September 12^th

Finding Ways to Collect in Egypt

Egypt continues to struggle with a shortage in foreign exchange reserves as it looks to others to help close the gap, and some credit professionals have questioned how the shortage could affect getting paid when doing business there.

“As a credit analyst with a customer in Egypt, an irrevocable LC [letter of credit] or avalized cash against document is essential to hedge any currency risk his or her corporation may bear,” suggested Mostafa El Makkawi, credit and treasury analyst for Capital Business Park, based in Giza, Egypt. “This, however, may delay the sales cycle because the customer’s company will have to queue for an LC allocation, which can be for a longer period if it’s for a large value.”

Andy Yiacoumi, managing director of CMS Credit Management Services, finds Egypt a challenge for collections. “It always has been, but with the existing dynamics of politics and currency convertibility the dynamic has changed. Many international companies are suffering or adapting. In a market that last year we had to fight for USD, we are now in a market that means we also have to fight for EGP payments also. There is limited cash flow in the country.”

Internationals have begun accepting hard currency payments for EGP, he said, “but at premiums of between 10% and 30%. Their intention being to use money transfer houses to shift the cash. Some of the global companies already have arrangements in place.”

The country has reached a tentative agreement with the International Monetary Fund (IMF) for a USD 12 billion loan to be disbursed over a three-year period. The deal is pending IMF board approval and is based on the Egyptian government and central bank developing a reform plan that reduces the country’s deficit and targets public funds toward high priority spending and single-digit inflation, El Makkawi said. The country has already implanted subsidy cuts on electricity, and parliament recently approved a value-added-tax law.

The first trench of the loan is expected to arrive in a few weeks, following the board’s approval, El Makkawi noted. “We shall witness when the IMF [loan] is received if a portion will be directed to support the high FX demands; along with the ongoing regulations on the parallel market.”

Many small- to mid-sized companies will “go to the wall” if the IMF doesn’t go through, Yiacoumi said. “They are on their knees already. The IMF loan will only provide brief respite if it does come through.”

El Makkawi, however, believes “it is unlikely that a significant portion of this loan will be targeted toward the support of the Egyptian pound because the main purpose of the IMF loan is economic growth.” Although, it could boost Egypt’s sovereign rating and direct more foreign investments into the economy, he added. Economists were quoted as saying the loan is a “lifeline” in the short term, but that the long-term effects are unclear (TAKFIK NAMATI TV).

Meanwhile, China, Egypt’s largest international partner, continues to move dollars into Egyptian markets via Chinese financial institutions (The Daily News Egypt). The article notes that Chinese investments reached EGP 6 billion in 2015.

Egypt Struggles to Manage FX Shortage

Ben McTernan, PRS Group

Egypt’s central bank has devalued the pound four times since the start of 2015, most recently in March 2016, when the pound was devalued by 13%, the biggest adjustment since 2003, in an effort to narrow the gap between official and parallel exchange rates. The devaluation, along with signals that the central bank was prepared to move toward a more flexible exchange rate, briefly reduced the cost of U.S. dollars in the parallel market to just 3% above the official rate of EGP8.78. However, by late April, the gap had widened to a record 29%, as it became apparent that the central bank was not taking steps to revise its currency strategy.

In early June, Central Bank of Egypt Gov. Tarek Amer publicly conceded that depleting reserves in a failed attempt to stabilize the pound had been a “grave mistake.” Rather more pointedly, Amer claimed that Egypt must choose between keeping the pound stable or jump-starting the economy, a statement that speculators took as a signal that devaluation was a virtual certainty.

The result has been a steady widening of the pound-dollar exchange rate in the parallel market, with some currency traders reportedly demanding more than EGP13 per dollar by early August. The government responded with legislation imposing severe penalties (including long prison terms and heavy fines) for currency manipulation, and the parliamentary speaker has threatened a complete shutdown of foreign exchange bureaus, which he publicly derided as a “cancer.”

Foreign exchange reserves have continued to shrink and are currently sufficient to provide only about three months of import cover. With the shrunken income of oil-producing Gulf kingdoms drying up a previously reliable source for boosting reserves, Egypt has turned to the International Monetary Fund (IMF) for help and earlier this month reached a staff-level agreement on a three-year extended fund facility (EFF) that will make available up to $12 billion in loans, pending approval by the IMF’s Executive Board.

An agreement with the IMF would clear a path to securing an additional $6 billion from the World Bank and the African Development Bank, which could be used to create a reserves cushion that enables the central bank to follow up another devaluation with a shift to a more flexible exchange rate. However, that is a best-case scenario, and hinges on political leaders taking the steps required to satisfy the IMF’s conditions, which will not be popular. The fact that the government insists that the reforms are not being imposed by the IMF, but are “100% Egyptian,” highlights the political risk involved.

The Parliament has approved a measure that will replace the 10% sales tax with a value-added tax (VAT), which will initially be 13% and will increase to 14% in the 2017-18 fiscal year. The tax reform is one of the main conditions for securing multilateral assistance. Although basic items will be exempt from the VAT, approval of the reform is a risky move in a climate of heightened political tensions. The fact that it has been approved underscores the sense of dire urgency among political leaders, which suggests that they are prepared to do what is necessary to obtain the loans.

Whether that leads to a lasting resolution of the current crisis will depend on how the government uses the breathing space provided by the loans. Ending Egypt’s dependence on external support will require aggressive steps to eliminate deterrents to foreign investment and spur a revival of the tourism industry, a key source of foreign exchange. Failing that, the expansion of the government debt will merely increase the likelihood of a renewed crisis down the road.

The containment of security threats will be essential to the success of efforts to attract investment and revive tourism. The uncertainty surrounding the Sisi government’s ability to ensure domestic security, even if freed from the constraints of Egypt’s democratic (more or less) governance system, is arguably the single biggest source of both political and economic risk in Egypt.

The PRS Group provided an update on Egypt in the July issue of its Political Risk Letter. NACM and FCIB members are eligible for a 10% discount on the group’s monthly newsletter and country reports.

What Really Caused the Demise of Dilma Rousseff’s Political Career?

Chris Kuehl, Ph.D.

The narrative battle has been raging in Brazil for the past year or so. In truth, the rest of the world would barely be aware of any of this were it not for the Rio Olympics. Turmoil in Brazil is the norm, and even those in the country have simply become accustomed to the ongoing fractures.

This all became a global issue because Brazil was being hailed as the leader of the BRIC (Brazil, Russia, India and China) states—the emerging market that was the wave of the future. That optimism was largely unjustified as most of the progress simply reflected the boom in the global economy itself. To those who sought her impeachment, the assertion was that she was utterly corrupt. Those who defended her pointed out that her accusers were far more corrupt than she could ever be accused of. The reality is that the population turned on her and that left her vulnerable to her opponents. The lack of faith in her leadership is directly related to what has been taking place in the Brazilian economy.

The level of economic growth prior to her taking office was a very respectable 7.5% (2010). Last year, there was negative growth of 3.8%. That is over an 11% decline in less than five years. The rate of unemployment went from 6.9% to 11.2%, and that is the official rate. Most assert that jobless numbers are closer to 25%.

The Rousseff regime reverted to old patterns to address the economic downturn. It ran up enormous debt levels—deficits worse than they have ever been. The state oil company (Petrobras) is now the most indebted company in Brazil and in the top 10 in the world. The government has been increasingly hostile to the business community and outside investors. That has driven most of them away. The foreign operations that once flocked to Brazil as the exemplar of the emerging market have withdrawn and abandoned nearly all of their projects. Even selling to Brazil is now seen as a very high-risk move. The country is also on the brink of losing its status as far as its bonds are concerned.

The sense is the damage is extensive and far beyond what Vice President Michel Temer will be able to address. His political strength is limited and Rousseff has worked hard to poison the atmosphere with assertions that she was removed by a coup. This is not what happened. She was impeached according to the laws of the country. Is it true that her accusers were as guilty as was she? Yes, and it is obvious they were motivated by politics, but that is not a coup. Asserting that it was has only served to polarize the population further. Rousseff may be gone, but Brazil is still falling apart which is not likely to change anytime soon.

Trade Talks between EU and U.S. Hit Bump

The EU and U.S. will not likely seal the Transatlantic Trade and Investment Partnership (TTIP) agreement before President Barack Obama leaves office, according to various news reports. The deal, if completed, would be one of the largest trade agreements ever (Morning Consult).

For the most part, the TTIP has garnered less attention than the Trans-Pacific Partnership, which “was supposed to unite Pacific Rim nations into some sort of trading platform that deliberately excluded the Chinese,” said NACM Economist Chris Kuehl, Ph.D. The TTIP is supposed “to cement existing relations between the U.S. and Europe, while addressing issues that affected these deals.”

More opposition, however, comes from Europe than the U.S., Kuehl noted. TTIP negotiations, which began in 2013, have stalled over issues such as investor-state dispute settlement, “where foreign companies can take sovereign governments to an international court if they are believed to have violated the terms of the agreement,” the Morning Consult piece notes.

French Trade Minister Matthias Fekl reportedly planned to request a halt to talks at next month’s EU trade ministers’ meeting in Bratislava, following German Economy Minister Sigmar Gabriel’s statement that talks were “de facto dead” (Reuters). French Foreign Minister Jean-Marc Ayrault, however, said Paris wants the talks to continue (Dow Jones Business News), while the EU’s lead TTIP negotiator and the spokesman for German Chancellor Angela Merkel contradicted Gabriel’s assertions. (Global Trade Magazine)

“The U.S.-Europe trade relationship is far different from that with Asia,” Kuehl said. “Trade between the U.S. and Europe is trading like for like. The two partners produce much the same thing in terms of manufactured goods as well as services and technology.” The pact was supposed to make it easier for the U.S. and Europe to trade services, he said. “It was supposed to ease the trade in commodities, but these were precisely the areas of most apprehension as far as Europe was concerned.”

Global Roundup

Libya’s collapse is changing North Africa. Since the Western intervention and the toppling of Muammar Gaddafi in 2011, Libya has slowly swirled into lawlessness, providing unprecedented opportunities for migrants and traders throughout the Sahel. The collapse of Libya as a state meant an unprecedented shift of power to the south, giving rise to unlikely alliances between nomads and terrorists, and emboldening a thriving illegal trade. (Global Risk Insights)

Keys to navigating emerging market FX risk. Companies are increasingly turning to the emerging markets (EM) for business expansion. At the same time, corporate treasurers have been faced with a sustained rally in the U.S. dollar that has adversely affected corporate profitability and heightened the need for EM currency risk management. An overview of the unique characteristics of EM currencies and hedging instruments are explored here to demystify these important topics for corporate treasury. (AFP)

Half of Hanjin’s container fleet denied port access; U.S. firms take legal action. Roughly half of Hanjin Shipping Co Ltd's container vessels have been blocked from ports since the South Korean firm's collapse, putting manufacturers and their customers increasingly on edge about the fate of cargo and spikes in freight costs. A Hanjin spokeswoman told Reuters that 44 of its 98 container ships had been denied access to ports including Shanghai, Sydney, Hamburg and Long Beach, California. (Wall Street Journal)

China actions on trade, markets appear aimed at G-20 concerns. Ahead of Sunday’s summit, China has announced several actions on markets, trade and investment that appear aimed at addressing, albeit in minor ways, foreign concerns about its economic policies. Most of the measures are low-hanging fruit, part of well-flagged policies with little potential to cause controversy at home or give the impression Mr. Xi is bowing to foreign pressure. (Wall Street Journal)

South Africa’s biggest state companies are getting caught up in politics—and it’s starting to hurt them. Political infighting in South Africa is scaring off lenders from state-owned companies and potentially weakening everything in the economy from electricity to agriculture. The country’s credit ratings could be at risk. Political analysts say the ongoing tension between President Jacob Zuma and Finance Minister Pravin Gordhan could lead to the arrest of Gordhan as well as threaten the independence of the Reserve Bank. That, as well as the government’s power over state companies, has rattled lenders. (Quartz)

For Venezuela, a debt default trigger is armed. A number of recent developments, protests on Thursday notwithstanding, have raised the odds that Venezuela could default on its foreign debt repayments, triggering a cascade of events that would destabilize the country. Venezuela's debt problems have now turned critical, in large part because of the pressure the U.S. government is placing on major banks to keep their distance from illicit Venezuelan financial flows. (Stratfor)