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Inflation gap a reminder to Nigeria that Egypt got it right

Egypt is starting to reap the benefits of a currency float, Nigeria is still struggling.

One of the clearest signs that Egypt is starting to reap the economic benefits of a currency float almost three years ago came last week. Nigeria, which took a different path when faced with similar problems, is still struggling.

Inflation in Egypt, Africa’s third-biggest economy, slowed to single digits for the first time since the pound was floated in late 2016. It had rocketed as high as 33% soon after. President Abdel-Fattah El-Sisi’s administration said a devaluation was needed to ease severe shortages of foreign exchange and get a $12 billion loan from the International Monetary Fund.

Though the decision was painful for Egyptians, it turned the Arab nation into a darling of bond and carry traders. And it set Egypt apart from Nigeria. Africa’s biggest oil producer was also suffering from a dollar squeeze, but opted instead to keep a tight grip on its currency via a system of multiple exchange rates and import restrictions. Foreign exchange is no longer scarce, though Nigeria’s inflation rate was 11.2% in June — one of the highest levels on the continent — and has been above the central bank’s target of 6% to 9% for four years.

Egypt is also looking the healthier of the two in terms of economic growth. Its output will expand 5.5% in 2019, more than twice as much as Nigeria’s and the most among Middle Eastern nations, according to Bloomberg surveys of analysts.

Portfolio flows into Egypt soared following the devaluation and the start of IMF-supported reforms, which included cutting subsidies that soaked up much of the budget. And it got more foreign direct investment last year than anywhere else in Africa, according to the United Nations.

Nigeria has attracted plenty of hot money by keeping bond yields high and pledging not to let the naira weaken, but FDI has plunged.

The IMF says the Nigerian currency regime deters investors and hurts the economy, which is growing more slowly than the population. President Muhammadu Buhari argues it’s needed to boost local manufacturers and stop inflation accelerating.

Those hot-money flows and rising oil prices have caused Nigeria’s local and external bonds to perform solidly in 2019. But weak growth has turned investors off stocks. The main equity index in Lagos has lost 10% in dollar terms this year, one of the worst performances globally. Egyptian stocks have fallen along with others in emerging markets since April, but they’re still up 13% year-to-date. That’s partly down to the pound appreciating 8% against the greenback, a performance bettered only by the Russian ruble.

Political and security risks remain high in both countries, according to Bloomberg Country Risk Scores. Egypt’s risk has climbed since El-Sisi came to power in 2014. His administration is trying to quell an Islamic State-linked insurgency in the Sinai Peninsula and has jailed tens of thousands of political opponents. Lawmakers passed a constitutional change in April that allows for him to remain in office until 2030. In Nigeria, which is also battling Islamic State militants and experiencing deadly clashes between farmers and herders, political risk is deemed higher.

Nigeria’s reserves have risen almost 9% since late last year to $45 billion. That gives central bank Governor Godwin Emefiele plenty of firepower to defend the naira, which Renaissance Capital estimates is about 20% overvalued. Still, stresses on the currency are rising, according to Citigroup Inc.’s Early Warning Signal Indexes. The opposite is happening with the pound. Analysts at Societe Generale SA said last week it could strengthen another 4% to 16 per dollar this year.

© 2019 Bloomberg L.P.

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