FitchRatings has downgraded Egypt’s Long-Term Foreign-Currency (LTFC) Issuer Default Rating (IDR) to ‘B’ from ‘B+’, with a negative outlook, the credit rating agency announced on Friday night.
In Fitch’s view, external financing risk has increased given high external financing requirements, constrained external financing conditions and the sensitivity of Egypt’s broader financing plan to investor sentiment.
The agency indicated that this comes against a background of high uncertainty on the exchange-rate trajectory, and reduced external liquidity buffers.
“We see a risk that a further delayed transition to a flexible exchange rate will further undermine confidence, and, potentially, delay the IMF programme. The rating action also captures a marked deterioration of public debt metrics, including a renewed deterioration in government interest costs/revenue, which, if not reversed, would put medium-term debt sustainability at risk,” the statement read.
Moreover, Fitch cited an increase in uncertainty around Egypt’s ability to meet its external financing needs, as a reason for the downgrade.
It reflects still constrained prospects for market access and the lack of market confidence in the Central Bank of Egypt’s (CBE) new exchange rate regime, which has held back foreign currency (FC) inflows, according to the agency.
Furthermore, FC shortages resurfaced in February 2023, while the official exchange rate stabilised, following successive devaluations that had left the Egyptian pound against the US dollar about 50% weaker compared with the start of 2022.
According to Fitch, the stabilisation partly reflects the reluctance of market participants to transact in the foreign exchange (FX) market, given high uncertainty around the future exchange rate level, and also interventions by public sector banks, further damaging confidence in the durably flexible exchange rate regime and the value of the currency.
Fitch assumes that the exchange rate will depreciate further before stabilising in the financial year ending June 2024.
Meanwhile, Egypt’s external financing requirement is more challenging in Fiscal Year (FY) 24 due to increasing government external debt maturities of around $7.2bn, up from $4.3bn in FY23, including $2.1bn of Eurobond maturities (compared with $0.8bn in FY23).
Accordingly, Fitch projects a current account deficit of 3.3% of GDP (about $12bn) in FY23 and FY24, versus 3.5% ($16bn) in FY22, with most of the improvement coming from stronger tourism and Suez Canal receipts.
Weak external liquidity buffers
In the report, Fitch indicated that Egypt’s external liquidity buffers remain weak, after a marked deterioration in 2022. Gross official reserves have started to recover to $34.4bn at end-March 2023 from a low of $33.1bn in August 2022 (and $41bn in February 2022), after the CBE let the pound depreciate in October 2022 and January 2023.
However, it cited that CBE’s and commercial banks’ net foreign assets deteriorated again at the beginning of the year to a negative $24.5bn in March 2023 from a negative $20bn in December 2022, reflecting constraints on FX liquidity.
Meanwhile, Egyptian authorities’ external financing plan hinges on an annual net foreign direct investments (FDI) target of $10bn (2.7% of GDP) from FY23, supported by the participation of GCC partners including in the government’s privatisation programme.
However, these FDI flows are subject to execution risk, and there is limited visibility over their timing, the agency indicated.
“Nevertheless, we continue to believe GCC support for Egypt’s economy is strong, and successful divestment deals with Gulf partners would help restore confidence and unlock further investments,” the statement read.
According to the government, it is well advanced to secure a total of $6.8bn in external financing to cover external debt maturities for FY24 and the remainder of FY23.
The FY24 financing plan, however, is currently short of nearly $1bn financing and incorporates about $2bn bond issuance, while prospects for market access remain constrained.
Currency devaluation inflate external debt, impacts inflation, growth
Fitch forecasts that general government debt will increase to 96.7% of GDP in FY23, from 86.6% in FY22, well above the expected 2023 ‘B’ median of 54.7%, mainly due to the currency devaluations inflating external debt as a share of GDP.
The agency said that despite the fact that negative real interest rates will support a significant reduction in debt to 87.3% of GDP by end-FY24, Egypt’s high public debt levels remain a key rating weakness.
Egypt’s interest payment continues to pose a risk to debt sustainability, rising to over 54% of revenue in FY24, one of the highest among Fitch-rated sovereigns, Fitch indicated.
Headline inflation reached 32.6% in March 2023, reflecting the currency devaluation, on top of fuel price adjustments, and supply bottlenecks due to FC shortages. Fitch sees uncertainty about the timing of the inflation peak and its level, as well as the adjustment period for the economy to absorb further currency weakness.
However, the credit rating agency forecasts that FY23 average inflation to reach 24% and to steadily decrease to 18% in FY24, helped by a favourable base effect.
Yet, Fitch expects inflation, FC shortages, fiscal policy tightening and heightened economic uncertainty to weigh on growth, which will slow to 4% in FY23 from 6.6% in FY22 before recovering to 4.5% in FY24.
