So far, so good for Egypt but economic reform set for delay

The near 13 per cent rise by the EGX30 Index since the Egypt election result was announced reflects relief that the political process prevailed in spite of fears that the military might override the will of the people. But the rally comes from a low base.

Egyptian men celebrate Mohammed Morsi's presidency. Khaled Desouki / AFP

Markets have so far reacted favourably to the victory of the Muslim Brotherhood's Mohammed Morsi in Egypt's first post-revolution presidential elections.

The near 13 per cent rise by the EGX30 Index - since the result was announced - reflects relief that the political process prevailed in spite of fears that the military might override the will of the people.

Mr Morsi's initial calls for an inclusive government have also been welcomed.

However, the rally comes from a low base, with Egyptian equities having been the worst-performing market in the Middle East and North Africa (Mena) over the past month as concerns and uncertainty about the political outlook intensified. And although Egyptian markets have rallied 28 per cent so far this year, they are still down 13.8 per cent from a year ago.

Political concerns will not simply go away on the basis of the election result alone, with question marks remaining about the mandate Mr Morsi will enjoy given his slim overall majority. Also with parliament having been dissolved by the military, the relationship between the president and the Supreme Council of the Armed Forceswill continue to be watched closely, with suspicions widespread that Mr Morsi's authority will be limited, especially with no new legislative election date having been set.

If these political uncertainties can be put aside now, the focus of the markets will increasingly turn to the economic challenges that lie ahead, which are enormous. The new political forces will have to move fast if they are to restore confidence, stave off a devaluation of the Egyptian pound and make Egypt a genuine turnaround story. Given that the initial optimism of the Arab Spring has turned into scepticism in some quarters, the Mena region needs Egypt to be successful now more than ever.

The broad fundamentals remain unchanged from earlier in the year. After growth contracted last year, the prospects for this year are only for limited growth, just 1.5 per cent according to the IMF, well below the 4 to 5 per cent trend rate that existed before the revolution.

This growth rate was already insufficient to significantly narrow the income gap, a factor that was partly responsible for the revolution in the first place. Furthermore other key economic variables are deteriorating fast, which will also have a significant bearing on growth and employment.

The loss of foreign direct investment, along with rising capital outflows, is damaging the external balance and putting pressure on an already weak fiscal position.

The budget deficit is likely to remain close to 10 per cent of GDP this year as populist spending measures and subsidies are unlikely to be reversed soon.

Foreign-exchange reserves have dwindled from US$36 billion (Dh132.23bn) last year, and at $15.5bn in May they are only capable of covering close to three months of imports - well below the usual danger point of six months cover.

If it had not been for recent support from Arabian Gulf countries, this situation could have been much worse.

With overall public debt levels close to 80 per cent these are also approaching levels that are commonly seen as unsustainable. Fortunately there are some tentative signs of improvement in the critical tourism sector, with both hotel occupancy and revenue per room rates having stabilised and begun to improve from a year ago.

However, without this, things would be a lot worse, making it all the more urgent that the new government begins to address the issue of external funding.

Hopes that the government will sign a deal with the IMF on a proposed $3.2bn IMF standby loan (one it resisted taking last year) came to nothing in the spring and this in turn is hampering efforts to attract funding from elsewhere.

A new constitution, new legislative elections and a new government are all still awaited. From the IMF's perspective, its preference is likely to be to strike a deal once a stable government is finally formed.

However, on the basis of recent experience this may take until next year, meaning that the probability of Egypt finally starting to address its chronic economic issues still looks some way off.

On this basis the recent recovery in Egypt's markets might also prove to be premature.

Tim Fox is the head of research and chief economist at Emirates NBD but is writing here in a personal capacity