The Houthi Attacks in the Red Sea and Egypt’s Economic Crisis: Impact on Suez Canal Revenues and Foreign Debt Crisis

2024-02-04 21:15:00

The Houthi attacks in the Red Sea diverted cargo ships from the Suez Canal, causing a $376 million loss in Egyptian revenues from the canal. This is a decrease of about 46% compared to the corresponding period in 2023. The data comes from an interview with Osama Rabi, head of the Suez Canal Authority, on Egyptian television. Ravi added that the number of ships passing through the canal decreased by 36%.

The Suez Canal is one of the most important sources of income for the Egyptian economy, which is suffering from a difficult economic situation, and in particular from a shortage of dollars. A little over a year ago, in December 2022, Egypt had to accept a bailout package from the International Monetary Fund to avoid default on its foreign debt (denominated in foreign currency). Egypt is negotiating the extension of the rescue package, which involves an additional loan from the fund and the implementation of additional economic reforms that the fund will determine.

In an interview, Ravi said that until the latest developments, Egyptians were used to seeing an increase in activity from month to month and year to year, which of course was reflected in income. In 2023, the Egyptians brought in more than 10 billion dollars from the activity in Suez. Other sources of Egypt’s exports include raw materials, mainly for energy, and agricultural products. Egypt manages to expand its export of energy products, but revenues from this sector fell following the global price declines in 2023, after the surge in 2022.

Egypt belongs to a large group of developing economies that have fallen into a debt crisis following the sequence of economic crises of the Corona virus and inflation. The corona crisis required extensive public spending to protect citizens and businesses from the halt in economic activity, which resulted in a considerable increase in the public debt. In the three years preceding the corona epidemic, the public debt in Egypt was reduced from 97.8% of GDP to 80.1%, a rapid reduction that indicates economic growth, which stood at an annual average of 5% during these years. With the outbreak of the corona virus, the trend reversed, and Egypt ended 2023 with a public debt of 92.7% of GDP.

Inflation, and as a result the US central bank’s interest rate increases on the dollar, turned the trouble into a crisis. The cost of interest on the external public debt, denominated in dollars, increased by hundreds of percent. The reason that countries, especially developing ones, take on public debt in foreign currency is related to the need for dollars for the purposes Imports, since the dollar is the main currency used in world trade. In 2023, the external public debt in Egypt rose to a record of 46% of GDP.

The flight of investors, who wanted to exchange their financial assets in Egypt for assets denominated in dollars, also made it difficult. The increasing interest rate on the dollar has made dollar-denominated assets attractive, but more importantly, in an inflationary period of economic uncertainty, investors prefer dollar-denominated assets, which are considered less risky.

The flight of investors forced the Egyptian central bank, whose dollar reserves were dwindling, to reduce the value of the Egyptian pound and dramatically increase the interest rate on the pound. The devaluation of the currency is due to the difficulty of holding dollar balances while investors are fleeing. It causes the worsening of inflation through the increase in the price of imports. A series of devaluations that began in March 2022, brought inflation in Egypt from 10.5% to a peak of 38% last September. The devaluation of the currency also increases the value of the debt of businesses and individuals who borrowed in dollars.

Last week, the Egyptian Central Bank raised the interest rate on the pound to 22.25%. In November 2020 it was still at 9.25%. The interest rate hikes are intended, along with curbing inflation, to moderate the flight of investors through the promise of a high yield, but inflation and the devaluation of the currency erode this yield, and investors prefer the security of the dollar. The interest rate may slow down economic activity, because it increases the burden on existing debts and prevents taking out new loans for consumption and investments.

Egypt’s situation in relation to foreign currency has become so bad that it has been exporting gas while suffering from domestic energy shortages. Despite this, it had to ask for a bailout from the International Monetary Fund. The bailout programs of the International Monetary Fund are notorious, as they are conditional on the expropriation of the countries’ economic sovereignty and the implementation of severe austerity, privatization and liberalization measures. Many economists, including Nobel laureate Joseph Stieglitz, strongly criticize these plans. Stieglitz claims that the policy imposed by the IMF prevents growth and exacerbates economic instability, thereby pushing the developing economies into an endless cycle of debt.

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