Beltone Financial has issued two reports that the government will follow through with its decision to liberalise the exchange rate of the Egyptian pound against the US dollar by Thursday—or next week at the latest.
Following a speech by President Abdel Fattah Al-Sisi in Alexandria on Monday, Beltone Financial stated that the president’s remarks reflect the government’s “short-term economic plan on exchange policy reform, social safety net post-execution, and fiscal consolidation”.
According to Hany Genena, head of research at Beltone Financial, the most indicative portion of the speech was when the president discussed the government’s objective to boost the supply of basic food items at reasonable prices “within one to two months, regardless of the USD/EGP exchange rate.”
Genena expounded on this point, saying that Al-Sisi put an emphasis on the latter half of the statement, by repeating “regardless of the USD/EGP exchange rate” three times as well as saying “within one to two months” rather than ‘after’ to imply that this move really is looming ahead.
Genena states that floating the rate within the coming week would accomplish two goals: first to provide proof of commitment to the International Monetary Fund (IMF) and the reform programme; and secondly to reduce the Credit Default Swap (CDS) spread ahead of offering the Eurobonds in the second half of October. This unprecedented exchange rate is due to the increase in demand for the US dollar to meet the import needs amid a decrease in supply.
State of maximum alert
President Al-Sisi firmly warned that any act that may provoke domestic unrest would be dealt with, adding that the army could be deployed nationwide within six hours. He further warned that any domestic unrest could have existential ramifications—this could be an allusion to a major shift in fiscal policy such as exchange reform, as on Wednesday the pound weakened against the dollar at EGP 13 to USD 1.
Finally, and most importantly, was the president’s linking of the recent build-up in inflation to the increase in public sector wages and salaries. This correctly reflects the impact of the government’s widening borrowing requirements and the Central Bank of Egypt’s (CBE) deficit monetisation as a sign of the president’s endorsement of upcoming fiscal consolidation efforts.
Beltone states that they have advised their clients to reduce their exposure to the Egyptian Exchange (EGX) until after the hype and the public acceptance of reforms is fully assessed. The Egyptian military may be on a state of maximum alert until the initial inflation shock is digested. Finally, the CBE may execute a “super rate hike” in order to contain inflation.
Speaking to Al-Monitor, professor of finance and investment at Ain Shams Khaled Abdel Fattah, and financial adviser Ahmad Adam, both agreed that the Egyptian people, especially low-income earners, cannot afford further rises in the price of goods and services. This increase is inevitable should the pound be floated or devalued under the current economic circumstances, they said.
The logic of a currency peg from international investors and institutions is to encourage Egypt to scale down its deficit, pay back its loans, increase fiscal discipline, monetary supply, and a habitat conducive to investors. Like with other currency liberalisation, this will have a deregulating effect by constraining the CBE’s ability to manage the national economy.
According to researchers at the University of Albany and University of York, Ruth Felder and Viviana Patroni, when the currency was liberalised across countries in Latin America, this had the effect of eliminating the central bank’s role as a last resort lender to the state, and drastically restricted its role as a monetary supplier which would directly lead to a major economic crisis known as the “convertibility crisis”.
Like Egypt, Argentina liberalised its exchange rate closely following the country’s adoption of value-added taxation (VAT) which led to—after initial economic chaos—a sustained period of growth for close to 10 years, followed by a major economic crisis and collapse. Clearly, the Egyptian military also sees the potential for unrest when prices increase drastically.