Egypt 2015: Onward and upward
After nearly four years of stagnation, Egypt’s economy is back on track and attracting increasing interest from regional and international investors.
WHAT A DIFFERENCE a year of stability makes. Twelve months ago, Egypt was still struggling to emerge from the turmoil that followed the 2011 revolution. Large parts of the economy were at a standstill, government debt was rising inexorably and foreign direct investment had all but dried up.
Since the election of former army chief Abdel Fattah el-Sisi as president last June, however, Egypt’s economic prospects have been steadily improving. A series of much-needed reforms has not only set the country’s finances on the path to sustainability but also boosted confidence among both local and external investors.
Share prices have soared, credit spreads have plummeted and ratings are rising. Even the International Monetary Fund (IMF), an institution not noted for hyperbole, in February hailed a “turnaround” in the Egyptian economy.
These achievements were crowned in mid-March by the overwhelmingly positive response to the government’s ambitious Egypt Economic Development Conference (EEDC). Held in the Red Sea resort of Sharm el-Sheikh, the EEDC was designed to showcase Egypt’s economic progress and attract a new wave of investment. It proved hugely successful on both counts.
Over the three days of the conference, more than $33 billion worth of investment agreements were signed, as well as a further $89 billion of memoranda of understanding. On top of that, Egypt’s key allies among the Gulf states – Saudi Arabia, Kuwait and the United Arab Emirates (UAE) – promised to provide a further $12 billion of direct support and investment.
Many of the private sector pledges also came from fellow Arab countries, including $2 billion from leading UAE private equity firm Khalifa bin Butti bin Omeir (KBBO). Western firms were also well-represented. US giant PepsiCo announced plans to invest $500 million to expand its Egyptian operations, which notched up sales of $1.2 million in 2014, while GE said it would invest $200 million in the development of a pioneering “multimodal manufacturing, engineering, services and training centre” alongside the Suez Canal.
Egyptian president, Abdel Fattah el-Sisi
A key factor in the success of the EEDC was Egypt’s new investment law. Ratified by the president on the eve of the conference, the legislation is designed to provide a transparent framework for foreign investors and remove legal uncertainties that had previously acted as a brake on investment.
In addition to guarantees for deals signed with the government and incentives to finance labour-intensive projects, it includes provisions to slash red tape for companies investing in Egypt via the introduction of a one-stop-shop system for licences and permits. The new system was due to be implemented by the end of April for agriculture projects and will be rolled out to other sectors over the next 18 months.
Not all the news from the EEDC concerned external investment. The government also used the occasion to announce the latest and most ambitious in a series of high-profile infrastructure projects – the building of a new capital.
The proposed development, which is projected to cost $45 billion in total, was devised as a solution to the chronic congestion and overcrowding of Cairo, the current capital. Located to the east of that city, the new conurbation will cover 700 sq km and house 5 million people. It will be built by Dubai-based real estate investment fund Capital City Partners.
It will be the second major infrastructure project to be undertaken by the Sisi government, following the start last year of work on the New Suez Canal. The latter initiative, which involves the creation of an extra 72km of canal, is expected to provide a major boost to income from the waterway when it is completed later this year by slashing transit times and increasing capacity.
By allowing two-way travel in part of the canal, the new construction will cut the time it takes southbound ships to reach the Red Sea from the Mediterranean from 18 hours to 11. The daily capacity of the waterway will thus be increased from 49 ships to 97, while annual revenues are due to rise from the current $5.3 billion to $13.2 billion by 2023. The project also includes plans for the development of a 76,000 sq km industrial and logistics hub alongside the canal.
Work on the new waterway began last August and is reported to be well under way. A particularly notable feature of the project is that the majority of the funding was raised from the Egyptian public. Following a television announcement by the president inviting citizens to subscribe for five-year investment certificates to finance the canal, the $8.5 billion required was raised within just eight days with the majority – 88% – being provided by retail investors.
While committing to much-needed investment in infrastructure, however, the Sisi government has earned plaudits for its otherwise restrained approach to public finances. The budget deficit, which had ballooned to 13.8% of GDP in the 2013/14 fiscal year, is gradually being brought under control thanks to major reforms to Egypt’s subsidy and tax regimes.
Substantial subsidies on energy and wheat had for decades been a heavy drain on the public purse, costing as much as 14% of GDP each year. Successive governments promised reform but were deterred by the political cost. At the end of June last year, however, in the wake of the presidential elections, Finance Minister Hany Kadry Dimian announced a 30.6% cut in subsidies for fuel.
This was matched on the revenue side by equally radical reforms to the tax regime. These included the introduction of a new 10% capital gains tax, the imposition of an additional 5% income tax on top earners for the next three years, increased taxes on tobacco and alcohol, and the extension of value added tax to a full range of goods and services.
Dredging works begin on
As a result of these measures, the government is predicting a budget deficit of 10% in the fiscal year ending in June, down from 12.8% the previous year. Independent observers say the target is credible, in view of the policies announced, and forecast further reductions in future years.
In a recent sovereign rating commentary, Moody’s tipped the deficit to fall to around 9.3% in the fiscal year starting in July. Meanwhile, the IMF’s February report noted that “fiscal consolidation will bring the budget deficit below 8% of GDP by 2018/19 and set government debt on a downward path”.
At present, government debt remains high at more than 90% of GDP, but Moody’s is predicting a gradual reduction to 88% over the next two years. The agency also noted that the issuance of Egypt’s first sovereign eurobond since 2010, expected before the end of June, will ease the burden on public finances by lowering the cost and extending the maturity of government debt.
This improvement in the public finances has been matched by a revival in the wider economy. GDP growth, which had slumped to 2.1% in 2013, is widely forecast to come in at 4.5% for the current fiscal year, following a 6.3% expansion in the fourth quarter of 2014. A further increase to 4.7-5% is expected in fiscal year 2015/16.
Returning confidence in the economy has also been demonstrated by an impressive return of credit demand. Lending to the private sector increased by 12.6% year on year in February, marking the eighth consecutive month of credit expansion.
Nevertheless, there is still work to be done if the new government is to unlock Egypt’s full potential. Unemployment is high at 13.1% and inflation remains in double digits despite falling oil prices, thanks in part to the decision by the Central Bank of Egypt in January to allow the Egyptian pound to depreciate by 6.3%.
As with the subsidy cuts, however, the negatives of the CBE’s currency move are expected to be outweighed by the benefits. The devaluation not only gave a boost to exporters but also dealt a blow to illegal currency trading by halving the differential between black market and official exchange rates.
More importantly for external investors, the CBE has yet fully to lift the restrictions on transferring foreign exchange out of the country that were introduced in February 2011 to protect dwindling hard currency reserves. A recent improvement in reserve levels to $15.3 billion at the end of March, as well as the pledges of additional hard currency deposits made by Gulf countries at the EEDC, have however given credence to policymakers’ claims that all capital controls will be abandoned by the end of the year.
The main challenge for Egypt’s policymakers in the near term, though, could be political rather than economic. Parliamentary elections, which have been promised for nearly two years, were delayed again in March due to a legal challenge over legislation on electoral districts. In late April, there were signs that the various parties were close to reaching a compromise – but also doubts as to whether final agreement could be achieved in time to organize a poll before the start of Ramadan in June.
These hiccups in the political process, however, have done little to dampen the mood of optimism in and around Egypt engendered by a year of stability and economic recovery. If the pace of improvement can be maintained over the coming months, Egypt will be well on the way to regaining its pre-revolution status as one of the rising stars of the emerging market firmament.