Fitch affirms Egypt's rating at 'B+' with stable outlook

CAIRO – 20 October 2021: Fitch Ratings affirmed Wednesday Egypt's Long-Term Foreign-Currency Issuer Default Rating (IDR) at 'B+' with a Stable Outlook.

Egypt's ratings are supported by its recent record of fiscal and economic reforms, which the authorities are continuing, as well as its large economy, which has demonstrated stability and resilience through the global health crisis, the rating agency clarified.

It added that the ratings are constrained by still-large fiscal deficits, high general government debt/GDP and domestic and regional security and political risks. External vulnerabilities, including the reliance on short-term portfolio inflows, are also reflected in the ratings.

According to Fitch, continued economic growth and a modest coronavirus support package limited the pandemic's impact on Egypt's public finances.

Fitch expected a modest widening in the general government overall deficit to 7.5 percent of GDP in the fiscal year ending June 2021 (FY21), from 7.0 percent in FY20 and 7.9 percent in FY19.

It also anticipated a slightly lower FY22 deficit on the back of revenue measures, including a Customs Law, various fee revisions and modernization of the tax system, in line with a government target to increase tax revenue/GDP by 2pp over the next four years. Fiscal policy is anchored by a primary surplus target of 2 percent of GDP over the medium term - the primary surplus averaged 1.8 percent of GDP in the past three years.

“The coronavirus pandemic interrupted Egypt's two-year debt-reduction trend, and public finances remain a core weakness of the rating. However, we expect government debt/GDP to resume a downward path from FY22, and Egypt has significant financing flexibility. Consolidated general government debt/GDP hit an estimated 88 percent in FY20 and FY21, up from 84 percent in FY19,” it stated.

The Rating Agency saw faster growth and ongoing primary surpluses to reduce government debt/GDP to 86 percent in FY22. Debt metrics are well above 'B' medians. However, more than half of government external debt is owed to multilateral institutions, with which Egypt has good relations, and the large domestic banking sector is a captive investor in local-currency debt.

Fitch noted that Egypt's economic growth outperformed the vast majority of Fitch-rated sovereigns throughout the coronavirus pandemic, supported by resilient domestic demand, gas production and a public-sector investment program in the face of sagging tourism and export-oriented sectors.

Real GDP grew 3.3 percent in FY21, down from 3.6 percent in FY20 and 5.6 percent in FY19. Global economic recovery and resumption of tourism to Egypt, helped by the end of a six-year ban on Russian flights to Egypt's Red Sea resorts, will drive an increase to 5.5 percent growth in FY22-FY23, it noted.

As per monetary conditions, Fitch referred to keeps the headline overnight deposit rate unchanged at 8.25 percent after a cumulative 400bp of cuts in 2020.

“This has supported private-sector credit growth (FY21: 21 percent; FY20: 20 percent). However, Egypt's high real interest rates could be eroded by inflation rising to an average of 7 percent in FY22, in the middle of the CBE's target range (FY21: 4.8 percent),” it commented.

It also noted that higher and more persistent inflation than anticipated, a shift in sentiment towards emerging markets or tightening global liquidity conditions, for example in the context of a tapering of Federal Reserve asset purchases, could force the CBE to tighten rates again, with knock-on effects on growth.

“Global monetary conditions are becoming less favorable for Egypt and represent key risks to the positive trends in its public finance and macro fundamentals,” it said, explaining that since mid-2020, there has been a mutually reinforcing dynamic between exchange rate stability and non-resident inflows into the Egyptian pound government bond market, against the backdrop of high real rates in Egypt and easy global monetary conditions and "risk on" sentiment globally.

It also referred to the hike in foreign holdings of government T-bills and T-bonds reaching an all-time-high of $34 billion in September 2021 (over 12 percent of government domestic debt and 85 percent of CBE foreign reserves), from a trough of less than $10 billion in June 2020, commenting these flows could reverse in response to any confidence shock or shift in global liquidity conditions, putting pressure on foreign exchange liquidity, interest rates and the exchange rate.

“Egypt's inclusion in the JP Morgan GBI-EM bond index from January 2022 will provide some structural support to non-resident investor demand, as could the settlement of Egyptian bonds by Euroclear Bank, anticipated later in 2022,” it added.

In Fitch’s view, continued exchange rate rigidity poses risks to macroeconomic stability and current account performance in the medium term. Real effective appreciation has eroded a large part of the competitiveness gain from the 2016 devaluation and increases the risk of another sharp nominal exchange rate adjustment in the future, potentially undermining price stability and domestic confidence. Nevertheless, the CBE maintains that it is committed to exchange rate flexibility, intervening only to mitigate disorderly market movements.