Egypt Vulnerabilities Rising As Reserves Plummet and Inflation Takes Flight

By Win Thin

Egypt reserves for February were reported today, and fell almost 5% ($1.7 bln) from January to $33.3 bln. This follows a $1 bln decline in January, and the stock market hasn’t even reopened yet. While officials are likely very concerned about massive foreign outflows when the market reopens (no set date currently after numerous cancellations), Egypt risks making things worse with further delays. Market last traded January 27, and MSCI has warned that if it stays closed for 40 days, it may begin talks to remove Egypt from its MSCI EM index. Deteriorating investor sentiment is already being manifested in higher T-bill yields, with 6- and 12-month yields coming in over 12% this week. Inflation remains an issue too, with February CPI due out March 10 and expected to rise to 11.5% y/y from 10.8% y/y in January. The central bank also meets that day, and we believe it should hike rates to lend some support to the pound and also to regain some inflation credibility. It last met January 27 as the crisis was unfolding and left the deposit rate steady at 8.25%, which is where it’s been since September 2009 after cutting rates 325 bp during the global financial crisis.

If reserves continue to bleed down to $15-20 bln area, we think that an IMF deal becomes more and more of a possibility (and perhaps a necessity). Egypt’s external debt load is relatively low, but the longer the uncertainty drags on, the higher the risks of a crisis in confidence. Overall, we remain cautious on Egypt. Longer-term, greater democracy and transparency will boost the country’s attractiveness to foreigners, but it is too early to jump in, in our view. We believe Egypt remains vulnerable to further rating downgrades in the coming weeks. S&P warned today that Egypt may see zero growth this year because of the crisis, and sees 1.5% growth "at best." We note that while the agencies are trying to be forward looking, they are really just guessing about the extent of the economic impact coming from political uncertainty across the region. S&P placed Oman on review for possible downgrade today. Last week, Fitch downgraded Bahrain to A- and kept negative outlook, downgraded Tunisia to BBB- and kept negative outlook, and downgraded Libya to BB and kept negative outlook.