Egypt vs. the mighty oil price – Quantifying the risks
Egypt can manage USD75-80/b…
Rising oil prices have clearly changed the risk profile of a number of emerging/frontier economies - Egypt included - given that the country is going through a fiscal consolidation exercise, where energy subsidy cuts constitute a key component. Higher oil prices, therefore, risk a rise in inflationary pressures which will, in turn, push the easing cycle further into next year; thereby, posing some temporary downside risks to economic growth. From a macro stability perspective though, we argue that risks at the current oil price range of USD75-80/b are largely manageable. On the fiscal side, current oil prices add 0.8% of GDP burden to the FY18/19 budget, a level that we see as: i) still allowing improvements in the fiscal trajectory by expanding the primary surplus; and ii) largely manageable through buffers within the budget (including general reserves and savings from lower energy consumption). Another 0.8% of GDP burden on the current account would only neutralise savings from higher domestic natural gas production, with upside risks for tourism and remittances still maintaining improved trajectory of external accounts.
…but inflationary risks are clearly skewed to the upside
Short-term inflationary risks are predominantly confined to the government’s possible decision to lift the magnitude of the budgeted 30-35% increase in fuel prices this summer in order to provide further cushions to the budget amidst an uncertain outlook for oil prices. Such a move could possibly lift 2H18 inflation to 14-15%, from our base case scenario of 12-13% (which includes the budgeted subsidy cuts). Persistence of high oil prices well into 2019 will pose higher inflationary risks, given the government’s target within the IMF programme of reaching cost-recovery level for fuel prices by mid-2019. Such uncertainty clearly poses the risk of a relatively extended interruption of the easing cycle, possibly well into 2019.
Stick to EGP view, but get used to more volatility
Positive fundamentals and an appropriate policy response by monetary authorities are key factors for our view of a relatively stable USD-EGP in the next 12 months. The risk of an interrupted easing cycle is principally positive for the carry trade, ensuring yields remain higher for longer; hence, reducing the risk of the unwinding of the trade in the near term. The EGP’s risk profile is also supported by a decent reserve base and a limited negative impact of USD75-80/b oil. The cost of higher oil price will largely neutralise savings from the lower import bill of natural gas, with further improvement in the current account foreseen over the coming 12-18 months, driven by the promising recovery in tourism and remittances. We, therefore, stick to our view of a relatively limited weakness of the USD-EGP in the near term. Nevertheless, we widen the expected trading range up to EGP18.15, from EGP18.0, to account for an elevated global risk environment, which - driven predominantly by a stronger dollar - is likely to result in a more volatile EGP, especially with more of the carry trade flows passing through the interbank market, compared to last year (reportedly between 15-20%).
Short-term risks to growth outlook are confined
The risk of a higher oil price for growth will mostly be on two key areas: Potentially higher inflation could slow down the recovery of private consumption, and uncertainty regarding the future move of interest rates could also push the recovery of the CAPEX cycle beyond early next year. Meanwhile, the economy’s accelerating growth has been driven largely by factors which we see as largely immune to the interruption of the monetary easing cycle, including i) strong rebound in tourism; ii) rising oil and gas production; iii) increased activity passing through the Suez Canal; and iii) public investment stimulus.
Mohamed Abu Basha