Egypt’s economy has long grappled with a significant challenge for years – the existence of two different exchange rates for its currency, the Egyptian Pound (EGP). The Central Bank of Egypt (CBE) sets the currency’s official rate, while the unofficial (black market) rate fluctuates based on actual supply and demand. The difference between these two rates has major consequences for businesses, investors, and ordinary Egyptians alike.
This issue isn’t unique to Egypt. Countries like Cuba, Lebanon, and Turkey have also struggled with dual exchange rates due to economic volatility. But why does this happen, and what does it mean for Egypt’s financial stability? More importantly, can we predict where the exchange rate is heading?
Why does Egypt have two exchange rates?
At the core of Egypt’s exchange rate challenges is a shortage of foreign currency, particularly U.S. dollars. As a country heavily dependent on imports, businesses and individuals require access to dollars to pay for goods and services from abroad. However, when the supply of dollars through official banking channels is insufficient, people turn to the unofficial (black) market, where the exchange rate is significantly higher. This widening gap between the official and unofficial exchange rates reflects deeper economic pressures and uncertainty.
Several global and domestic crises have exacerbated Egypt’s foreign currency shortage in recent years. The COVID-19 pandemic (2020-2021) dealt a severe blow to Egypt’s economy by devastating the tourism sector, one of the country’s largest sources of foreign currency. Then, in 2022, the war in Ukraine sent global food prices soaring, placing additional strain on Egypt, which is one of the world’s largest wheat importers. As import costs surged, demand for dollars increased, further weakening the pound. In 2023, the CBE responded to these pressures by devaluing the Egyptian pound by nearly 40%, making imports even more expensive and intensifying inflation.
These ongoing challenges have eroded confidence in the official exchange rate, prompting businesses and individuals to seek alternative sources for foreign currency. As a result, the black market exchange rate has skyrocketed, nearly doubling the official rate. As of early 2024, the official exchange rate stands at 30.9 EGP per USD, while the black market rate has climbed to nearly 60 EGP per USD. Both figures have almost doubled since with the official rate being about 50 EGP per USD currently.
This sharp divergence has severe economic implications for Egypt’s financial stability and growth. One of the most immediate consequences is rising inflation, as a weaker pound makes imported goods significantly more expensive, driving up overall prices for consumers. Additionally, foreign investors face uncertainty, as unpredictable currency fluctuations make it difficult to assess risks and returns, discouraging investment in the country. Finally, Egypt’s external debt burden becomes more difficult to manage, as the government must repay foreign loans in U.S. dollars, further straining the nation’s financial resources. If left unaddressed, these challenges could create a cycle of economic instability, making it even harder for Egypt to restore confidence in its financial system.
Can we predict Egypt’s exchange rate trends?
Economists and financial analysts have long sought ways to forecast exchange rate movements. As part of DevTech’s research in collaboration with Tunis Business School, we have analyzed historical data using advanced time series models to identify patterns and predict future changes in both the official and unofficial exchange rates.
- The Official Rate Is Influenced by Egypt’s Stock Market
One of the key findings of our research is that Egypt’s stock market (EGX 30) plays a major role in determining the official exchange rate. When stock prices rise, confidence in the economy increases, leading to a more stable currency. However, the official rate doesn’t always reflect real market conditions, as the Central Bank actively manages it. This means that traditional forecasting models—such as ARIMA (AutoRegressive Integrated Moving Average)—struggle to fully capture its movements.
- Understanding the volatility of the black market exchange rate
Unlike the official exchange rate, which is managed by the CBE, the black market exchange rate fluctuates freely based on supply and demand. As a result, it is far more volatile and highly sensitive to economic shocks. DevTech’s research found that past exchange rate trends play a significant role in predicting future movements, as patterns of depreciation or appreciation tend to persist over time. Additionally, sharp price spikes are most common during periods of financial crises, when demand for U.S. dollars surges, and official sources are unable to meet market needs. Another key finding is that the black market exchange rate follows a “volatility clustering” pattern, meaning that periods of extreme fluctuation are often followed by even greater swings. This suggests that once uncertainty enters the market, instability tends to feed on itself, making it increasingly difficult to predict or control exchange rate movements.
Because the black market rate is far more unpredictable than the official rate, capturing its fluctuations requires advanced statistical techniques. To analyze this volatility, DevTech researchers applied GARCH (Generalized Autoregressive Conditional Heteroskedasticity) models, which are specifically designed to study financial market instability. The findings revealed recurring patterns of extreme movements, indicating that sharp fluctuations are not random but follow identifiable trends. Moreover, external factors such as inflation, foreign currency reserves, and political stability play a crucial role in determining the direction and intensity of exchange rate shifts. Among the various models tested, GARCH models with a student’s t-distribution proved to be the most effective in explaining these extreme swings, as they account for the frequent and unpredictable nature of black market price jumps. These models reveal that rising inflation and dwindling foreign currency reserves significantly amplify volatility by eroding confidence in the domestic currency, while political instability exacerbates speculative activity, leading to sharp and sudden rate movements. This research highlights the importance of external economic conditions in shaping Egypt’s black market exchange rate and underscores the need for policymakers to address underlying macroeconomic vulnerabilities to stabilize currency fluctuations.
- The best prediction model: a hybrid approach
Ultimately, our research found that the most effective approach to forecasting exchange rate trends is to use a combination of models tailored to the unique characteristics of each exchange rate. For the official exchange rate, incorporating stock market trends (EGX 30) provides valuable insights, as the performance of Egypt’s financial markets is closely linked to investor confidence and currency stability. On the other hand, forecasting the black market exchange rate requires a model that captures past exchange rate behavior and sudden volatility shocks, as this market is highly reactive to economic pressures and supply-demand imbalances. By integrating these approaches, analysts can develop more accurate and reliable exchange rate predictions, helping businesses, investors, and policymakers make informed financial decisions in an uncertain economic environment.
What does this mean for Egypt’s future?
The research highlights the urgent need for a multi-faceted approach to address Egypt’s exchange rate challenges, requiring action from the government, businesses, investors, and individuals.
For government officials and policymakers, restoring confidence in the official exchange rate is key to reducing reliance on the black market. Strengthening foreign currency reserves through increased exports, foreign investment, and remittances is essential. Currency reforms should focus on greater exchange rate flexibility, allowing market forces to play a larger role while ensuring that adjustments are gradual to prevent destabilizing shocks. A fully floating exchange rate may not be immediately feasible, but Egypt could adopt a managed float system where the central bank intervenes only to curb excessive volatility, rather than maintaining a rigid peg. This approach would enhance transparency and investor confidence while reducing incentives for black market activity. Gradual currency reforms can help ensure smoother adjustments, while encouraging the use of official banking channels for foreign exchange transactions can limit black market activity. Controlling inflation through effective monetary policy is also critical to maintaining stability.
For businesses, managing exchange rate risks is crucial. Companies must consider both official and unofficial rates when pricing goods, budgeting, and making investment decisions. To reduce exposure to currency volatility, businesses should adopt hedging strategies, diversify revenue sources, and strengthen domestic supply chains. One effective hedging strategy is the use of forward contracts, which allow businesses to lock in exchange rates for future transactions, protecting them from unfavorable fluctuations. Another approach is natural hedging, where firms diversify their revenue sources across multiple currencies or increase reliance on local suppliers to reduce foreign exchange exposure. For investors, understanding market trends is essential. DevTech’s research suggests that EGX 30 trends can help predict official exchange rate stability, while black market volatility signals broader economic uncertainty. Government policies and IMF agreements play a crucial role in shaping the investment environment, making informed decision-making critical. For individuals, exchange rate fluctuations impact daily expenses, savings, and major purchases such as education and travel. Staying informed about currency trends, using official banking channels, and planning large financial commitments strategically can help mitigate risks.
Ultimately, stabilizing Egypt’s exchange rate requires a collective effort. By strengthening financial policies, reducing dependence on the black market, and increasing transparency, Egypt can work toward a more predictable and resilient economy.
