The dollar: To LE10, and beyond!

Of all the people in the office, Maysara was probably the most afflicted by boredom.

Everyone else spent their days passionately staring at computer screens that transmitted real-time movements in stock prices. We were all stock traders and analysts. While we were constantly focused on the ever-changing numbers, Maysara was the tea boy, focused on our occasional need for coffee or tea. To fight boredom, he decided to join us in this bubble of numbers.

The easiest way for him to enter our bubble was by forecasting, and Maysara decided to share his stock price predictions with everyone.

Maysara’s forecasts were smart because they were seamless. They resembled horse bets more than card games. He did not predict stock price trends, or how far a stock would rise or fall. Instead, he would predict “the best stock in the market.”

In the beginning, most people in the office engaged with Maysara’s forecasts in a classist way: look, a tea boy is analyzing and forecasting stock prices. However, it did not take long before Maysara’s daily forecasts became a serious matter. He focused on how he presented his prediction rather than its substance.

Once he asked me, “What is the best stock in the market?” At the time, I thought the market as a whole was on a downturn and that no stocks would go up. Therefore, I told him, “The best stock in the market is your money.”

This was my metaphorical way of advising him not to exchange money for stocks. Maysara was enamored of this indirect way of expressing forecasts, and thereafter started giving his own financial predictions in an increasingly wise and literary manner.

I met Maysara two months ago at the company that I quit two years ago, and he asked me his usual question:

– What is the best stock in the market?
– The dollar.
– You mean dollar stocks.
– No. The dollar itself. Sell any stock, and buy any dollar you come across. The entire stock market will go down.
– How far will the dollar go?
– LE10, and maybe 12.
– When?
– At the start of the year.

I have a love-hate relationship with forecasting. I spent the first half of my 20s predicting stock prices. I still, until now, practice foretelling as a game. However, I have always thought of forecasting as a foolish act. Not only because it relies on ignoring what we fail to see in the current picture, but because it also relies to a great extent on ignoring the infinite number of things that could happen between the time a forecast is made and the time of its supposed realization. 

Between these two moments, it is entirely probable that any number of unexpected events could occur, even one of which could significantly change the picture.

Imagine all of the things that could occur between now and the beginning of next year, when I predicted the price of the dollar will reach LE10. Or imagine someone who, three days before the airstrike on Mexican tourists in the Western Desert, predicted a stable dollar exchange rate, basing this prediction on an increase in revenues, which was in turn based on the fact that revenues from tourism were stable and on an uptrend.

What can a foreteller do about random events like the Mexican tourists incident or the recent lowering of interest rates in China, which developed an unexpected global fear of recession that could subsequently affect Suez Canal dollar revenues — as well as numerous other events that cannot rationally be predicted before their occurrence? 

Forecasting is an act of ignorance in most cases, yet we use it frequently in politics and economics as the easiest method of dealing with uncertainty. We have no idea when citizens will take to the streets to protest the policies of an authority that has long exploited them. We have no clue whether prices will go up or down. We simply do not know — and most probably are unable to know.

In the face of these uncertainties, we predict. We predict until our disturbing confrontation with a complex, ever-changing and indecipherable picture comes to an end. 

Nevertheless, I think the predictor’s reckless eye, whose vision of the future depends on disregard, can still see the current economic situation more clearly than the eye of an economic analyst.

To avoid such a broad generalization, I will try to examine Egypt’s situation through the eyes of a forecaster who hopes to profit from movements in the dollar-pound rates. Note that it will not be possible with every generalization that follows to say that it may not apply to all analysts or forecasters, or that a specific action is not all good or all bad, so I hope you will do this on my behalf.

George Soros, “the man who broke the Bank of England” and the world’s richest stock trader, says he made investments by betting not on economic fundamentals, but on the future crowd behavior of other investors. This explanation, which comes from his book The Alchemy of Finance, describes how Soros profited from crises in the US stock exchange in the 1960s and 1970s. The same applies to his bets against the British pound and some Asian currencies in the 1990s.

It was not just him, Soros explains. Many veteran investors will disregard the likelihood that prices have already outpaced the actual effects of the fundamental causes behind such a change. Instead, they will invest in anticipation of the next increase.

Soros’ behavior is common among speculators and traders, regardless of their level of mastery. They have developed a method that intentionally ignores causes. Professional traders or speculators know fundamental causes are too numerous to be accurately and exhaustively listed. More importantly, they know that the vigor of price movements is not usually commensurate with the actual impact of the underlying factors.

If you follow media coverage and analysis of the pound-dollar exchange rates (and I do not suggest you do a lot of it), you have most probably heard that the collapse of the pound against the dollar is related to the decline of foreign currency reserves. If you follow more closely (and I do not suggest you do that either), you will come across analyses that link the decline in currency reserves to the decline in revenues from tourism, exports, the Suez Canal, remittances or foreign aid. Subsequently, any change in one of these factors could be a reason for the rise or fall of dollar prices in Egypt. You can also add to these causes the implementation of World Bank and International Monetary Fund policies.

You can now imagine any number of events that could affect these factors and consequently the exchange rate. So, you have an adequate number of causes, and also an adequate number of incidents that could affect these causes. If you are an economic analyst about to analyze the rise of the dollar, all you have to do is to choose a cause or an incident — and they are many — that seems like it had an impact at the time. The factor you choose can then be used to explain the change in rates, regardless of how big the change was or how weak the causes actually were. For this purpose, it is sufficient merely to have some cause and some change.

In every sugar-coated economic speech made by the Egyptian authorities (sweet-talk being the regime’s usual tactic when it aims to wriggle out of its economic responsibilities toward citizens, aside from repeating that the economic situation is disastrous), you will hear a lot about remittances from Egyptians working abroad. This figure is on a steady uptrend and accounts for an average of about US$18 billion a year. This is more than the Suez Canal, tourism and foreign investment revenues combined. The talk about this figure usually stirs fiery nationalist emotions, with statements such as, “The loyal sons and daughters of Egypt overseas who support the Egyptian economy until it rises again.”

But do Egyptians abroad actually pump US$18 billion into the Egyptian treasury every year? According to the last Central Bank of Egypt (CBE) governor, only 10 percent of these remittances, or less than US$2 billion, are deposited in banks. The owners of the remaining US$16 billion refuse to exchange their funds or deposit them in the banking system. US$16 billion is more than three times the size of the IMF loan that the government is begging for. US$16 billion makes its way into Egypt, and the government is unable to convince its owners to exchange it to solve the dollar crisis.

In classical economics, conventional wisdom says that you try to convince someone to give up a commodity he or she owns by offering a price.  If he or she refuses, you offer a better price. This conventional wisdom does not work for the government in its continuous bargaining with Egyptians abroad to let go of their dollars. In fact, this hypothesis seems to be turned on its head when it comes to the Egyptian currency market.

The percentage of total remittances that are deposited in the banks constantly changes. According to National Bank of Egypt Chairman Hesham Okasha, from 2003 until 2010, some 75 percent of remittances were deposited. Throughout these years, the dollar exchange rate was stable and ranged between LE5.70 and LE6.20. Despite this — and perhaps because of it — Egyptians working overseas used to exchange 75 percent of the dollars they brought into Egypt.

With every spike in dollar prices, the rate at which Egyptians abroad put their dollars into Egypt’s banking system dropped until it reached 5 percent in the last period. People who used to sell their product for LE6 now refuse to sell the same product for LE8, and will keep refusing as long as certain conditions persist — and in the Egyptian exchange market, they do persist.

In the stock market, or in any market where you buy products with the intention of reselling (such as in the property market), it is not important how much you might buy for — what counts is how much you will sell for. This rule makes supply and demand in financial markets very different from that of conventional markets. For example, there will be greater demand for an LE10 stock that is expected to reach LE15 than for an LE5 stock that is expected to reach LE6. These expectations about future spikes or dips in price are derived primarily from current and past price movements.

In other words, when the price of the dollar is relatively stable at around LE6 — as was the case between 2000 and 2010 — both the supply and the demand sides expect stability. This explains why overseas workers used to exchange 75 percent of their dollars in public banks, and thus the absence of an active black market at that time. However, when the dollar jumps from LE6 to LE7, suppliers (mostly Egyptians abroad) expect further increases in the price of the dollar and subsequently hang onto their dollars, reducing the supply available in the market.

Regardless of their fervent nationalist sentiments, you would be hard-pressed to find an Egyptian abroad, or any person for that matter, who will sell something for LE7 when they expect it to be worth LE8 the following month.

The same factors that prompt a cut in the dollar supply also fuel rising demand. When demand for a product surges and its supply declines, its price goes up. This once again fuels expectations of future increases, and so forth. This vicious circle will continue to create successive price hikes.

This phenomenon, which economists call a self-fulfilling prophecy, means that expectations of price movements can, in and of themselves, cause prices to move. Price movements fuel expectations and expectations fuel price movements, creating a vicious circle or a bubble that enables price movements far greater than the magnitude of the real-world forces acting upon them.

Many financial analysts, such as Robert J. Shiller and George Akerlof, attribute the 2008 financial crisis and many other financial bubbles to such market phenomena. This phenomenon recurred, and will keep recurring, in the Egyptian foreign currency market and most financial markets. 

With each significant change in the price of the dollar, you will see a drop in the supply of dollars from Egyptians abroad and a corresponding increase in demand. Pick any time the dollar saw a big spike, and look at how the supply of dollars from Egyptians abroad dropped. For example, look at the dollar’s hike in the mid-1980s from LE1.37 to LE2.25, and the consequent drop in total remittances from Egyptians abroad in 1987.

The current government has not obeyed the proverb “let sleeping dogs lie.” For reasons that have to do with its failure to manage the real economy, the government often needs dollars. The more the government needs dollars, the more it prods the speculators and allows the dollar’s price to change. This drives its primary suppliers of dollars (Egyptians abroad) to intuitively hold onto the dollars they own, and therefore the dollar becomes scarce in the market. As a result, the authorities need dollars even more desperately, allow their price to move further, and so on.

Consider that a key CBE measure to counter the fall of the pound is to spread rumors. Last March, the CBE spread a rumor that the exchange of US$100 bills would be banned. The CBE presumably thought the rumor would discourage people from stockpiling their dollars and would send them running to exchange their US$100 bills before it was too late (this strongly resembles another official rumor that people who don’t vote will be fined LE500, which emerges with every new electoral process).

Since the owners of dollars were not foolish enough to take the rumor seriously, the CBE invented a less pathetic solution called transfer cards, and then imposed a cap on dollar deposits. These were all ways of indirectly trying to reduce the hoarding of dollars by individuals, or to reduce demand for hard currency.

Inevitably, every time the CBE drives a change in the dollar exchange rate or even just professes its intention to do so, it reduces supply and increases demand. The self-fulfilling prophecy that the CBE itself set in motion has proven far stronger than the silly measures against the parallel market.

I do not mean to replace traditional factors that can influence the real economy (lower tourism revenues or exports, and so on) with this idea of the self-fulfilling prophecy. I am simply attempting to point out that focusing on fundamental causes related to the real economy fails to provide a picture of what is currently happening, or what will happen in the future.

Due to self-fulfilling prophecies and other similar phenomena, John Maynard Keynes and many other financial analysts describe financial markets as being determined by “animal spirits” that are both more violent and less rational than we tend to imagine. Events in the real economy may just be a start-signal for price movements, since conventional causes cannot explain or predict every price movement. This argument could be seen as a call to ignore economists and analysts (or more accurately, “economic causers”), which is, in fact, something I personally prefer to do.

However, the more fundamental goal of this argument is to demonstrate that the position of the Egyptian currency is actually worse than the bad economic situation, or the fundamental causes behind the economic woes. This is what drove me to choose LE10 or LE12 as a near-future value for the dollar when I exercised the inanity of forecasting.

Given that the nature of the foreign currency market is to amplify the negative real causes, and given an authority that has no means of stopping such currency-speculation fever (but actually encourages it with its ill-conceived decision to move prices), nothing will stop the price of the dollar from rising.

When I say that it might stop at LE10, it is not because I think economic performance will improve after that, but because LE10 is a round number and speculators usually regard round numbers as an object of veneration. Or perhaps LE12, because it is double the LE6 mark from which the dollar started its uptrend during the rule of former President Mohamed Morsi. 

Simply because of their psychological impact, these numbers could have more of an effect on speculators’ behavior than all the ineffectual procedures that the government takes against the parallel market, and more of an impact than the expected economic upturn.

I know it sounds absurd to say that the destiny of a currency serving 90 million people could be decided based on the psychological impact of certain numbers on speculators. However, this is an absurdity I will never rule out. In my view, it represents a more accurate understanding of the development of Egypt’s currency market than the authority’s measures to control the situation.

Mohamed Sultan 

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