KEY THEMES
The Monetary Policy Committee (MPC) of Egypt’s central bank is scheduled to meet today amid a wide consensus on a rate hold. This shouldn’t be surprising given the agitated global inflation outlook deriving from the surge in global commodity prices and the widening recovery gap between advanced countries and emerging markets. But to actually take this stance, the committee first has to lunge into a more absorbing discussion:
(1) Inflation is still well anchored around the CBE’s target – but there is cause for alarm. Inflation pressures gained further momentum in May from the surge in global food prices where FAO Food Price Index increased by 39.7% y/y, the highest annual growth since the mid of 2011, and by 5% m/m, the biggest monthly change since October 2010. The effect of the acceleration in global food prices already started to feed domestic inflation, as the government had to raise the prices of subsidized cooking oil by the end of May. In addition, pressures were building up at firms as the strains in global supply chains are deepened by the shortages of intermediary products and supply bottlenecks.
(2) Everyone is going to feel the pinch of climbing global prices and tightening monetary policy among Egypt peers, adding more pressure. The agitated global inflation outlook has already driven some EMs including Brazil and Russia (despite being commodity exporters) to tighten their monetary policy, and officials have signaled that more rate hikes should be expected down the road.
(3) The dilemma of balancing measures within a still-recovering economy. In the face of threatening inflationary pressures, the CBE will likely hold its rate steady for now, as a confidence-building measure, signaling irrevocable commitment to keep inflation in check. Yet, we have to remember that the signs of a broader rebound in economic activity are still not solid yet, given the PMI’s sixth consecutive negative reading and a still-muted domestic demand. The economy is still in need of an accommodative monetary policy to put it on a stronger footing. Moreover, the country's real yield on its debt instruments is still very lucrative. The questions here, though, are to what extent global commodity prices will climb as economies “reopen” and to what extent it will continue to feed domestic inflation. The trajectory of the CBE’s monetary policy is contingent on inflation expectations, and so far, inflation to remain anchored around the CBE’s target and to pick up to an average of 6.7% in 2H 2021. That should help the CBE keep the real policy rate positive at an average of 200bp over year, as well as providing some scope for a small rate cut by the end of the year if global conditions become more favorable.
(4) U.S. inflation is still not proven to be” transitory”. So, long-term U.S Treasury yields could resume rising, which discourages capital inflows into EMs. It would be challenging for the CBE to consider rate cuts at a time when global conditions are starting to tighten in response to heightened inflation fears, especially if a pick-up in domestic price pressures jeopardizes the CBE’s inflation targets.