What's Next For Egypt's Economy After A Currency Devaluation?

May. 7.12 | About: VanEck Vectors (EGPT)

After solid gains at the beginning of the year for EGPT, PMNA, GULF and GAF, performance has foundered in no small part due to heightening fears of a currency devaluation in Egypt.

It's been a few years, but there was a time not long ago when currency devaluations were much more frequent. Should Egypt indeed devalue the pound, reviewing this recent history raises certain questions for Egypt's immediate outlook that beg to be answered.

Following are selected economic fundamentals of some countries in the year preceding a devaluation. Unlike my previous thoughts on this theme examining post-devaluation currency behavior, I'm lumping the LatAm data together with the Asia data so as to keep this article from being overrun by charts.

The calm before the storm

(click to enlarge images)Economic profiles at the moment of devaluationClick to enlarge

(Source: Economist Intelligence Unit)

Compared against some other notable currency devaluations of recent market history, Egypt is better off in some ways, worse off in others. Its trade deficit/GDP ratio is second only to the Philippines, while more current data indicates Egypt's total government debt is at 75% of GDP and its financing requirement is 8% of GDP. On the upside, its import cover isn't nearly as disastrous as some of the other countries in this table. To the extent that Egypt right now is "like" any other pre-devaluation economy, it appears more Asian than Latin American, though its trade and aid profile is fundamentally unlike any previous comparable.

Another big difference is the nature of its political risk, which has no equal among the other countries in the sampling. Perhaps the only one remotely comparable could be Suharto's ouster from Indonesia in 1998, but Suharto's fall came several months after Indonesia devalued the rupiah and the regional economic dynamics of Southeast Asia at that point were quite different from the regional economic dynamics surrounding Egypt today.

After the dust settles

Conventional wisdom has it that devaluing a currency should boost exports. The following two graphs illustrate just what sort of boost informs this claim.

Post-devaluation export growthClick to enlarge

Post-devaluation Trade Balance/GDPClick to enlarge

Note that on all graphs, "Year 0" represents the year leading up to the currency devaluation of each respective country.

Bearing in mind the notable exceptions of being a major oil exporter (Russia) and initiating a free trade agreement with the United States (Mexico), export growth seems to hit its stride right about when real GDP growth gets back on track:

Post-devaluation Real GDP growthClick to enlarge

So far, nobody I know in the business of economic forecasting is currently estimating real GDP growth for Egypt to go negative anytime soon, yet we can hardly turn a corner without someone warning of the likelihood of a devaluation in Egypt.

Given the dip in real GDP growth that seems characteristic of economies in the throes of a currency devaluation, this apparent discrepancy in outlook either means Egypt is going to be different or forecasters are falling asleep at the switch.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.