Sharm el Sheikh attacks threaten Egypt's recovery

The death toll from Egypt's worst terrorist attack has reached 88 with a further 200 people believed to have been injured. On Saturday, three bombs exploded at the Egyptian Red Sea resort of Sharm al-Sheikh. The resort, which is popular with Egyptian, European and Arab tourists, was packed with tourists as the bombs occurred during the height of the summer tourist season, and coincided with an extended holiday weekend to mark the anniversary of the 1952 Egyptian revolution.

Three explosions, including two apparent car bombs, hit a hotel, car park and market in the early hours of Saturday morning in the resort. Egyptians and foreigners are among the fatalities with the police so far identifying Britons, Italians, Dutch and Qataris among the dead. Two different al-Qaeda terrorist linked groups have claimed responsibility for the attacks, although neither of the claims have been verified.

This is the latest in a series of attacks over the last twelve months that has targeted Egypt's tourism industry. Thirty-four people were killed last October in the resort of Taba, in the Sinai Peninsula were followed by two separate attacks on tourists in Cairo in April that killed three people.

Tourism key to the Egyptian economy

Naturally, the most important focus is on the human suffering and the loss of life. Business implications are secondary. That said, the economic impact will be significant. Tourism is the country's largest foreign exchange earner (tourist receipts reached USD 6.1 billion in 2004), directly accounts for 10% of GDP and employs 10% of the work force. Although it is too early to assess the full impact of the attacks, the historical precedent is not encouraging.

The previous worst attack in Egypt in 1997, when militants killed 58 foreign tourists and four Egyptians at Luxor, caused a slump in the tourist industry and domestic economy. Arrivals dropped by 17% y/y and it took two years of stability before numbers recovered to their 1996 level. In the wake of 9/11, tourist numbers also dropped by 16% y/y after already being depressed by the outbreak of the Palestinian Intifada in 2000. Only in the last two years has the tourism industry begun to show strong signs of recovery. Numbers rose by 16% in 2003 and by 34% in 2004, in the latter case an increase of 2m visitors - the largest ever annual increase.

Global rather than local causes

In the wake of the Sharm bombings, tourist arrivals will inevitably fall in the short term. But there are reasons to believe the sector may recover more quickly than before. In particular, a significant difference between the 1990s and now is the origins of the attacks. A decade ago, domestic insurgents were fighting a battle against the government. Now it appears the attacks are part of al Qaeda's global campaign. The Islamic Brotherhood, the leading domestic opposition group, has been quick to condemn Saturday's bombing, calling them 'acts that defy religion and attacks on human values.' If this assumption about global rather than local causes is correct, Egypt's tourist sector may prove to be more resilient than before.

Economy more resilient than before

Therefore, the economic impact may not be as signficant. Egypt is in the middle of an economic upswing thanks to a reinvigorated government reform program, high oil prices and strong world growth. Tax cuts and rising business confidence has led to domestic demand growing strongly for the first time for a decade. The initial domestic market reaction seems to support this view. The benchmark CASE index closed down 3% on Sunday, the first day of trading after the attacks. The market remains 98% up year to date in US dollar terms. The Egyptian pound was stable against the US dollar at 5.765.

Key to Egypt's outlook will be the policy response. In particular whether the government can successfully strike a balance between security and continuing reform. The government will want to take measures to reassure tourists and investors that a similar terrorist attack is unlikely to happen again. At the same time, however, it must press ahead with its investor friendly reforms and privatisation program.