(Bloomberg) -- Egypt raised interest rates for the first time since August, breaking expectations with a move that might speed up progress on a bigger rescue package with the International Monetary Fund and set the stage for another devaluation.
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The Monetary Policy Committee increased its benchmark deposit rate by 200 basis points to 21.25% and the lending rate to 22.25%, according to a statement Thursday. Only Goldman Sachs Group Inc. and Morgan Stanley predicted a hike in a Bloomberg poll of economists, with the rest seeing no change.
It’s a surprise given a three-month slowdown in inflation and the strain that higher borrowing costs will place on public finances. But the decision is likely an indication that Egypt is creating the conditions for a breakthrough in talks currently underway in Cairo with the IMF on increasing its current $3 billion loan — little of which has been disbursed — as part of a wider package that could exceed $10 billion and include the backing of World Bank.
“The likelihood of a new IMF deal in the coming weeks will result in a hawkish shift in the monetary stance,” said Farouk Soussa, a Goldman economist who forecast a 300 basis-point hike. An increase of that magnitude “will send a positive signal of intent on the authorities’ part and smooth the way for a new IMF deal in the very near future,” he said before the announcement.
As Egypt’s economic crisis grinds on, shortages of hard currency are becoming dire and piling pressure on the pound after three devaluations since early March 2022 slashed its official value in half to around 30.9 per dollar. In the black market, however, the currency is much weaker, trading at between 65 and 70 this week.
Discussions with the IMF are focusing on two delayed reviews of the existing deal reached more than a year ago. The talks cover the reforms that Egypt needs to enact that include tightening monetary and fiscal policies alongside a move toward a flexible exchange rate regime.
Read More: Egypt Talks on IMF-Led Deal Go On With $10 Billion on Table
In a sign Egypt is making headway toward meeting some of those goals, the cabinet on Wednesday approved a proposal to slash spending on state investments and halt new projects until at least July.
The IMF is waiting for authorities to allow a more flexible exchange rate and make good on other promises before handing over more funds.
“Large increases in the government’s expenses on interest rates, subsidies, social spending and wages limit the scope of adjustments in FX and interest rates, but IMF conditionality requires a tighter monetary and fiscal policy stance as well as a move towards more flexibility in FX,” Morgan Stanley economists including Alina Slyusarchuk said in a report.
IMF Managing Director Kristalina Georgieva in December said fighting inflation was a priority for Egypt, as consumer-price growth finally showed signs of slowing after hitting a record of 38% earlier in 2023.
“Widespread inflationary pressures remain elevated, continuing to impact pricing and consumption behaviors,” the central bank said on Thursday.
It added that “geopolitical uncertainty and ongoing maritime trade disruptions continue to raise domestic and global inflationary pressures,” in a reference to attacks by Yemeni rebels on Red Sea shipping that have drastically reduced traffic through Egypt’s Suez Canal.
“Against this background, the MPC judges that the balance of risks surrounding the inflation outlook has tilted to the upside,” it said.
--With assistance from Joel Rinneby, Abdel Latif Wahba and Sherif Tarek.
(Updates with comments from central bank statement in final three paragraphs.)
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