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HC’s take on the CBE’s interest and exchange rates decisions

The CBE’s 200 bps policy rate hike aligns with our previously announced expectations of a 200 bps interest rate increase before year-end, which should help contain inflation, which reached 15.0% in September, and makes carry-trade more attractive. Assuming that the rate hike will be reflected in the treasuries market, we estimate that the 12-month T-bills will offer a positive real interest rate of 2.36% (up from 0.66% before the rate hike) compared to a negative real yield in the US. Our calculations consider the latest after-tax 12-month T-bills auction, a 15% tax rate on treasuries imposed on US and European investors, and our estimate of a yearly inflation rate average of 14.62% over the coming 12 months. As for the CBE’s decisions on the FX system in Egypt, allowing banks to use FX derivatives and gradually canceling import trading through LCs, we believe it will make the USD more available in the market and help restore business activity in Egypt. This morning the EGP devaluated by c13.7% to EGP22.84/USD against the USD, which implies a REER level of 91.82, suggesting the EGP is undervalued by c8% at current levels, based on our calculations.

As for the impact of the decisions on the banking sector, today’s announced high-yielding CDs by state-owned the National Bank of Egypt (NBE) will increase competition for private sector banks. However, we don’t expect it to be material considering the recently offered CDs by some private banks at higher rates and the higher yields on their treasuries investments, which will safeguard and improve their profitability.

As for the stock market, although higher interest rates are not generally positive for investment in the stock market, however, we believe that the stock market will react positively to the decisions due to very depressed market valuations that were reflecting the stagnation of business activity in Egypt.

As for the USD9bn of external aid that Egypt secured from the IMF and multilateral institutions, we believe it would fully cover Egypt’s 2H22 total debt repayment and part of that of 1H23. Most importantly, the agreements constitute a vote of confidence in Egypt’s structural reform program and guarantee that it continues on the right economic reform path. Egypt’s structural reform program will include policies to unleash private sector growth, including reducing the state footprint, adopting a more robust competition framework, enhancing transparency, and ensuring improved trade facilitation, which in our view, could unleash Egypt’s economic growth potential, that was held back for several years.