“I can’t feed the bridges to my children,” says Muhammad, a driver who lives in the Nile Delta, referring to the Egyptian government’s major push to build infrastructure as the country suffers a cost-of-living crisis.
“I can barely afford the most basic necessities. This government has been in power for more than eight years. They have done nothing for the average man,” he said angrily.
“This government treated me [when I had] hepatitis C virus for free,” his friend Sami retorted, referring to a campaign launched by the Egyptian government in 2014 to treat people living with hepatitis C virus (HCV), one of Egypt’s biggest health challenges.
These heated debates about inflation and currency devaluation have become commonplace in many Arab countries.
The Iraqi dinar has lost 7 percent of its value since mid-November, leading to the removal of the central bank governor on Monday.
In September, the Tunisian dinar reached a record low against the US dollar, while the country’s president struggles with the current economic and political crisis.
Meanwhile, the currencies of other countries, including Syria, Sudan, Lebanon and Egypt, were among the world’s worst performers in 2022.
These devaluations, along with rising prices around the world, contributed to skyrocketing levels of inflation.
According to the Central Bank of Egypt, headline inflation stood at 21.3 percent in 2022, while core inflation, which excludes volatile fuel and food prices, reached 24.5 percent. These figures pale in comparison to Lebanon’s staggering triple-digit inflation in recent years, according to the World Bank.
Some people blame their governments for inflation. Governments, on the other hand, have tended to point the finger at external factors beyond their control, such as the war in Ukraine, the COVID-19 pandemic and rising interest rates in the US.
American interest rate hike and the war in Ukraine
Several countries in the region, such as Egypt, Jordan and Lebanon, have suffered from a decrease in foreign currency, due to a drop in tourism revenues caused by the COVID-19 pandemic, as well as rising food prices caused by the war in Ukraine.
Currency devaluation is the result of a number of factors, including trade deficits and foreign debt.
“A persistent trade deficit results in a loss of foreign exchange reserves that are often necessary to service foreign loans,” said Dennis McCornac, an assistant professor of economics at Georgetown University in Qatar.
Rising inflation around the world has prompted the US central bank to raise interest rates to control rising prices. Higher interest rates make it more expensive to borrow money, thus discouraging people from spending. When consumption falls, demand falls, and so do the prices of goods and services.
Higher interest rates in the US are also pulling investors away from risky assets in developing countries.
“Rising interest rates in the US make the US dollar more attractive as a safe haven for investment,” said Zouheir el-Sahli, an assistant professor of economics at Qatar University.
And when foreign investors in local debt instruments exit the market, they sell their local currency to buy US dollars, causing the local currency to fall in value, explained Moamen Gouda, professor of Middle East economics at Hankook University.
“[This leads] to devaluation unless the government intervenes to prop up its currency to avoid social instability due to rising prices,” Gouda said.
Chronic structural problems
Egypt has turned to the International Monetary Fund for aid for the fourth time in six years. To secure IMF funding, Cairo had to switch to a flexible exchange rate regime in which supply and demand determine the value of the currency, something Egypt’s successive governments have always resisted.
An inflexible exchange rate regime is just one of the many structural problems that are holding back economic progress in many countries in the Middle East.
“Egypt, for example, does not attract much foreign direct investment [FDI] due to the loss of confidence in the current economic policy,” said el-Sahli.
The lack of foreign direct investment contributed to the currency crisis and, ultimately, the devaluation of the Egyptian pound.
Gouda agrees with other economists that the main problem of the Egyptian economy is structural. According to him, the war in Ukraine and the increase in interest rates in the USA only exposed the fragility of the economic systems of several countries in the region and the need to embark on deep and painful structural reforms.
According to him, Egypt has failed to attract foreign direct investment, signaling that the private sector, which has been shrinking continuously over the past eight years, is not welcome. “Over the past eight years, the military has displaced the private sector in almost every aspect of economic life,” Gouda said.
Reducing the excessive role of the military in the economy was one of the main reforms demanded by the IMF. In its January 2023 report on Egypt, the IMF said Egyptian authorities had committed to reducing the state’s role in the economy and leveling the playing field between the public and private sectors.
Lebanon has its own special problems. “In addition to running chronic deficits, the country suffers from a political deadlock that prevented it from reaching an agreement with the IMF to extend the bailout to the economy,” explained el-Sahli.
“Lebanon ran its economy like a Ponzi scheme,” where new money is borrowed to pay off debt to investors, said Mohammad Fadel, a law professor at the University of Toronto. “Lebanese banks were attracting deposits from Lebanese abroad with ridiculously high interest rates,” he added.
The World Bank agrees with this interpretation and said that the Lebanese state ultimately used “excessive debt accumulation” to create an “illusion of wealth” and encourage investment. These depositors did not understand the risks they were taking by depositing their money in Lebanon.
And when political turmoil on the ground in Lebanon contributed to the drying up of foreign investment, the whole system collapsed.
Currency devaluation can actually benefit the economy greatly in the long run.
“We would expect a decrease in export prices and an increase in import prices, which would hopefully slow down the loss of foreign exchange reserves,” McCornac said.
But without meaningful structural reforms, devaluations end up being a missed opportunity to boost exports, reduce the trade deficit and boost growth.