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Sunday, 30 January 2022

Central bank to leave rates on hold despite Fed tightening

The Central Bank of Egypt will likely leave interest rates on hold when it meets this Thursday despite forecasts for rising inflation at home and higher interest rates abroad. All eight analysts and economists we polled expect the Monetary Policy Committee to maintain the benchmark rate at 8.25%, telling us that the EGP carry trade won’t face immediate pressure from rising US rates — and that inflation is unlikely to rise above the central bank’s target range.

The central bank has held interest rates steady for over a year, leaving the overnight deposit rate at 8.25% since making a 50 bps cut in November 2020. The lending rate has remained at 9.25% while the main operation and discount rates are both at 8.75%.

THE GLOBAL BACKGROUND: The Federal Reserve said late last Wednesday that it will likely start raising interest rates in March as policymakers try to get a handle on inflation, which has recently risen to highs not seen since the early 1980s. The market is currently pricing in four rate hikes this year, which would be the most aggressive tightening cycle in the US since the mid-2000s, putting pressure on risk assets across the world.

Egypt won’t come under pressure immediately: Egypt’s inflation-adjusted interest rate is the highest in the world and will attract portfolio inflows even as US interest rates start to climb, several analysts tell us. Egypt currently offers a real return of around 4%, which compares favorably to rates in the US and other high-interest rate emerging markets such as Turkey, according to HC Securities’ Monette Doss, who said, “We believe that Egypt's carry trade remains attractive at the current levels. … Even though the US Federal Reserve might start increasing interest rates in March, US two-year notes are expected to offer a negative real return of -2.2% … Turkey offers a real return of 3.8% on our calculations.”

How markets react to the Fed is the wild card: Some analysts expect the central bank could consider raising rates later this year as global rates tick higher. “With the Fed set to embark on policy tightening, the chances are growing that the central bank will need to hike interest rates later in the year,” James Swanston, MENA economist at Capital Economics, wrote in a note earlier this month.

Inflation could also prompt policymakers to consider a rate hike: “We see a high probability that the central bank will raise interest rates by 100 bps in 2022. This will depend mostly on the impact of monetary policy in developed countries, and the rise of global commodity prices, especially food, and their ability to influence domestic inflation,” Prime Holding’s Mona Bedeir told us.

Analysts told us that inflation will continue to rise in the coming months, with most forecasting the headline urban rate to average between 7-7.5% during the first six months of 2022 as rising oil and food prices filter through to the local economy. Mohamed Abu Basha, head of macro analysis at EFG Hermes, expects inflation to average 7% through the year. Annual urban inflation rose slightly to 5.9% in December from 5.6% the month before.

But it’s unlikely to overshoot the central bank’s target range: None of the analysts polled expected inflation to rise significantly above the central bank’s 7% (+/- 2%) target range.

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