Soldiers Serving $1 Meals Sound Egyptian Pound Devaluation Alarm

Updated on
  • Economists say food centers are to offset faster inflation
  • Pound forwards trade at 25% discount to official pegged rate

The latest sign Egypt may be gearing up to devalue its pound? Discounted meals, being served up on Cairo street corners by the army and police for less than $1.

President Abdel-Fattah El-Sisi, who came to power two years ago in the wake of the Arab Spring, ordered the food drops last month. To economists at Dubai-based lender Emirates NBD and Egypt’s Pharos Holding, they show authorities are preparing for the jump in inflation a weaker currency might bring.

The local currency’s decline since the 2011 Arab Spring has made life more expensive for Egyptians.

There are other indications Egypt may be about to tear up the capital controls that are crippling the economy and allow the pound to trade more freely. State-owned lenders raised interest rates on local deposits in the past month to boost the pound’s appeal. And the central bank paid more than $500 million due to foreign stock and bond investors, taken as a sign it’s more willing to let money leave the country.

“Independently these measures may not mean much, but collectively, when you look at the broader picture, it’s quite clear that they’re moving in the direction of a devaluation," said Jean-Paul Pigat, an economist in Dubai at Emirates NBD, the second-biggest bank in the United Arab Emirates. “What started out as temporary capital controls have been kept in place for a lot longer than planned. Something needs to give.”

Not Tradable

Egypt’s pound effectively can’t be traded outside the country and is pegged to the U.S. currency at a rate of 7.8301 per dollar. The central bank has devalued the exchange rate three times in 2015, and strengthened it last month, leaving it almost 9 percent weaker this year. That compares with declines of about 20 percent for Turkey’s lira and South Africa’s rand.

Following its earlier devaluations, the central bank surprised markets in November by strengthening the pound for the first time in more than two years, without giving a reason. The move coincided with a rate increase by the two biggest state-run banks -- stoking speculation it was aimed at edging toward a more liberal foreign-exchange system while increasing the pound’s appeal to investors.

“I see appreciating the pound, alongside higher deposit rates, as preparation for an FX move,” said Hany Genena, chief economist at investment bank Pharos Holding in Cairo. The moves are an attempt “to quell a speculative attack at its outset.”

What the economists are talking about is different from devaluations implemented over the last five years. They’re anticipating a shift to a freely floated rate or at least a less rigid peg, as well as the dismantling of capital controls implemented since 2011. Emirates NBD’s Pigat forecasts the pound will depreciate 13 percent by the end of 2016 as a result.

Central-bank officials didn’t respond to a request for comment.

Activity Shrinks

Pressure is building for Egypt to free up its currency regime to attract foreign investment that fled North Africa’s largest economy after the 2011 Arab Spring. The country has burned through at least $20 billion in aid from its Gulf Arab allies since El-Sisi led the military to consolidate its power two years later.

The shortage of foreign cash is undermining the economy, with private-sector non-oil business activity shrinking in eight out of 11 months this year, according to an industry report published this week.

A currency devaluation is also signaled in pound forward contracts, black-market rates and the difference in prices between company stocks traded locally and abroad. All three are at, or near, record highs.

Twelve-month non-deliverable forwards -- one of the main ways traders speculate on Egypt’s currency -- were at 10.45 pounds per dollar as of 1:04 p.m. in Cairo, a 25 percent discount to the official exchange rate. They hit 10.5 pounds on Nov. 10, the weakest since 2007, according to data compiled by Bloomberg.

The spread between pound forwards and the official rate is more than twice that on the eve of the 2012 devaluation.

Shares of Egypt’s three most easily traded company stocks reflect an implied exchange rate of 8.89 pounds a dollar, data compiled by Bloomberg show. Black-market currency dealers in Cairo and Alexandria charge a 8.578 pounds for a dollar, according to the average of four quotes in a Bloomberg survey Wednesday.

A weaker currency tends to push up prices for consumers. That would be a particular challenge in a country where almost half of citizens live near the poverty line. Inflation is already running at an annual pace of about 10 percent, compared with 3 percent or less in nearby Jordan, Qatar and Saudi Arabia.

Food is the biggest contributor to Egypt’s consumer-price index. Outlets run by the army, police and the government are being set up on street corners in major cities across Egypt. They’re selling everything from snacks to beef and chicken to both individuals and stores, with meals at prices comparable to about a decade ago.

"I believe the move to contain prices is a precursor to a devaluation as the government tries to shield low income segments form inflation," said Ziad Waleed, economist at Cairo-based investment bank Beltone Financial. "Following the same FX policy will only lead to the same results. Something has to change."

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