Egypt has devalued the pound by a third and allowed it to float, to staunch the bleeding of its foreign currency reserves and meet the conditions of a much needed loan from the International Monetary Fund.
On Wednesday night the official exchange rate was changed from EGP8.88 to the US dollar to EGP13, narrowing the big gap between the official and black market rates.
In parallel, the central bank tightened monetary policy by raising key interest rates by 300 basis points to channel liquidity away from the foreign exchange market and into local currency deposits. It raised the overnight deposit rate, the overnight lending rate and the rate of CBE’s main operation to 15.75%, 15.25% and 15.25%, respectively.
The Egyptian stock exchange rallied on the news of foreign currency market liberalization, with the benchmark EGX-30 Index of large cap companies gaining 3.35% at the close of the trading day on Thursday after shooting up by as much as 8.2% at the beginning of the trading session. Bond yields also tightened.
The move brought Egypt a step closer to fulfilling the conditions to secure a $12bn Extended Fund Facility from the IMF over three years. The remaining condition is fuel subsidy reform to narrow the expected expansion in the fuel subsidy bill following the start of trading under the new foreign currency regime.
The central bank is hoping that combining the liberalisation of the foreign currency market along with the wrenching-up of key interest rates will revive foreign investor interest in domestic Treasury bills and bonds, thus helping close the budget deficit and increase domestic liquidity.
Foreign participation in the domestic debt market remains negligible after most foreign portfolio investors shunned the country in the aftermath of the January 25, 2011 political uprising that toppled long serving President Mohamed Hosni Mubarak.
To attract domestic savers, the two largest state-owned banks, National Bank of Egypt and Banque Misr, introduced two high yield Egyptian pound denominated saving certificates. A three-year maturity certificate is offering 16% interest rate per annum and an 18-month maturity certificate is to offer 20% annual interest rate.
In the longer term it is hoped the devaluation will boost competitiveness, exports and tourism, and attract foreign direct investment.
To assuage analysts concerns over the preparedness of Egypt for full currency floatation, central bank governor Tarek Amer told a press conference that the government is counting on external support to the tune of $16.2bn to fill Egypt’s funding gap for FY2016/2017.
The Egyptian government has arranged for its economic reform program to receive during the first year of its implementation a $4bn loan from the IMF, a $1bn loan from the World Bank, a $500mn loan from the African Development Bank, a $2bn central bank deposit from Saudi Arabia, a $1bn central bank deposit from the United Arab Emirates, a $2.8bn from China currency swap and a $1bn from G7 countries. In addition, the finance ministry is expecting to raise $3bn-$5bn from a sovereign bond issuance on international debt markets following the signing of an IMF loan deal.
In an early sign of acquiescence, the Financial Times quoted Chris Jarvis, mission chief for Egypt at the IMF, enthusiastically supporting the exchange rate regime change adopted by the Egyptian authorities. The European Bank for Reconstruction and Development (EBRD) sounded a similarly supportive tone in a note posted on its website entitled “EBRD welcomes Egyptian currency and monetary steps” saying that the “pound’s devaluation a ‘positive step’ in the right direction”.
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