11-Sep-2018
Egypt Economics - Accelerating inflation in August not a concern; sticking to our call of stable policy rates
Headline inflation surprisingly accelerates in August…
Egypt’s annual headline inflation accelerated to 14.2% in August from 13.5% in July, driven largely by higher food prices. The outturn came against our expectation of inflation remaining largely stable at 13.4%. Food prices accelerated to a five-month high of 11.6% Y-o-Y in August from 9.6% in July, driven predominantly by fruit and vegetable prices; the latter saw price increases of 7% M-o-M, which, without, food prices would have been largely flat on a monthly basis. Meanwhile, non-food inflation decelerated to 17.1% Y-o-Y in August from 17.7% in July. On a monthly basis, inflation decelerated to 1.8% in August, down from 3.5% and 2.4% in June and July, respectively, in a sign that inflationary pressures, following the latest round of subsidy cuts, are indeed easing. Food inflation accelerated to 2.9%, reflected by the sharp jump in fruit and vegetable prices for the third consecutive month, while non-food inflation slowed to 0.6% from 2.5% in July.
…but underlying inflationary pressures remain muted
Headline acceleration is not a big concern, in our view, as it does not reflect major underlying inflationary pressures. In addition to deceleration in the monthly inflation rate, the numbers show continued diversion between headline and core inflation; note that the latter excludes fruits and vegetables, as well as regulated price items. The diversion indicates: i) the absence of second-round effects from the recent subsidy cuts; in other words, the subsidy cuts are not leading to a wider increase in inflation; and ii) slightly elevated inflation in the past two months has been driven predominantly by seasonal, volatile fruits and vegetables.
Maintain view of unchanged policy rates
We see the slightly elevated inflation reading to further prompt the Central Bank of Egypt (CBE) to keep interest rates on hold when it meets later this month, despite the absence of any major inflationary pressures. We are expecting CBE to wait for further evidence that indicates monthly inflation trends have fully normalised (August’s 1.8% is still elevated compared to an average of 0.6% in 5M18). In the medium term, we continue to expect CBE to maintain interest rates on hold, primarily over the next 6-9 months, because of the planned liberalisation of fuel prices in the summer of 2019, where the YTD spike in oil prices has notably changed the inflation outlook. CBE might also want to take a precautionary stance of easing too quickly amongst tightening global monetary conditions with heightened volatility in the emerging market space.
Treasury yields reverse short-term correction
The recent uptick in Treasury yields, reversing a short-term downward trend, confirms our view that yields are likely to remain elevated in the medium term, in light of: i) stable inflation levels keeping an uncertain outlook about potential rate cuts; ii) locals dominating the purchases of new supply of Treasuries as foreign investors are gradually reducing their exposure; this has always been attached with rising interest rates; and iii) warranted higher risk premium amongst an elevated risk environment within EM space. Elevated yields are constraining the government’s plans to extend its debt duration, with the Ministry of Finance cancelling a couple of auctions in the past month in light of rising yields on Treasury bonds.
Mohamed Abu Basha
Egypt’s annual headline inflation accelerated to 14.2% in August from 13.5% in July, driven largely by higher food prices. The outturn came against our expectation of inflation remaining largely stable at 13.4%. Food prices accelerated to a five-month high of 11.6% Y-o-Y in August from 9.6% in July, driven predominantly by fruit and vegetable prices; the latter saw price increases of 7% M-o-M, which, without, food prices would have been largely flat on a monthly basis. Meanwhile, non-food inflation decelerated to 17.1% Y-o-Y in August from 17.7% in July. On a monthly basis, inflation decelerated to 1.8% in August, down from 3.5% and 2.4% in June and July, respectively, in a sign that inflationary pressures, following the latest round of subsidy cuts, are indeed easing. Food inflation accelerated to 2.9%, reflected by the sharp jump in fruit and vegetable prices for the third consecutive month, while non-food inflation slowed to 0.6% from 2.5% in July.
…but underlying inflationary pressures remain muted
Headline acceleration is not a big concern, in our view, as it does not reflect major underlying inflationary pressures. In addition to deceleration in the monthly inflation rate, the numbers show continued diversion between headline and core inflation; note that the latter excludes fruits and vegetables, as well as regulated price items. The diversion indicates: i) the absence of second-round effects from the recent subsidy cuts; in other words, the subsidy cuts are not leading to a wider increase in inflation; and ii) slightly elevated inflation in the past two months has been driven predominantly by seasonal, volatile fruits and vegetables.
Maintain view of unchanged policy rates
We see the slightly elevated inflation reading to further prompt the Central Bank of Egypt (CBE) to keep interest rates on hold when it meets later this month, despite the absence of any major inflationary pressures. We are expecting CBE to wait for further evidence that indicates monthly inflation trends have fully normalised (August’s 1.8% is still elevated compared to an average of 0.6% in 5M18). In the medium term, we continue to expect CBE to maintain interest rates on hold, primarily over the next 6-9 months, because of the planned liberalisation of fuel prices in the summer of 2019, where the YTD spike in oil prices has notably changed the inflation outlook. CBE might also want to take a precautionary stance of easing too quickly amongst tightening global monetary conditions with heightened volatility in the emerging market space.
Treasury yields reverse short-term correction
The recent uptick in Treasury yields, reversing a short-term downward trend, confirms our view that yields are likely to remain elevated in the medium term, in light of: i) stable inflation levels keeping an uncertain outlook about potential rate cuts; ii) locals dominating the purchases of new supply of Treasuries as foreign investors are gradually reducing their exposure; this has always been attached with rising interest rates; and iii) warranted higher risk premium amongst an elevated risk environment within EM space. Elevated yields are constraining the government’s plans to extend its debt duration, with the Ministry of Finance cancelling a couple of auctions in the past month in light of rising yields on Treasury bonds.
Mohamed Abu Basha