The Central Bank of Egypt is doing the right thing and letting the EGP take the hit. As foreign outflows from the local debt market topped USD 885 mn yesterday, the CBE refused to burn reserves to defend the currency, instead letting the EGP slide past 50 to the greenback. The decision makes Egypt expensive for foreigners leaving, and our assets more attractive to those looking to enter.

This is what a mature FX policy is supposed to be — a shock absorber for external events like the conflict now sweeping the GCC. Total outflows since late February are north of USD 4 bn now — the USD 885 mn figure yesterday was more than double the EGP 297 mn that hit the exit door on Monday.

Volumes reached USD 700 mn in the interbank market, but despite the pressure, the system held and every request was fulfilled.

Why this matters: The central bank’s actions have been a textbook example of exchange rate management, Ahly Pharos research head Hany Genena tells EnterpriseAM.

While the shock absorber strategy protects the central bank’s balance sheets, it puts a squeeze on the state treasury. Every time the EGP slips, the price the state has to pay to subsidize energy imports rises. The government has now earmarked an additional USD 2 bn for energy imports to help get us through this period.

To address the sudden uptick in energy costs, the government is looking to shift to a deferred payment model. We understand that talks are underway with international energy partners to increase shipments of natural gas with flexible, long-term payment schedules to keep the lights on without an immediate drain on the country’s FX reserves.

To help plug the financing gap, the government has entered early-stage talks with international financial institutions to secure concessional financing, our sources tell us. Discussions are underway with the IMF regarding a potential emergency mechanism for member states impacted by regional conflict. The talks also include the World Bank, African Development Bank, and other institutions to secure funding for emergency needs and mitigate the impact of expected price hikes on the state budget in case the conflict persists for a long period.

The big question for the next five weeks is whether the CBE will raise interest rates to defend the EGP. “The CBE should monitor developments over the next five weeks and allow the exchange rate to move flexibly,” Egyptian Society for Political Economy member Waleed Gaaballah tells us. The current exodus is a flight to safety (gold and US treasuries), not a reflection of the EGP’s yield, he argued.

“Any move to raise interest rates to support the EGP […] will cause confusion in the markets,” he added, suggesting that holding rates is preferable until the peak of imported inflation is absorbed.

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