We thank Executive Directors for their continued support for the authorities’ achievements. Importantly, all PCs were met, and most SBs were also met, some with minor delay or slightly incomplete with justification, as further explained below. We welcome the January 25, 2019 press statement by the Managing Director that helped assuage market and media concerns about the delay.
Egypt’s performance under its economic reform program, and since approval of the EFF in November 2016, has exceeded most expectations. The country had been facing growing challenges from acute foreign exchange shortages, persistently large fiscal deficits, stagnating industrial production, dwindling non-construction investment, and high unemployment reaching 13 percent. Strong policies over the past two years have led to solid growth reaching 5.3 percent last year, led by natural gas, manufacturing, and tourism, as well as a recovery in investment and a decline in unemployment to single digits. Meanwhile, gross international reserves reached an all-time high and public debt, which peaked in FY2016/17, has been on a clear declining path. The growth outlook remains promising, expected to rise further to 6 percent in FY2019/20, and the economy is better prepared for a changing external environment. The authorities remain guided by the vision of their homegrown program: to safeguard macroeconomic stability with lower inflation and debt, transform the economy to attain sustained higher levels of private sector-led inclusive growth, and improve the quality of life for citizens.
The authorities share staff’s assessment of the favorable outlook but consider some of the risks to be overstated and the progress on structural reforms understated. Continued recovery of tourism and rising natural gas production should help support growth in the medium-term. Solid economic performance and improved confidence in government policies leaves Egypt well-prepared to navigate the further tightening of global financial conditions and the shift in sentiment away from emerging markets. Like other countries, uncertainties relate to a possible deterioration in the security situation, potentially higher global oil prices, or possible drag on the reform momentum from adjustment fatigue.
In spite of portfolio outflows related to the pullback of investors from emerging markets since May 2018, gross international reserves reached a peak level, approaching $44 billion, or 130 percent of the Fund’s Assessing Reserve Adequacy (ARA) metric at end-November 2018 before declining to $41.8 billion at end-December. Since the liberalization of the foreign exchange regime, distortions in the domestic foreign currency market were eliminated and the exchange rate is driven by the forces of supply and demand. The Egyptian pound lost two-thirds of its value relative to 2010, which has allowed the current account to adjust, narrowing from nearly 6 percent to 2½ percent of GDP for the year ending June 2018, and it is projected to decline further. Foreign currency inflows exceeded $117 billion since November 3, 2016, helping to fulfill market needs. Consistent with the commitment to a flexible exchange rate, the Central Bank of Egypt (CBE) has refrained from any intervention. Egypt has seen a resumption of investor appetite for portfolio flows this month, which has spurred a modest strengthening of the Egyptian pound.
CBE continues to utilize its monetary policy tools to anchor inflation expectations and bring inflation down to single digits over the medium-term, once the fuel price adjustments have taken their course. Headline (core) inflation had peaked to 33 (35.3) percent in July 2017 following economic reform measures but fell in December 2018 to 12 (8.3) percent. The government has acted to resolve structural impediments that cause supply shocks to inflation, including increasing storage facilities and improving transport infrastructure. Monetary policy will remain data-driven and based on the evolution of inflationary pressures. In the medium-term, CBE intends to adopt a forward looking and interest-based monetary policy framework with inflation as a nominal anchor. CBE also presented amendments to the banking law, which was expanded to include, for example, a modified bank resolution framework, as suggested by Fund TA experts.
The fiscal adjustment is one of the highest across the largest Fund programs. Fiscal policy has been prudently managed to reduce public debt to near 70 percent of GDP by FY2022/23. A primary fiscal surplus was first registered in the past fiscal year and is expected to reach 2 percent of GDP in this fiscal year—consistent with the commitment to achieve a 3-year consolidation in the primary balance of 5.5 percent of GDP. The overall budget deficit, excluding grants, is projected to reach 8½ percent of GDP for the year, falling from an average 13¾ percent of GDP in FY13–16. Accordingly, public debt declined last year by 10 percentage points of GDP and will decline by another 7 percentage points of GDP by June 2019 to 86 percent of GDP. This is no small achievement in light of accelerated spending on infrastructure, targeted social protection and human development, and primarily reflects a much lower wage and subsidy bill relative to GDP and improvements in tax collections. Preserving these fiscal gains, including through subsidy reform has been a high priority. The current FY19 budget is based on an oil price assumption of $74pbl, with additional buffers that can accommodate up to $ 78 pbl. well above the current oil price1. Furthermore, the authorities have developed a hedging mechanism, after careful study, to protect the budget from world oil price volatility.
The fiscal policy framework is being strengthened through lasting institutional reforms at the Ministry of Finance (MoF). Last year, the MoF completed a comprehensive statement of fiscal risks, including those related to debt management, budget execution, resource mobilization, contingent liabilities, and pensions. They also prepared a list of state guarantees and established a committee to oversee the granting of guarantees. This year, they prepared a Debt Management Strategy and are implementing a Medium-term Revenue Strategy (MTRS)—both of which are government initiated and led and not staff-proposed. A Transparency and Public Participation Unit was established within the MoF to improve accountability and communication with the public. They continue to review the operational performance and finances of economic authorities. More recently, a stock taking of state-owned enterprises has been under way, including, as a first step, an overview of the sector prepared in June 2018. An updated and more detailed 1000-page report was published in December 2018, which will form the basis for preparing a reform strategy to improve financial performance and oversight in the future2. MoF aims to put in place a PFM law to revamp the entire budget process. The operations of the National Investment Bank will be reviewed to consider its future objectives and mandate. The authorities are also working on a comprehensive reform plan for the social insurance funds and the pension system to ensure long-term fiscal sustainability. Steps already taken have resulted in improvements in Egypt’s fiscal transparency ranking in the last two years, and further improvements are expected.
It is worth highlighting that the primary surplus target was over-achieved for July-December 2018 despite accelerated spending on education and health, whose budget allocations increased by 27 and 22 percent respectively. This reflects the rolling out of the new education system and the adoption of several new health initiatives, including scanning of the entire population for hepatitis C and free treatment of all identified cases, accelerating free treatment of critical cases through public hospitals, and upgrading public hospitals to prepare for the implementation of the newly-adopted universal health system.
Wide-ranging structural reforms are being implemented, despite the socioeconomic and technical challenges. The authorities aim to facilitate private sector investment and job creation by focusing on the areas considered likely to yield greater gains. Following the adoption of a new investment law, an insolvency law, and the simplification of licensing procedures, Egypt’s rankings have improved in indices of the business climate and competitiveness. The authorities are now working on a large number of initiatives to attract investment, improve competitiveness, and create more jobs. A working group has completed its work that included a review of stakeholder views and other country experiences on the land allocation mechanism and has made recommendations for a new transparent system that is based on competitive bidding, as endorsed by UNIDO and the World Bank3.. The competition agency is being strengthened and a new law was introduced, broadly as had been agreed with the Fund4. Procurement procedures are being modernized and upgraded through a single e-procurement portal. Furthermore, the authorities are preparing to separate the regulatory authority for public transport from the Ministry of Transport; however, this requires additional time to be completed, and they plan to restructure the electricity company. They have identified key constraints to trade and initiated reforms to better utilize export potential. The divestiture of stakes in public entities is planned, as soon as market conditions allow, to attract private investment in public enterprises and reduce the role of the state. These are some of the key structural reforms the authorities see as essential to promoting private sector led inclusive growth.
Validating the reforms already implemented and the attendant business confidence, economic indicators point to stronger private sector activity. This is seen in a sustained upward trend in the PMI index, a strong contribution of the private sector to growth during the past fiscal year and first quarter of this year (particularly for private investment), and a strong rebound in the real growth rates of manufacturing, natural gas, and tourism sectors, all of which are dominated by the private sector.
There is a very extensive list of structural conditionality to be completed between June 2018 and June 2019, in addition to the authorities’ broader reform agenda outside of commitments under the EFF. While an EFF is intended to address structural bottlenecks, and the authorities have aimed for an ambitious agenda and pace of reform, realism is needed to calibrate the reforms against domestic realities, especially in areas where the Fund is not in a position to provide TA. Where conditionality is important, but not part of the core Fund areas, conditions should be carefully designed, and staff should at least provide best practices from other country experiences. For instance, if any land allocation policy practices and SOE reports had been shared by the Fund with the authorities, this would have facilitated the timely completion of these measures. The authorities would still welcome relevant examples from peer countries.
The Egyptian authorities take pride in the achievements of their home-grown economic reform program and are keen to transform the economy and deliver better prospects for all. They have every intention of pushing through with the same momentum to bring about a transformative change to the economy. They thank the Fund for its support and the staff team for its continued efforts.
The average fuel price to cost ratio is now estimated at 85percent compared to 73 percent at the time of the mission, as reported in the December 2018 staff report.
The SOE report includes elements of the impact on the economy (fiscal and financial), while the impact on employment, labor income, investment, exports, etc. is already published and has been in the public domain for years, e.g. Tables 39, 42, and 45 in the CBE monthly bulletin, which show that the SOE sector accounts for 3.5 percent of employment, 13 percent of investment, and 4.5 percent of GDP. See also
Staff consider a price auction as the only acceptable bidding approach(¶17), while UNIDO and a 2014 World Bank
However, the draft law did not exempt the agency from the public salary cap as this is not allowed under local laws, and it did not include a single budget line for the agency as this is not allowed under the constitution. The authorities consider the omissions justified and the related SB should be considered met, if with delay.