Egypt's central bank strengthened the pound on Wednesday, injecting dollars into a banking system that has been suffering from an acute foreign exchange shortage for months.
The rise in the currency's value by LE0.20 to LE7.7301 to the dollar surprised bankers who had been expecting a depreciation, and raised further questions about the long term effectiveness of Egyptian currency policy.
Egypt, which is heavily dependent on imports for food and energy, has been under pressure to devalue the currency as the black market for dollars has burgeoned, and has allowed a gradual depreciation of about 11 percent this year.
It last let the pound's official rate, maintained in a narrow band by the central bank, weaken to LE7.9301 against the dollar in October. A significant gap still remains with the black market rate which was about 8.7 pounds on Wednesday.
In February, the central bank also introduced strict capital controls, limiting to $50,000 a month the amount of dollars that can be deposited in banks, in an effort to suck liquidity from the black market.
The move partly succeeded on that front but has made it difficult for companies to open letters of credit and pay for imports that have been building up at ports.
But last week Egypt's top two state banks, Banque Misr and the National Bank of Egypt (NBE), said they would provide dollars to cover import demands for businesses with some brokers and bankers saying the infusion came from the central bank and was aimed at reducing pressure on the pound by easing access to foreign currency.
Bankers said Wednesday's move is a further step in this direction, though the complex mechanics have caused some confusion.
At least four bankers said the central bank had offered to supply more dollars directly to banks on Wednesday at the new stronger rate of LE7.7301.
They said the dollar injection is intended to help banks cover ballooning dollar overdrafts they had opened up for clients suffering from tight currency controls and the wider dollar shortage in the system. Bankers said the central bank was aiming to help banks cover 25 percent of these overdrafts.
In return, they expect the central bank to ask them to make dollar deposits to boost its own flagging foreign reserves. Egypt's foreign exchange reserves are currently at about $16.4 billion - enough to cover just three months of imports.
The maturity of those deposits is likely to be a year and carry an interest of LIBOR, the London interbank overnight borrowing rate, according to a note sent by investment bank EFG-Hermes to clients.
"It is not officially communicated yet but widely understood from bankers that in return they will have to deposit the same amounts in the central banks reserves as a sort of deposit," said one Cairo-based banker. He added that banks might then need to allow new overdrafts which will make the situation worse.
Confusionin the market
The surprise move has caused confusion in an economy already facing growing uncertainty over the direction of monetary policy with the planned departure of central bank governor Hisham Ramez, whose term ends on Nov. 26.
He will be replaced by veteran banker Tarek Amer, who has already begun meeting with major banks and captains of industry, overshadowing the policies of the outgoing governor.
In a move interpreted in the market as an effort to distance himself from Wednesday's revaluation, Ramez told Al Youm Al Sabaa newspaper that he had appointed Gamal Negm as a caretaker governor.
Egypt's economy has been struggling since a popular uprising in 2011 drove foreign investors and tourists away, putting a strain on the country's foreign reserves, which have more than halved from $36 billion before the revolt.
Growing indications that a bomb was behind last week's crash of a Russian airliner may also undermine the currency by cutting tourism revenues - a vital source of hard currency.
Meanwhile, months of capital controls and expectations of a devaluation have already discouraged foreign investors amid concerns they will be unable to repatriate their dollars or conduct their import and export operations smoothly.
In an earlier move on Saturday, Banque Misr and NBE also raised interest rates on Egyptian pound certificates to 12.5 percent from an average 10 percent, forcing other lenders to make the same move on Tuesday.
That surprise step ignited speculation that the central bank might soon hike official interest rates to defend the pound.
Central bank officials have not publicly clarified their intentions, increasing uncertainty in the markets.
"Ultimately all this is going to prove futile. A weaker pound is necessary to counter falling FX revenues due to the impact of the Russian plane crash," said Jason Tuvey, Middle East economist at Capital Economics in London.
