CBE delivers large rate hike to curb inflation

The CBE did exactly what everyone expected on Thursday: The Central Bankof Egypt (CBE) raised interest rates by 200 bps on Thursday in a bid to rein in inflation. The Monetary Policy Committee (MPC) bumped up the deposit rate to 18.25% and the lending rate to 19.25% after leaving rates on hold last month, it said in a statement (pdf). The bank’s main operation and disc. rates were also raised to 18.75%.

The hike came in line with analyst expectations: All but one of seven analysts we polledlast week expected policymakers to raise interest rates, with three expecting a 200-bps hike and two penciling in a larger 300-bps hike. The MPC unexpectedly opted to leave rates unchanged at its last meeting in February, saying that it wanted to gauge the impact of the combined 800 bps of rate hikes it made in 2022.

Inflation is running at its highest level in five-and-a-half-years, surging to31.9% in February, as the ongoing currency depreciation and strong demand leading up to Ramadan sent food prices spiking to new record highs. “The MPC stresses that achieving a tight monetary stance is a necessary condition to attain the CBE’s upcoming inflation targets of 7% (±2 percentage points) on average by 2024 4Q and 5%(±2 percentage points) on average by 2026 4Q,” the central bank said.

Not enough, says bond market: The central bank is going to have to raise interest rates higher and bring down inflation before foreign bond investors return to the local debt market, analysts told Bloomberg. Even after Thursday’s hike, Egypt’s real interest rate remains deeply negative, which — together with continued uncertainty about the stability of the currency — gives investors little incentive to return to the market, the business newswire claims.

High-wire act: The central bank is trying to bring down inflation while preventing the economy from falling into recession and avoiding raising government borrowing to unsustainable levels, Bloomberg points out.

“The latest rate hike will not likely bring prices on a disinflationary path but will rather contain inflation from spiraling out of control,” Prime Securities Head of Research Amr El Alfy told us. He said that while rising yields are becoming more attractive for investors, the FX risk can eliminate any gains before they’re realized. El Alfy is forecasting the currency to fall gradually to EGP 32.50 / USD by the end of 2Q 2023 before recovering to EGP 30.00 by the end of the year.

“The hike is too small to catalyze significant capital inflows, and thus is unlikely to ease pressure on the [EGP] or alleviate the FX scarcity issues the economy is facing,” Farouk Soussa, MENA economist at Goldman Sachs, wrote in a note picked up by Bloomberg, calling on policymakers to maintain currency flexibility and accelerate asset sales.

But inflation-fighting credibility strengthened: “The increase in interest rates should help to improve the perception that the central bank is committed to its inflation-targeting framework,” Capital Economics’ James Swanston wrote in a note. Unlike Goldman, Swanston thinks that the higher rates could help Egypt draw more inflows and support the EGP.

“We do not expect any action until the CBE has secured some more FX firepower from outside,” Naeem Brokerage’s head of research Allen Sandeep told us. “Without the added FX liquidity, a standalone deval would only create another higher floor for the parallel market rate to operate on.”

Investor appetite hinges on progress in selling state assets: “For any significant portfolio inflows to resume, we need to first see a few big state asset sales transacted as part of the privatization program, and participation from the GCC bloc,” Sandeep said.

Further tightening ahead? Capital Economics’ Swanston expects the CBE to raise rates by another 200 bps in the coming months, noting the “hawkish tone” of the central bank’s statement.

The news got ink in the foreign press:Reuters | AP | Bloomberg.

BACKGROUND- The USD-EGP rate in the parallel hasve deviated further from the official rate in recent days and non-deliverable forwards are suggesting a rate of EGP 40 a year from now. The EGP has already lost almost half of its value against the greenback over the past year after the CBE undertook three devaluations to ease external pressures triggered by the conflict in Ukraine.