Egypt’s long road to recovery: Who wins and who must wait?

Many regional and international stakeholders believe that the cost of rescuing Egypt's economy pales in comparison to the steep price everyone might pay if it were to descend into chaos

Ewan White

Egypt has successfully leveraged its role as a key player in resolving the Gaza conflict to get the foreign assistance it needs to rescue its economy.

Egypt’s long road to recovery: Who wins and who must wait?

Alaa Shahine Salha

last update on 12 Apr 2024

During the International Monetary Fund’s annual meetings in Morocco, a group of investors held a closed meeting in a five-star hotel in Marrakech.

The topic was a bit of a surprise to those who found out about it: Egypt. Barely a week had passed since the outbreak of war in Gaza on 7 October, which had cast a dark shadow over the political and economic fate of the Middle East.

However, some saw Egypt's potential role as a key player in resolving the conflict as a way for President Abdel Fattah el-Sisi's government to escape a severe economic crisis.

On the surface, there wasn’t much to be optimistic about. Egypt was suffering from a crippling shortage of hard currency, and its negotiations with the IMF to implement a $3bn aid programme were stalled due to Cairo's hesitation to undertake painful economic measures.

Egypt’s Gulf Arab allies, who had poured tens of billions of dollars to support el-Sisi since his rise to power in 2013, also seemed reluctant to provide more without a clear economic plan backed by international institutions.

An optimist gamble

Yet the optimists, while decidedly in the minority, based their bets on two assumptions: Egypt's position as a traditional mediator between Israel and the Palestinians and international concerns that its economic plight could cause a political collapse that this powder-keg of a region can ill-afford.

The thinking went that the cost of rescuing the Egyptian economy paled in comparison with the steep price everyone might pay if the most populous Arab country were to descend into chaos.

Five months later, Egypt signed an agreement with the IMF for an $8bn loan—more than double the previously agreed amount. This was preceded by a surprise $35bn investment announcement from the UAE, mostly earmarked to develop the Ras El Hekma area on the Mediterranean coast.

Ewan White

This put Egypt in a much stronger position to undertake painful but necessary measures: devalue the currency by more than 40% to eliminate the black market for dollars and raise interest rates by 600 basis points to curb the massive inflationary effects of the pound’s liberalisation.

With the influx of funds pulling Egypt back from the brink of an economic disaster, the relief that greeted the developments can be easily understood (TV showed footage of President el-Sisi jokingly asking his prime minister for a "piece" of the money transferred to a fund for special needs care).

But a quick scan of the country's history with currency crises, in particular, helps highlight that what happened is merely the first step on a long, bumpy road to recovery.

It’s a journey that offers quick wins for investors (like those who met in Morocco) but raises many questions and potentially greater risks for others, including the government, its creditors, and the Egyptian people in general.

Second litmus test

The litmus test facing Cairo for the second time in less than a decade is leveraging Arab and international support to turn the page on volatile boom-bust cycles and set the economy on a more sustainable growth path.

While IMF support and international investments make for a perfect starting point, analysts and economists we spoke to agreed that the euphoria could easily fizzle out if the government failed to follow through with measures to reduce its ballooning external debt and chronic trade deficit, not to mention bringing inflation under control.

None of this would have happened without Ras El Hekma—a region that not many outside Egypt (or not many even within Egypt) knew much about before February.

When a rumour circulated on social media that the UAE decided to invest $22bn in the area, an analyst at an Egyptian bank even speculated that the government itself (which quickly denied the rumour) had promoted this to control the black market for dollars.

Ras El Hekma, covering about 180 million square meters (equivalent to the size of Washington, D.C.), is part of Egypt's northern coast—a stunning stretch of pristine beaches on the Mediterranean.

Courtesy of Egypt's government — The Ras El-Hikma development project could bring in up to $150bn of investment over its lifetime, according to Egypt's prime minister.

Goldman Sachs, a US bank, estimates that the UAE investments, along with the aid package agreed with the IMF, the European Union, and others, will lead to a $26.5bn surplus in external financing over the next four years, compared with a deficit estimated at $13bn before these developments.

The bank expects foreign direct investments this year to exceed $33bn, in addition to a recovery in carry trade flows— foreign investments into Egypt’s local-currency debt market seeking lucrative returns not easily found elsewhere.

In the first week following Egypt's agreement with the IMF, the average interest rate on Egyptian treasury bills for six months was more than 30%, compared to less than 5% on 10-year US Treasuries.

Egypt began developing its domestic debt market more than two decades ago, with flows peaking at more than $30bn (larger than the entire Lebanese economy, to give perspective) before the Russian/Ukrainian war.

Reliance on hot money

The crisis—along with the collapse of tourism revenues and rising costs of wheat and other food imports—was one of the factors that shook confidence in the Egyptian economy. It also highlighted the risk of relying too much on hot money.

This time, some analysts believe that even hot money may not last long if Cairo does not stick to its commitment to maintaining a flexible exchange rate regime, meaning the pound must move based on supply and demand rather than staying put at any cost.

After all, few have forgotten how Egypt didn’t follow through on a similar promise to the IMF after signing a $12bn loan deal in 2016 to help the country emerge from a similar crisis.

Even hot money may not last long if Egypt doesn't stick to its commitment to maintaining a flexible exchange rate regime.

Beyond quick gains, most ordinary Egyptians must certainly wait to reap the fruits of reform.

First, authorities must address the inflationary effects of the crisis and the subsequent currency devaluation, which will pressure the poor and the already-squeezed middle class. The latter has suffered through multiple price shocks without being part of the safety net afforded to the poorest households.

In the few days following the agreement with the IMF, official data showed inflation reaching around 36% on an annual basis in February, surprising most analysts, who had expected a reading of 25%.

Carla Slim, an economist at Standard Chartered, told Bloomberg TV she expected inflation to accelerate before easing later in the year.

On the bright side, Egyptian financial and monetary institutions have talent capable of enacting effective policies to curb inflation and manage fiscal policy professionally, provided there is the political will to do so.

However, the biggest challenge lies in implementing long-term reforms to achieve more sustainable, inclusive growth.

In 2017, a former senior government official told me privately that he expected Egypt to return to the IMF for help in a matter of years.

His reason was the inability to move beyond immediate monetary and fiscal measures and take steps to encourage exports and develop sectors capable of diversifying revenue.

And history shows this is not an easy task, which is why economists worry that the massive Arab and international support could encourage officials to abandon the fight.

Conversely, Egypt's history since the 1970s indicates that it typically suffers one major economic crisis every decade. This may mean that the biggest problem of the current decade is already behind us, and all we need to do now is enjoy the fruits of reform and growth until 2030.

Egypt's economic crises since the 1970s:

1977: President Anwar Sadat's decision to reduce government subsidies on certain basic goods led to widespread protests in January 1977, known as the Bread Riots. Although Sadat described the protesters as "thieves," he eventually reversed the price increase.

1980s: Egypt suffered several crises in the first decade of President Hosni Mubarak's rule, including the bankruptcy of a number of Islamic lending institutions and the external debt ballooning to record levels at the time (more than $40bn in 1989).

Egypt's participation in the 1991 Gulf War marked a turning point, as military debts were cancelled, and a large portion of the external debt was restructured.

1996-1999: The horrific terrorist attack on a large group of tourists in the city of Luxor in 1997 shocked the world and battered Egypt's tourism industry.

Additionally, Egypt was facing challenges in local liquidity and loan defaults tied to corrupt members of parliament. Prime Minister Kamal Ganzouri's government also faced sharp criticism for massive spending plans on mega-projects.

2003: The government of Atef Obeid was forced to float the exchange rate due to a dollar crisis and the exchange rate in the black market rising by more than 50%.

2011-2016: The chaos accompanying the 2011 revolution against President Hosni Mubarak's regime wasn't just limited to the streets. Economic policy, too, was in utter disarray. Egypt pulled out of several initial deals with the IMF, which was keen to help the country.

The biggest manifestation of the crisis was again a dearth of hard currency and a sharp decline in the value of the pound. Cairo was forced to sign a more stringent agreement with the fund, which included a steep devaluation and a significant increase in utility prices.

2022-2024: The Russian/Ukrainian war led to a sharp decline in tourism revenues and a jump in Egypt's food import bill. The rise in global interest rates after the pandemic also caused hot money to take flight.

Attempts by the authorities to stabilise the exchange rate caused a sharp decline in the pound's value in the black market, reaching about 70 pounds to the dollar compared to an official rate of around 30 pounds to the dollar.

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