Enterprise Explains: Money supply. The primary function of central bankers across the globe is to regulate money supply, the most essential lever in economic governance. To comprehend this function, it’s imperative to grasp the intricate relationship between money supply, inflation, and interest rates. The disruption of global supply chains as a result of the Russian war on Ukraine in early 2022, and the pandemic before that, has sent shockwaves through global economies, leaving central bankers to grapple with money supply issues and their primary byproduct, inflation.

For the uninitiated: What is money supply? It’s the total quantity of money circulating within an economy. It encompasses various forms of money, including physical currency, coins, demand deposits, and liquid assets that can readily be converted to banknotes.

Consumers spend more when there’s a high level of money circulating in the economy, driving up t he prices of goods and services —which is referred to as high inflation. An unpopular economic challenge, inflation can spiral when left unaddressed and lead to hyperinflation, a situation where the value of the local currency is so eroded and corrective measures become way less effective.

How does one tamp down inflation? The mainstream economic wisdom is to tighten monetary policy. Central banks tend to raise interest rates or enact other measures (such as raising banks reserve ratio requirements) when inflation is above target levels in a bid to reel in liquidity, discourage consumer spending, and ultimately tamp down inflation. And when the economy is nearing or in recession, central bankers loosen their monetary policy by lowering interest rates to encourage people to borrow and spend, ultimately propelling the economy.

Monetary tightening has its own challenges: Due to increased interest rates globally and the reduction of central banks’ balance sheets, the market is experiencing a reduction in liquidity, according to Bloomberg. This means that there is less available money, making it harder for individuals and businesses to secure financing, according to the business information service.

The global outlook: The IMF revised upwards its 2023 global growth outlook by 0.2 percentage points to 3.0% from the 2.8% April forecast in July. Despite the revised figures, the forecast is significantly below 2022’s 3.5% growth rate. The fund is now forecasting global headline inflation to fall to 6.8% in 2023 from 8.7% in 2022.

In Egypt’s context: Egypt wasn’t spared from these global economic headwinds, leaving it to wrestle with two economic challenges: High inflation and a hard currency shortage. Egypt’s inflation accelerated at a record pace for the second month running in July, as surging food costs and the impact of a series of devaluations maintained upward pressure on prices. The annual urban rate of inflation inched up to 36.5% y-o-y in July from 35.7% in Juneon the back ofexcess money supply circulating in the local market and rising prices in global markets.

Egypt’s money supply increased 24.6% y-o-y to EGP 8.2 trn in June 2023, according to central bank figures. The Central Bank of Egypt (CBE) has been heavily contributing to increasing the level of money supply in the economy mainly by purchasing government bonds, Reuters reports. This money has been used to finance government expenses, including “infrastructure projects including new cities and a vast expansion of roads while seeking to sustain some subsidies in order to prop up sliding living standards,” according to the newswire.

Global conditions are affecting the local dynamics: Much of Egypt’s inflation“ is imported and a lot of it is due to supply problems,” CBE Governor Hassan Abdalla said in April. “Not only supply prices but supply issues including a backlog that has resulted from some previous regulations. And this in itself is not and will not be addressed by interest rates.” This has led local food and beverage prices to rise 68.4% y-o-y in July, faster than the 65.9% rate the month before.

Imports have become all the more expensive on the back of the recent EGP devaluation and ashortage of hard currency poses a significant challenge for Egypt’s economy. This shortage stems from a variety of sources, including a deficit in local FX generating streams, and market turmoil leading to a selloff in government debt instruments. These challenges have resulted in the rise of a parallel market that is currently valuing the EGP at around 20% lower than the official rate.

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