Markets cautious on Egypt transition
Egypt's first free presidential elections in history could signify a genuine transition to democracy and liberal economic reforms. But the jury is still out.
Analysts have delivered a cautious welcome to the appointment of Egypt’s first democratically-elected head of state but warn a diminution of military power is needed before the sovereign risk profile is repriced.
In the last 18 months, Egypt has risen from the ashes of revolution to hold its first democratic elections, breaking nearly 60 years of military rule. The announcement on the 24 June that Mohamed Mursi, leader of the Muslim Brotherhood, has triggered cautious optimism over the country’s economic prospects. Soon after the election, stock markets rallied: The benchmark EGX 30 index was up 6.07% in the first hour of trading the day after the election result was announced, and the market closed 7.5% higher. Mursi is said to be hospitable towards foreign direct investment (FDI) as well as a strong role for the private sector.
“It made sense for the stock market to rally,” says Said Hirsh, Middle East economist at Capital Economics. “With the announcement, the probability of a secondary revolution collapsed in the short term. Immediate political risks reduced significantly and the stock market reflected this.”
The stock market has continued to perform well in the days following the results. But political instability still threatens to knock economic gains. Indeed, it hasn’t all been good news. “Today, we auctioned T-Bills and the yield [at 15.53%] remains at the highest levels, despite being the first auction of the fiscal year,” says Mohamed Elsherbiny, head of strategy and asset allocation at CI Capital, a private equity investment firm in Egypt. “Basically, not enough time has passed to see substantial changes in the economy since Mursi has been elected.”
The extent to which Mursi establishes a working coalition with populist appeal and kickstarts the stalled economic agenda will be key to foreign investor confidence. As Elsherbiny says: “any long term trend will depend on upcoming political events.”
Says Hirsh: “If Mursi can put together a successful coalition, the newly instated government may be able to curb military power.”
For the second time in June, and before the final election results were announced, the military council issued a decree that enhanced its already-extensive power, sparking fears over a military coup.
For Mursi, the challenge lies in building a strong and effective coalition with the immediate priority to sign off on an IMF loan in order to boost the government’s fiscal and liquidity position. “Broad political reform will need to be in place for the IMF to finalize a deal with Egypt together with staunch political support for a deal,” explains Hirsh. “This will create the catalyst for macroeconomic and political change.”
The long-awaited IMF deal is desperately needed in part because fiscal expansion is crowding out the private sector with around 40% of bank assets tied up in treasury bonds.
Says Hirsh: “There won’t be any imminent collapse of the banking sector in Egypt, but at the same time, banks are not contributing to the development of the economy in any meaningful way. Fiscal reform will need to address this."
Egypt’s medium-term structural economic prospects look bright, not least because it benefits from regional aid donors. Egypt is due to sign a $1 billion loan with the Islamic Development Bank, directed to the petroleum sector, at a concessionary interest rate of 3.25%.
Egypt’s road to democracy will no doubt be littered with hurdles but relative to some of the more bearish projections earlier in the year, there is cause for guarded optimism.