As Currency Sinks, Egypt Eyes IMF Deal

Egypt's crisis-stricken economy may get a fresh infusion of confidence with a senior International Monetary Fund (IMF) official due in Cairo on Monday to resume discussions about a much-needed $4.8 billion loan.

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"Some positive developments should happen soon, given the critical juncture that we are in at the moment and the need to act swiftly," Allen Sandeep, Director of Research at Naeem Holding, told CNBC.

Just ahead of the visit the Egyptian government announced a cabinet reshuffle, including the appointment of a new finance minister, Al-Mursi Al-Sayed Hegazy, who stated he was "completely ready to complete discussions" with the IMF.

Talks with the fund have hit repeated snags, owing largely to the domestic unpopularity of foreign loans.

In a research note early Monday HSBC went as far as to describe an IMF deal as "the only thing standing between Egypt and a disorderly economic deterioration".

Indeed, Egypt's currency struggles showed little signs of abating after the country's central bank intervened in the market again on Sunday to keep downside pressure in check.

Last week, Fitch Ratings reiterated that "an agreement with the IMF is essential for more substantial and sustainable external support and for restoring domestic and external confidence in the pound".

In light of the economic hardships faced by many Egyptians in the volatile post-Mubarak era, there has been limited appetite to embrace bold transformations. But the government may be running out of time, and options, to follow through on fund recommendations ranging from improved subsidy targeting to a reduction in overall government spending coupled with tax hikes to rein in a burgeoning budget deficit.

Egypt's stock exchange, among the world's best performers in 2011, closed flat on Sunday after initial gains on optimism that authorities would be able to seal the deal with the IMF this time round. But a Treasury bill auction painted another picture, with 266-day yields rising to 14.429 percent from 13.482 percent on December 23.

The Egyptian pound traded hands for as low as 6.445 to the dollar, marking a decline of close to five percent since December 30, and a total of ten percent since the revolution in February of 2011. Constant political squabbles have left the economy fighting for survival, with key foreign currency earners such as tourism and foreign direct investment (FDI) unable to fully recover. Growth is still tepid and below potential, projected by the IMF to accelerate from two to three percent in 2013.

A more precipitous decline in the value of the currency of late has confirmed some speculation that the central bank was running out of options to defend the Egyptian pound as it had in months before.

The latest U.S. dollar auction was limited to $60 million compared to $75 million seen in the previous four auctions. It is all part of a shift in strategy adopted in late December by the central bank in reaction to dwindling foreign currency reserves. In its most recent statement published on its website on Sunday, the bank said reserves fell marginally by $21 million to $15 billion.

"The central bank is moving towards more flexibility in managing the pound and more transparency in its interventions in the foreign exchange market to stem depreciation," Dr. Magda Kandil, an economic expert now based in Washington DC, explained to CNBC.

(Read More: Egypt's Pound at Fresh Lows: an Opportunity?)

Throughout 2011, investors have had mixed feelings about the fate of the currency. Even an uncontrolled devaluation, along the lines of Mexico and Argentina, was a real possibility.

Although some economists maintain that a weaker local currency would boost competitiveness of Egyptian exports, those gains could partially be offset by the rising cost of imported intermediate goods and higher domestic inflation.

(Read More: Increase in Egypt Central Bank Reserves Doubtful: Analysts)

"This scenario could hamper the road to recovery as the cost of production increases and competitiveness is challenged," Kandil added.

Despite the headwinds, Sandeep points out, opportunities are still abound beyond bets on where the Egyptian pound goes from here.

"Investors need to apply a selective view on their stock-selection strategy. I like companies that have a solid supply chain, demand potential and healthy balance sheets".