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10-Jul-2019

Egypt Economics - Vegetables send inflation to three-year low, but no reason for immediate rate cuts

Inflation slows to three-year low of 9.4% in June

Egypt’s annual headline urban inflation decelerated sharply in June to a three-year low of 9.4%, down from 14.1% in May, mainly driven by a drop in food prices. We were already expecting inflation to slow to 11.5% from 14%, given favourable base effects (last year’s fuel price hike took place in June, while they happened this year in July), but a sharp drop in vegetable prices (10.5% M-o-M) sent inflation lower. Food prices dropped 2.2% M-o-M in June, thanks to lower vegetable and poultry prices; historically, there is a tendency for vegetable prices to see such large drops in June, but they are obviously hard to predict. Meanwhile, non-food inflation was up 0.7% M-o-M but slowed significantly on an annual basis to 8.4% from 13.1% in May. We also expect core inflation to decelerate on an annual basis to a range of 6.5-7% in June. Finally, we note that June’s reading is, therefore, another testament to the heightened volatility of Egypt’s food inflation dynamics, when last year it raised fears in the market, as inflation accelerated close to 18%, again driven by fruit and vegetables, though this June’s volatility, on the other hand, surprised positively.
 
We update our inflation forecasts…

We have slightly adjusted our forecasts in reaction to June’s numbers: we now expect headline inflation of 10-11% in Jul-Aug (down from 11-12%), single digits in Aug-Nov, before ending the year at 10-12%. While we maintain the same year-end inflation range, we now think it is closer to 10% than 12%, but we prefer to keep the range the same, given typical food volatility. We expect July’s M-o-M inflation to jump by 3.5% M-o-M, to reflect the latest price increases in various kind of fuels and electricity, as well as some wider impact on the rest of the inflation basket. June’s reading means that average inflation in 2018/19 stood at 13.9%, down from 21.6% in FY17/18, and we forecast inflation to average 8.6% in FY19/20.  
 
…but maintain expected trajectory for policy rates

Conceptually, we do not think June’s inflation numbers change much in our envisaged policy rate trajectory, given that: i) the larger-than-expected slowdown was driven solely by volatile food items; and ii) June’s inflation reading is of less significance anyway, given that this year’s fuel and electricity price hikes took place in July; hence, next month’s reading is the decisive one for inflation. As such, we reiterate our view that policy rates are likely to remain on hold in tomorrow’s MPC meeting and most likely in August’s meeting, with rising probability for rate cuts starting September. We continue to expect 100-200bps of rate cuts in 2H19 and 200-300bps in 2020. While the expected notable slowdown in headline inflation might visually allow for more sizeable rate cuts, we believe the continued widening in the non-oil trade deficit (up 25% Y-o-Y in 1Q19) and sharp EGP appreciation YTD might cushion the CBE to cut rates at a more aggressive pace, in our view.

Mohamed Abu Basha

Mostafa El Bakly