A premature increase

Safeya Mounir , Wednesday 13 Mar 2024

Contradicting all expectations, inflation rates recorded an increase in February.



The annual inflation rate climbed by 5.9 per cent to 35.7per cent in February. The monthly inflation soared from 1.6 per cent in January to a shocking 11 per cent, its highest ever.

The increase clashed with analyst expectations that the rate will continue its three-month downward trend due to a favourable base effect, which means the rate of inflation in the same month of comparison last year or last month was high.

The rise was fed by increases in prices of food and beverages by 50.9 per cent as well as spending on health and education. Also, alcohol and tobacco witnessed a 93 per cent increase.

Egypt in January hiked prices of a number of services, including electricity tariffs, metro tickets, and mobile charging cards. Moreover, smokers saw a series of increases in cigarette and tobacco prices over the last couple of months.

Most analysts who expected the rate to decrease in Februarywere confident that it will definitely increase in March on the back of last week’s devaluation of the pound that was accompanied by a hike in interest rates to contain the resulting inflation.

During an extraordinary meeting on 6 March, the Monetary Policy Committee of theCentral Bank of Egypt (CBE) raised the overnight deposit rate, the lending rate, and the bank’s main operation rate by six per cent to 27.25 per cent, 28.25 per cent, and 27.75 per cent, respectively.

A CBE statement said that the committee had decided to accelerate the monetary tightening measures so as to drive inflation downwards at a faster pace.

In tandem with these interest rate increases, the CBE devalued the Egyptian pound, allowing the official exchange rate to the dollar to decrease from LE30.8, where it has stabilisedfor the last 12 months, to just under LE50. The currency floatation meets one of the conditions set by the IMF for approving a crucial loan agreement with Egypt.

When announcing its decisions, the CBE explained that it was important to coordinate fiscal and monetary policies to mitigate the impact of external shocks on the domestic economy and rebuild hard currency reserves. It added that currency devaluation should eliminate the parallel exchange market which, in turn, will also help bring down inflation.

Central banks use interest rates as monetary tools to support the value of the currency and contain inflation. Increasing the rate would increase the appeal of depositing money in banks to get the high yield. The lack of money in circulation now deposited in banks would limit the demand and thus help in capping inflation. The bad news is that increasing rates increases the cost of borrowing on companies, slows production, and thus adversely affects economic growth rate.

Hani Tawfik, former head of the Direct Investment Association, said raising interest rates is a double-edged sword. “It is not so much about being pro-investment versus pro-inflation. The aim is to reduce liquidity in the hands of the government and the general public.”

Economists predict that headline inflation will follow a downward trajectory in the medium term after a gradual easing of the inflationary pressures associated with the exchange rate consolidation.

Regarding floatation, Tawfik suggested that the LE50 per dollar exchange rate should be seen as a reduction in the cost of the dollar, not a hike. In the parallel market, the dollar had been selling for LE60. So, merchants and importers who have had to rely on the parallel market will not be affected by the float. In fact, their situation should improve if banks meet the hard currency demands of importers.

Mohamed Hassan, managing director of Alpha for financial investments management, pointed out that prices should go down once the goods that have been held up in customs are released into the markets.

MattaBishai, chairman of the Internal Trade Committee of the Federation of Chambers of Commerce, is not so optimistic. He believes that the interest rate hikes will help bring down the rate of inflation, but that increased customs taxes and the higher dollar rate will drive up prices.

* A version of this article appears in print in the 14 March, 2024 edition of Al-Ahram Weekly

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