Reform progress and recovering foreign reserves boost Egypt's Sovereign Risk rating

We have upgraded the short- and medium-term sovereign risk ratings for Egypt during the third quarter of 2017 thanks to the country's recovering foreign reserve position. The short-term rating has been decreased from 25 to 20 on our numerical 0-100 scale. We have also upgraded Egypt's medium-term sovereign risk rating by one notch to 55 (equivalent to B+ on the generic scale), from 60 (or B-). Egypt's medium-term rating now rests three notches below investment grade, under the speculative grade category of High Payments Risk. With the upgrade, we now hold a lower risk for Egypt's sovereign credit than Standard & Poor's Global Ratings, Moody's, or Fitch Ratings.

Egypt has pushed forward with its reform programme to address fiscal and external imbalances and alleviate hard-currency shortages, at a pace quicker than most have expected. Indeed, recovering foreign-exchange earnings have helped the Central Bank of Egypt (CBE) make progress clearing its foreign-exchange backlog for trade financing and imports, alongside making payments to international oil companies to settle arrears. Moreover, the country's foreign reserves rose to another record high of USD36.5 billion in September, continuing a post-float recovery that has helped boost reserves by nearly USD17.5 billion since November 2016. Egypt's reserve position has been bolstered by aid flows from the International Monetary Fund (IMF), World Bank, African Development Bank, and others, while major foreign-exchange earners such as foreign direct investment, remittances, and portfolio inflows have improved. Egypt has also tapped the foreign debt market twice this year successfully, raising USD7 billion through Eurobond issuances. The improvements in foreign-exchange liquidity have helped reduce external vulnerabilities and have led to the ratings' upgrade. To be sure, import cover has increased well above the critical three-month threshold, hovering around six months.

Outlook and implications

We revised the outlooks on Egypt's short- and medium-term ratings to Positive, reflecting further possible upgrades. Since November 2016, Egypt has pushed forward with its IMF-backed reform programme to address fiscal and external imbalances and alleviate hard-currency shortages, with the country's foreign reserve position recovering to all-time highs and the economy strengthening.

The reform progress has been viewed favourably by the IMF, with a second review of Egypt's progress under its Extended Fund Facility programme expected by year-end, which if satisfactory would release the third tranche of IMF funding totaling around USD2 billion. The final tranches of funding from the World Bank and African Development Bank deals worth USD1.5 billion could proceed by the end of the year as well. The Egyptian government will need to draw on incoming funding for budgetary support, while channelling a share of projected fiscal savings from the reform measures into social benefits and education to protect the poorer segments of the population and limit backlash. However, Egypt has used the debt market to plug the financing gap and leave a foreign-exchange cushion at the CBE.

Egyptian authorities will need to manage near-term pressures, especially regarding higher costs of living. Egyptian President Abdel Fattah al-Sisi approved several measures aimed at alleviating some of the pressures from surging inflation, including higher food subsidy allowances for subsidy card holders, wage increases, boosts to state pensions, and cuts to income taxes. Fiscal and external balances could see better-than-expected turnarounds as new gas capacity comes online. New developments such as BP's West Nile Delta and the Eni Zohr field discovery are expected to boost domestic gas production in the next few years (2017-20). The new gas supplies will reduce the need to import gas, alleviating pressure on the current-account and fiscal balances.

Continued improving trends for key credit metrics, including import cover and the current-account balance, could lead to further upgrades in the coming quarters. Maintaining progress with reforms will be crucial to keep the positive momentum going, with any disruption or slowdown posing a downside risk.

Bryan Plamondon, Economics Director at IHS Markit
Posted 7 November 2017