The Central Bank of Egypt (CBE) will update its inflation target in the coming period, so that the society could predict price levels, according to an official source at the CBE.
The Central Bank had previously set an inflation target of 7% (±2%) on average for the fourth quarter of 2022. According to the source, it is expected that inflation rates will rise above this target temporarily due to world crises and price hikes.
However, the source expected that inflation would start to decline by the second half of 2023, and that inflation rates would be more stable.
He said: “According to our expectations, which are consistent with the expectations of other global central banks, if the tension in the geopolitical situation begins to recede, we will actually start to see a decrease in inflation rates, and we will start to see some decline already in some global commodities.”
The Monetary Policy Committee of the Central Bank decided last Thursday to maintain the overnight deposit and lending rates at 11.25% and 12.25%, respectively, and to keep the credit and discount rates and the price of the main operation of the Central Bank at 11.75%.
According to the source, the CBE’s main goal is to achieve monetary and financial stability, noting that the country’s monetary policy clearly targets higher growth and employment rates.
He stressed that the Central Bank of Egypt aims to reach single-digit inflation in the medium term.
He added that the Central Bank uses many channels to reach low price levels, most notably the interest rates, pointing out that most banks have resorted to this method to restrict inflation.
It is noteworthy that the decision to fix the interest rates was accompanied by another vital decision, which is to increase the required reserve ratio to 18% instead of 14%.
The required reserve ratio is the fraction of deposits that regulators require a bank to hold in reserves and not loan out.
It is one of the monetary policy tools to intervene in the market by withdrawing or increasing liquidity, which contributes to influencing inflation rates, especially in terms of demand, as it is known that the higher the liquidity, the higher the demand for the purchase of goods and then their prices increase and vice versa, and whenever liquidity decreased, demand for goods decreased and their prices decreased, and thus inflation decreased.
The Central Bank had reduced the required reserve ratio by 4% in 2012, to enable banks to meet the increased demand for liquidity after the 25 January Revolution.
According to the source, increasing the required reserve ratio directly helps the CBE to preserve liquidity, pointing out that this decision is consistent with the Central Bank policy in its serious and important attempts to achieve price stability, by absorbing the excess liquidity in the market, and that would help the economy to achieve single-digit inflation rates faster.
He added that amending the required reserve ratio is used within very narrow limits, explaining that the last time the CBE resorted to increasing it was in 2017.
He pointed out that the banking system has a large structural surplus in liquidity, which came as a result of several factors, on top of which are large deposits in the banking sector and their continuous increase.
He stressed that the Central Bank clearly targets inflation rates that are lower than price levels through the tools available to it, noting that the Central Bank has taken proactive steps by raising interest rates by 300 basis points since the beginning of this year, and with the decision to raise the mandatory reserve ratio in banks, we expect it to achieve a rapid impact. on market inflation rates.
He expected that the decision to raise the mandatory reserve ratio in banks would absorb about EGP 150bn of the total volume of excess liquidity in banks, which is estimated at EGP 600bn.
He pointed out that controlling liquidity and the money supply is an essential role for the central bank, noting that withdrawals of liquidity from the markets are applicable in the whole world, which does not mean that there is a deficit with the central bank that covers it from the liquidity that it withdraws from banks, as the central bank does not invest and does not aim to profit, but seeks to reach a point of balance between supply and demand.
For his part, Tarek Metwally, former Vice President of BLOM Bank Egypt, expected that the decision to raise the mandatory reserve ratio in banks, which was issued by the Central Bank of Egypt last Thursday evening, would have a limited impact on the volume of funds available for lending or investment, in light of the high volume of liquidity in banks, where the percentage of loans to deposits is reduced to about 50%.
According to Metwally, this decision may lead to an increase in the cost of funds in banks, which may push them to reduce deposit rates for customers.
He explained that if the goal of the decision is to absorb liquidity, and thus reduce consumption and fight inflation in general, then in the Egyptian case we must first know whether the cause of inflation is actually high liquidity in the hands of consumers or due to the increase in the prices of production elements such as energy and the rise in major commodities and the continued rise of the dollar against the pound.
Metwally believes that many mechanisms must be available with regard to the exchange market, to help the central bank in this very important file as a first and main step for economic reform and controlling inflation, pointing out that so far it seems that these mechanisms have not been available to the central bank, which prompted it to stabilize the interest rate.
According to Metwally, any interest rate hike without the availability of a mechanism to control the exchange market, and the availability of cash needed to import, and easing import restrictions, will be harmful and unhelpful, and will not have an effect in fighting inflation, especially since inflation is caused by external factors represented in the increase in the prices of oil, gas and major commodities, the depreciation of the pound against the dollar, and the lack of resources in foreign currency, and price increase as a result of the import rationalization policy.
He pointed out that addressing inflation with an interest rate policy only will not bear fruit, and therefore it is necessary to control the exchange market first, address bottlenecks in the markets, and rationalize imports, not prevent it, while working on the availability of goods in the markets, as a first step to curb inflation, pointing out that only then can the interest rate policy has an important effect on controlling inflation.
