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Egypt Economics - Shift rate call to a ‘hold’ for next MPC, given slightly elevated inflation reading in Apr. and rising oil prices

Inflation slows down in April, albeit slightly above our expectation

Urban headline consumer price inflation slowed down further in April to 13.1% from 13.3% in March, coming in slightly ahead of our expected 12.9%. This is the first month where inflation exceeds our expectation since it started to ease last August. More importantly, the monthly inflation reading saw an elevated increase of 1.5%; the highest in eight months, and following an elevated reading in March, of 1.1% (see Fig. 2), with both food and non-food inflation accelerating in April to 2.4% M-o-M and 0.6% M-o-M, respectively. Seasonality - ahead of Ramadan - is likely the key driver of the elevated food inflation, but this might not necessarily be the case for the accelerated non-food inflation. 
An elevated inflation reading, compounded with rising global risks

While not yielding major negative surprises, especially when considering the typical seasonality aspect ahead of Ramadan, April’s inflation reading does not seem to be comforting. This is especially the case, given the acceleration in non-food inflation, with six of the 11 components of the non-food basket showing an average increase of 1.2% M-o-M. The elevated inflation reading is also rising global risks, especially with regard to the recent sharp spike in oil prices, creating challenges for monetary authorities upon setting near-term monetary policy. Rising oil prices, while having a negligible immediate impact on inflation, clearly carry upside risks for the medium-term inflation outlook at a time when the government is preparing to phase out fuel subsidies. The target of reaching cost recovery levels by mid-2019, when the IMF programme expires, means there are upside risks to inflation, now that oil prices are up +50% since the last IMF review. Also, jitters engulfing emerging markets, due to continued strength in the USD, add another level of an elevated risk environment, although Egypt remains largely immune, in our view, from such pressures (as clearly demonstrated in the past few weeks, as both Treasury yields and the EGP showed notable stability).
50-50 chance for a ‘hold’ and a small cut; we shift our call to a ‘hold’

Setting the rate call, with regard to the MPC meeting next Thursday, has indeed become tricky: on the one hand, all of the above-mentioned factors, which elevate inflation risks, lower the probability of a rate cut; on the other, chances for a rate cut are not necessarily entirely eliminated, as Egypt maintains a healthy margin of positive real rates of 360bps, and as inflation remains within the Central Bank of Egypt’s (CBE) target of 13% (+/-3%). Moreover, CBE has a narrow window of opportunity to cut rates ahead of the planned fuel prices hikes – which we assess will still keep the inflation trajectory in line with CBE’s target – especially that the following MPC meeting will take place on 28 June (around the time of the subsidy cut); missing this opportunity could mean rates remaining on hold at least until 4Q18. Even by then, high oil prices could reduce probability of monetary easing. Weighing the two arguments, and recognising that the odds are nearly equal, we opt for shifting our rate call to a ‘hold’ (vs our expectation, previously, of a 50-100bps rate cut), given elevated risk environment that may prompt CBE to prefer remaining on the cautious side.  

Mohamed Abu Basha