Stability and bold new reforms after a period of political and economic turmoil will yield Egypt GDP growth of 3.5 per cent in the year to 2015 and 5 to 6 per cent thereafter, according to Renaissance Capital.
Last week, Egypt posted GDP growth of 2.2 per cent for the year to June 2014. That is inadequate for a country with high unemployment and a youthful population. But the GDP figures also hinted at substance behind the hope that has surged through Egypt since President Fattah al-Sisi came to power earlier this year: in the three months to June, GDP rose 3.7 per cent.
Al-Sisi was elected in May 2014 with 97 per cent of the vote (in a two-candidate election from which the previous governing party was banned from competing). He has since used his sway to introduce much needed reforms. Renaissance Capital said it expected his reforms – primarily to cut energy subsidies, raise taxes and attract investment – to be sustained over the next two to three years.
Most significant are cuts to Egypt’s ruinous subsidies, which Sisi slashed by about a third in July. RenCap said that Sisi seemed to regard the subsidies – which accounted for 30 per cent of state budget expenditure last year – as a factor in the 2011 revolution.
When Egypt went from being an oil exporter to being an oil importer in the early 2000s, the cost of subsidies it introduced meant that other public investment was sidelined. Sisi’s appreciation of the need to address this problem made RenCap nostalgic about better days in Russia:
This is similar to how Putin saw Russia’s high debt and inability to collect taxes as contributing to the 1998 default and devaluation. Just as Russia has run responsible fiscal policies ever since, we believe Egypt is likely to stick to its targets to remove subsidies over the next five years.
RenCap pointed out that Egypt’s reforms were a condition of the Gulf aid that has propped up the economy since Sisi ousted Islamist Mursi of the Muslim Brotherhood in July 2013 – to the tune of maybe $20bn a year, RenCap reckoned. But Sisi had also “taken ownership of the reform programme” and RenCap reckoned he would see it through:
The subsidy cuts announced in the middle of 2014 are unlikely, in our view, to be a one-off, because large subsidies may be seen as undermining political stability rather than reinforcing it.
Sisi had a strong team, popular support, and had raised $8.5bn via local bonds to invest in a high-profile project, the widening of the over 30 km of the Suez Canal which some had estimated was employing 100,000 people. Half the money was thought to have been raised from the informal “under the mattress” economy. RenCap also added, intriguingly:
As an aside, we were informed that another source of informal investment is Syrian and Libyan cash, since 2011 and the summer of 2014 respectively – a bit like South Sudan oil money or Somali pirate cash in Nairobi.
Also in Egypt’s favour was its strong currency against the dollar and falling oil prices, which were good for Egypt’s trade balance, even taking into account the damage they would do to remittances (unless they fell so low Gulf states cut their support, it warned).
Tourism was expected to surge from a low base. Having collapsed after Sisi came to power, it would probably have surged in September by 160 per cent, year-on-year.
Recent data support RenCap’s optimism. Last week, the HSBC Egypt Purchasing Managers Index (PMI) for the non-oil private sector stood at 52.4 points in September, just a little below its record high of 52.5 points hit last November, showing that business activity had recovered after the subsidy cuts. Readings above 50 indicate expansion; those below 50, contraction.
Egypt still has lots of problems. Its legal process needed reform, said RenCap, while its EDB (World Bank Ease of Doing Business ranking) of 128th was poor and the country was considered particularly bad at protecting investors. Unemployment had risen from under 9 per cent in late 2010 to 13.3 per cent in June 2014, though RenCap added this would probably fall if GDP rose to 5-6 per cent. The government, meanwhile, intended to increase spending on education.
Most importantly, RenCap highlighted the difficulty of striking a balance between cutting its deficit while invigorating the economy. An impressive plan to reduce the budget deficit from 14 per cent of GDP to 10 per cent this year would not be helped by the Suez Canal project. It wondered if perhaps the deficit would stay closer to 12 per cent of GDP this year.
The IMF, which visits Egypt soon, was more negative, expecting a budget deficit of 12 per cent until 2018, adding that:
This remains the single most important indicator we are watching over the medium-term.
RenCap noted with surprise that Egypt was the most underbanked of the countries it looks at. With 10 per cent of its population “unbanked” this put it below Pakistan, Iraq or Rwanda. The government was investigating Kenya’s vibrant mobile money system as one solution and:
In our view, the banking sector in Egypt presents a considerable opportunity, especially if the regulators relax and take Kenya’s approach (they are looking at it). But even if not, we believe the banking sector is poised to grow.
RenCap observed that al Sisi was “media savvy”. It noted his message of “we are all in this together”, citing the fact that while capping public sector salaries at EGP 42,000 ($7,000) per month Sisi had also halved his own salary (although it gave no figure for that).
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