Egypt’s current debt crisis is one of the fruits of Camp David. Much of the principal and interest now in arrears or coming due was contracted in the heady days when oil prices were soaring and the treaty with Israel and military alliance with Washington certified Egypt as a credit-worthy customer for Western banks and governments. The United States in particular stepped up its economic and military lending to Cairo.

The Egyptian economy at that time benefited from the booming regional oil economy -- Egypt’s own oil exports increased, it enjoyed increased remittances from Egyptian workers in the Gulf, and Suez Canal tolls were also up. Foreign lenders shared Egyptian confidence that this trend would continue. Most loans were contracted at the high interest rates prevailing in the beginning of the decade, in the 16-20 percent range. Now the grace periods on the loans contracted in those years have expired. Oil prices and Egyptian foreign exchange revenues have plummeted. International lending rates are also way down -- around seven percent -- but Egypt is still locked in to the old, high rates.

The collapse of oil prices is not the only factor behind Egypt’s debt crisis. Most new economic activity over the last ten years has been in the services sector. In addition, foreign invesment in manufacturing largely ignored the export sector. New production for local consumption required foreign industrial inputs and spare parts, now a large part of imports. A flourishing black market has absorbed a large segment of worker remittances and tourist revenues, fueling consumption rather than capital investment.

To make matters worse, different ministries contracted foreign loans in an uncoordinated manner. The worst culprit was the defense ministry. The central government had been working on the assumption that its total foreign debt stood at around $30 billion, until audits connected to the negotiations uncovered the true amount -- around $40 billion.

Western creditor countries and financial institutions have formed two organizations to carry out the negotiations with debtor countries. The Paris Club, consisting of the Western capitalist countries and Japan, reschedules only official bilateral loans. The London Club comprises international banks and reschedules bank loans made to governments or their public enterprises.

The rescheduling sequence is this. First, the debtor government negotiates a package of economic reforms with the International Monetary Fund. The IMF then provides some balance of payments assistance. The IMF secures the conditions demanded by the creditor banks and governments. Then rescheduling by the Paris and London Clubs is finalized. The main reforms in Egypt’s case consist of devaluation of the currency and reduction of the government budget deficit. The major ingredient here is reducing government subsidies on food and energy staples.

The last time the IMF got tough with Egypt, the result was the bread riots in Cairo in January 1977 which nearly toppled the Sadat government. This latest round of negotiations has lasted two years. Egyptian and American officials feared that stringent reforms this time around might have similar results. Consequently, Egypt got only $325 million from the IMF instead of the $1.5 billion it was requesting, but conditions were comparatively lenient: an immediate devaluation of only 35 percent, and no explicit subsidy reductions. US pressure on the IMF for these terms drove one senior IMF official, an Australian, to resign in protest.

A week later, the Paris Club countries agreed to reschedule Egypt’s payments and arrears between October 1986 and March 1988 on a debt of $10 billion, which includes $4.3 billion in military debts. Repayment of these sums will be over ten years, with a five year grace period. The total payments rescheduled are “capitalized” and interest on that amount is set at 1 percent over the London Interbank Rate (LIBOR) -- currently around 7 percent.

As a result, Egypt has secured some very temporary relief from its creditors. Additional interest payments over the rescheduling period will come to around $300 million per year. Since Egypt has no expectation of running balance of payments surpluses, it will have to borrow these additional sums. These new borrowings will mean additional interest and principal payments. Egypt’s debt service ratio -- the sum of payments on principal and interest divided by foreign exchange earnings -- jumped from 35 percent in 1985 to 50 percent in 1986. The rescheduling will bring this ratio back down to 35 percent this year, but it will climb again in 1988 and thereafter (see graph). International bankers and economists expect that Egypt -- like Morocco and many other heavily indebted countries -- will be rescheduling new obligations coming due in 1989 and thereafter practically on an annual basis. Most borrowing will go to finance past debt and reschedulings and not productive investments.