February 20, 2005

Is Our Economy Doing Better?

I thought I might attempt to be an economist though it is still my first year in grad school. So, please bear with me!
The last two months witnessed a substantial increase in the value of the Egyptian pound versus the US dollar. The issue has been a real puzzle to me since it made a noticeable feeling of content and optimism in the Egyptian street. Normally, the decrease of value (devaluation) of pound is associated with hard times to come. But, does it work the other way around?
The value of the pound is like any other good or commodity. It is subject to supply and demand. If there is too little supply of the pound relative to the demand for the pound, its value will increase and vice versa. Its value means its value in terms of the foreign currency. For instance, the price of the EGP is currently 0.17 US$. The supply for the pound can decrease because monetary policy of the government, i.e. not printing as much money as the market needs. The demand for the pound can increase if there is too much demand for Egyptian products in the international market, interest rates on saving deposits are high, non-monetary assets (bonds and shares) do not pay a high rate of return, the price level of commodities is increasing, and the aggregate income of the consumers has increased. Alternatively, the demand and supply of the foreign currency can affect the value of our currency.
Is the increase in the value of the EGP an indication of a good economy? It depends on what are the causes that have pushed its price (value) up? When reviewing the recent policies and steps that have been taken by the government, there are few that can affect the value of the pound.
First is the reduction of the tariff barriers against a lot of imported raw materials, semi-finished products, and final products. Unfortunately, this policy acts towards decreasing the value of the EGP, since it will create more demand for the foreign currency.
Second, few banks introduced high interest saving accounts that pay an interest above the average market rate. The interest of some goes up to 12% per year. This indeed created more demand for the EGP and increasing its value.
Thirdly, the implementation of Interbank banking system facilitated the trading of the US currency among banks which eased the strain on the foreign currency.
Fourthly, the signing of the Qualified Industrial Zones agreement might have helped in increasing the prospects of more foreign currency coming up soon in the pipeline.
On the other hand, outside of Egypt, the supply of the US $has increased tremendously. The global supply of the US $ has jumped by 25% during last year. The US administration, according to some analysts, is trying to reduce the value of its trade deficit by reducing the value of its currency.
All these factors contributed to the change in the value of the EGP against the US$. But which one had the strongest effect? When you buy a car, a lot of factors contribute to your final decision: the price of the car, its maintenance cost, the cost of fuel. Let us assume that the price of the car goes down by 15% and the price of the fuel goes up by 40%. Your decision to buy will be more affected by the decrease in the price of the car (though it is smaller) than by the increase of the price of fuel. In my humble opinion, I think the flooding of the US$ is the one that affected the increase in the value of the EGP. The fact that the appreciation comes from external reasons means unfortunately that our economy is still not improving as we might hope. Unemployment still lingers at the 10% level. Inflation is soaring prices and growth in the economy is not up to the levels to sustain a strong economy not to mention a recovering economy. And these last three are THE important indices to look at to evaluate the growth and/or the strength of an economy.

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