The Egyptian pound fell sharply against the U.S. dollar on Wednesday after the country's central bank hiked its main interest rate and said it would allow the currency's exchange rate to be set freely by market forces.
The measures by the Central Bank of Egypt (CBE) were meant to combat inflationary waves and attract foreign investment as the country experiences a staggering shortage of foreign currency.
Following the central bank announcement, commercial banks were trading the U.S. currency at more than 47 Egyptian pounds by midday Wednesday, up from about 31 pounds per dollar.
The central bank increased the key interest rate by 600 basis points to 27.75%. The overnight deposit and lending rate were also raised by 600 basis points to 27.25% and 28.25% respectively, the bank said in a statement.
The move marks a long-awaited devaluation, with a more flexible exchange rate being one of the key demands of the International Monetary Fund (IMF).
Egypt has in the past said it would move to a more flexible exchange rate, only to return to closely managing the currency whenever the pound weakened.
This time, it may be betting that hard currency inflows from investment projects including a $35 billion deal with the United Arab Emirates (UAE) signed in late February will prevent a freefall.
The government has also been closing in on the expansion of its existing $3 billion support program with the IMF, officials say.
The Egyptian economy has been hit hard by years of government austerity, the coronavirus pandemic, the fallout from the war in Ukraine, and most recently, Israel's war on Gaza.
Cash-strapped Egypt is the world’s largest wheat importer, with most of its imports traditionally coming from Eastern Europe. Since January 2022, the Egyptian pound has lost around 50% of its value against the dollar.
The central bank said its measures Wednesday would help end the black market in currencies and slow inflation, which reached unprecedented levels in recent months. The annual inflation rate was over 31% in January, according to official figures.
"The CBE will continue to target inflation as its nominal anchor, allowing the exchange rate to be determined by market forces," the central bank said.
"The unification of the exchange rate is crucial, as it facilitates the elimination of foreign exchange backlogs," it said.
The rising cost of basic goods has deepened the hardships faced by middle-class and poor Egyptians. They have suffered from price hikes since the government embarked on an ambitious reform program in 2016 to overhaul the battered economy. Nearly 30% of Egyptians live in poverty, according to official figures.
The announcement on Feb. 23 that Emirati sovereign fund ADQ will invest $35 billion within two months in the development of a new city on Egypt's north coast and other projects eased pressure on the Egyptian pound on the black market.
The Egyptian government says $10 billion of that money has already been transferred.
Procedures to convert another $5 billion from existing deposits in Egypt into Egyptian pounds have also begun, with the remaining funds due to arrive within two months of the signing of the deal, the government said last week.
Economists also say the moves by the central bank were likely signs that the government is working to secure another financing package from the IMF.
James Swanton, an analyst with London-based Capital Economics, said they show that "policymakers are committed to the turn back toward economic orthodoxy."
"This is likely to pave the way for an IMF deal within hours," he said.