The Central Bank of Egypt (CBE), alongside banks operating in the Egyptian market, is facing six major challenges in the coming period. The CBE holds responsibility for the state’s monetary policy, according to analysts
These six challenges include adjusting the exchange market, rebuilding the reserve, controlling inflation, and balance interest rates to serve the investment without affecting inflation, help banks employ their accumulated liquidity, as well as continue to cover the budget deficit.
Challenge no 1: Adjusting the exchange market
The management of the foreign exchange market is the most prominent of the functions performed by the central bank of any country. In Egypt, this file was, and remains, the most difficult of the files managed by the CBE. Adjusting and controlling Egypt’s foreign exchange market has become harder in the few years following the 25 January Revolution. This resulted from the decline of the state’s foreign exchange resources, the growing size of foreign debt, and the CBE’s continuation of covering importers’ and the government’s foreign exchange needs, in addition to the repayment of external debt.
During the period from January 2011 until July 2015, the Egyptian pound lost approximately 35% of its value against the US dollar on official markets. This loss increased in the parallel market. In the official market, the dollar price is EGP 7.83 to the dollar, compared to the EGP 5.8 to the dollar at the end of 2010.
With the parallel market’s activity, the price of the US dollar amounted to almost EGP 8.5. At the beginning of this year, CBE governor Hisham Ramez took several technical measures to adjust the exchange market and eliminate the parallel market. These included measures to allow the pound to fall to historic levels against the dollar in the official market in February, where the price of the US dollar was moved by 5 piasters to reach EGP 7.23.
The CBE then took a further decision to cap the limit for daily cash deposits in US dollars at banks to $10,000 for individuals and companies, and a maximum of $50,000 per month. The CBE also allowed exchange companies to raise their profit margins from selling dollars by approximately 5 piasters at first, which then increased to 10 piasters. According to figures obtained by Daily News Egypt, the foreign exchange reserves at banks rose from approximately $10m-$15m a day before the CBE’s measures, to between $120m-$180m a day at present. Almost 90% of foreign remittances used to go to the black market before these proceedings, while only 10% went to banks. Now, banks obtain 90% of those remittances. At the beginning of July, the CBE raised the price of the dollar against the pound by 20 piasters in two steps, bringing the price of the dollar to EGP 7.8301. This surprise move raised many question in the market, especially with regards to the timing.
Analysts confirmed to Daily News Egypt that this move was designed to reduce the gap between the official and unofficial rate, and reduce the import bill, as well as to attract foreign direct and indirect investments to the Egyptian market. This move came as a pre-emptive move from the CBE to meet attempts of heavy importing from Europe, whilst also looking to eliminate the parallel market.
Others believe that the devaluation of the pound against the dollar was a response to the desire of major foreign companies in reducing the value of the Egyptian currency.
A senior banker, who preferred to remain anonymous, told Daily News Egypt that the CBE is deliberately reducing the Egyptian pound’s value to meet International Monetary Fund (IMF) terms. These terms see the value of the Egyptian pound against the US dollar as higher than its real value.
He added that the exchange rate policy pursued by the CBE has for long been a source of dispute with the IMF, which has always been calling for full liberalisation of Egypt’s exchange rate.
Osama El-Manialawy, first assistant General Manager of the Funds sector at a bank, believes adjusting the exchange rate is one of the biggest challenges the CBE has faced, and is expected to last for a longer period.
He explained that the CBE’s main task is to control inflation, but the rising dollar price against the pound, and the rise in prices of imported goods make it more difficult for the CBE to control inflation.
El-Manialawy added that the CBE keeps the exchange price stable to avoid its artificial increase that could lead to more increases in the commodity markets. He noted that the CBE does so out of social responsibility and to ease pressure on citizens as much as possible.
Institutions and foreign investors believe the current price of the dollar against the pound is curate, according to El-Manialawy, and that it should be even higher. This is expected to happen if the state’s foreign exchange resources remain low, as they are now. He added that the availability of foreign currency is the responsibility of the state, not the CBE, and that the state must help the CBE control the foreign exchange market.
Challenge no 2: Rebuilding foreign exchange reserves
Rebuilding foreign exchange reserves once again comes high among the challenges the CBE is facing during the upcoming period, especially after losing a large part of it over the past years. The foreign exchange levels have reached low levels that are only enough to cover Egypt’s imports of commodities for approximately 3.5 months.
According to the latest CBE figures, the foreign exchange reserve balances fell at the end of July to approximately $18.533bn compared to $20.079bn at the end of June last year. This drop occurred when the CBE injected hundreds of millions of dollars during the last period to meet market needs in imported goods. It was also to cover the government’s obligations to repay its debts, or the importation of strategic goods.
According to Ahmed El-Khouly, Head of the Treasury at the Housing & Development Bank (HDB), the rebuilding of foreign exchange reserves is not the CBE’s responsibility, but that of the state. He explained that the CBE manages the reserves, and takes actions that can help their development, but it is not responsible for the foreign exchange resources or the means of their development. It is also not responsible for the decline in the reserve, which it uses to adjust the exchange market, and cover the import requests, as well as the repayment of debt obligations of the state, and the foreign currencies expenses.
El-Khouly added that Egypt’s foreign exchange reserves are known to have been built on foreign currencies resources from the Suez Canal income, and remittances from Egyptians working abroad, tourism, as well as foreign direct and indirect investments entering the Egyptian market.
According to El-Khouly, the CBE will not be able to rebuild its foreign exchange reserves unless foreign currency resources return to their levels preceding January 2011. He noted that this depends on the upcoming circumstances, especially after the completion of the parliamentary elections, and the return of economic activity.
Challenge no 3: Controlling inflation
Although the inflation rate has tended to decline in recent months, analysts say this may be temporary, and that inflation is likely to rise again. This represents another challenge for the CBE, which has always maintained price stability and inflation control as key objectives of its policy.
The CBE has recently revealed that the main annual inflation rate indicator has dropped to 6.49% in July, compared to 8.07% in June. The main monthly inflation rate indicator scored 0.30% in July, compared to 0.61% in June.
The general monthly inflation rate recorded 0.71% in July, compared to 0.70% in June, while the general annual inflation rate dropped to 8.38% in July, compared to 11.39% in June.
Karam Soliman, Financial Resources and External Branches Manager at a well-known bank, believes that controlling inflation is the CBE’s main objective in its monetary policy. He explained that the CBE has the tools enabling it to achieve this goal, such as the interest rate, which is used to control available liquidity in the market. For instance, if the CBE wanted to drain liquidity and reduce the purchasing power of citizens, it raises interest rates and therefore citizens will save instead of spend, which will bring down the prices of goods in the market and limit inflation.
Soliman added that the CBE spares no effort to control inflation. However, he noted, that it must be supported by the government, which should operate on the same level of performance of the banking sector and the CBE. He explained that the government is responsible for the discipline of commodities prices in markets, as it is also responsible for taking decisions and actions to help the CBE manage its monetary policy and implement its objectives. In other words, there should be full coordination between the government and the CBE to set goals, and on how to work to realise them.
Challenge no 4: Employment of banks’ domestic liquidity
Since the January 25 Revolution, banks working in the Egyptian market have been facing a severe crisis in employing local liquidity. This has gone hand-in-hand with the decline in lending operations, and limiting their investments on government debt instruments. Also affecting local liquidity are the investments which have taken place with the CBE via corridor and deposits techniques, next to finance operations, which are not always stable.
According to analysts, this crisis is one of the hardest challenges facing the CBE and Egypt’s banks in the upcoming period unless the economy shifts again, and the huge existing liquidity at banks is accommodated by putting forwards several major projects.
In May, the CBE revealed an increase in the loans portfolio at banks operating in the Egyptian market. The increase amounted to EGP 14.124bn, which increased the portfolio’s total value to EGP 705.637bn, compared to EGP 691.513bn in April.
This increase in bank loans is very limited compared to the hundreds of billions available for investment at banks. Some analysts expect this crisis to end within the upcoming period, especially with the implementation of the Suez Canal Axis Development and a number of other major development projects. Others, however, expect this crisis to persist, even with the implementation of such projects. They justify this by saying that deposits continue to increase at banks by more than EGP 50bn per month.
Challenge no 5: Balancing interest rates.
The Egyptian pound’s interest rate price is a thorny issue facing the CBE, which has always demanded balance between the low interest rates, needed for investment and public debt, and accounting for the social aspect of depositors and their need for high interest rate. This is the core of the problem of balancing interest rates.
The CBE’s Monetary Policy Committee decided in its latest four meetings to fix the overnight interest rates of deposits and lending at 8.75% and 9.75%, respectively. The committee also decided to hold the CBE’s main process at 9.25%, and the rate of credit and debit also at 9.25%.
The committee stressed that, despite the investment directed to major local projects such as the Suez Canal Development Project, which is expected to contribute to economic growth, the increased risk of GDP decline may result from the risks surrounding the recovery of the global economy. These economic issues are still ongoing in light of the challenges faced by some eurozone countries and the economic growth slowdown experienced in developing countries.
Dalia Wahba, Deputy Chairman of the Treasury at the Arab Investment Bank (AIB), says the CBE may not increase interest rates until the end of this year, in order not to increase the burden of domestic debt. She added that increasing the CBE’s interest rate leads to increasing interest rates of treasury bonds and bills issued by the state to cover the budget deficit.
According to Wahba, official data indicates that inflation rates have fallen, allowing the CBE to keep interest stable. She believes that the CBE could reduce interest rates by the beginning of next year, to encourage and stimulate investment. This could be accompanied by the implementation of a number of projects that were announced at March’s Economic Summit, or those related to the development of the Suez Canal Axis, she added.
Challenge no 6: Financing budget deficit
Banks are the largest funders of the budget deficit through covering the weekly state-issued debt instruments. With expectations of an awaited recovery, the Egyptian economy and the required liquidity to finance projects, rather than investing in bills and bonds, emerges another challenge before the CBE and Egypt’s banking sector.
During the previous fiscal year (FY) 2014/2015, the government issued bills and bonds at EGP 918.367bn to cover the budget deficit. It has recently revealed its intention to borrow another EGP 262bn to finance the deficit during the first quarter (Q1) of FY 2015/2016. Debt instruments are issued on the market by 15 banks in the so-called “principal trading” system, with those banks then re-issuing these instruments in the secondary market for investors, local and foreign institutions.
According to a Ministry of Finance statement, the size of existing treasury bonds in local currency balances owed by the government until the end of August, amounted to EGP 614.19bn, next to the other bonds issued in US dollars in the global market worth of approximately $8.75bn.
The size of existing balances of treasury bills until the end of May amounted to EGP 521.471bn, according to the latest CBE figures. Banks alone acquire more than 75% of the government instruments in the market.
