Following last week's long-anticipated devaluation of the Egyptian pound, analysts and investors are still trying to understand its repercussions and are closely following the fast-paced developments. On 14 March the Central Bank devalued the pound to LE8.85 against the dollar from LE7.73 and announced it would pursue a more flexible exchange rate. Two days later it strengthened the pound to LE8.78 a dollar, the same value at which its auction two days ago was executed. Whether Egypt will see a further devaluation is unclear as the black market is still thriving. To cover the imports of essential goods and dollar overdrafts at banks, the Central Bank sold $2.4 billion in special auctions over the past two weeks, $1.9 billion of which followed the decision to devalue. However, the black market rate, as reported by financial news services that contacted illegal currency traders on Tuesday, is being traded at around LE9.68 to LE9.70, nine per cent higher than the official rate. This might be due to the fact that the market needs much more liquidity or because companies and unofficial traders are feeding speculative trading, said analysts. Hard currency deposits to the country did not witness any change. On the contrary, the Central Bank asked banks to redeposit the value of the $1.5 billion auction it held last week Wednesday in the Central Bank. Meanwhile, according to the daily Al-Masry Al-Youm, the Central Bank has received pledges from international fund managers to invest in Egyptian treasuries in dollars. They also, according to the newspaper, expressed willingness to inject dollars into the country by converting them into pounds and depositing them in banks to benefit from the higher interest rate. CBE Governor Tarek Amer has guaranteed the funds' managers that they will be able to repatriate their investments. Last week Egypt introduced pound-denominated saving accounts with a 15 per cent interest rate for depositors willing to change their dollars to pounds. On a related note, Egypt signed a $1.5 billion agreement with the Saudi Fund for Development to finance the Sinai development project, along with another agreement providing Egypt with its fuel needs for five years, a deal which would limit the demand on dollars from local sources. As for the currency transactions, Forex bureaus are now required to inform the Ministry of Supply of the exchange rate and notify the CBE and domestic media of the information on a daily basis. This is to prevent currency speculation and to communicate market information to importers. Also, Bloomberg reported that the Central Bank wants to close some foreign exchange bureaus to reduce their number to 140 as a means of tightening its grip on the market. A crackdown on currency traders has been widely predicted. On Sunday, the daily Al-Shorouk reported that some bureaus may temporarily halt operations to avoid incurring losses from trading at the official price. Another move by the CBE during the past week was its decision to hold one foreign currency auction a week, on Tuesdays, when it will sell $120 million. The bank previously held three auctions a week, on Sundays, Tuesdays and Thursdays, selling $40 million at each. This lies within the framework of the new “more flexible exchange rate regime” pledged by the bank after devaluation. The bank is expected to ultimately scrap its formal foreign-exchange auctions. Nevertheless, the highlight of the week following the devaluation was the decision by the CBE's Monetary Policy Committee to raise rates by 1.5 per cent, upping the overnight deposit rate to 10.75 per cent and the overnight lending rate to 11.75 per cent. The hike exceeded the expectations of most observers who, while betting on the bank increasing the rates, put the maximum increase at between 0.75 and one per cent. The aim of the move is “maintaining price stability by avoiding double-digit inflation rates over the medium term to maintain real incomes,” the CBE said in a statement following the move. “Moreover, stable inflation rates are conducive to achieving sustainable economic growth,” it added. Uncontrolled inflation is the worst post-devaluation fear as a weaker pound would push up the price of imported goods, fuelling inflationary pressures. Given that many goods and services in Egypt are still heavily subsidised by the government, it's difficult to place a precise figure on the impact of a weaker pound on inflation, according to Capital Economics. As a rough rule of thumb, however, every 10 per cent drop in the currency tends to push headline inflation up by between 1.5 and two per cent. “On that basis, the devaluation will probably push inflation back into double digits.” Annual urban consumer inflation eased for a second consecutive month to 9.1 per cent in February, down from 10.1 per cent in January. However, it increased month after month by 1.1 per cent due to food inflation. The government projects economic growth of around 5.5 per cent this fiscal year, compared with an estimated 4.2 per cent in 2014-2015. Reeham Al-Dessoki, a research analyst in Arqaam Capital, wrote that when taking into account devaluation in the short term, approval of the VAT by parliament in the second quarter of 2016 and a restructuring of energy subsidies in the summer, an inflation rate of 10 per cent is expected in 2016, compared to 11 per cent the previous year. Capital Economics also anticipates that 2016 could witness spikes in inflation rates with the implementation of each policy action and seasonal events throughout the year, with an overall average of 10.5 to 11 per cent for 2016. “As economic growth strengthens into 2017, we expect inflation could rise to 13 per cent,” it said. This inflationary pressure, together with the expected further depreciation in the pound, will prompt further, albeit more modest, monetary tightening, or in other words more hikes in interest rates, according to Capital Economics. In a report released on Monday, Fitch, the rating agency, warned against the implications of higher interest rates as it will raise the government's cost of borrowing. “Interest payments on government debt already accounted for 26 per cent of budget spending in the fiscal year ending June 2015,” it said. While noting that the devaluation is credit-positive, Fitch highlighted the fact that the country faces a difficult year of slower growth, high inflation and large financing needs. Several sectors of the economy have started to get ready for shooting prices. The pharmaceuticals division of the Federation of Egyptian Industries called on the government to raise the price of drugs in light of the devaluation. It warned that over 3,000 items will disappear from shelves over the next three months if the government does not allow prices to rise. Also, the national carrier, EgyptAir, is considering raising ticket prices by five to 15 per cent as 85 per cent of aviation costs are pegged to the dollar, according to Al-Shorouk. Naeem Brokerage expects an increase in the value of properties. While devaluation hurts disposable incomes and drives inflation, demand for property is likely to increase since it will be considered a good hedge against inflation. In fact, real-estate companies have been leading the market's rally since the devaluation. Until mid-day trading on Tuesday, the EGX30, the Egyptian main index, had gained 15 per cent since the 14 March currency devaluation with investors hoping the country's lengthy dollar crunch will soon end. The gains are reminiscent of 2003 when a foreign currency crisis led to the devaluing of the currency by 14 per cent, triggering huge foreign interest by both direct and portfolio investors, and pushing the market's main gauge to more than double as foreign reserves recovered.
