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Wednesday, 21 December 2022

The IMF is watching what happens to the EGP in January

The IMF will be keeping a beady eye on what happens to the exchange rate when the central bank ends import restrictions at the end of the month. Egypt has committed to permanently switching to a floating exchange rate in return for a USD 3 bn loan from the IMF, but is yet to cancel its requirement to use letters of credit to finance imports. “We know that the central bank has not intervened to inject reserves into the foreign exchange market since we reached staff level agreement. But we also know that the backlog of imports has not been cleared,” Ivanna Vladkova Hollar, the IMF mission chief for Egypt, told Reuters this week.

Import restrictions? Since March the central bank has required businesses to use letters of credit to finance most imports, a move designed to stem outflows of foreign currency amid a shortage triggered by the war in Ukraine. The decision has caused widespread economic disruption as imports have slowed to a crawl but has helped to support the EGP which has fallen sharply due to two devaluations this year.

Mandatory L/Cs should be a thing of the past by the end of the month: Egypt agreed to fully phase out mandatory L/Cs by the end of the year under the agreement made with the IMF in October, which committed them to adopting a “durably flexible exchange rate.” In its statement last week, the Fund’s executive board changed its language, and now specifies that Egypt must “permanently” shift to a floating rate.

What happens next is key: Following the lifting of the restrictions, the IMF will be looking for “daily volatility in the exchange rate that is similar to the volatility observed in truly floating exchange rate regimes”, Vladkova Hollar said. “We will be looking very closely at how the FX market is functioning, which would then give us the ability to have a conversation with the authorities and our board as to [whether] what we are seeing is really consistent with a flexible exchange rate regime.”

A smaller first tranche than expected: The IMF agreed to disburse USD 347 mn immediately after the executive board signed off on the loan, less than half of the USD 750 mn the Finance Ministry was expecting in the first tranche.

The state ownership policy will be key: The long-awaited document, which will lay out which areas of the economy the state will divest from, will be the “first critical document that we need jointly to be able to develop a more concrete action plan,” Vladkova Hollar said.

Privatization and leveling the playing field for private companies are key conditions of the new loan: Egypt has committed to undertaking “wide-ranging” structural reforms to reduce state involvement in the economy and increase transparency. These include opening the books of state-owned enterprises, publishing audit reports done by the Central Auditing Organization, and making public information relating to government contracts worth more than EGP 20 mn.

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