Egypt: Budget deficit widens 23% y/y to EGP 207bn in Jul-Sep

• Ministry of Finance publishes detailed breakdown of expenditure and revenues for FY 2022/23
• As percent of full-year GDP, fiscal gap edges up to 2.3% of GDP as economic growth outpaces increase in deficit
• Tax revenues rise strong 20% y/y mostly due to higher VAT revenues, however, outlook has deteriorated
• Interest payments accounted for 103% of tax revenues in Jul-Sep and remain major credit weakness
• Spending on subsidies rises 15% y/y, as government retains costly bread subsidy
• Government announced new social payments and higher minimum wage for public sector workers that will cost EGP 67bn

Egypt's overall fiscal deficit widened by sharp 23.1% y/y to EGP 207bn (USD 8.4bn) in the first three months of FY 2022/23 (Jul-Sep), as strong y/y increase in interest payments, grain subsidy, and purchases of goods and services outpaced strong y/y increase in tax revenues, according to the finance ministry's monthly report. Meanwhile, the fiscal gap-to-GDP ratio only edged up to 2.3% from 2.1% a year ago, because of strong nominal GDP growth. Egypt's economic growth has remained resilient to the COVID shock and the war in Europe, supported by large public investments, gas exports, and telecoms and trade, although recent PMI reports suggest slowdown in domestic demand. The finance ministry had also succeeded in extending the debt maturity profile of its debt (the target of 3.8 years was set and most likely achieved as of June 2022). The budget deficit target was revised from 6.1% of GDP to 5.6%, FinMin Maait said in August, most likely due to stronger than initially projected GDP growth and higher consumer inflation. In October, the government said it would increase the minimum wage for the public sector by 11% to EGP 3,000 from January and announced additional social package for pensioners and public workers at a total cost of EGP 67bn. FinMin Maait said the money would come from the EGP 135bn emergency fund and will not affect the budget targets for FY 2022/23.

The government recorded a primary surplus of EGP 10.2bn (0.1% of GDP) in Jul-Sep, compared to a primary deficit of 0.1% of GDP a year ago. The government has repeatedly confirmed its commitment to its reform program, which is built around fiscal consolidation and primary surpluses, but the conflict in Europe forced the government to lower its primary surplus target for FY 2022/23 to 1.5% from 2.0%. The target was revised to 1.6% primary surplus in August. The IMF Executive Board has just approved USD 3bn Extended Fund Facility program for Egypt that should further anchor the reform program and help Egypt reduce the fiscal deficit and the public debt. Egypt still needs to enhance revenue mobilization in order to lower the high public debt and large gross financing needs.

Budget implementation FY-to-date

In the breakdown, fiscal revenue rose by 15.6% y/y to EGP 259bn in Jul-Sep, accounting for 2.8% of full-year GDP. Tax revenues rose robust 20% y/y to EGP 211bn driven by VAT (up 17% y/y) as the government has rolled out programs to support consumption, but we believe higher prices has also support tax receipts. Income tax revenue rose by similarly strong 19% y/y, and tax revenues from Suez Canal rose 11% y/y to EGP 9bn. Suez Canal revenues have been supported by higher tax rates as well as higher traffic and higher tonnages passing through the canal. Further, we remind Egypt plans to impose a new tax bracket of 27.5% on individuals, whose annual income exceeds EGP 800,000. At present, the upper tax bracket is 25% for individuals, whose annual income exceeds EGP 400,000 and 22.5% for companies' whose net profit exceeds EGP 200,000 for a year. Meanwhile, non-tax revenues edged down 0.2% y/y to EGP 47bn driven by lower non-grant miscellaneous revenues. We remind the government has worked on a medium term revenue strategy in which it aimed to increase tax revenues by 2% of GDP over the next four years by integrating the informal economy into the formal economy, expanding the tax base, and collecting public treasury dues. The linking of tax and customs databases was scheduled to be completed before the end of 2022 and there has been some progress in digitizing the tax system.

The total expenditure rose strong 19.2% y/y to EGP 466bn in Jul-Sep, which accounts for 5.1% of GDP. The increase in spending came on the back of higher interest payments, wages, and subsidy payments. Interest payments rose sharp 35% y/y to EGP 217bn and account for 47% of total spending and 103% of tax revenues in the period. Debt service costs are thus the single largest category in spending and constitute a major credit weakness. The central bank has raised interest rates by cumulative 500bps since March, which has made domestic debt more expensive. The government had launched an ambitious fiscal consolidation program several years ago and the program was underpinned by primary surpluses and tax reforms. The public debt-to-GDP ratio missed the 85% target as of end-June however, recording 85.3% because of the pound devaluation and higher interest rates. As the central bank is expected to tighten its stance further in the coming months and the pound is set to depreciate further, it is very likely Egypt to miss the 80% debt-to-GDP target set for June 2023.

Public investments rose 4% y/y to EGP 39bn supported by large public investment projects in the construction sector. The expenditure on social benefits fell 4% y/y to EGP 39bn, but we believe spending in this category will increase sharply in the coming months because of increased contributions from the treasury to the pension funds as well as new social programs and expanded coverage of the existing programs. Egypt has said it would support the most vulnerable amidst rising living costs as more and more families struggle with high inflation. Meanwhile, subsidy payments rose by 15% y/y to EGP 21bn, but the ministry of finance did not give breakdown on subsidy payments. The government said in October it would freeze the scheduled increase in electricity tariffs until June 2023. The government has already postponed three times the scheduled electricity tariff review, citing mounting living costs and elevated inflation. Egypt had already eliminated all fuel subsidies (excluding on butane gas cylinders, and fuel for bakeries and electricity plants), and was planning to reduce the costly bread subsidy before Russia's invasion of Ukraine. The war in Europe had forced the government to postpone its plans, but the supply minister urged in October the parliament to review the bread subsidy program, because of its financial burden. The government froze the price of unsubsidized bread earlier this year as a measure to counter the rising living costs, but these price caps were revised recently. We remind bread prices are a sensitive topic in Egypt, where many families rely on subsidized bread, and pose risks for social tension.