Uncertainty remains over Egyptian pound devaluation

Mohammed Morsi last week appeared to end speculation on whether the country would devalue its currency when he said it was "completely out of the question". But the debate may not be over.

Advocates of a devaluation argue a weaker currency would boost exports and prevent the rapid drain on foreign reserves. Bloomberg News

Egypt's president Mohammed Morsilast week appeared to end more than a year of speculation on whether the country would devalue its currency when he said it was "completely out of the question".

Mr Morsi said he would not devalue the pound or impose new taxes, instead focusing on boosting foreign direct investment, tourism revenue and exports.

But behind the scenes, senior members of the Muslim Brotherhood say the question of a devaluation is still up in the air. "We are still getting feedback and there are conflicting views [on a devaluation] within Freedom and Justice Party economic teams," said Gehad El Haddad, a senior adviser to the Muslim Brotherhood and also an adviser to the group's political arm, the Freedom and Justice Party (FJP).

He said he had not yet been told by the presidential team the reason for Mr Morsi's announcement or on what advice it was made.

"I'm not sure of the direction yet," said Mr El Haddad, who is also a member of the steering committee member of the party's Renaissance Project, the electoral platform for the Muslim Brotherhood. Mr Morsi was the chairman of the FJP until he resigned to become president.

He is still closely aligned to the party, which is considered the most powerful political group in Egypt.

The confusion within the party reflects a much larger debate among investors and policymakers on whether or not Egypt should devalue the pound.

Advocates of a devaluation argue a weaker currency would boost exports and prevent the rapid drain on foreign reserves.

On the flip side, a managed devaluation would exacerbate the country's inflation problem and increase the price of food imports many in Egypt rely on through a heavily exhausted subsidy system.

Economists at Capital Economics in London estimate a 20 per cent fall in the value of the pound could increase the cost of subsidies by nearly 20 billion Egyptian pounds (Dh12.04bn), equivalent to 1.5 per cent of the country's GDP.

So far, the currency has fallen only 5 per cent since the beginning of last year because the government has intervened to stabilise the pound through a costly injection of foreign currency reserves.

It has left the country's foreign reserves pot at less than half of its original level of US$36bn (Dh132.22bn) at the end of 2010. Reserves fell to a critically low level of $11.1bn at the end of last month, if gold reserves are excluded.

But another 10 per cent fall in the value of the pound could potentially lead to a spike in inflation, sharp hikes in interest rates, a potential banking crisis and rapid fall in asset prices, economists say.

External financing is now essential and regarded as one of a few ways to avoid a disorderly depreciation of the pound.

Renewed talks over a bigger than expected $4.8bn IMF loan and Qatar's planned $2bn injection into Egypt's central bank has allayed some fears felt by investors and economists.

Even with current fiscal problems resolved, the outlook for Egypt in the long term is not so bright, Emad Mostaque, the chief strategist of Religare Capital Markets, wrote in a note last week.

"Outlook looks good over the next few years with both the Muslim Brotherhood and Salafist parties saying the $4.8bn IMF loan is fine.

"[The] real difficulties being three to four years out as growth won't quite keep up with local demand and a shift from local to foreign debt may prove an issue."