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Before and after – the past and the future for Egyptian companies navigating devaluation

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April 11, 2018

By assessing the effects of the devaluation to date & monitoring market trends, we help businesses operating in Egypt to plan their strategy for 2018.

More than 12 months on from the Central Bank of Egypt’s (CBE) decision to fully float the Egyptian pound (EGP), the scale of action taken by many multinational employers in Egypt in the face of ensuing inflationary and currency pressures is now clear to see. The predictions made by Willis Towers Watson in November 2016, just days after the devaluation, have been largely borne out and attention now turns to the next 12 months. By assessing the effects of the devaluation to date and monitoring market trends, we can piece together a picture to help businesses operating in Egypt to plan their strategy for 2018.

Background to the currency crisis

The decision to float the EGP followed a one-off devaluation of approximately 12% in mid-March 2016, amounting to what many saw as an overly cautious move, which, although briefly closing the gap with the black market, provided only temporary relief. By October 2016, against an official exchange rate of EGP 8.88 to the USD, currency rationing and increasing scarcity saw the dollar selling in the parallel market at an unsustainable premium of almost 100%. Foreign currency outflows were vastly outweighing inflows and the CBE was haemorrhaging foreign exchange reserves.

With government reserves at close to half their pre-2011 levels of around USD 36bn, and under pressure from the International Monetary Fund (IMF) to devalue as a condition of a USD 12bn loan, some saw devaluation as inevitable. Having all but lost two important sources of foreign currency – foreign investment and tourism – as a result of the 2011 revolution, government and businesses found themselves desperately in need of hard currency. Some firms had no option but to shut down production in the face of foreign exchange losses, while others were unable or unwilling to pay for crucial raw material imports at crippling black market prices. Additional factors exacerbated the foreign currency shortage: declining oil prices, for example, meant that shipping firms plying the Europe-Asia routes suddenly found it more economical to circumnavigate the southern tip of Africa than to pay transit fees for the Suez Canal, another important source of foreign currency.

EGP depreciation, inflation levels and salary increases pre-devaluation

Prior to the devaluation of November 3, 2016, the EGP had been depreciating for some time on the black market, thus already partially reflecting the higher rate of exchange which we have seen post-devaluation. The domino effect of worsening economic troubles following the 2011 revolution – against the backdrop of an economy in an already precarious position with over 12% unemployment – saw the gradual evolution of a parallel market in foreign currency.

Individuals and businesses bypassed the formal banking sector as the government rationed its depleting stock of US dollars and imposed capital controls to maintain an artificially strong Egyptian pound. As a result, the black market flourished and, at its peak, we saw record discrepancies between the official and parallel markets, where dollars changed hands for between EGP 16 and EGP 18. More than one year on, USD 1 now trades at EGP 17.78, representing a 50% devaluation against its official peg of EGP 8.88.

The core consumer price index (CPI) was running at nearly 16% in October 2016, up slightly on the annualised figure for the previous month. In spite of inflationary pressures post-November 2016, however, fears of rampant hyperinflation have been somewhat mitigated by the fact that around 90% of imported consumer goods were already trading at black market rates. Although the annualised core CPI jumped to almost 21% immediately following devaluation, and peaked at over 35% in July 2017 as higher electricity and fuel prices fed in to the economy, it has been dropping away consistently since August, receding to 30.5% in October 2017.

Pre-devaluation, salary increases hovered around 15%, broadly in line with annual inflation, and were paid annually. Research from Willis Towers Watson in the interim period has shown that companies with operations in Egypt have had to adapt their compensation and benefits (C&B) packages drastically to reflect the ensuing volatility in the country’s economy and its inflationary tendencies.

How events of 2017 compared to the predictions

In November 2016 Willis Towers Watson predicted an 18%-23% salary increase for 2017, based on inflation of 20%-25%. Our research has shown that the period between November 2016 and December 2017 saw actual reported salary increases of 23.5%.

Further research among organisations operating in Egypt also reveals results consistent with our November 2016 predictions. As a result of devaluation, we predicted that more companies would introduce mid-year salary increases, especially if they were unable to implement those increases in their next review cycle. As 2017 draws to a close, an analysis of our findings shows that half of all companies surveyed did exactly that, implementing off-cycle salary increases for 2017 either bi-annually (42%) or quarterly (6%).

A significant minority also introduced temporary lump sum payments to offset lost purchasing power. Of the 32% of companies that did provide such cost-of-living allowances, 42% offered a quarterly payment of 15%-20% of basic salary, 27% chose to deliver lump sums of 4%-8% monthly, with only 12% providing payments of between 33%-50% of basic salary annually.

What’s in store for 2018?

As we approach 2018, we expect inflationary pressures to ease and follow the downward trend established since August 2017. This is due, in part, to the CBE’s efforts to curb inflation with a 7% hike in interest rates since November 2016: as of December 2017, Egypt’s overnight lending rate stands at 19.75%.

The CBE is targeting a decline in inflation to around 13% for Q4 2018 and to single-digit inflation from 2019 onwards. Therefore, we expect salary increases in 2018 to revert to pre-devaluation levels of 15%-20%, assuming inflation levels of 18%-24%. Although we predict that some companies will continue the trend of mid-year salary increases, we estimate that the vast majority will see fledgling macroeconomic stability, coupled with the prospect of lower inflation, as reason enough to return to a policy of annual increases.

Current market conditions are also likely to lead to further challenges in key staff retention in 2018, with 66% of organisations reporting that retention in core roles has been a major challenge over the past few months. With employees benefitting from higher pay reviews, we predict that a growing number of companies will face increased competition in key staff retention during the course of the coming year as employees search the market for enhanced C&B features, such as more frequent salary increases.

Best practices for key talent retention in 2018?

We recommend instigating the following principles to enhance your talent retention potency in the face of increased competition in 2018.

Frequent salary increases and regular monitoring: Despite our prediction that the majority of companies will revert to annual salary increases, we nevertheless recommend that organisations consider more frequent pay increases in order to retain the flexibility to respond quickly to changing circumstances. In a relatively volatile economic situation, the faster your business responds to economic realities and the potential loss of purchasing power these entail, the greater your staff retention levels will be. To that end, it will become increasingly important in 2018 for organisations to keep their finger on the economic pulse and monitor the situation closely, with a keen eye on inflation. With close monitoring, companies can determine the frequency, scale and effects of Egypt’s fluctuating inflation and respond accordingly. We would, therefore, recommend considering staged bi-annual increases; for example, a 10% review increase supplemented by an off-cycle 10%-15% increase.

Identify, discriminate and communicate: In order to negotiate the challenges of 2018 successfully, we recommend that companies identify key staff critical to their organisation and positively discriminate in their favour by focusing retention efforts on them. Such key roles are crucial to an organisation’s success and it is important for HR managers to engage with staff in those pivotal positions and keep them informed of changing C&B packages and the reasons driving those changes.

Keep informed: In preparation for a quick response to market fluctuations and to help businesses make timely and informed decisions, we expect that companies will stay tuned to market salary movements over the course of 2018 and we encourage participation in Willis Towers Watson’s spot surveys. In addition, it is advisable to take advantage of our Pulse surveys throughout the year, particularly when reviewing reward policies for 2018.

Preparing for the landscape of 2018

With the help of up-to-date, regular and reliable market research, companies with operations in Egypt are advised to plan long-term employee value proposition reviews to address engagement and retention. With a focus on areas such as pensions and savings plans, among other features, business leaders can make informed decisions based on an accurate analysis of up-to-date research to encourage and promote key staff retention in what is likely to remain a relatively volatile market throughout 2018.

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