VZCZCXYZ0001
RR RUEHWEB

DE RUEHEG #6636/01 3051417
ZNR UUUUU ZZH
R 011417Z NOV 06
FM AMEMBASSY CAIRO
TO RUEHC/SECSTATE WASHDC 2320
INFO RUEATRS/DEPT OF TREASURY WASHDC
RUCPDOC/USDOC WASHDC 0217

UNCLAS CAIRO 006636 
 
SIPDIS 
 
STATE FOR NEA/ELA, NEA/RA, AND EB/IDF 
USAID FOR ANE/MEA MCCLOUD 
USTR FOR SAUMS 
TREASURY FOR NUGENT/HIRSON 
COMMERCE FOR 4520/ITA/ANESA/TALAAT 
 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: ECON ENRG EG
SUBJECT: EGYPT:  INFLATION ON THE RISE 
 
------- 
Summary 
------- 
 
¶1. (U) Inflation began creeping back into Egypt's economy in late 
spring, as food prices rose in response to an outbreak of bird flu. 
Prices rose further in late July, when the GOE reduced its massive 
energy subsidy.  Higher fuel costs affected prices across the board, 
leading the GOE to intervene in a variety of ways to keep prices 
under control.  Despite the intervention, the start of Ramadan 
further squeezed consumers, who normally spend lavishly during the 
fasting month.  The GOE maintains that economic growth and rising 
wages are the real driving factors behind inflation.  While there is 
scant evidence to back up the claim to rising wages, consumer 
spending has increased, prompted by greater liquidity and low 
interest rates.  The tempered reaction of the Egyptian public to 
rising prices leads many analysts to speculate that the GOE will 
further reduce subsidies in the near future.  The challenge will be 
targeting the reductions to ensure the poorest sectors of society 
are not adversely affected.  End summary. 
 
--------------------------------------------- -- 
Inflation Fueled by Bird Flu, Subsidy Reduction 
--------------------------------------------- -- 
 
¶2.  (U) After more than a year of declining prices, inflation began 
creeping back into the Egyptian economy in late spring.  From a low 
of 4.4 percent year-on-year in April, overall inflation has risen 
steadily over the last six months to 9.5 percent currently.  An 
outbreak of bird flu in January, which devastated Egypt's poultry 
sector, began pushing up prices of poultry and other meats in April. 
 The cost of food and non-alcoholic beverages, which has the 
heaviest weighting (39 percent) in the Consumer Price Index, rose 
5.7 percent in April, and continued to climb through the summer, 
peaking at 11.7 percent in August.  Communication costs also shot up 
in April, as Egypt's telephone monopoly Telecom Egypt raised rates 
on fixed lines to compensate for losses from competition by mobile 
phone providers.  Telephone rates increased 20 percent monthly from 
April through June, and 22.7 percent in July. 
 
¶3.  (U) In late July, consumers and industries felt more pain as the 
GOE reduced its massive energy subsidy.  Prices of natural gas for 
industrial use and electricity generation rose by 25 percent, 
kerosene 88 percent, fuel oil 67 percent, diesel oil 25 percent and 
gasoline (90 octane) 30 percent.  The energy subsidy reduction 
effected prices across the board, as industries passed on to 
consumers the increased cost of manufacturing and transportation. 
Housing and utility costs rose 6 percent in August and September, up 
from 2.2 percent in July.  Cement prices, a key factor in 
construction costs, increased 10-25 percent in August, depending on 
proximity to cement factories.  Overall ex-factory prices rose from 
LE 310-315/ton to LE 350/ton, while in some retail markets, 
particularly those with no nearby cement factory, prices rose to as 
high as LE 390/ton. 
 
----------------------------------- 
GOE Intervenes to Control Prices... 
----------------------------------- 
 
¶4.  (U) Ironically, the energy subsidy reduction forced the GOE to 
increase other subsidies.  Dr. Abdel Sattar Eshrah, Economic Advisor 
for the Federation of Egyptian Chambers of Commerce (a joint 
governmental and business entity), told econoff that bakers 
complained they could not maintain stable bread prices as more 
expensive fuel led to higher operating costs.  The GOE reduced the 
price of a case of government flour from LE 20 to LE 14.5 (and 
revamped its inspections of bakers who obtain flour at the new price 
to ensure quality).  The overall effect on the GOE budget was still 
positive however, as food subsidies - representing only 2.1 percent 
of GDP - are less expensive than energy subsidies, which represent 8 
percent of GDP.  The GOE intervened more directly in the cement 
sector.  Minister of Trade and Industry Rachid met with cement 
producers in August to persuade them to observe a price cap of LE 
330/ton for retail sales and LE 290/ton ex-factory.  Although the 
cap was voluntary, Rachid threatened harsh export tariffs for 
producers taking advantage of higher prices on foreign markets.  He 
also promised assistance to companies that lost money by adhering to 
the cap.  The plan succeeded, and by the end of the month ex-factory 
prices fell to as low as LE 300 per ton. 
 
--------------------------------------- 
... but Ramadan Increases Consumer Woes 
--------------------------------------- 
 
¶5.  (U) Despite GOE intervention to moderate prices - including 
lifting an imported poultry ban to prepare for high demand during 
Ramadan - the start of the fasting month in late September 
exacerbated pressure on consumers.  Shopkeepers generally exploit 
consumer willingness to spend lavishly during Ramadan, and weak 
competition and even weaker consumer protection make predatory 
pricing easy for suppliers and shop owners.  Ramadan coincided this 
year with the beginning of the academic term, when household 
discretionary spending traditionally inflates to buy new clothes and 
school supplies.  Press reports lamented the effect of high prices 
on the poor, and pointed out that public sector wages, and to a 
lesser degree salaries in the private sector, have not kept pace 
with rising consumer costs. 
 
----------------------------------- 
GOE Claims Growth is the Real Cause 
----------------------------------- 
 
¶6.  (U) GOE officials maintain that the driving force behind 
inflation is economic growth, rather than external factors.  GOE 
figures estimate a growth rate of 6.9 percent for FY 2005/2006, the 
highest level in 15 years.  Officials also maintain that public 
sector wages are keeping pace with inflation.  Amina Ghanem, an 
Advisor to the Minister of Finance, told econoff that the annual 
increase in the public sector wage scale generally offsets higher 
living costs.  The normal increase is 10 percent annually, only 
slightly higher than the current inflation level.  The 2005 increase 
- a one-time jump of 20 percent - was widely seen as an election 
year pitch to the public sector by President Mubarak, who was 
running for re-election in Egypt's first ever multi-candidate 
presidential election.  Given the extremely low base rate of public 
wages, however, and years of double digit inflation following the 
floating of the Egyptian Pound in January 2003, most analysts 
believe the annual increases, even last year's, are not sufficient 
to meet basic consumer costs and keep pace with inflation. 
 
--------------------------------------------- --- 
Despite Stagnant Wages, Consumers Still Spending 
--------------------------------------------- --- 
 
¶7.  (U) While there is scant evidence of a rise in real incomes, 
consumption spending has risen.  Household credit, a prime indicator 
of consumption spending, shot up 26 percent in March/April and 28.6 
percent in July, compared to only 10.8 percent in October 2005. 
Liquidity has risen 12-13 percent y-o-y since January 2006, 
stimulated in part by last year's 50 percent tax cut.  Low interest 
rates on bank deposits, triggered by low Central Bank rates, have 
also reduced consumers' incentive to save.  The Monetary Policy 
Committee (MPC) of the Central Bank has held corridor interest rates 
unchanged since April 2006 (an overnight deposit rate of 8 percent 
and lending rate of 10 percent), constantly declaring that 
inflationary pressures are within moderate limits.  In its October 
meeting, however, the MPC signaled the possibility of a rate 
increase in November. 
 
----------------- 
Reaction Tempered 
----------------- 
 
¶8.  (U) Despite grumbling over wages, public reaction to high 
inflation has been moderate.  Local papers have run stories on the 
harsh conditions for the poor this Ramadan, but grumbling has not 
turned into protests or violence.  The stoic reaction of Egyptian 
consumers has led some observers to speculate that the GOE will make 
more subsidy reductions soon.  Dr. Tamer Abu Bakr, head of the 
Petroleum Committee of the Egyptian Businessman's Association and 
member of the National Democratic Party Energy Committee, told 
econoff that he expects another fuel subsidy reduction in early 
¶2007.  The still massive energy subsidy, at least LE 40 billion (USD 
7 billion) by most estimates, is responsible for 40 percent of the 
GOE's budget deficit, which stands at approximately 10 percent of 
GDP. 
 
¶9. (U) Nevertheless, the GOE will be hard-pressed to further reduce 
its fuel subsidy without affecting the poorest segment of the 
population.  Hany Kadry Dimian, Director of the Macro-Fiscal Unit at 
the Ministry of Finance, told econoff that the GOE's aim in subsidy 
reform is to target subsidies to the poor.  This is the reason that 
the GOE left the price of 80 octane gasoline - the lowest-quality 
gasoline available - untouched in July.  However, according to Abu 
Bakr, this had an unintended effect, in that people who previously 
used 90 octane gasoline are now using 80 octane, regardless of the 
effect on their engines.  Future subsidy reductions will somehow 
have to deal with 80 octane gasoline, which could prove to be a 
sensitive social issue. 
 
------- 
Comment 
------- 
 
¶10.  (U) While economic growth has outpaced even the GOE's 
expectations, it has not, unfortunately, translated into job 
creation.  The GOE is therefore faced with the double challenge of 
maintaining growth while mitigating the negative effect of inflation 
and subsidy reductions on the poor and unemployed.  For the time 
being, Egyptians seem prepared to take the government's word that 
growth will eventually lead to jobs, but much of the educated middle 
class isn't waiting around, and continues to seek opportunities for 
work abroad.  Indeed, remittances from family members working 
overseas are often the only thing keeping Egyptian families afloat 
as prices increase, but job opportunities do not.  End comment. 
RICCIARDONE