IMF shows growing trust in Egypt's economic reforms but warns of challenges ahead

The fund has softened conditions for Cairo's loan programme but regional conflicts and inflation could create more hurdles

A banner at a market in Cairo reads: 'We are all one, under the auspices of Egypt's President Abdel Fattah El Sisi', as Egypt struggles economically. Reuters

Egypt's path to economic recovery remains challenging, as the country grapples with the effect of regional conflicts and attempts to meet the conditions set by the International Monetary Fund (IMF) for its $8 billion loan programme.

A report released by the IMF on Monday sheds light on Egypt's progress and the significant risks that threaten its economic stability after the completion of the fund’s third review of the country’s adherence to the loan programme.

Despite calling Egypt’s progress on the loan programme “satisfactory”, the IMF outlined a number of significant challenges that could derail the marginal progress the Arab world’s most populous nation has made towards achieving economic stability.

The Egyptian economy has shown signs of weakness in the first half of the fiscal year 2024-25, the fund said, while noting that a rise in investor confidence has also been recorded, brought on by the flotation of the Egyptian pound in March.

The fund said its estimates suggest the Egyptian pound is currently trading at market prices, with little or no external influence on its valuation, and expressed its appreciation for this measure.

The war in Gaza and its regional repercussions have also been a major driving force behind Egypt’s sluggish growth throughout the first half of 2024, the fund said.

The war has disrupted maritime traffic in the Red Sea and resulted in a 60 per cent drop in Egypt’s Suez Canal revenue, one of the country’s main sources of foreign currency.

Despite these challenges, there are also positive signs.

Inflation, which reached a record high of 38 per cent in September last year, has been declining steadily since. However, at 25.8 per cent in June, it remains well above the Central Bank of Egypt's target of less than 10 per cent.

The IMF report highlights that domestic financing conditions have improved significantly after the exchange rate unification and interest rate increases introduced this year, noting an increase in T-bill sales to non-residents, a sign that foreign investors are more confident in Egypt’s debt markets.

The banking system in Egypt has also shown resilience, despite the recent increase in interest rates and currency depreciation. Banks remain profitable, liquid and have adequate capital that exceeds prudential minimums.

However, the IMF report points out some vulnerabilities, particularly in foreign currency loans to public sector groups, which it said are not fully matched by foreign currency deposits.

Looking ahead, the IMF projects a strong recovery in the fiscal year 2024-25, as the development of the Ras El Hekma region begins and pressures from the conflict and Red Sea disruptions “are assumed to abate in the second half of the fiscal year”.

By 2026, growth is expected to increase to about 5.5 per cent, driven by structural reforms aimed at strengthening the business climate and gradually replacing the state footprint with private activity.

However, the IMF report also highlights significant downside risks that could derail Egypt's economic recovery.

Chief among these risks is a failure to sustain the shift to a flexible exchange rate regime and a liberalised foreign exchange system, which “will be imperative to avoid a build-up of external imbalances in the future and demonstrate to all stakeholders that ‘this time is different’”.

Other potential pitfalls include monetary policy being too loose to effectively bring down inflation, insufficient adjustment of energy prices, difficulty in transparently integrating the off-budget investment programme into overall macroeconomic policy decision-making and a lack of meaningful progress in the structural reform programme.

The IMF also advised further reductions in state subsidies, particularly in energy.

The Egyptian government raised electricity prices by up to 50 per cent this month. The decision followed a rise in fuel prices in July.

The intensification of conflicts on Egypt's borders poses an additional threat to the country's economic stability. The IMF warned that should the disruption to maritime traffic in the Red Sea persist, Egypt's economy could deteriorate further.

After requests from the government, the fund softened several conditions of its financial support package to Egypt. These adjustments include allowing Cairo more time to introduce reforms, such as delaying the publication of annual fiscal account audits to the end of November. It had been scheduled for March.

“The IMF’s attitude towards Egypt has changed significantly since the start of the loan discussions in 2022,” said Mohamed Ragab, an economic analyst. "At the time, the fund was a lot more careful and was not lenient with conditions. However, in recent months, the IMF has been a lot more pliable, which is why it has chosen to loosen conditions requested by the Egyptian government.

“The fund has given the government a lot of room to conduct its own affairs, provided it meets the agreed-upon targets on time. These are all signs of increased trust.”

Additionally, the fund extended the deadline for drawing up a plan to recapitalise the central bank to the end of this month from its original April deadline.

It also agreed to allow Egypt not to adhere to the original plan of raising fuel prices every three months until they are trading at market prices. It has approved an alternative plan allowing the government to implement fuel cuts at its discretion, provided they hit market rates by December 2025.

“Now that Egypt has completed what we economists consider the first stage of the IMF conditions, which included the free float of the currency and the lifting of subsidies off electricity and fuel, the next stage is going to be more focused on the government’s implementation of more structural reforms like the state asset sales, and reforms to the industrial and agricultural sectors,” Mr Ragab said.

The foundational reforms that have taken place under the supervision of the fund have been met with widespread discontent from Egypt’s 106 million population, the majority of whom are poor.

Citizens have repeatedly decried the successive hikes to their costs of living. With everything from bread to transportation significantly more expensive than it was just two years ago, many are struggling to make ends meet.

Going forward, analysts said, the success of Egypt’s reform programme will depend on its ability to strike a balance between fulfilling the IMF's conditions and addressing the growing discontent among its citizens.