In a widely expected decision, the Central Bank of Egypt raised key interest rates by 200 basis points (2 percent) at the Monetary Policy Committee meeting. It also raised the interest rate on overnight lending to 12.25 percent from 10.25 percent, and the overnight deposit rate increased to 11.25 percent from 9.25 percent.
This decision comes days after Egyptian Prime Minister Mostafa Madbouly announced a government plan to offer a wide range of public assets to private sector investors with the aim of completely withdrawing from specific economic sectors, while seeking to attract investments worth $40 billion over the next 4 years.
Central Bank of Egypt Governor, Tarek Amer, announced on Wednesday that the central bank corrected the exchange rate last March, which resulted in an increase in foreign exchange flows by 30 percent during the same month. He added that raising interest rates at specific times to confront inflation was necessary, because the task of central banks is to address the effects of inflation and bear its temporary negative repercussions.
The Central Bank of Egypt surprised everyone by holding an extraordinary meeting of the Monetary Policy Committee on March 21, when it decided to raise interest rates by 100 basis points on deposit and lending, to reach 9.25 and 10.25 percent, respectively.
Repercussions of an interest rate hike
There is no doubt that raising interest rates in Egypt was an expected step to curb inflation, which continues to rise at a pace that exceeds expectations, reaching 12.3 percent in April. Expectations indicate that it may reach 17 percent in August.
Also, the central bank’s tightening of its monetary policy targets hot money that came out in billions from Egypt as a result of local and global factors, in light of the Federal Reserve raising interest rates, which contributed to the exit of money from emerging markets in general, including Egypt.
The amount of money that exited from Egypt since the beginning of 2022 is estimated at $20 billion, against the backdrop of global geopolitical conditions and their impact on the appetite for foreign investment in general in emerging markets.
Consequently, the biggest challenge is to keep these funds or to attract others due to the high interest, which will lead to the strengthening of foreign assets in Egyptian banks.
Raising the interest rate would also help the Central Bank to reduce the size of the money supply in the markets, which in turn leads to a decline in consumption so that the markets restore purchasing power programming based on the available liquidity.
Fitch said in a note yesterday, prior to the issuance of the Egyptian Central Bank’s decision, in which it expected to raise interest rates by 2 percent, that “the net foreign assets of Egyptian banks should continue to recover after the devaluation of the Egyptian pound due to the strengthening of foreign investors’ confidence in the rate system.”
“More flexible exchange rates and a new IMF program… Higher interest rates will boost banks’ profitability, but, along with high inflation, it can put pressures on asset quality.”
It adds that the banks’ net foreign liabilities rose to 185 billion Egyptian pounds ($12 billion) at the end of February 2022, compared to net foreign assets of 26 billion Egyptian pounds at the end of June 2021.
“We believe this was prompted by public sector banks using foreign assets to purchase state-issued securities to finance the current account deficit and upcoming maturities,” the memo said.
Deposits with the Central Bank of Egypt decreased in March by $7.4 billion as it used it to cover large external inflows.
However, “Fitch” does not expect that Egyptian banks will need new capital, given the “comfortable” capital reserves.
On the other hand, there are 3 risks to raising interest rates: stagnation, a decline in the growth rate, and damage to the stock market and investment. With an increase in interest rates, the demand for borrowing will decrease, while the demand for depositing money will increase. All of this leads to a slowdown in economic growth, through a decline in the pace of investment and a weak pace of spending.
This means that the economic cycle will be damaged and negatively affect the work environment.
Monetary Policy Committee
In its statement yesterday, the Monetary Policy Committee expected that economic activity would continue to expand at a slower pace than previously expected, in part due to the unfavorable repercussions of international developments arising from the Russian-Ukrainian war. It is also expected that inflation rates will exceed the rate targeted by the bank between 5 percent and 9 percent on average during the last quarter of this year, temporarily, before gradually resuming the decline.
It attributed the “high inflation figures” in April to the depreciation of the Egyptian pound last March, in addition to what it called “seasonal patterns” that contributed to the rise in food prices, namely bad weather conditions and high fertilizer prices.