#Hermes expect more policy rate hikes to follow

EFG-Hermes said in a recent study that a weakening EGP, supply bottlenecks due to energy shortages and future fiscal consolidation plans, will keep inflationary pressures elevated in 2013, in our view, leading to reiterate our view of another 150 bps hike in policy rates this year.

The Central Bank of Egypt (CBE) raised interest rates by 50 basis points (bps) in its meeting on 21 March, in line with our expectation. The overnight deposit rate was raised to 9.75%; overnight lending rate to 10.75%; repo rate to 10.25%; and discount rate was raised by 75 bps to 10.25%. The CBE cited “broad-based increases and non-food prices” as the main drivers of its decision as it judged that “disanchored inflation expectations are more detrimental to the economy over the medium term” than the weak growth outlook.

Hermes stated that it recently increased its average inflation forecasts in CY2013 to 12.1% Y-o-Y from an earlier 9.9% Y-o-Y after inflation showed a marked acceleration in 2M2013.

It added that Fiscal consolidation plans, mainly consisting of higher sales taxes and a reduction in fuel subsidies, form the largest upside risks to inflation, and their degree and timing will depend on developments of negotiations with the IMF. We have not included these in our forecasts, given the uncertainty about the timing of implementations, but expect them to add 3 – 5 percentages points to headline inflation when implemented.
Hermes also expect the rate hike to have a limited impact on curbing inflation, given the CBE faces a supply-side driven inflation, driven largely by structural factors. Inflation is mainly driven by political deadlock and strained fiscal and external balances, matters the CBE has little to control. Economic activity remains dampened as investment remains in a contractionary mode. Meanwhile, private consumption growth, which has been the main engine of a rather muted growth since 2011, is expected to decelerate with rising inflation.

Hermes also said ” We also note that public banks, as well as a few private banks, have already increased their deposit rates over the past month (by 200 bps in the case of the public banks) and we, therefore, do not see the CBE’s decision as being a driver for broad-based increases in deposit rates at local banks. The decision will, however, drive government borrowing rates higher, albeit only to reverse a downtrend witnessed over the past month.”


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