CI revises Egypt’s outlook to stable amid reform progress
Capital Intelligence Ratings (CI Ratings) has revised in a recent report the outlook on Egypt’s Long-Term Foreign Currency Rating (LT FCR) and Long-Term Local Currency Rating (LT LCR) to Stable from Negative.
The ratings agency has also affirmed the sovereign’s LT FCR and LT LCR at ‘B’, and Short-Term (ST) FCR and ST LCR at ‘B’.
“The change in the outlook reflects the decline in external financing risks and improving shock absorption capacity since our last review.” CI Ratings said.
Supporting Factors
This positive change, the agency explained, is “attributable to the availability of significant reform-linked financial assistance from the IMF, the World Bank (WB) and EU, and to the proceeds of the Ras Al Hikma investment agreed with the Abu Dhabi Developmental Holding Company (ADQ).”
“These developments have largely resolved the latest foreign currency shortages in the local market, allowing the government to move to a more flexible exchange rate regime.”
CI said the ratings and outlook take into consideration its assumption that “the government will maintain the reform momentum and continue to operate a flexible exchange rate in the short to medium term to stabilise the economy. The latter should help reduce Egypt’s vulnerability to external shocks and increase its foreign reserve buffer to provide adequate coverage of short-term external debt on a remaining maturity basis.”
Moreover, CI said the ratings remain supported by “the moderate level of external debt, ongoing efforts to improve data compilation and quantify the informal economy in order to tax it, and by the government’s commitment to fiscal reforms aimed at putting central government debt on a declining trajectory, as well as a relatively resilient banking system.”
Challenges
Notwithstanding the positive developments, CI noted that Egypt’s ratings are constrained by considerable weaknesses in the public finances, including very high government debt and interest expense, as well as large socioeconomic vulnerabilities such as low GDP per capita and widespread poverty, besides the high geopolitical risk factors.
Restoring Confidence
“Short-to intermediate-term financing risks have eased significantly since our last review, supported by the net inflow of $24 billion from the Ras Al Hikma agreement and the move to a flexible exchange regime, which diminished the divergence with the parallel market.” Following the implementation of these reforms, the North African country secured from the International Monetary Fund’s (IMF) a 46-month $8 billion Extended Fund Facility (EFF) loan in March, as well as financing from the World Bank and EU, mainly in the form of soft long-term loans.
“This has contributed to restoring confidence in the Egyptian economy as evidenced by tentative signs of return of portfolio investments and declining spreads on credit default swaps (CDS) of Egyptian eurobonds from their peaks in January 2024.”
About Ras Al Hikma, CI believes this agreement underscores the vital importance of ongoing support from GCC allies for Egypt’s economy and government.
“This UAE investment in Ras Al Hikma – which led to FDI inflow of $24 billion and the conversion of USD11bn at the central bank of Egypt (CBE) into local currency investments in developmental projects – has helped to reduce the need to issue new debt and concurrently increase the level of foreign exchange reserves.”
Furthermore, CI said the reform-linked financing from the IMF and the EU – estimated at $5.1 billion annually in FY25 and FY26 – is expected to “partially cover the government’s external funding gap.” According to the IMF, the residual external funding gap is estimated to be on average $4 billion in FY25-26 and is projected to be covered through divestment proceeds.
CI noted that the net inflows in the capital and financial accounts offset the current account deficit in the first three quarters of FY24. As a result, the balance of payments posted a surplus of $4.1 billion (1.2 per cent of GDP) during July 2023-March 2024.
In addition, CI believes that further increases in FDI hinge on continued reform implementation, especially the maintenance of a flexible exchange rate regime and further divestments. “Portfolio investments are not considered to be a stable source of external financing given their high sensitivity to risk perceptions and external shocks, including geopolitical risk factors.”
External Debt
The agency also believes the external debt continues as moderate at an expected 169 per cent of CARs in FY25. Around 84.6 per cent of external debt is long term (by original maturity), which CI continues to view as a supporting factor for the ratings.
While CI acknowledges the government’s commitment to structural and fiscal reforms as a positive influence on the ratings, implementation risks remain. These risks arise from the potential impact of fiscal consolidation and a flexible exchange rate on inflation, interest rates, and socioeconomic vulnerability.
“A reversal of or even a slowdown in reform implementation could jeopardise the timely disbursement of financial assistance from international sources and dampen investor sentiment, leading to outflows of portfolio investments.”
Economic Growth, Inflation Projections
Meanwhile, CI expects economy to recover, growing by an average of 4.4 per cent in FY25-26, fuelled by foreign investment and recovering domestic demand in line with decelerating inflationary pressures.
It also expects CPI inflation to remain above the Central Bank of Egypt’s (CBE) target of 7 per cent in the short to medium term. However, CI projects it to decelerate to an average of 25.7 per cent in FY25 and 13.1 per cent in FY26, “assuming relative stability in the exchange rates and absence of significant external shocks.”
Egypt’s Resilient Banking Sector
CI said the Egyptian banking sector continues to weather the challenges in the operating environment, with the risk having declined slightly following the easing of foreign currency shortages and tentative signs of economic stability. However, the agency referred that a significant contingent credit risk comes from the high level of government securities held by most banks (31.2 per cent of total assets in March).
The aggregate capital adequacy ratio of banks fell to 18.1 per cent in March 2024, compared to 18.6 per cent in December 2023, while NPLs dropped to 3 per cent of gross loans.
Attribution: CI statement
