Fitch Ratings welcomes the announced change in Egypt's exchange rate policy allowing the pound to float and eliminating the exchange rate bands. The agency had previously indicated that monetary and exchange rate policy management was a constraint on the sovereign rating, particularly as Egypt has been subjected to a series of external shocks in recent years.
Today's initiative therefore alleviates a major concern with respect to the management of economic policy, assuming the system works efficiently in practice. Egypt's long-term foreign and local currency ratings are BB+ and BBB, respectively, and the outlook is stable.
The parallel market rate was about 5.35 Egyptian pounds to the dollar versus the official rate of EG 4.6 to the dollar just ahead of the policy change, and therefore a significant exchange rate adjustment can be expected, at least in the short term. Official concerns regarding inflation and its potential negative social consequences had been foremost in the rationale for retaining the tight plus/minus three percent bands around the central parity rate.
Fitch believes these concerns to have been overstated. Successive adjustments to the parity rate allowed a depreciation of about 25 percent between end-1999 and end-2002 with no apparent effect on consumer price inflation, which remained at or below three percent. Wholesale prices have been rising more quickly.
The positive effects of exchange rate liberalization will take time to materialize, but center on developing a more robust export sector. Egypt is one of the least open economies rated by Fitch, and export-led growth in the medium term could contribute meaningfully to employment generation, which is urgently needed in response to the rapidly expanding labor force.
Fitch indicated that one of the negative effects of a depreciated exchange rate could be an increased fiscal burden associated with subsidies on certain imported commodities. The General Authority for Supply of Commodities is an agency that imports and subsidizes wheat, for example, and is included in consolidated general government fiscal accounts.
The banking system will need to adjust to the weaker pound and the more liberal exchange rate. Although banks are collectively net external creditors, foreign currency deposits are more than twice the level of foreign currency lending.
Although details of the new monetary and exchange rate policy have not been clarified, Fitch believes that maintaining a strong foreign exchange reserve position will be a priority of the Central Bank of Egypt. Reserves are well down from their peak of $D20 billion in 1997, standing at $14 billion in October 2002, but Egypt's external liquidity still exceeds its rating peers and the median for BB sovereigns. This could provide the authorities with credible influence once the market settles on a new exchange rate equilibrium. — (menareport.com)
© 2003 Mena Report (www.menareport.com)
