Global Investment House – Egypt Economic & Strategic Outlook – Monetary Policy
Over the past few years, Central Bank of Egypt (CBE) has introduced a range of more sophisticated policy instruments and has shifted its policy focus to targeting inflation. A Monetary Policy Committee (MPC) has been formed to prepare for the move to inflation targeting. The MPC meets every six weeks to set interest rates, and the schedule of the meetings is made public to improve transparency and predictability. An increase in inflation in the second half of 2006 prompted the CBE to increase its key intervention rates. During December 2006, the CBE raised the overnight deposit and lending rates by 25 basis points to 8.75% and 10.75%, respectively.
The average lending rate has declined marginally to 12.64% in 2006/07, down from 12.71% in 2005/06. The average 3-months deposit rate was 6.01% in 2006/07, down from 6.53% in 2005/06. Similarly average 3-months T-bills rate was 8.65% in 2006/07, down from 8.82% in 2005/06.
In its meeting held on November 1, 2007, MPC decided to maintain the overnight deposit and lending rates at 8.75 percent and 10.75 percent, respectively. According to MPC, CPI inched-up to 8.80% in September 07 compared to 8.45% in August 07, which was mainly driven by the rise in domestic food prices, on the back of accelerating international prices, particularly wheat, maize, and edible oil. The propagation of the recent inflationary shocks to other non-food prices and the inflationary demand pressures from higher economic growth exerts upward pressure on inflation. Over the medium-term, this has the potential to drive inflation above the upper level of the CBE’s comfort zone.
On February 8th 2008, CBE raised its interest rates for the first time in more than a year, in response to rising inflation and growing food costs. CBE initiated a hike of 25 basis points, bringing its deposit rate to 9% and its lending rate to 11%. The decision came in the wake of news that inflation hit 11.5% in the year to January 2008, reversing Egypt’s disinflationary trend from the last quarter of 2007, according to CAPMAS. The bank said in a statement that it had acted in response to food price inflation as well as the expectation that food prices would come under upward pressure over the coming period, pushing up the costs of other goods and services indirectly though increasing demand for higher wages.
During 2006/07, the 20.1% rise in narrow money supply (M1) has directly contributed in the increase in total domestic liquidity (M2) by 18.3% to attain LE662.7bn. The demand deposits increased by 26.8% to reach LE44.4bn. As for the Quasi Money, it has risen by 17.8% as a result of the 45.2% surge in foreign currency demand deposits. On the Counterpart Assets side, the net claims on the government declined during 2006/07, while net foreign assets reached LE218.6bn, a 63.9% increase over June 2006 level. The money supply figures show growth in both narrow and broad money indicating robust economic activity and substantial upward pressures on inflation.
CBE is aiming to move to a formal inflation-targeting regime with the assistance of the IMF. The CBE will also continue to upgrade its own internal capabilities, increase the transparency of its decision-making, improve the quality of official statistics, notably concerning inflation, and expand the range of policy instruments, by enhancing the maturity structure of interest rates for example. Considering the fact that inflationary pressures are expected to remain strong in the medium term, on the back of buoyant economic growth, we believe the CBE will have to raise interest rates in the coming months.
