Egyptian market expects another interest rate cut on Thursday

Hossam Mounir
17 Min Read
It is expected that the MPC would make a decision to fix interest rates in the CBE, as it did before in February, April and June; says General Director of Treasury at the Industrial Development and Workers Bank of Egypt AFP Photo

There are expectations rather than hopes for the Central Bank of Egypt (CBE) to cut its interest rates on Thursday.

The CBE’s monetary policy committee (MPC) will hold its second meeting this year on Thursday, in order to discuss the coming direction of the CBE’s basic interest rates, which are the primary indicators of the interest rate on the pound in the local market.

In its last meeting on 14 February, the MPC cut interest rates by 1%, realising 15.75% for deposits, 16.75% for lending, and 16.25% for credit and discount rates and main operations.

The Central Agency for Public Mobilization and Statistics announced that the annual rate of headline inflation reached 13.9% in February against 12.2% in January 2019, up by 1.7%.

The monthly inflation rate was up by 1.8% in February, against 0.8% in January 2019.

In the CBE, the annual core inflation rate increased for the third month in a row to 9.2% in February, against 8.6% in January 2019, while monthly core inflation rose by 1% in February, up from 0.4% in January.

In December 2018, the CBE said it eyes inflation of 9% (±3%), which puts it to 6-12% by the end of the last quarter (Q4) of 2020.

In a poll conducted by Daily News Egypt in late January 2019, analysts, experts, and bankers said that inflation should remain below 10-14% in 2019, while some thought it would increase as high as 17.8%.

In May 2018, the CBE projected inflation at 13% (±3%), at 10-16% in Q4 of 2018, which has materialised, as headline inflation ended 2018 at 12% and core inflation at 8.3%.

Mohamed Abdel Aal, a member of the board of directors of the Suez Canal Bank and the Arab Sudanese Bank

According to Mohamed Abdel Aal, a member of the board of directors of the Suez Canal Bank and the Arab Sudanese Bank, said that the MPC has all the analysis and measurement tools of the relationship between the current and future interest rates and the rest of the other macroeconomic indicators, and has specialised teams and experts who have the ability to prepare stress tests and scenarios which, with great confidence, will determine their interest rate tests.

He explained further that the decision-making process with regard to the interest rate changes is a decision based on clear scientific, technical, scientific factors, policies, and objectives.

“From here it can be said that it is not logical to predict the decision of the MPC in its meeting next Thursday, but the best is to determine or adopt a trend that reflects the MPC’s vision,” Abel Aal said.

He pointed out that the MPC may take a decision to stabilise or reduce the central rates of return, but, according to the current economic and financial data locally and externally, it is better for the CBE to pursue a progressive expansionary monetary policy and adopt a trend of reducing interest rates by 1% on Thursday.

“Making this decision in my view is linked to a strategic reason, which is imperative for coherence, harmony, and coordination between fiscal policy and monetary policy, which currently reflects an environment that presents better opportunities for the national economy if the CBE cuts rates,” he added.

Furthermore, the fiscal policy aims to increase the volume of investments, expand exports, develop the role of the private sector in progressing the process and expanding the financing of large, medium, and small enterprises, which requires the CBE to continue its policy toward expansionary monetary policy, he pointed out.

He added that the fiscal policy also aims to reduce the overall deficit in the state budget during the fiscal year (FY) 2019/20 to 7.2% and achieve an economic growth rate of 6.1%, as well as decrease the annual budget deficit of 2018/19 to 8.4%, against 9.8% in 2017/18. Cutting interest rates will reduce the cost of financing public debt, help lower the budget deficit, and stimulate economic activity, thereby achieving the objectives of the fiscal policy.

Moreover, Abdel Aal pointed out that the ministry of finance did not request any additional appropriations to balance the current FY budget, as a result of the increase in tax revenues. This means that the ministry’s relative demand for borrowing to finance the budget deficit is low. Therefore, it may be reasonable, especially that the yield on treasury bills, recorded earlier this month, is the largest weekly drop since 2018, which indicates that the ministry is not in need for borrowing, and if it borrows, it will not pay a high interest.

Abdel Aal said that the monetary policy aims first and foremost to control inflation, thus achieving optimal balance between the economic growth rate and the inflation rate and has largely succeeded in achieving this.

He explained that the inflation rose to 14.4% in February, against 12.7% in January 2019, which does not put pressure on the future direction of inflation rates, noting that monetary policy will succeed in achieving the CBE’s inflation targets of 9% (±3%) by the end of 2020.

“The fear of new inflationary pressures coincides with the implementation of another anticipated subsidy cuts in July 2019, or the partial implementation of 95 octane gasoline pricing in April 2019 is a rightful feeling. But its prospects on the ground will be doubtful, where the impact should be marginal or offset by the expected fall of prices,” Abdel Aal said.

Over and above, the inflation rate is expected to decline in the coming period, to reach between 11.5% and 12.5% on an annual basis. Hence, there are greater opportunities available to the MPC to slash the interest rate, before the expected wave of inflation which is projected, so that the CBE can reassess the impact of subsidy cuts on inflation at the time are reduced, Abdel Aal highlighted.

He pointed out that the monetary policy of the CBE succeeded in stabilising the exchange rate, in the light of the dependence on supply and demand, and that despite the marginal increase in inflation rates in February 2019, the presence of hard cash has deferred fears of a lower interest rate on the pound, due to pressures on foreign currencies. This fear does not commensurate with the current stability in the exchange market and the improved exchange rate.

Abdel Aal expects the dollar to range at EGP 17-18 in the first half (H1) of the year.

“Do not forget that the reduction of interest rates also has a positive impact on the performance of the Egyptian Exchange (EGX), in terms of volume and stock prices and increased liquidity rate in the money market,” he explained.

“All of this, coupled with coordination between fiscal and monetary policies, push toward a reduction in rates on Thursday by 1%.”

Tarek Metwally

According to the banking expert Tarek Metwally, despite the high inflation in January and February 2019, all options are on the table for the CBE to decide on Thursday whether to cut or keep rates unchanged.

Metwally explained that a fixed rate is supported by rising inflation, and the possibility of the liberalisation of the price of 95 octane gasoline by the end of March and Ramadan, which will come with more consumption and higher prices, then, in June, it will be followed by remaining economic measures and cutting fuel and energy subsidies.

He added that the interest rate is also supported by the CBE’s keenness on not cutting rates on deposits, as prices go up and Ramadan is approaching, in addition to the high interest rates in some emerging markets, including Turkey and Argentina, which is likely to stabilise interest rates.

According to Metwally, the factors that may drive the CBE to cut interest rates are the rise in inflation during January and February 2019, which were resulted of seasonal factors related to price hikes, so there is no fear of more inflation.

Furthermore, he added that the interest rate is also likely to weaken the dollar, improve economic indicators in general, and increase foreign currency revenues during that period.

All these factors make this period suitable for the CBE to take the decision to reduce the interest rate, before the start of the next wave of subsidy cuts, which would make it more difficult to cut the rates, the banking expert said.

“On a personal level, I tend to reduce interest rates to encourage investment, reduce public debt, and stimulate markets, taking into account the impact on depositors, as in the previous cuts,” Metwally stated.

According to Haitham Abdel Fattah, the head of treasury and financial markets at the Industrial Development Bank, the figures and indicators of macroeconomic performance support the idea of a direction toward further easing of monetary policy, despite the recent rise in inflation in January and February 2019.

He explained that the rise in inflation is due to the seasonal reason which is known and expected and will soon disappear. The causes are temporary, and do not constitute any pressure on decision-makers.

Abdel Fattah added that the decline of the US dollar against the pound by about 5% is due to the desire for investing in government debt instruments, and the accompanying interest rate cut on these instruments enhances the possibilities of cutting interest rates in the coming meeting of the MPC.

Concerning the impact of the expected steps on fuel prices on inflation, Abdel Fattah said he expected a very specific impact of these decisions, where it is expected that the rate of increase in the inflation rate as a result of these decisions will range between 0.5 and 1.5%.

“No other opportunities for any major inflation shocks exist in the future and the only shock occurred after the decision to liberate the exchange rate and will not see the EGX such shocks again,” he said.

He explained that what is happening in the market is only a seasonal challenge and will disappear, as the US dollar’s price fell by about 5% against the pound since the beginning of the year, and will absorb any effects of price hikes, which would also curb inflation.

In addition, the direction of international rating institutions to improve the credit rating of Egypt, as a result of the improvement in the situation in the country, both in terms of fiscal or monetary policy, pointing out that the Fitch Ratings raised the classification of Egypt last Thursday from B to B+ with a stable outlook, he stressed.

According to Beltone Financial, it is expected to reduce its interest rates between 50 to 100 basis points by the MPC on Thursday.

In a research note, Beltone explained that the high inflation reading in January and February 2019 does not pose a threat to its future inflation outlook, noting that it maintains its vision of continuously containing inflationary pressures during H1 of 2019.

“We reiterate our expectations that there is an opportunity to cut interest rates again in H1 of 2019, before applying automatic a pricing mechanism for petroleum products,” Beltone said.

It pointed out that the vision to reduce interest rates depends on several factors, the most important of which is the continuation of favourable global conditions in the context of limiting restrictive monetary policy, which supports the completion of the CBE’s monetary expansion policy.

According to Beltone, continued inflows into fixed-income instruments confirm renewed appetite for investors, despite falling government bond yields, which confirm limited pressure on local currency–another factor in interest rate decisions.

Beltone sees limited opportunities for future interest rate cuts, as seasonal inflationary pressures will shift to negative real interest rates by the end of Q2 of 2019, before inflation eases by the end of the year.

It confirmed that the interest rate cut in February, before its expected time, was designed to send a strong message of confidence in the current monetary policy and the local currency path, reducing the economic component of the decision-making process.

The US Federal Reserve System decided last Wednesday to keep its interest rates on the dollar unchanged in the range between 2.25-2.5%.

The bank said in a statement that there will be no further increases in interest rates during this year, pointing out that the economic activity slowed from its strong performance in Q4 of 2018.

Analysts believe the decision and its subsequent events hint that it will not raise the dollar’s interest rates again this year and is also an opportunity for the CBE to cut interest rates in Egypt.

The HC Securities & Investment said that while the monthly inflation in February remains within the CBE’s target of 13% (±3%), they believe inflation could average 16.6-17.3% over the May-December period, spurred by higher consumer demand during Ramadan, expected energy subsidy cuts by mid-year, and tourism demand during the summer months.

The interest rate cut undertaken by the CBE in February, however, pinpoints the need to encourage private sector to borrow and promote economic growth, especially with the 40% slash in foreign direct investments, reported in Q1 of 2018/19, coming in at $1bn from $1.8bn Q1 of 2017/18.

“In this regard, we believe the February rate cut was not enough to drive private lending growth with a need for further cuts to see material growth in private lending. CBE officials have also previously expressed their willingness to be flexible in inflation targeting, accommodating for an annual inflation rate of 17.7% last October. The improvement witnessed in the federal exchange rate, with the Egyptian pound standing at EGP 17.25/dollar currently from EGP 17.87/dollar last December, might also help in partially containing inflationary pressures. Accordingly, we expect the CBE to cut corridor rates by 100 bps at its next meeting on 28 March,” it added.

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