Egypt’s central bank unexpectedly raised its key interest rate by 200 basis points on Thursday, signaling that a long-awaited currency devaluation and a new deal with the International Monetary Fund (IMF) may be imminent.
The Monetary Policy Committee increased its benchmark deposit rate to 21.25% and the lending rate to 22.25%, according to a statement. Only Goldman Sachs Group Inc. and Morgan Stanley predicted a hike in a Bloomberg poll of economists, with the rest expecting no change.
The move came as Egypt’s pound plunged to a record low of 30.9 per dollar on the black market, amid a severe shortage of foreign exchange that has hampered imports and fueled inflation. The official exchange rate has been kept steady at 30.9 per dollar since March 2023, creating a wide gap with the parallel market and discouraging foreign investors.
Egypt has been in talks with the IMF for months to secure a new financial package that may exceed $10 billion and bring in additional support from the World Bank and other partners. The IMF has urged Egypt to adopt a more flexible exchange rate regime and implement other economic reforms as conditions for the loan.
The rate hike “is adding pressure on the Egyptian pound, which has traded relatively flat since the devaluation in early January despite clear signs of ongoing FX liquidity shortages,” Goldman Sachs’ economist Farouk Soussa wrote in a research note. “The risk of further pound weakness in the immediate term is high, particularly within the context of the first review under the IMF program.”
Egypt’s inflation soared to a more than five-year high of 33.7% in December, driven by surging food prices that have been exacerbated by the war in Ukraine. Egypt is a top importer of wheat, of which Ukraine and Russia are among its top suppliers. The central bank said it aims to bring inflation down to single digits over the medium term.
The rate hike may also help attract foreign portfolio inflows, which have dried up since the onset of the COVID-19 pandemic in 2020. Egypt’s local-currency debt offers some of the highest yields in emerging markets, but investors have been deterred by the currency risk and the lack of clarity on the IMF deal.
An IMF team ended a roughly two-week visit to Egypt on Thursday and said it had “made excellent progress” in the talks. The fund and Egypt have agreed on the main policy elements of the program, which include a durable shift to a flexible exchange rate, monetary policy aimed at gradually reducing inflation, fiscal consolidation, and structural reforms.
The two sides will continue to work over the coming days to finalize the details and identify the magnitude of additional support from the IMF and other development partners, the IMF said in a statement.
Egypt’s economy, the largest in the Arab world, has been hit hard by the fallout of the pandemic, which has reduced tourism revenues, remittances, and foreign direct investment. The government expects growth to slow to 3.6% in the fiscal year ending in June, down from 5.6% in the previous year.
However, some analysts see signs of recovery as the global vaccination campaign picks up pace and the geopolitical tensions ease. Egypt’s stock market has gained about 10% since the start of the year, outperforming most of its peers in the region.
The rate hike “is a positive signal that the authorities are serious about tackling inflation and restoring confidence in the currency,” said Mohamed Abu Basha, the head of macroeconomic analysis at EFG Hermes, a Cairo-based investment bank. “It also shows that they are close to reaching an agreement with the IMF, which will be a major boost for the economy and the market sentiment.”
Source: Bloomberg
