The simplest relationship in economics is: Income < Expenditure = Deficit = Financing
The balance of payments reports, in numbers, the relationship above at the level of all Egyptians (and non-Egyptians residing in Egypt). Very quickly, let’s go over some basic definitions. 1- Balance of Payments records transactions between residents in Egypt and non-residents (the rest of the world) during a period of time.
2- All the inflows and outflows on this scale must have a total sum of zero. (Revenues = Uses)
3- The BoP report is divided into 4 different parts: 1. Current account balance 2. The balance of financial transactions (other than the increase or decrease in the reserve at the Central Bank) 3. The increase or decrease in the reserve held by the CBE 4. Errors and omissions
4- Simply put, each of the first three items in point No. 3 expresses the following:
Current Account Balance = Exports – Imports, debt interest, dividend distribution abroad, transfers abroad.
These are the contents, but the most important thing is the following definition:
1. The current account balance is the expenditure of all residents in Egypt minus their income (regardless of whether it’s coming in Egypt or abroad). 2. The balance of financial transactions says how the deficit was financed or the surplus was invested in the current account balance, and this could be in the form of 1) debt, 2) hot money and 3) FDI. 3. If clause b was not sufficient in financing the current account deficit, the CBE intervenes as a last resort (by using from the reserve) and vice versa (by building up the reserve). 4. Clause D guarantees that usage = revenues, because preparing the balance of payments is a complicated process where errors occur, so the CBE must intervene so that the BoP is “balanced.”
Let’s apply. If we need to know 3 numbers only in the 9 months from July 2021 till March 2022. A- Current account balance + errors & omissions = -$17 billion The deficit has been financed.
B- The balance of financial transactions other than the reserve = $10 billion
C- The change in the foreign reserve = 7 billion dollars
Quick Analysis Rule #1: Whenever you see a deficit in the balance of current transactions, the first thing that should come to your mind is that spending is more than income. The increased spending was financed by debt and foreign direct investment and the use of central bank reserves.
Rule #2: Any deficit must be financed. The best source of financing is FDI and the worst source is hot money. To recap, 3 numbers in the BoP will tell you: Income < Expenditure = Deficit = Financing
Rule #3: Since the financing in the balance of financial transactions is a result of the deficit in the balance of current transactions, the first thing the fund requests is austerity. Austerity leads income = spending, therefore there will be no need for financing or debts.