Tomorrow Capital

Quarterly FX and Macro Update

Africa Deep Dive

In our recent quarterly meeting with our Macroeconomics Advisor, Nick Stadtmiller, we discussed the key macroeconomic themes in Africa from the first quarter of 2024, with a particular focus on the risks and opportunities in Egypt, Kenya, and Nigeria.

Egypt

Despite its high government spending, Egypt’s macroeconomic outlook has significantly improved following the substantial international support it has received. This support highlights Egypt's strategic importance in regional stability and the control of migration flows into Europe. The support it has received in the first quarter of 2024 from the international community includes:

• a $35 billion investment from the UAE into Ras El Hekma (of which $24 billion is new money);
• a significant Saudi investment in Ras Gamila (near Neom);
• a EUR 7.4 billion deal with the EU (a combination of concessional finance, grants and investments); and
• importantly, an $8 billion dollar loan from the International Monetary Fund (IMF)  (upsized from an initial $3 billion).

However, despite these positive inflows, there are concerns with the pace of implementation of the reforms required for Egypt to unlock the full value of the IMF funding. These include a move to a flexible exchange rate system, tightening of monetary and fiscal policies, and a slowdown in infrastructure spending to (i) reduce inflation and (ii) preserve debt sustainability, while fostering an environment that enables private sector activity.

Key takeaways

Foreign investment is likely to prop up the economy for a couple years but not deliver the structural reforms needed. Authoritarian regimes tend to avoid the pain of structural reform given the potential impact on public sentiment. However, Egypt remains ’too big to fail’ politically given its regional strategic significance and will likely receive ongoing support from the Gulf states.

Signals to monitor

• Foreign investment flows;
• Government spending and monetary policy stance; and
• The movement of Turkish textile manufacturers to Egypt.

Kenya

Having recently sold a $1.5 billion, seven-year bond to manage upcoming maturities, Kenya has emerged as a dynamic player in the global capital markets, following Benin and Ivory Coast, as investors increasingly seek higher risk-adjusted returns.

However, Kenya’s challenges persist. Although the shilling appreciated on the news of the bond sale, it is overdue for a devaluation. High development spending and low tax collection has pushed import demand to levels that Kenya is unable to match through exports to balance their current account. The overvalued shilling and consequent exchange rate further exacerbates this by reducing demand for Kenyan exports.

Whilst the low government wage bill indicates fiscal responsibility, currency devaluation and tax collection reforms are essential for sustainable growth.

Key takeaway

We will need to see significant improvement in Kenya’s export profile and fiscal balance. A currency devaluation is necessary and likely in the coming years.

Signals to monitor

• Improvement in tax collection;
• Reduction in fiscal spending;
• Changes in monetary policy, particularly in relation to a currency devaluation; and
• FX reserves.

Nigeria

Debt monetisation and an overvalued currency have fueled inflation and FX shortages. The commitment to clearing the FX backlog and maintaining reforms is crucial for Nigeria's economic stability. Nigeria has taken commendable steps towards a free-floating exchange rate and made efforts to address fuel subsidy issues but the political will to implement these reforms will be essential in inspiring investor confidence in the country.

The recent detention of Binance executives over unexplained FX outflows highlight significant operational risks inherent in doing business in Nigeria.

Key takeaway

Corruption and dirigiste tendencies impede development efforts. Democratic regimes similarly don’t like taking pain of structural reform.

Signals to monitor

• Ongoing political will to reform;  
• Clearing of the FX backlog; and
• Commitment to market-determined prices for both fuel and the Naira.

Economy Size

Macroeconomic outlook

While the short-term outlook is constructive, and there are tentative signals that suggest an improvement, the necessity for structural reforms and improved fiscal management means that we are likely to see repeats of similar challenges for the countries over the next several years. Having taken much of the pain already and, given the continued international support, Egypt looks most attractive for the next couple of years.

An interesting point on FX reserves in Africa

A central bank’s FX reserves are a key measure of a country’s ability to avoid a balance-of-payments crisis. However, the headline figures only tell half the story as they are distorted by FX swaps and other borrowing. Nigeria’s true usable reserves are about $20bn lower than the headline number and Egypt can only use a fraction of its reserves as much of them are borrowed from Gulf states. When monitoring Africa FX reserves comfort should not solely be taken in the headline figure which should be adjusted to take into account the make-up of this amount.

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