In August 2016, Egypt has agreed a 3-year $12bn loan with the International Monetary Fund to restore its ravaged economy. The loan will be contingent on significant reforms and is expected to be followed by money from the World Bank and African Development Bank. The technocrat government led by the president Abdel Fattah El-Sisi has already been taking structural measures to stimulate economic growth and reduce the budget deficit. Subsidy cuts, introducing Value Added Tax (VAT) and reducing bureaucracy for foreign investors are among the reforms on the table. Egypt, however, remains susceptible to external economic shocks, regional security risks, and domestic political unrest that investors should carefully take into account.

President Sisi recently ratified the law on the introduction of VAT as a replacement for the current sales tax. The tax rate in the final VAT law stands at 13 per cent, compared to 10 per cent in the current sales tax system, and aims to reduce tax evasion and increase government revenues by bringing in LE15-20 billion in additional revenue. Even though the government has asserted that the imposition of the VAT would not have any inflationary impact, Moody’s expects that the introduction of the VAT will bring inflationary pressure to the Egyptian economy. Following a series of devaluations (the last one in March 2016), Egypt has already been experiencing continuous price increases, and the purchasing power of consumers is expected to be affected more by the introduction of the new VAT. Rising food prices, subsidy cuts, increasing tax rates and the severe foreign exchange shortage due to the shrinking tourism revenues carry serious political risks that could trigger domestic political unrest and protests in the country.

The success of Egypt’s macroeconomic reforms will also likely be linked with the security situation in the Sinai Peninsula. Since the ousting of Mohammed Morsi on July 3, 2013, the borderland in the North Sinai has become a combat zone, and Egypt faces an growing Jihadist insurgency. Egypt introduced new anti-terrorism laws and embarked on a domestic and international campaign against Islamist terrorism. However, Sisi’s ongoing military campaign has not only resulted in alienating Sinai’s local Bedouin populations but also seems to have failed in combating ISIS and it local affiliates in Sinai. Even though ISIS terrorism represents a different challenge to Egyptian security than past insurgencies, the Egyptian army is still using traditional troop tactics with heavy vehicles and blanket artillery, and lacks the flexibility to fight in a guerilla fight setting. Without regaining control in and around Sinai, the successful implementation of the economic reforms seems quite difficult in Egypt.

Expanding the economic activities of the military under the Sisi regime constitutes another source of concern for investors. Since President Sisi came to power in 2014, the military’s involvement in the private sector has increased and diversified dramatically. The army’s real share of the economy is not known but is estimated at around 40 per cent of the GDP. The military enjoys a number of legislative privileges in its economic activities, including the exemption from real estate tax and using conscripted soldiers who are not subject to civilian labour law. According to a Transparency International Report, the involvement of the defense sector in the private sector greatly increases the risk of corruption in a number of countries in the Middle East, including Egypt, Iran and Yemen.

When coupled with other political risks, corruption will continue to impede the ability of Egypt to attract foreign investment and distorts capital allocation.