In an interview with Al-Ahram Weekly, director of financial institutions at the international ratings agency Fitch Ratings Zeinab Abdallah described the operating environment of Egypt's banks, explaining why the agency has upgraded its outlook for the country's banking sector. Fitch Ratings recently revised its outlook on the Egyptian banking sector's operating environment to stable from negative in July. What was behind that decision? The decision was taken largely due to the improvement in the sector's foreign-currency (FC) liquidity and the build-up of the banks' net foreign assets (NFA). The banks' NFA reached $1.7 billion at the end of June 2021 from a net foreign liability position of $5.3 billion at the end of April 2020 after foreign investors sold their holdings of local-currency government securities at the start of the Covid-19 pandemic, causing $17 billion worth of portfolio outflows. The improvement in FC liquidity was supported by several factors, including the return of foreign portfolio investors — foreign holdings of Egyptian treasuries increased to $29 billion at the end of May 2021 from only $10 billion at the end of June in 2020. In addition, there was the successful sovereign Eurobond issuances of $4.55 billion between September 2020 and February 2021, besides the $5.2 billion International Monetary Fund (IMF) stand-by arrangement and the FC remittances, which proved to be resilient in 2020, increasing10 per cent (year on year) to $30 billion. The outlook revision also factors in healthy economic growth prospects, with Egypt's real GDP growth expected to accelerate to six per cent in the current 2021-22 fiscal year from three per cent in the previous fiscal year. The banks' resilient asset quality was another factor that contributed to revising the outlook to stable in July. The deterioration in loan quality following the expiry of the six-month credit moratorium in September 2020 has been largely contained.
What is Fitch Ratings' outlook on Egypt's foreign-currency liquidity in 2021-22 and 2022-23? Absent another wave of sell-offs by foreign investors, we expect the banks' FC liquidity in 2021-22 to be supported by Egypt's expected stable current account deficit (3.2 per cent in 2021-22), higher foreign-currency reserves ($40.6 billion at the end of May 2021 from $36 billion at the end of May in 2020), and a gradual pick-up in tourism.
What are the key reasons behind Fitch's outlook on Egypt's real GDP growth in 2021-22? Egypt's real GDP growth outperformed the vast majority of Fitch-rated sovereigns in 2020 supported by less stringent lock-downs, resilient consumer consumption, and public investment. The gradual recovery of tourism to Egypt and shipping through the Suez Canal, supported by a global economic recovery, will contribute to a forecast real GDP growth of six per cent in 2021-22. Further growth in the energy and manufacturing sectors and the gradual improvement in the business environment will also help support growth in 2021-22.
How do you see the Egyptian banks' ability to meet their international financial obligations? The banking sector's net foreign assets of $1.7 billion at the end of June 2021 were still below pre-pandemic levels (at the end of February 2020 they stood at $7.3 billion) due to higher foreign liabilities as the banks borrowed more from international development finance institutions to support their FC liquidity. The increase in foreign liabilities poses some repayment risks as the banks' debt-servicing capacity could come under renewed pressure from another wave of sell-offs by foreign investors. However, about 70 per cent of the sector's external debt is long-term, and the banks hold adequate stocks of FC liquid assets — mainly in the form of interbank placements — against their short-term FC liabilities. Some banks have started to pre-pay their FC term loans given their comfortable liquidity buffers and weak demand for FC loans, with lending geared towards working capital financing rather than capital expenditure.
In its latest report, Fitch Ratings expected low double-digit loan growth in 2021 with an acceleration in 2022. What are the main drivers of such estimates? Sector average loan growth was nine per cent in the first four months of the year ending in April 2021 after strong growth of 31 per cent in 2020, which was supported by the Central Bank of Egypt (CBE) expanding its LE100 billion lending programme at subsidised rates of between five and eight per cent to include corporates in the manufacturing, agriculture, and tourism sectors. However, loan growth in 2020 was also inflated by the CBE's initiative, allowing borrowers to defer interest and principal repayments by six months. We expect low double-digit loan growth in 2021, supported by lower interest rates, the improving business environment, and the CBE's initiative requesting banks to increase their small and medium-sized enterprises (SMEs) lending to 25 per cent of their loan portfolios from 20 per cent previously. Credit demand is likely to continue being driven by short-term working capital facilities. Capital expenditure financing is expected to pick up in 2022 on the back of recovering economic growth, potentially higher foreign direct investment (FDI) inflows, and reduced uncertainty regarding the Covid-19 pandemic.
Could Egypt introduce more cuts to interest rates through the rest of 2021? The inflation-adjusted return on Egyptian sovereign securities is among the highest in the emerging market economies. Egypt's headline inflation went up to 4.9 per cent in June, up from 4.8 per cent in May and 4.1 per cent in April, which is still within the CBE's target of seven per cent (±2 percentage points). While there may be a room for further policy rate cuts in the second half of 2021 if inflation remains within the CBE's targeted range, we believe the CBE will seek to maintain an attractive carry trade to retain portfolio inflows as the country's FC receipts particularly from tourism have not fully recovered yet.
How has the IMF-backed stand-by arrangement supported Egypt's economy amid the crisis? The IMF extended Egypt $2.8 billion of emergency funding in May 2020 under its Rapid Financing Instrument (RFI) to help it address the impact of the pandemic and restore its FC reserves, which dropped by $9.5 billion between February and May 2020 reaching $36 billion at the end of May 2020. The $5.2 billion stand-by arrangement approved in June 2020 helped to restore investors' confidence in the Egyptian economy, which contributed to Egypt successfully tapping the capital markets. The $750 million green bond issued in September was almost five times oversubscribed, for example. *A version of this article appears in print in the 12 August, 2021 edition of Al-Ahram Weekly
