Moody's cuts Egypt's credit rating due to reduced buffers and shock absorption capacity

Outlook of North African country changed to stable from negative

People buy fruits and vegetables at Bulaq district in Cairo. Inflation in the country hit a five-year high in December. EPA

Moody's Investors Service downgraded Egypt's credit rating to B3 from B2 owing to the country's reduced external buffers and shock absorption capacity as it pursues economic reforms and structural changes in line with its International Monetary Fund programme.

The country's outlook was changed to stable from negative, Moody's said in a statement.

“Liquid foreign exchange (FX) reserves have declined since the negative outlook assignment in May 2022 and FX liquidity buffers in the monetary system have dwindled (as measured by the build-up of large net foreign liability positions at the central bank and commercial banks), increasing external vulnerability at a time of fragile global conditions,” the rating agency said.

The rating downgrade, which takes Egypt deeper into junk territory, takes place as the North African country moves towards a more export — and private sector-led growth model under a flexible exchange rate regime.

Last year, Egypt agreed to a $3 billion rescue plan with the IMF that is contingent on the country introducing a flexible foreign exchange regime and reducing the state's footprint in the economy to allow more room for the private sector.

Moody's said the Egyptian government state-owned asset sale strategy that kicks off this month as part of the country's new IMF programme will support its structural adjustment and help generate sustained non-debt creating capital inflows to meet increased external debt service payments over the next two years.

Last week, Prime Minister Mostafa Madbouly said Egypt plans to list at least 20 state-owned companies on the stock market this year, as the government seeks to attract foreign investors and revive the economy.

The companies will be privatised to varying degrees, Mr Madbouly said.

“These measures will ultimately take time to tangibly reduce Egypt's external vulnerability risks. Moreover, notwithstanding the clear commitment to a fully flexible exchange rate, the government's capacity to manage the implications for inflation and social stability is yet to be established,” the rating agency said.

Inflation in the Arab world's third largest economy soared last year exacerbated by the fallout from Ukraine war, prompting the Central Bank of Egypt to raise interests by 800 basis points in 2022. The central bank maintained its rates at last week's meeting following the US Federal Reserve raising its rates to the highest since 2008.

The country had to import crude oil and refined fuel last year amid a spike in prices due to Ukraine war, after some countries joined a boycott of Russian oil exports. Prices of basic food, including wheat and other staple grains also soared after Ukrainian exports through the Black Sea were curtailed due to the war.

Following a series of devaluations of the Egyptian pound in 2022 and in early January of this year, Goldman Sachs expects headline inflation in the country to peak in February before gradually declining to around 16 per cent by the end of 2023 and below 9 per cent by the end of next year.

Egypt has allowed its currency to depreciate by nearly 50 per cent over the past year, with the official rate of the pound now at 30 to the dollar.

Goldman Sachs believes current high inflationary pressures and the goal of accelerating the pace of disinflation is likely to prompt further monetary tightening by the CBE, and its expects a further 200 bps in rate increases in the first quarter of this year.

Egypt's inflation rate hit a 21.3 per cent in December, the highest since December 2017 and is expected to rise further in January to 23.8 per cent according to Goldman Sachs.

A median forecast of 14 analysts polled by Reuters also showed annual inflation at 23.75 per cent in January.

In its latest downgrade report Moody's said the country's downside risks are linked to liquidity risks amid tight international capital market conditions, higher domestic borrowing costs and social spending pressures in an inflationary environment.

Moody's said these risks are “mitigated by the government's dedicated domestic funding base and the government's track record of consistently generating primary surpluses which [it] expects will help reduce the debt burden after a temporary setback”.

Meanwhile, the rating agency said upside risks relate to the implementation of government reforms that may boost the economy's export base and support foreign direct investment inflows which “would enhance the economy's external debt carrying capacity and sustainably reduce the economy's external vulnerability risks”.

Egypt's liquid foreign currency reserves have declined to $26.7 billion at the end of December 2022 from $29.3 billion at the end of April 2022, while the net foreign liability position in the monetary system has increased to $20 billion at the end of December from $13 billion in April, according to Moody's.