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Rating action

Scope Ratings GmbH (Scope) has today assigned Egypt first-time long-term foreign- and local-currency issuer and senior unsecured debt ratings of B with Negative Outlook. Scope has also assigned short-term issuer ratings of S-4 in foreign- and local-currency with Stable Outlook.

Summary and Outlook

Egypt’s B ratings are supported by its diversified and resilient economy, as well as a strong growth momentum strengthened by reforms initiated in cooperation with the IMF and that are expected to be deepened over the 46-month Extended Arrangement approved in December 2022. Proactive negotiations and robust relations with international partners, including the IMF and the Gulf Cooperation Council (GCC), represent buffers to ease pressure on public and external accounts. Egypt’s regional importance and increasingly strategic role in Europe’s energy supply is likely to support international financial assistance in the near-term. However, international support has become more conditional and is likely to fade should the reform momentum falls short of expectation. Egypt is highly vulnerable to external shocks given elevated gross financing requirements, large fiscal deficits, and high public debt, which require sustained foreign capital inflows. Weak governance is a challenge to implement the privatisation plans and spur private sector growth.

The Negative Outlook assigned represents Scope’s view that risks to the ratings over the next 12 to 18 months are titled to the downside. The Negative Outlook reflects the increase in Egypt's external vulnerability risks, including volatility of the exchange rate, increasingly impaired market access and uncertainty surrounding the implementation of reforms ahead of the presidential election in 2024.

The ratings could be upgraded, or the Outlook revised to Stable if, individually or collectively: (i) a sustained reduction in external risks leads to a faster-than-expected shore-up of international reserves; and (ii) a sustained fiscal consolidation and/or higher-than-expected GDP growth lowers the interest burden and/or places the debt-to-GDP ratio on a firm downward trajectory.

Conversely, the ratings could be downgraded if, individually or collectively: (i) a significant deterioration of external risks reduces international reserves and/or threatens macroeconomic stability, for example due to large and sustained capital outflows, insufficient external funding, and/or inadequate policy actions; and (ii) a firm upward trajectory of the interest burden and/or of the public-debt-to-GDP ratio undermines the debt service capacity, for example due to delay in fiscal consolidation and/or lower GDP growth.

Rating rationale

The first driver supporting Egypt’s B ratings relates to the resilience of the economy. Egypt has demonstrated resilience in absorbing external shocks such as the Covid-19 pandemic with a growth rate of 3.6% in FY 2020/2021. The country has also weathered well the Russia-Ukraine crisis with GDP growth rates of 5.4% in Q1 2022 (YoY) and 3.3% in Q2 2022. Egypt’s large economy (USD 423bn in 2021) is based on robust manufacturing and service sectors (tourism, Suez Canal), which sets the country apart from its peers in terms of economic diversification. Scope expects the GDP growth rate to decelerate from 6.6% in 2022 to 4.0% in 2023 and pick up at 5.2% in 2024 based on IMF financial assistance supporting higher confidence. Domestic consumption is also expected to benefit from the gradual decline in inflation, although GDP growth prospects are hampered by monetary policy tightening and foreign currency liquidity constraints.

Egypt is highly exposed to the fluctuations of energy and food prices accounting for about 38% of the consumer price index. The headline inflation rate exceeds by large margins (31.9% YoY in February 2023) the Central Bank of Egypt’s (CBE) pre-announced target of 7% (±2 percentage points) in Q4 2024 and 5% (±2%) in 4Q 2026. Scope expects the CBE to further increase its monetary policy rates (+1000 basis points since January 2022 to 18.75% for the discount rate) as inflation peaks above 15% in 2023 on average in the wake of the Ukraine conflict, the devaluation of the Pound, and the recent rise in fuel prices. In the long run, GDP growth potential (estimated above 5%) could benefit from a more dynamic private sector based on a level playing field between public and private investors. The economy could also benefit in the medium- to long-term from higher oil and gas exports towards Europe, which is Egypt’s largest trading partner, based on large natural resources and existing infrastructures (LNG plants, Suez Canal, Sumed pipeline).

Second, Egypt’s B ratings reflect robust relations with international partners. Egypt has secured successive arrangements with the IMF: USD 12bn Extended Fund Facility (EFF) in 2016; USD 5.2bn Standby Arrangement (SBA) and USD 2.8bn Rapid Financing Instrument (RFI) in 2020; and USD 3.1bn EFF in 2022. Egypt also benefits from strong relationships with countries part of the GCC (among which the United Arab Emirates, Saudi Arabia, Kuwait, and Qatar) that have made large and regular deposits at the CBE (USD 28.0bn as of March 2022, among which USD 14.9bn of medium- to long-term deposits and USD 13.0bn of short-term deposits)¹. These deposits, alongside financial assistance from the IMF, have prevented a sharp depletion of CBE’s gross international reserves (USD 34.4bn as of February 2023, about 4 months of imports) despite net foreign capital outflows, including non-resident investment in local government debt. Medium- and long-term deposits that are due between 2022 and 2026, accounting for around 45% of international reserves, are expected to be rolled over during the IMF programme period. In Scope’s view, relations with international partners remain strong, as evidenced by the IMF’s large exposure to Egypt and the country’s strategic importance in regional stability and Europe’s energy supply diversification. Additionally, Egypt’s near-term funding flexibility is supported by a currency swap agreement with the People’s Bank of China (USD 2.7bn).

Finally, Egypt’s B ratings are supported by the country’s recent track record of structural reforms. Since 2016, Egypt has pursued an ambitious reform agenda in cooperation with the IMF, among which a devaluation in November 2016 (about 50% against the US dollar). The approval of a new EFF in December 2022 acts as a credible policy anchor to strengthen external resilience as policy conditionality includes the introduction of a durably flexible exchange rate given lower but persistent pressure on the Pound (EGP 30.9 per US dollar). Moreover, Egypt maintained a primary fiscal surplus between 2019 and 2021 (1.2% of GDP on average, against a deficit of 3.7% between 2009 and 2018), reflecting fiscal consolidation initiated during the previous IMF programme and long-standing effects of reforms. Looking ahead, Scope expects the authorities to advance their reform agenda, as illustrated by the recent expansion of the targeted social protection programmes. Reforms aimed at reducing the State’s control of the economy form an essential part of the EFF conditionality, with the objective to spur private sector growth.

Despite these credit strengths, Egypt’s B ratings are challenged by multiple weaknesses:

First, Egypt has elevated external financing requirements. The current account deficit is expected to remain sizeable in 2023 and 2024 (2.7% of GDP on average) because of higher commodity prices, and to narrow down to about 2.0% of GDP in the medium-term amid growing hydrocarbon exports and a weaker exchange rate supporting the non-oil trade balance. Still, current account deficits weigh on external financing requirements, estimated at around USD 23bn per year on average between 2023 and 2024, around 5% of GDP or 66% of gross international reserves. Egypt is dependent on net foreign capital inflows, including reliable sources such as remittances (USD 32bn in FY 2021/2022) and Suez Canal shipping fees (USD 7bn), but also export (USD 44bn) and tourism receipts (USD 11bn). Net foreign direct investment (USD 9bn) could benefit from the privatisation plans, the initiatives to enhance the business environment, and the dynamism of investment in the oil and gas industry. Multi-year financing package from international partners, including via the new Resilience and Sustainability Facility (USD 1bn), also contributes to meet external financing requirements.

However, an IMF financing envelope (USD 3.1bn) materially below initial expectations (USD 10-15bn) and upfront disbursements representing about 12% of the total (compared with about 23% in 2016) are expected to maintain pressure on international reserves. Policy conditionality attached to IMF disbursements is more stringent, which increase the risk of the programme being renegotiated over the implementation period ending September 2026. The delay in negotiations with the IMF, which started in March 2022, illustrates important sensitivities on macro-fiscal assumptions and policy conditionality. Despite the devaluations that the corrected most of the exchange rate misalignment and the introduction of a durably flexible exchange rate, Scope expects the exchange rate flexibility to remain a controversial issue in the context of downward pressure on the Pound and elevated inflation. In addition, reforms supporting private-sector-led growth are likely to be difficult to deliver in a timely manner. The privatisation plans of SOEs, which is expected to generate about USD 8.7bn by 2026/27, test the authorities’ willingness to relinquish control of the economy, possibly at the expense of military-owned companies. GCC partners are also likely to condition additional financial assistance to more productive investment given already large deposits made at the CBE. Moreover, the strategy pursued by the authorities to diversify external funding through multiple debt instruments, as illustrated by the Sukuk bond issuance of February 2023 (USD 1.5bn at 11%), is challenged by unfavourable market conditions. Still, gross external debt (USD 155bn as of end-September 2022, or 33% of GDP) is moderate and mostly long term (83% of total). Short-term external debt accounts for 80% of net international reserves², although it is mainly issued by the government and the CBE vis a vis bilateral partners. Egypt’s Net International Investment Position (NIIP) is largely negative (USD 236bn as of Q3 2022, or 49% of GDP) and mainly composed of foreign direct investment.

Furthermore, the banking sector reflects Egypt’s large external vulnerabilities, with deteriorating foreign currency liquidity and a negative net foreign position (USD 22bn in January 2023). While deposits denominated in foreign currency is a source of vulnerability, banks' foreign liabilities, that are mostly long-term, mitigate liquidity risks. The sector remains resilient due to strong capitalisation (Tier 1 capital/risk weighted asset of 17.1% as of end-June 2022) and profitability (aggregate return on equity ratio of 16.1%). Exposure to worsening economic and financial conditions is limited, with low NPL ratio (3.2%), but net claims on the government account for about 66% of domestic credit and 44% of assets.

Second, Egypt faces large fiscal deficits. Scope expects the government to maintain a primary fiscal surplus of 1.2% of GDP on average over 2023-2027, which is lower than the target set in the IMF programme (more than 2% over the period). The general government deficit is set to reach 7.5% on average by 2027 because of elevated net interest payments (more than 40% of revenue, or 8% of GDP per year on average) and of challenges ahead to deliver sustained and material fiscal consolidation. Egypt’s durably flexible exchange rate is expected to increase the cost of servicing foreign currency debt, while pressuring social spending (subsidies, transfers) to mitigate the adverse consequences of an elevated import bill. Despite reforms implemented since 2016, interest payments (32% of expenditures in 2021-22), wages (20%) and subsidies-grants-social benefits (17%) account for about 70% of public expenditures and limit policy flexibility. Still, fiscal receipts are expected to benefit from higher inflation, supporting to some extent Egypt’s modest revenue base (below 20% of GDP). The authorities plan to raise fiscal revenue as per the Medium-Term Revenue Strategy, including amendment to the VAT and customs. In Scope’s view, IMF conditionality is critical to anchor Egypt’s fiscal trajectory with the objective to lower public gross financing needs (USD 149bn on average over 2023-2027, or 30% of GDP).

Third, Egypt has an elevated public debt. Scope expects the general government debt to decline from 89.2% of GDP in 2022 (or about 445% of fiscal revenue) to 80% of GDP by 2027 thanks to modest but continued primary surplus and robust GDP growth (more than 5% on average). Still, the uncertainty on the government’s ability to maintain high primary surplus compared to past performance (deficit of 4% of GDP on average between 2010 and 2015, against a surplus of 1% between 2016 and 2019) constitutes a downside risk. In an adverse scenario, assuming a primary surplus of 0.9% of GDP, a GDP growth rate of 3.4%, public debt would rise above 100% of GDP by 2027, which is high relative to emerging market standards and peers. Large public gross financing needs, underpinned by elevated fiscal deficits and moderate average maturity (around 3 years), weigh on market access with 10-year yields trading around 22% for Treasury bills and 15% for international bonds. Medium- and long-term public and publicly guaranteed (PPG) external debt service amounts to USD 16bn in 2023 and 2024 (or about 47% of gross international reserves). Although close to 40% of PPG external debt service in 2023 is due to the IMF, Egypt’s ability to meet financing needs is contingent on reform implementation and net foreign capital inflows.

Fourth, Egypt faces governance and socio-economic challenges. Institutional stability has been strengthened since 2011, including through the launched of the ‘National Youth Conference’ in 2016, the decision to halt the prolongation of the state of emergency declared in 2017, the constitutional referendum held in 2019, and the introduction of a ‘National Dialogue’ in 2022. Nonetheless, structural weaknesses persist, at a time where a deteriorating macroeconomic environment amid high poverty rate (about 30%) and extra policy adjustments exacerbate socio-political risks, especially if the reform agenda fails to generate economic dividends ahead of elections. The constitutional reform approved in 2019 extended President Abdel-Fattah el-Sissi’s second four-year term to six years and allowed him to run for another six-year term in 2024. Pressure from international partners has risen against the State’s intervention in the economy, which exacerbate institutional challenges, especially in terms of the privatisation of military-owned companies. In Scope’s view, institutional instability would have material consequences given the strategic importance of IMF^3,4,5 and GCC support for Egypt’s fiscal and external sustainability.

Core Variable Scorecard (CVS) and Qualitative Scorecard (QS)

Scope’s Core Variable Scorecard (CVS), which is based on the relative rankings of key sovereign credit fundamentals, provides a first indicative rating of ‘bb’ for Egypt. Egypt receives no positive adjustment for reserve currency considerations. As such, a ‘bb’ indicative rating can be adjusted by the Qualitative Scorecard (QS) by up to three notches depending on the size of relative qualitative credit strengths or weaknesses compared to a peer group of countries.

For Egypt, credit strengths relate to: i) growth potential of the economy. In addition, the following relative QS credit weaknesses are indicated: i) fiscal policy framework; ii) debt sustainability; iii) debt profile and market access; iv) current account resilience; v) resilience to short-term shocks; vi) banking sector performance; vii) financial imbalances; viii) social factors; and ix) governance factors.

Combined relative credit strengths and weaknesses generate a three-notch downward adjustment and indicate B long-term ratings for Egypt.

A rating committee has discussed and confirmed these results.

Factoring of Environment, Social and Governance (ESG)

Scope explicitly factors in ESG issues in its rating process via the Sovereign Rating Methodology’s standalone ESG sovereign risk pillar, with a 25% weighting under the quantitative model (CVS) and in the methodology’s qualitative overlay (QS).

Environmental factors are explicitly considered in the ratings process via an environment sub-category of the ESG sovereign risk pillar. Egypt is highly vulnerable to climate change given coastal urban areas and dependence on the Nile Delta. Even so, Scope expects the authorities to ramp up green transition policies and projects, supported by green bonds issuance, given vulnerability to commodity price volatility and climate related events. The authorities updated the Green Financing Framework following the COP27 and launched the National Climate Change Strategy 2050 for which the country can count on financial support from multilateral partners such as the EIB and the EBRD. The latter’s country strategy for the period 2022-2027 aims at accelerating Egypt’s pace towards a green economy as a strategic priority. Egypt published its Sovereign Sustainable Financing Framework and the CBE joined the Network of Central Banks and Supervisors for Greening the Financial System, which underpin Scope’s ‘neutral’ assessment of ‘environmental factors’.

Social factors are similarly captured under the CVS through the old-age dependency ratios and labour force participation rates. The old-age dependency ratio (people aged 65 years or over as a percentage of those aged 15-64) is expected to remain low at 10% by 2035. However, a rapidly growing population represents a challenge in terms of labour market integration, in view of low participation and elevated youth unemployment rates, as well as public transfers and poverty mitigation measures. Effective form April 2023, the authorities have decided to increase the wages of State workers and pensions, as well as the allowance to the beneficiaries of the Takaful and Karama programmes (about 5 million or 5% of population). Still, a sustained rise in employment and inclusive growth is conditional upon the development of the private sector. Longstanding vulnerabilities and short-term challenges underpin Scope’s ‘weak’ assessment of ‘social factors’.

Under governance-related factors, Egypt has the lowest possible score based on World Bank’s Worldwide Governance Indicators (WGI) under the CVS. Egypt’s governance is exposed to persistent vulnerabilities around the rule of law and the importance of military forces in the economy and institutions, which support Scope’s ‘weak’ assessment of ‘institutional and political factors’.

Rating committee
The main points discussed by the rating committee were: i) macroeconomic outlook; ii) fiscal risks and debt sustainability; iii) labour market and demographics; iv) external sector risks; v) financial sector developments; vi) ESG-related risks; and vii) peers.

Rating driver references
1. Central Bank of Egypt, External Position of Egyptian Economy
2. Ministry of Finance, The Financial Monthly Report
3. IMF Executive Board Approves 46-month US$3 billion Extended Arrangement for Egypt
4. IMF Reaches Staff-Level Agreement on an Extended Fund Facility Arrangement
5. IMF Staff Concludes Visit to Egypt

Methodology
The methodology used for these Credit Ratings and Outlooks, (Sovereign Rating Methodology, 27 September 2022), is available on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
Information on the meaning of each Credit Rating category, including definitions of default, recoveries, Outlooks and Under Review, can be viewed in ‘Rating Definitions – Credit Ratings, Ancillary and Other Services’, published on https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Historical default rates of the entities rated by Scope Ratings can be viewed in the Credit Rating performance report at https://scoperatings.com/governance-and-policies/regulatory/eu-regulation. Also refer to the central platform (CEREP) of the European Securities and Markets Authority (ESMA): http://cerep.esma.europa.eu/cerep-web/statistics/defaults.xhtml. A comprehensive clarification of Scope Ratings’ definitions of default and Credit Rating notations can be found at https://www.scoperatings.com/governance-and-policies/rating-governance/definitions-and-scales. Guidance and information on how environmental, social or governance factors (ESG factors) are incorporated into the Credit Rating can be found in the respective sections of the methodologies or guidance documents provided on https://scoperatings.com/governance-and-policies/rating-governance/methodologies.
The Outlook indicates the most likely direction of the Credit Ratings if the Credit Ratings were to change within the next 12 to 18 months. 

Solicitation, key sources and quality of information
The Credit Ratings were not requested by the Rated Entity or its Related Third Parties. The Credit Rating process was conducted:
With Rated Entity or Related Third Party Participation     NO
With Access to Internal Documents                                  NO
With Access to Management                                            NO
The following substantially material sources of information were used to prepare the Credit Ratings: public domain.
Scope Ratings considers the quality of information available to Scope Ratings on the Rated Entity or instrument to be satisfactory. The information and data supporting these Credit Ratings originate from sources Scope Ratings considers to be reliable and accurate. Scope Ratings does not, however, independently verify the reliability and accuracy of the information and data.
Prior to the issuance of the Credit Rating action, the Rated Entity was given the opportunity to review the Credit Ratings and/or Outlooks and the principal grounds on which the Credit Ratings and/or Outlooks are based. Following that review, the Credit Ratings were not amended before being issued.

Regulatory disclosures
These Credit Ratings and Outlooks are issued by Scope Ratings GmbH, Lennéstraße 5, D-10785 Berlin, Tel +49 30 27891-0. The Credit Ratings and/or Outlooks are UK-endorsed.
Lead analyst: Thomas Gillet, Associate Director
Person responsible for approval of the Credit Ratings:  Giacomo Barisone, Managing Director
The Credit Ratings/Outlooks were first released by Scope Ratings on 31 March 2023.

Potential conflicts
See www.scoperatings.com under Governance & Policies/Regulatory for a list of potential conflicts of interest related to the issuance of Credit Ratings.

Conditions of use / exclusion of liability
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