Local borrowing may stifle recovery

Egypt's increased reliance on local lenders to finance its budget shortfall may stifle any economic recovery by reducing the incentive of banks to lend to companies.

The country's local-currency borrowing costs have surged to the highest levels in almost three years as foreign investors dumped the debt following the uprising that ousted President Hosni Mubarak in February. The country's interim government rejected international loans to fund this year's budget deficit, leaving local banks to shoulder the burden.

The government's domestic borrowing is coming at "a very high cost and it chokes off resources that could be made available to the private sector," said Magda Kandil, executive director and director of research at the Egyptian Centre for Economic Studies.

Banks can "easily refrain from lending to the private sector and capitalise" on "attractive and less risky" government securities, she said.

The yield on one-year treasury bills has soared 263 basis points, or 2.63 percentage points, since the last pre-revolt sale to 13.07 per cent as Egypt redirected its bond sales to bills with maturities of one year or less to avoid paying higher interest in the long term.

Contraction

The one-year yield is the highest since November 2008. Loans were the equivalent of 50 per cent of deposits at the commercial banks in June, down from 52 per cent a year ago, according to central bank data. That compares with 93 per cent in the United Arab Emirates as of May.

Egypt's economy contracted 4.2 per cent in the quarter that ended in March amid the worst political crisis to hit the country in three decades. The budget deficit is expected to widen to 9.9 per cent of gross domestic product this fiscal year from 9.5 per cent a year ago, according to EFG-Hermes Holding SAE, the biggest publicly traded Arab investment Bank. The government said in June it is targeting 8.6 per cent.

Higher borrowing costs may curtail lending to companies, potentially slowing economic growth by up to 1 percentage point in the next one to two years if they don't retreat, said Jaap Meijer, the Dubai-based head of the bank team at AlembicHC.

"Private-sector demand was actually growing at a healthy pace last year, but that's no longer the case because of the uprising and possibly because of the increase in interest rates," he said.