioration in the Egyptian fiscal position is mainly due to rising wage costs and subsidy expenditures. The former have risen by 26% so far this fiscal year compared to the same period last year while the latter are up by a whopping 38%. We suspect that the government has been recruiting more workers and increasing pay in an attempt both to stem the rise in unemployment (which is now higher than before the start of the revolution two years ago) and to quell civil unrest. Particularly worrying is the fact that expenditure on wages and jobs is extremely difficult to pare back.
Large budget deficits over the past couple of years have, in turn, resulted in higher levels of government debt. Total government gross debt now stands at over 75% of GDP. This, coupled with rising interest rates on public debt (due to higher risk premia caused by political instability), has led to a 30% y/y increase in debt interest payments. These payments now account for over 20% of total government expenditure.
Talks with the IMF, apparently due to re-start soon, are likely to focus on fiscal consolidation.
There is no easy way of getting out of this situation. Egypt will have to impose some level of taxes on the middle class, cut spending on subsidies while enforcing new measures that mean cheap fuel gets to those who most need it, and reform the bloated public sector, where employees are overpaid and inefficient.
Yesterday Rebel Economy interviewed Ahmad Shokr, one of the founding members of the Drop Egypt’s Debt campaign, who argued that Egypt’s fiscal problems won’t be solved with a loan from the International Monetary Fund (IMF).
Today, we hear it from the horse’s mouth (so to speak).
Masood Ahmed, the Middle East and Central Asia director at the IMF, explains how the Fund can help “Cut Deficits Without Damaging Growth Too Much” in a new IMF blog in Arabic. Here is the bulk of the blog post in English. It seems to be a strong position that the IMF is taking to tell the Middle East “We are here to help you solve your problems”. You may also note that Mr Shokr’s argument is actually not that much different to Mr Ahmed’s:
As in other parts of the world, governments in a number of countries in the Middle East and North Africa region face a growing urgency to take politically difficult steps to bring down large fiscal deficits. Bringing down deficits is, of course, not an end in itself. But in many countries, deficits are too large and will eventually come to hurt growth and financial stability. At the same time, measures to trim the deficit can have a negative effect on economic growth in the short run. So, the question is what measures policymakers should take to reduce budget deficits while minimizing the negative impact on economic growth and the most vulnerable in society.
In response to social demands and rising food and fuel prices, governments across the region have increased spending on subsidies and wages significantly over the past two years. Public revenues, however, have been declining for a variety of reasons, including the slowdown in regional economic activity. As a result, oil-importing countries in Middle East and North Africa have seen a large increase in their chronic budget deficits, which grew to an average of more than 8½ percent of GDP in 2012 from about 5½ percent in 2010.
Such an increase in fiscal imbalances is quite difficult to sustain over a long period of time. In fact, looking ahead, there is little room for additional government spending.
Choosing the best path
Typically, deficit reduction calls for, on the one hand, measures to increase government revenue and, on the other, to cut spending. Increasing revenues can be realized either by raising tax rates or by broadening the tax base. The latter can be achieved by implementing reform measures to make the tax system more efficient and to address tax evasion and tax avoidance. Reducing government expenditure entails cuts in both current (non-interest) and capital spending.
Rebalancing the composition of revenues and expenditures may help lessen the adverse side effects of deficit cuts on growth.
1) On the revenue side, property and sales taxes are the most growth-friendly measures for raising revenues. In contrast, trade and income taxes are the least growth-friendly. Egypt is among those oil-importing economies in the region with the greatest scope to rebalance taxes toward more growth-friendly instruments.
2) On the expenditure side, social benefits and subsidies are the least growth-friendly measures, whereas capital spending tends to be the most growth-friendly instrument. Spending, especially on subsidies, is largest in Egypt, Jordan, Lebanon, Morocco, and Tunisia, suggesting that there is scope to lower such spending as a growth-friendly instrument for fiscal consolidation. In contrast, productive capital spending is smallest for Lebanon, Sudan, and Tunisia, suggesting that there is space to increase such spending.
A key fiscal priority for the MENA region is to replace generalized subsidies with more targeted social safety net instruments. Besides being very costly, generalized subsidies do not support the poor well. For example, one-third of energy subsidies in Egypt benefit the wealthiest one-fifth of the population. And, our research suggests that the situation is similar in many other countries in the region.
Quality also matters
Improving the quality of government spending more generally is critical. This would help make room to boost investment spending and reduce fiscal deficits that are increasing debt levels and crowding out lending to the private sector.
Structural reform policies that aim to enhance the overall productivity in the economy and, hence, raise growth potential could also offset the negative impact of fiscal consolidation.
Successful implementation to both enhance the quality of spending and rebalance the composition of revenue-raising and expenditure should help create more and better employment opportunities, and lead to faster economic growth in the MENA region that would benefit all.
CENTRAL BANK OF EGYPT
This morning brokerage firm Pharos Holding emailed an interesting note analysing the Central Bank of Egypt’s monetary policy measures, and why they don’t agree with it. Here is the note in full. It is important because it reminds readers and close watchers of Egypt that the Central Bank is an opaque institution that says one thing, and does another. The key takeaway is that the Bank is in fact targeting a specific exchange rate, contrary to previous statements that it is not doing this and leaving the market dependant on supply and demand. That means the pound is OVERVALUED and again at a level that cannot be sustained with falling reserves:
PHAROS: Yesterday, the CBE executed four simultaneous measures to limit further EGP depreciation:
1) reducing the cap on EGP depreciation in FC auctions from 0.5% to 1 piaster
2) reducing the number of auctions to two per week; every Monday and Wednesday
3) indirectly inducing (via moral suasion in our view) the two largest public banks and CIB to raise long-term deposit rates by 50-100 bps
4) removing the 1% commission rate on FC purchases.
The new CBE governor met with the prime minister to discuss possible means to limit further downward pressure on the EGP. The above steps suggest that the move from EGP 6.15 to 6.75 per US$ was not intended to be a move to free float as earlier announcements had suggested. Instead, it was a managed devaluation with an initial target in mind. This policy is known as a “crawling peg”, whereby a currency is pegged to an anchor currency (US$ in this case) but the peg is adjusted occasionally to reflect changes in macro dynamics.
Why We “do not Like” a Crawling Peg
1) It contradicts with initial statements made by the CBE governor and accordingly raises credibility concerns. The current governor had earlier explicitly noted that he will not target a specific exchange rate,
2) The current rate is not a rate at which supply and demand are in equilibrium. There are tight capital controls and demand is artificially capped by import rationing (primarily evident in imports of diesel),
3) If the market views the current rate as not sustainable, which is evident by an active black market, investors will actively pursue arbitrage opportunities to benefit from the black market premium (ranges between 5.0-10.0%),
4) It confuses monetary policy formulation and disrupts the carry trade because foreign investors cannot predict whether interest rates will be used to defend the currency (so go up) or to stimulate recovery (so go down),
5) Finally, if the new rate fails to present itself as a new equilibrium at which current and capital account transactions are cleared, credibility of the CBE will be significantly shaken and the whole regime will collapse. This is what exactly happened between 2000 to 2003, until the floatation decision was taken on 29 Jan 2003.
Concluding Remarks: Breather rather than a new equilibrium
The 6.75 target is only a breather rather than a new equilibrium, in our view. It cannot be sustained without a significant improvement in foreign currency inflows, which we do not see at present.