Gulf aid likely to stave off Egypt’s financial collapse

An Egyptian man carries a wood rack full of bread on his head to be distributed to customers in Cairo (file). By itself, the Gulf aid announced so far only covers a few months of Egypt’s state budget deficit, but confidence created by the aid should help the government finance the rest of the deficit with borrowing.

Economic impact of latest violence to last for months; tourism may not recover this year; exports could be hit; balance of payments crisis, fiscal collapse not on the cards; Gulf aid will allow government to spend despite big deficit; Egypt may get many more billions from Gulf if needed

Reuters

Cairo

gypt’s political crisis has dealt a blow to any hopes for a quick economic recovery, but aid from its Gulf allies is likely to prevent a financial collapse.

Clashes between followers of deposed president Mohamed Mursi and security forces have caused the deaths of at least 900 people since Wednesday, the worst political bloodletting to rock Egypt in recent history.

When the army-backed government took over after the ousting of Mursi last month, it hoped to repair the business environment and attract money back to Egypt by improving security, removing logistical bottlenecks and pumping in new funds. That in turn could reduce social tensions by starting to create jobs and raise living standards.

The latest violence may have doomed such hopes for some months at least. If the conflict continues to worsen, the economy could slow further from the anaemic 2.2% growth in the first quarter of this year - a rate already much too low to cut unemployment, officially estimated at around 13%.

“If you see widespread violence and bombs, you won’t get a recovery in tourism or domestic investment, and capital flight may continue,” said Simon Kitchen, a strategist with investment bank EFG Hermes.

But after Mursi was deposed, Saudi Arabia, Kuwait and the UAE promised Egypt a total of $12bn in loans, grants and fuel shipments. Of that, $5bn has already arrived - an unusually fast delivery of aid commitments, showing the importance the Gulf attaches to stabilising Egypt.

That means a balance of payments crisis or a collapse of government finances - which had seemed possible during Mursi’s administration - do not appear to be on the cards.

Late on Monday, Saudi Arabian Foreign Minister Prince Saud al-Faisal signalled that the world’s top crude oil exporter was ready to provide more billions if necessary.

Much depends on whether the struggle between the army and the Brotherhood develops into a protracted armed conflict. Even if it does not, the latest violence is likely to have harmed the economy for some months.

Tourism may not recover before next year at the earliest. In 2010 Egypt attracted 14.7mn visitors, according to the Organisation for Economic Co-operation and Development; in the wake of the 2011 revolution, the number fell to 9.5mn that year before partially recovering to 11.2mn in 2012. The tourism sector directly accounts for about 7% of Egypt’s GDP, according to its State Information Service.

In response to the latest violence, European travel agents are again suspending trips to Egypt, while the US has warned citizens against travelling to the nation.

After closing facilities in Egypt for several days, major foreign investors such as General Motors, German chemicals firm BASF and Swedish home appliance maker Electrolux have fully or partially reopened for business this week.

They are likely to stay open, barring another big outbreak of violence. But even a low level of political unrest or tension in coming months could hurt the Egyptian economy at the margins, by making foreign buyers of its exports more cautious.

Efforts to put Egypt’s catastrophically weak state finances on a sustainable footing may be another casualty. The army-backed government has inherited a budget deficit that since January has been running at around $3.2bn a month, equivalent to almost half of state spending.

The cabinet expects to be in power only until early next year, when it is to be replaced after planned elections, so it lacks a popular mandate to take big steps to cut the budget deficit. Locked in a struggle with the Brotherhood, it is even less likely to push politically sensitive economic reforms.

“If the violence continues, the government will be even less politically armed to go out and control the budget deficit by reducing subsidies,” said John Sfakianakis, investment strategist at Saudi investment firm MASIC.

Egypt’s foreign reserves totalled $14.9bn at the end of June, before any of the Gulf aid announced in July arrived. Excluding inflows of aid, they had been falling by around $1bn-$2bn every month, so the aid may cover Egypt’s external deficits into early 2014.

By itself, the Gulf aid announced so far only covers a few months of Egypt’s state budget deficit, but confidence created by the aid should help the government finance the rest of the deficit with borrowing. Yields at government Treasury bill auctions fell after Mursi was deposed; they spiked up during last week’s violence, but are still a couple of percentage points or more below their peaks under Mursi. Most importantly, as Prince Saud indicated, Egypt can count on additional billions from the Gulf if its political turmoil causes fresh capital outflows or delays the transition back to civilian rule.

This should more than offset any potential loss to Egypt if the European Union or the US cut back their economic and military assistance to Cairo in protest at the killings.

The EU and international financial bodies last year promised Egypt €5bn ($6.7bn) of grants and loans over several years, but little of that money has actually arrived and much has been blocked because Cairo failed to meet conditions for democratic reform. Washington has provided $1.3bn of military aid and just $250mn of economic aid annually.

Qatar spent about 4% of its GDP helping Egypt before Mursi’s downfall. Back-of-the-envelope calculations suggest Cairo could receive a further $40bn, in addition to the money pledged last month, if Saudi Arabia, the UAE and Kuwait were to match prior Qatari levels. The Saudi government’s budget surplus in 2012 alone was $103bn.

Even so, such massive dependence mortgages Egypt’s future; much of the aid is in the form of loans, which must ultimately be repaid.

But for now, it gives Cairo room to manoeuvre. The government’s economic planning team said on Monday that it would work to provide financing for the budget and import essential commodities by attracting more foreign investment, especially from Arabs.

It promised to speed up implementation of public-private partnerships, especially to build roads, sanitation and hospitals, and give priority to investment projects that affect the daily life of citizens. Cash from the Gulf may make some of these projects possible.

The resilience of Egypt’s stock market shows how the Gulf aid has kept hopes for the economy alive. The market is down about 4% since last week’s violence, but it is still up 21% from its low in June.

The gap between the official and black market exchange rates of the Egyptian pound against the dollar, which almost disappeared in the initial weeks after Mursi was deposed, has widened since last week but remains under 2%. It reached 7% or more under Mursi.