VZCZCXYZ0000
PP RUEHWEB

DE RUEHEG #2082/01 3070914
ZNR UUUUU ZZH
P 030914Z NOV 09
FM AMEMBASSY CAIRO
TO RUEHC/SECSTATE WASHDC PRIORITY 4059
INFO RUEATRS/DEPT OF TREASURY WASHDC PRIORITY

UNCLAS CAIRO 002082 
 
SENSITIVE 
SIPDIS 
 
E.O. 12958: N/A 
TAGS: ECON EINV PGOV EG
SUBJECT: CENTRAL BANK OF EGYPT RELEASES CORE INFLATION INDEX 
 
 ¶1. (U) Key Points: 
 
-- The Central Bank of Egypt (CBE) released its core 
inflation index on 25 October. 
 
-- Core inflation better reflects underlying inflation and is 
the statistic that the CBE uses in determining its monetary 
policy. 
 
-- The release of these statistics is a precondition for the 
CBE adopting a monetary policy of inflation targeting and an 
increase in trading that will let the market set rates on 
securities eventually allowing banks and other financial 
firms to offer long term debt instruments. 
 
----------------------------------------- 
Core Inflation Index and Detailed Reports 
----------------------------------------- 
 
¶2. (U) The Central Bank of Egypt (CBE) released its core 
Consumer Price Index (CPI) on 25 October.  The CBE has looked 
at core inflation to direct its monetary policy for a few 
years, but it has now finalized its index and this is the 
first time the data has been made publicly available. Looking 
at core inflation instead of headline inflation allows the 
CBE to use interest rates to target underlying inflationary 
pressures and avoid overcorrecting for temporary spikes in 
prices. 
 
¶3. The index derives from headline inflation but excludes 
items such as fruits and vegetables, whose prices are highly 
volatile because of weather conditions and supply 
disruptions, and goods for which the government regulates 
prices. By excluding those two categories, core CPI reflects 
underlying inflation better than headline inflation does. 
 
¶4. (U) In September, Egypt's headline inflation was 10.8 
percent year-on-year (y-o-y), while core inflation was 6.3 
percent y-o-y.  Core inflation in September was more than 4 
percent lower than headline inflation, the largest difference 
since the beginning of recorded core inflation data in 
January 2005, according to the CBE,s new inflation report. 
This is mainly due to high and rising volatility in the 
prices of fruits and vegetables. 
 
¶5. (U) The CBE began issuing monthly inflation reports full 
of detailed statistics and trends at the same time it 
unveiled its core index. 
 
--------------------------------------------- --------------- 
Insight into Inflation Dynamic and Monetary Policy Decisions 
--------------------------------------------- --------------- 
 
¶6. (U) Investors have been asking for the CBE to publicly 
release its core inflation index for several years because it 
will help them anticipate CBE monetary policy changes, 
according to Simon Kitchen, Vice President of EFG-Hermes, a 
leading regional investment bank.  The new index will also 
allow investors to more accurately forecast inflation trends 
and factor them into their investment decisions. 
 
-------------------- 
Criticism of Indexes 
-------------------- 
 
¶7. (U) Some press articles have criticized the new index as 
meaningless because it excludes almost 30% of commodities 
whose price increases are felt by most Egyptians.  Some 
investors accuse the CBE of underestimating inflation levels 
by including the prices of goods kept low by the government 
in headline inflation in order to make the GOE look good. 
 
---------------------------------- 
Baby Steps Towards Long-Term Goals 
---------------------------------- 
 
¶8. (SBU) Improving inflation statistics is one of the CBE,s 
prerequisites for eventually adopting inflation targeting as 
the official monetary policy regime of the CBE.  Other 
requirements include improved GDP growth statistics and 
reducing the government budget deficit to between 3-4% of 
GDP, according to Ramez.  Ramez also told us that Egypt will 
need a more mature banking sector before the CBE can adopt an 
inflation targeting regime.  At the moment, credit 
penetration in Egypt too low for interest rates changes to 
have significant or immediate effects on economic activity 
and inflation, according to the IMF. 
 
¶9. (U) Iman Ismail, Managing Director of the Egyptian 
Mortgage Refinance Company, told us that this information is 
necessary for increased trading of fixed income securities. 
This information will allow investors to anticipate inflation 
E 
and interest rate changes and use this information in their 
investment decisions which might encourage them to trade more 
and use longer-term instruments.  Currently, trading volume 
of fixed income securities is so low that investors have to 
rely on issue rates which do not necessarily reflect market 
conditions.  If trading of securities of a variety of 
maturities increases, the trading will let the market set the 
securities, rates and ultimately result in a yield curve. 
This would allow banks and other financial firms to price and 
therefore widely offer long-term debt instruments, such as 
mortgages. 
------- 
Comment 
------- 
 
¶10. (SBU) The publication of the core inflation index is a 
welcome improvement in inflation statistics and transparency 
in monetary policy decisions. This is a good first step 
towards inflation targeting, but there is still a long way to 
go.  The GOE is unlikely to undertake the unpopular reforms 
necessary to reduce the budget deficit to 3-4% before the 
2011 presidential election.  The Egyptian banking sector 
needs to increase its credit penetration and increase 
competition to reduce the spread between loan and deposit 
rates in order to improve the transmission of monetary policy 
changes to the economy. 
 
¶11. (SBU) Despite the excitement over the new core inflation 
index, headline inflation remains the best inflation 
statistic to help gauge the average Egyptian,s quality of 
life because it accurately reflects the rising cost of living 
in Egypt. 
Scobey