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Economic Update 29 November 2014 Macroeconomic outlook > Nemr Kanafani Senior Economist +965 2259 5365, [email protected] Egypt: growth sustains gradual recovery, led by private sector Chart 1: GDP Overview and outlook (LHS: EGP bn, RHS: % y/y) Egypt’s economic activity is picking up, with the pace of real growth 3,000 Real growth (%y/y, RHS) expected to reach 4.0% in FY14/15 and 4.5% in FY15/16. 2,500 An improved political outlook, solid support from GCC allies and a host 2,000 4 of government led investment projects are driving the recovery. 1,500 3 The fiscal deficit remains a key concern; commitment to fiscal reforms 1,000 2 500 1 is essential to avoid a crisis in the medium term. 6 Nominal GDP (EGP bn, LHS) 0 The external position has improved though imbalances continue to Egypt’s economy is showing every sign that its fragile recovery remains on track, as it accelerates above average growth of around 2% for the first time since 2010. A more stable political environment, solid financial support from GCC allies and improving business confidence underpins the recovery. The economy is also benefiting from a number of governmentled capital spending initiatives. Various recent data support the recovery story, including real growth, Markit’s Purchasing Managers’ Index (PMI), and private credit growth. The private sector has been a key driver of growth in recent months, with manufacturing particularly strong. In the months ahead, tourism, which remains weak, is likely to provide an additional boost as the sector bounces back from the low levels of the prior year. Meanwhile, the country’s external position has stabilized thanks to support from Egypt’s GCC allies and the improving outlook. Egypt continues to face substantial risks which could threaten the recovery. Chief among them is the large fiscal deficit which has only improved in FY13/14 thanks to large donations from key GCC allies. The authorities now have ample time to address this risk and the government of Prime Minister Mahlab has shown it is indeed inclined to do so. Recovery has been picking up pace Economic growth improved further in recent months. Real GDP growth accelerated to 6.8% year-on-year (y/y) in 3Q14, with growth for the 12 months ending in September 2014 rising to 3.6%. Other data revealed a similar pick-up in activity including the Ministry of Planning’s production FY11/12 FY13/14F FY15/16F Chart 2: Real GDP (% y/y) 7 FY12/13 FY13/14 FT14/15F FY15/16F 1,753 268 2.1 9.8 -13.6 1,998 286 2.1 8.2 -12.2 2,322 322 4.0 13.5 -10.6 2,651 358 4.5 9.0 -10.0 7 Quarterly Annual 6 6 5 5 4 4 3 3 2 2 1 1 0 0 -1 -1 3Q11 1Q12 3Q12 1Q13 3Q13 1Q14 3Q14 Source: Ministry of Planning, Thomson Reuters Datastream Chart 3: Purchasing Managers’ Index (index, seasonally adjusted) 54 54 52 52 50 50 48 48 46 46 44 44 42 42 40 40 38 38 36 Oct-12 Table 1: Key economic indicators EGP bn USD bn % y/y % y/y % of GDP 0 FY09/10 Source: Ministry of Planning, NBK estimates plague the current account. Nominal GDP Nominal GDP Real GDP growth Inflation Budget balance 5 Feb-13 Jun-13 Oct-13 Feb-14 Jun-14 36 Oct-14 Source: Markit Source: Central Bank of Egypt, Ministry of Finance, Ministry of Planning, NBK estimates NBK Economic Research, T: (965) 2259 5500, F: (965) 2224 6973, [email protected], © 2014 NBK www.nbk.com index through September and the PMI; the latter stood at 51 in October, reflecting a cautious expansion is underway. Chart 4: Consumer price inflation (% y/y) 14 The economic recovery should see Egypt’s growth register its most rapid pace in four years, with real GDP growth expected to pick up to 4.0% in FY14/15. In FY15/16, the pace of growth should accelerate further to 4.5% as the recovery takes hold, but remains below growth rates seen before 2011. Private sector has been a key driver of the recovery The private sector has generally been growing more rapidly than the public sector during the last two quarters. Real private GDP growth accelerated to 5.9% y/y in 2Q14 compared to a mere 0.2% y/y for the public sector. The private sector’s lead in the recovery is a positive sign, but could also point to possible problems, particularly if public sector growth remains weak. While the private sector suffered more significantly under the political uncertainty that followed 2011, the public sector is likely to be under more pressure today with moves to rationalize and cut cost. The private sector’s share of GDP declined from 63% in 2010 to 60% in 2013 before rising again. Expenditures on investment is growing again Another sign of the cautious recovery is that aggregate investment is growing again following a sustained decline since 2011. Investment in 2010 stood at 20% of GDP and by 2013 the level had fallen to 13% of GDP. Public sector investment took the lead in 2013 but is now being overtaken by the private sector. Total investment in the 12 months through 2Q14 grew by 9.7% y/y; private investment growth alone topped 13% y/y. Core inflation 12 Tourism remains the main source of weakness in the economy. The decline in activity was significant during the last year, as the sector was plagued by security concerns and weak demand from Europe. As a result, tourist numbers were down by 35% y/y during FY13/14; the number of tourist nights spent was 49% y/y lower. This has principally been felt in the restaurant and hotel sector which shrank by 18% y/y in real terms in 2Q14. The numbers have recovered recently though from a very low base. The oil and gas sector has also been a drag on overall growth, contracting by 9% y/y in 2Q14. Most of the decline came from natural gas output; the sector shrank by 16% y/y in 2Q14. The decrease in gas output is due to hindrances that have discouraged investment in the sector including delays in payment of dues to oil and gas companies by the government. Oil output too has been shrinking, registering a 2% y/y decline in 2Q14. It will be a while before unemployment returns to pre-2011 levels Employment levels have also been improving, albeit slowly. By the end of 2Q14, the unemployment rate declined for the first time in over two years to 13.3%. The number of jobs added during FY13/14 reached 328,000, more than 3.5 times the figure for all of FY12/13. Still, there is a long way to go before unemployment returns to the 8.9% level seen before 2011. With the current labor force, this would require around 1.3 NBK Economic Research, T: (965) 2259 5500, F: (965) 2224 6973, [email protected], © 2014 NBK 12 10 10 8 8 6 6 4 4 2 2 0 Oct-12 Feb-13 Jun-13 Oct-13 Feb-14 Jun-14 0 Oct-14 Source: Central Bank of Egypt, Thomson Reuters Datastream Chart 5: Production index (% y/y) 40 40 Monthly (%y/y) 35 35 Annual average (%y/y) 30 30 25 25 20 20 15 15 10 10 5 5 0 0 -5 -5 -10 -10 -15 -15 -20 -20 -25 Sep-12 Jan-13 May-13 Sep-13 Jan-14 May-14 -25 Sep-14 Source: Ministry of Planning, Thomson Reuters Datastream Manufacturing has been a key source of growth Manufacturing has been the main engine of growth over the last year. The sector, which accounts for around 19% of GDP and includes oil refining, saw growth accelerate to 22% in 2Q14. Other growing sectors include real estate services, construction, domestic trade, and communication. 14 Headline inflation Chart 6: Tourism (% y/y) 80 80 Arrivals Nights 60 60 40 40 20 20 0 0 -20 -20 -40 -40 -60 -60 -80 -80 -100 Aug-12 Dec-12 Apr-13 Aug-13 Dec-13 Apr-14 -100 Aug-14 Source: CAPMAS, Thomson Reuters Datastream Chart 7: Employment (LHS: thousand; RHS: %) 300 13.5 250 200 13.0 150 100 12.5 50 0 12.0 -50 Employment, net change q/q (LHS, 000) Unemployment rate (RHS, %) -100 2Q11 4Q11 2Q12 4Q12 2Q13 4Q13 11.5 2Q14 Source: CAPMAS, Thomson Reuters Datastream www.nbk.com million new jobs to be created, nearly four times what was created the 12 months ending in June 2014. Chart 8: Private credit (% y/y) 25 Credit growth bounces back Credit growth has also reflected the improved levels of economic activity. Total claims on the private sector grew by 10.3% y/y in September, up from 5.5% growth earlier this year. Still, the recovery in corporate activity remains cautious as revealed by the fact that much of the strength in credit growth has come from household borrowing. Corporate credit growth was somewhat more moderate at 6.8% y/y. 25 Corporate Household 20 Total 20 15 15 10 10 5 5 Fiscal deficit remains high despite narrowing Though the budget deficit has narrowed slightly over the 12 months ending August 2014, it remains high and a key risk to the outlook. Egypt’s 12-month trailing deficit stood at 12.6% of GDP at the end of August 2014, down from a peak of 13.6% at the end of FY12/13. However, the improvement has been largely due to GCC grants which amounted to $10.6 billion during FY13/14. Nonetheless, the current government is committed to fiscal reforms, as revealed by the summer’s fuel price hikes. While further measures are required to ease the drain on valuable government resources, the impact of the hikes is already being felt. The subsidies bill fell to 6.2% of GDP, from a peak of 8.9% in January. The government also plans to take some steps to boost revenues with measures such as a value-added-tax (VAT) expected in 1Q15. Foreign currency bond yields and CDS sustain declines As a reflection of retreating country risk, Egypt has seen a sustained decline in its sovereign yields. Yields on USD denominated sovereign debt due in 2020 and 2040 have fallen to their lowest levels since 2010, reaching 4.3% and 6.8%, respectively. The country’s credit default swap (CDS) has also been falling to its lowest level in three years, reaching 266 basis points in November. Domestic rates have been more stable, declining only slightly since the Central Bank of Egypt (CBE) lifted policy rates in July in an effort to rein in inflation. Yields on government bills retreated to around 11.6% in November, down from 11.9% in July, but remain above their level earlier in the year. Inflation up as fuel price hikes hit general prices Inflation has accelerated since the government raised fuel prices in an effort to cut government subsidies. The fuel price hikes have been filtering through to general prices, with y/y inflation rising to 11.8% in October. We expect inflation to remain elevated in the coming months and to peak at 13-14% in mid-2015 before easing thereafter. We also cannot rule out additional increases in regulated prices in the coming months. External pressures have receded, though imbalances remain Egypt’s current account deficit continued to narrow over the 12 months ending in June 2014. Indeed, the deficit was the smallest since 2008. The 12-month trailing deficit fell to 0.8% of GDP from a 4% peak in 4Q12. GCC support of around USD 12 billion masked deterioration in other parts of the current account. Without official transfers, the current account deficit would have been 5% of GDP. Tourism and exports have been the key sources hurting the current account. Egypt’s tourism revenues declined by USD 4.7 billion during NBK Economic Research, T: (965) 2259 5500, F: (965) 2224 6973, [email protected], © 2014 NBK 0 Sep-12 Jan-13 May-13 Sep-13 Jan-14 May-14 0 Sep-14 Source: Central Bank of Egypt, Thomson Reuters Datastream Chart 9: Fiscal balance (% of GDP, 12-month trailing) 0 0 -2 -2 -4 -4 -6 -6 -8 -8 -10 -10 -12 -12 -14 Aug-11 Feb-12 Aug-12 Feb-13 Aug-13 Feb-14 -14 Aug-14 Source: Ministry of Finance, Thomson Reuters Datastream Chart 10: USD sovereign bond yields (%) 12 11 12 Matures in April 2020 Matures in April 2040 11 10 10 9 9 8 8 7 7 6 6 5 5 4 Oct-11 May-12 Jan-13 Aug-13 Mar-14 4 Nov-14 Source: Thomson Reuters Datastream Chart 11: Interest rates (%, weekly) 12 11 12 Overnight Interbank 3mn t-bill CBE deposit CBE lending 11 10 10 9 8 Nov-13 9 Feb-14 May-14 8 Nov-14 Aug-14 Source: Central Bank of Egypt, Thomson Reuters Datastream www.nbk.com FY13/14 or 48% y/y. Meanwhile, exports were down by 3.2% in FY13/14 mostly on a decline in oil exports. Egypt’s net private transfers, that consist primarily of worker remittances and usually help buoy the current account, were mostly flat during FY13/14. Still, at 6.5% of GDP in FY13/14, such transfers remain substantial and are up compared to pre-2011 levels. Egypt has not yet seen foreign investment return to levels seen before 2011, though the country’s capital and financial account has improved notably. Foreign direct investment (FDI) was stable at 1.4% of GDP during the 12 months ending in June 2014 while net portfolio inflows were weaker at 0.4% of GDP. Expectations are that foreign investment will gradually return as the economy returns to health and exchange restrictions are removed. Official reserves are stable, supporting the pound Official reserves held by the CBE have been very stable over the last year or so. They stood at USD 16.9 billion in October, or 3.5 months of imports. Official support, capital controls, and a decline in the value of the pound have helped reduce pressure on reserves. The government is expected to repay around $2.5 billion in Qatari deposits made during the previous administration, though this is not likely to pressure reserves as other GCC allies have already pledged to provide additional funds. The Egyptian pound (EGP) has appreciated in recent months thanks to a stronger US dollar. While the currency has been unchanged against the USD at 7.15 since May, it has gained against other currencies. This has led to an appreciation in the weighted value of the Egyptian pound as measured by an EGP index published by JP Morgan. While a stronger pound should help keep inflation at bay, it can hurt exports and tourism. Meanwhile, the value of the pound in the black market has been quite stable, with buyers paying a premium of around 4.8%. (LHS: USD billion; RHS: % of GDP) Thousands A resumption of import growth was also a source of current account deterioration as imports rose by 3.7% y/y. Import growth had slowed considerably in 2013 but has picked up and is likely to continue to do so as the economy recovers. Growth in oil imports was particularly strong at 9.3% y/y. The recent retreat in oil prices should help keep a lid on growth in oil imports in the coming period and is positive for the country’s current account. Chart 12: Balance of payments 6 3 Portfolio investment (LHS) FDI (LHS) CA balance (LHS) CA balance (12mt, % of GDP, RHS) 4 2 2 1 0 0 -2 -1 -4 -2 -6 -3 -8 -4 2Q11 4Q11 2Q12 4Q12 2Q13 4Q13 2Q14 Source: Central Bank of Egypt, Thomson Reuters Datastream Chart 13: Official reserves (LHS: USD billion; RHS: months of imports) 4 4 3 3 Change (LHS, USD bn) Months of imports (RHS) 2 2 1 1 0 0 -1 -1 -2 Oct-12 Feb-13 Jun-13 Oct-13 Feb-14 Jun-14 -2 Oct-14 Source: Central Bank of Egypt, Thomson Reuters Datastream Chart 14: Exchange rate (LHS: EGP/USD; RHS: index) 5.9 53 EGP/USD (LHS, reverse) 6.0 Nominal effective exch. rate (RHS) 6.1 52 51 6.2 50 6.3 49 6.4 48 6.5 47 6.6 46 6.7 45 6.8 44 6.9 43 Stock market maintained a strong performance 7.0 42 7.1 41 Egypt’s stock market index has more than doubled from its bottom in June 2013 and has recorded a 40% gain in 2014 year-to-date (ytd) through October 2014. For dollar investors, the gain in equity prices was also quite strong at 36% ytd. The performance of the Egyptian bourse has been among the best in the region, boosted by optimism that the political situation has stabilized and the economy is recovering. The market experienced a 12% correction in October followed by a strong bounce back, alongside regional and world equities. 7.2 Nov-11 Jun-12 Jan-13 Aug-13 Mar-14 40 Nov-14 Source: Thomson Reuters Datastream Chart 15: Stock exchange (EGX30) 10000 10000 9000 9000 8000 8000 7000 7000 6000 6000 5000 5000 4000 4000 3000 3000 Nov-10 Jun-11 Dec-11 Jul-12 Feb-13 Sep-13 Apr-14 Oct-14 Source: Thomson Reuters Datastream NBK Economic Research, T: (965) 2259 5500, F: (965) 2224 6973, [email protected], © 2014 NBK www.nbk.com NBK Economic Research, T: (965) 2259 5500, F: (965) 2224 6973, [email protected], © 2014 NBK www.nbk.com