Egypt economy on the edge ahead of presidential vote

CAIRO (Reuters) - Wasfy Amin's jewelry shops in the heart of Islamic Cairo ran into trouble when a street revolt scared away tourists last year. Part of his business is growing again, but not a part that inspires optimism in Egypt's flailing economy.

His factory on the capital's desert outskirts now melts bangles, rings and necklaces - heirlooms sold by impoverished families - into rough ingots of gold and silver that are sold to banks for refining in Switzerland.

"There are many people with no work now in Egypt, or with work but no salaries. This helps them out, for a while," said Amin, the head of the gold division at the Federation of Egyptian Chambers of Commerce.

The exports bring him a razor-thin 1 percent profit margin, the difference between local and international prices minus costs, hardly enough to pay the wages of roughly 200 employees, and he thinks he will run out of cash in a year.

Egypt's economy lunged into crisis when the uprising ousted leader Hosni Mubarak in February last year as banks shut down for more than a month, a breakdown in security tarnished the investment climate and workers went on strike for better pay.

Worse, say business owners, is a litany of avoidable failures since then by an army-backed interim government that has failed to secure emergency aid from overseas donors, contain street violence or launch big new investments to spur growth.

The policy hiatus has raised the burden of expectation on the new president Egypt will elect from May 23 as the army generals now ruling the country prepare to hand power to civilians.

Candidates are competing for votes with promises to tackle corruption, boost job creation and improve living standards in a country blighted by poverty.

But with the government borrowing at perilously high interest rates and vital foreign loans conditional on curbing the deficit, the next head of state will not be able to buy his way to popularity by creating more state jobs or raising subsidies on essential goods.

Business leaders say the answer lies in the paradox of Egypt's vast economic potential yet massive underinvestment, and the new head of state will have little option but to heed demands for a fairer, more efficient economy.

That means breaking with Mubarak's legacy - a pervasive state that threw up obstacles to business that only large corporations with close ties to the country's political elite could fully overcome.

"It's tough to change after years, decades of corruption," said Menatalla Sadek, Corporate Finance and Investments Director at automotive retailer GB Auto. "Mubarak is gone but did anyone change the whole organisation? The government workers? It's the same business environment that we are still operating in."

The policies of the main candidates range from a solidly free-market system espoused by the Muslim Brotherhood's Mohamed Mursi to an old-fashioned interventionist model championed by leftist Hamdeem Sabahy. He would have the state lead the way in "strategic industries" such as steel, cement, textiles and fertilisers and a series of mega-projects.

Two other leading candidates, Amr Moussa, a former foreign minister under Mubarak, and Islamist Abdel Moneim Abol Fotouh, would also look to the private sector to play a leading role.

The policies of Ahmed Shafiq, Mubarak's last prime minister and now a presidential candidate, remain unclear. His campaign officials did not respond to a request for details.

Under Mubarak a partial liberalisation of trade and investment spurred growth to over 7 percent in the 2007/8 fiscal year, slowing to 5 percent after the global financial crisis.

All the top candidates are promising to kick-start the economy with big investments in strategic industries such as energy and agriculture and push through industrial projects along the Suez Canal, in the isolated Sinai and the south.

Mursi promises to increase economic growth to 7 percent within five years and cut inflation, now running at 8.8 percent, by more than half. By most accounts the economy contracted in 2011, stricken by the country's political turmoil.

For now, Moussa and Abol Fotouh are polling ahead of the rest. They and Mursi would reduce energy subsidies to all but the poor. These subsidies now account for 20 percent of all government spending and reducing them may be the least painful way to narrow the budget deficit.

The interim government's budget already foresees a narrowed budget deficit of 140 billion Egyptian pounds next year, down from 144 billion in the current year to June.

The election offers only a partial answer to Egypt's future. Voters will go to the polls not knowing their new leader's powers - the result of delays to a new constitution.

The election of a new president, however, could help end a rivalry between government and the Islamist-dominated parliament that has discouraged the International Monetary Fund from signing off on an emergency $3.2 billion loan that would support state finances and help restore investor confidence.

HIGH BORROWING RATES

Foreign investors who fled Egypt after the uprising may stay away for months, even years, after a new president takes power, waiting to see if he has the political capital - and the constitutional powers - to put words into action.

Foreign direct investment fell to $440 million in July-September last year, the latest available data, from $1.60 billion a year earlier, sending the balance of payments to a $2.36 billion deficit from a year-earlier $14.7 million surplus.

Some local companies are already pressing ahead with investments they say are vital to meet future demand given the country's fast-growing population.

Food company Wadi Group, expanding its vegetable oil operations, is building a port on the Nile to discharge grain more cheaply. GB Auto, which says Egypt's car sales were a quarter of Turkey's at best despite a larger population, launched its biggest service centre in Egypt yet last week.

Companies that lost out when major land reclamation and irrigation projects were suspended after the uprising say they see some movement again.

"In the water sector there are new public tenders being issued. The decisions are not taken yet and it takes six to nine months to do the technical and financial evaluation," said Hossam Farid, CEO of water pump maker Allweiler Farid Pumps.

The military-backed government, anxious to maintain stability, has avoided taking measures that might be seen as unpopular during the transition period but could have stemmed the deterioration in the country's finances.

Increased state borrowing has driven domestic borrowing rates to historic highs above 15 percent since last year's uprising. This in turn has helped widen the budget deficit even further and crowded companies out of the credit market.

"Interest is too high and limits our ability to grow," said Tony Freiji, Chief Executive Officer of Wadi Group. "We are competing with manufacturing companies Europe and Asia who can borrow at 3.5 percent or less."

The slump in foreign investment in 2011 and a 30 percent drop in tourism revenue - two of Egypt's main sources of foreign exchange - have reduced demand for the Egyptian pound.

The government has limited the currency's fall since the uprising to around 4 percent by drawing down foreign currency reserves by more than $20 billion, leaving only about $15 billion, or less than three months of import coverage.

Some Egypt-based economists say there are signs that the government is now deliberately hampering imports of non-essential goods to slow transfers of foreign currency abroad.

Amr Moussa has signalled a shift towards a freer exchange rate - something economists have estimated would inevitably lead to a weaker currency given the current level of support.

Foreign fund managers and members of the Egyptian business community say the expectation that the pound must eventually fall in value is a brake on inward investment.

Freiji of Wadi Foods said devaluation may be imminent and it could benefit his export business but hit local consumption. GB Auto, a major importer, said it can cope with devaluation.

All the candidates promise a renewed emphasis on social justice and a crackdown on monopolies and endemic corruption.

But the next president may struggle to make the kind of impact he would like in his first 100 days in office, which coincides with the summer when many government workers take a long holiday and the Muslim Ramadan month of fasting and prayer.

"By the second half of 2012, most Egyptian firms will not be able to tolerate these conditions much longer," said Farid, owner of the water pump manufacturer.

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