1. Today’s Trading Playbook
TABLE OF CONTENTS
Like most central banks in emerging markets (EMs), the Monetary Policy Committee (MPC) of the CBE heads into its fifth meeting of the year facing a challenging dilemma of how to balance between maintaining a supportive monetary policy stance amid subdued demand, new COVID-19 variant threats, and avoiding de-anchoring of inflation expectations. The CBE has to consider the following eddies of headwinds for not only the upcoming decision but also for the medium-run outlook:
Inflation pressures may turn to be transitory for now, but risks are still emerging: We see inflation peaking in July and August, mainly due to electricity and fuel price hikes, in addition to the unfavorable base effect, but it will remain within the CBE's target 7% ± 2%. This comes before it eases towards the edge of 4% by end of 2021, mainly thanks to the favorable base effect. Yet, anecdotal evidence is accumulating that price pressures faced by companies are increasing. These pressures, as reported in the PMI survey, peaked in June and started to ease in July. The correlation between producer price inflation and consumer price inflation is currently weakened by weak demand. However, this all depends on the continuity of the current rally in global commodity prices, coupled with supply chains disruption.
Tightening monetary policy in EMs: Inflation continues to rise across the world as in EMs. However, it’s still difficult to say with much certainty how persistent it is or for how long it’s going to last, given the mixed dynamics that currently agitate its outlook. Furthermore, the monetary policy cycle for EMs has shifted notably toward a hawkish stance. Central banks in countries like Russia, Brazil, and Turkey hiked rates in recent months beyond even the market expectations as a preemptive act against de-anchoring inflation expectations and due to concerns over faster-than-expected monetary policy normalization in developed economies.
Delta variant and the fragility of the economic recovery: The broad-based and sustained recovery is still missing as the PMI index fell again in July 2021 to 49.1 from 49.9 in June 2021, marking eight consecutive months of contraction in non-oil private-sector activity. The reading came to reflect the fragility of the economic recovery given the weak demand and growing risks of the spread of the Delta variant, accompanied by a low vaccination rate.
Global commodity prices and supply chains are feeding inflation and breaking recovery: At the time the government begins studying raising the price of subsidized bread (which was estimated to cost EGP44bn in FY22), global prices of grains and oilseeds went back to rally in August on the backdrop of combining heat, drought, and floods that tightened the supply outlook. Moreover, global PMI and manufacturing surveys indicated that activity across most Southeast Asia and China fell in July, which will continue to weigh on the prices of imported inputs and the producers' sentiment to expand their capacity.
Thus, we expect that the CBE will opt to keep interest rates on hold today and until Q4 2021, where there is limited room for a small rate cut by late 2021.