Egypt’s economy achieves a turnaround with UAE support

Egypt’s turning point

The UAE’s investments in Egypt, particularly the Ras El Hekma land deal this year, have been a turning point in its economy. They have unlocked additional support from third parties, such as the IMF, World Bank and the EU, and averted a potential crisis. However, while this has provided some breathing space and there has been a short-term improvement in various economic and market metrics, the country still faces significant long-term challenges.

Reliance on external financing

Egypt is the region’s most populous country, with around 106m people – twice as many as the six GCC states combined. Its budget has run sizable deficits for decades and the current account has also been in deficit since 2009, which has made Egypt structurally reliant on external financing. However, in recent years the continuation of those inflows has increasingly been in doubt. External debt has risen dramatically, quadrupling between 2015 and 2023, and the cost of debt service had been draining foreign exchange reserves. Egypt's economic turmoil, in fact, deepened in 2022, triggered by the ongoing war in Ukraine, which caused commodity prices to soar and sharply increased the cost of imported wheat and fuel. This led to a mass exodus of bond investors, who withdrew about US$20 billion from the country.³ The situation worsened with the conflict in Gaza, further intensifying the economic pressures. The currency was devalued in three managed steps during 2022-23, nearly halving its value, but the decline was even greater on the black market. This pushed up the costs of imports sharply and Egypt suffered from a particularly painful bout of post-COVID inflation, peaking at 38% in September 2023. Egypt turned to the IMF, as it has done repeatedly over decades, and agreed on an Extended Fund Facility in December 2022.⁴

This required significant reforms to unlock tranches of concessional financing, including fiscal consolidation, liberalising the highly managed exchange rate, reducing the state’s role in the economy and privatising assets to raise capital and foreign exchange.

The UAE steps in

Egypt’s privatisation agenda had some successes in 2023, but it only managed to sell a fraction of the 32 assets on its initial list. The largest deals were with the UAE, including US$800m of investments by Abu Dhabi sovereign wealth fund ADQ in three industrial companies and a US$625m investment in Eastern Tobacco by another UAE investment vehicle.^5,6 There were discussions with other regional investors, such as Saudi Arabia’s Public Investment Fund and the Qatar Investment Authority, but without closing deals. One of the factors thought to have delayed asset sales was the expectation that the Egyptian pound would soon be devalued, which investors expected to be reflected in pricing.

In February 2024, it was announced that the UAE would invest US$35bn in Egypt, an order of magnitude higher than any previous deals. The core of this was US$24bn in new funding (and crucially, new foreign exchange) to buy the rights to develop Ras El-Hekma, a peninsula on the Mediterranean coast west of Alexandria.

In addition, the UAE converted the US$11bn of deposits it held with the Egyptian central bank, from two rounds of coordinated GCC support in 2014 and 2020., into local currency to use for investment. This provided an immediate boost in foreign reserves, public finances and international confidence in Egypt. Moreover, it is envisaged that the development of Ras El Hekma, set to begin next year, is expected to attract as much as US$150 bn₇ in investments, including building a new airport and tourist resorts, and in turn create significant employment and revenue for Egypt, as well as for ADQ.

The momentum of the deal enabled Egypt to go ahead and liberalise its currency in March, with the pound immediately dropping by over a third. Significantly the central bank did not then resume its intervention to establish a new de facto peg rate against the dollar, as it had after previous devaluations. This, along with other reforms, was welcomed by the IMF which enable it to complete the stalled reviews of the Extended Fund Facility and boost the funding arrangement from US$3bn to US$8bn. There was also additional funding unlocked from other multilaterals, including US$8bn from the European Union and US$6bn from the World Bank.

Macroeconomic indicators have improved with the primary fiscal surplus more than tripling to US$18bn (about 6% of GDP) for the fiscal year that ended in June. Inflation has also declined every month since the deal was announced, despite the weaker official FX rate, including to 26% in in July. Foreign exchange reserves have increased to $46bn in July, a record level and nearly a third more than in February.

FX reserves recover and the Egyptian pound depreciates

The market quickly warmed to Egypt, reflected in the yield on ten-year dollar bonds which had soared from under 15% in 2021 to nearly 28% in early 2024. By August 2024 it had declined to 23%, with local currency bond yields also declining. Although these yields are still expensive in absolute terms, they are making it relatively easier for the government to finance itself. Moreover, all three rating agencies (Fitch, Moody's and Standard & Poor's) have placed Egypt on a positive outlook and if these do lead to upgrades then there could be a further reduction in borrowing costs.

Challenges remain but tourism booms

Despite all the positive momentum, Egypt still faces significant challenges ahead. Even with the rising primary surplus, the interest bill is still nearly 10% of GDP. Although the official unemployment rate has been declining, underemployment and poverty levels remain high.

In the short-term, Houthi attacks on shipping in the Red Sea have diverted traffic away from the Suez Canal, causing traffic and revenue to drop by about half in the first half of 2024.

However, the impact of the Gaza conflict on tourism has not been as significant as might have been feared, with visitor numbers and revenue hitting new records in H1 2024, with tourist nights and revenue up by around 4% y/y.⁸ It is possible that Egypt has benefited from a diversion of tourists from countries more directly impacted by the conflict. Additionally, the weaker pound should provide a further boost to tourism.

References

_{3) Gulfnews.com, March 2024 Egypt makes economic turnaround with billions in investments

4) IMF, 16 December 2022 Egypt IMF Executive Board approves 46-month USD3b extended arrangement

5) Enterprise.news, 1 November 2023 ADQ-finalizes-acquisition of stakes in Egyptian state-owned companies

6) Reuters.com, 16 November 2023 Egypt-sells stake tobacco firm eastern co UAE company

7) Egypt Independent, 24 February 2024 UAE agree to invest US 50 billion into Ras al Hikma project

8) Egypt Today, 2 July 2024 Egypt’s tourism revenues record to 6 6B in H1}