UPDATE 2-Egypt raises interest rates days after subsidy cuts

Thu Jul 17, 2014 12:38pm EDT

* Overnight deposit and lending rates up 100 basis points

* Central bank says increase needed to limit inflation

* Analysts fear hike could slow investments, recovery (Adds central bank comment, second analyst, context)

CAIRO, July 17 (Reuters) - Egypt's central bank raised benchmark interest rates on Thursday in an unexpected move seen as an attempt to hold down inflation less than two weeks after the government slashed subsidies on fuel and electricity.

The central bank raised the overnight deposit rate to 9.25 percent from 8.25 percent and the overnight lending rate to 10.25 percent from 9.25 percent, it said in a statement.

"A preemptive rate hike is warranted to anchor inflation expectations and hence limit a generalised price increase, which is detrimental to the economy over the medium term," the statement said.

Egypt's economy has been battered by more than three years of political turmoil since a popular uprising toppled autocrat Hosni Mubarak in 2011, driving foreign investors and tourists away. The economy grew 1.2 percent in the first half of 2013/14, for too little to reduce widespread unemployment.

The rate hike comes as a surprise to analysts. Five economists surveyed by Reuters this week had all expected the central bank to keep rates on hold.

"The central bank's main mandate is price stability, so probably they went after that," said Mohamed Abu Basha, an economist at EFG-Hermes who participated in the poll.

Inflation, which has been gradually declining after reaching a four-year peak of 13 percent in November, is expected to rise again next month after the subsidy cuts sent fuel prices surging.

Annual urban consumer inflation was steady at 8.2 percent in June but is headed for double digits over the coming months due to the energy price hike, analysts say, with the interest rate rise unlikely to contain inflation caused by such an event.

"This is more of a price shock to the economy. It's not demand-driven inflation," Abu Basha said.

Egypt raised mainstream fuel prices by up to 78 percent this month in a long-awaited step to ease the burden of energy subsidies on the state's swelling budget deficit.

Despite billions of dollars in aid from Gulf allies in the past year, Egypt's economic recovery has been sluggish and growth forecasts for this year range between 2 and 2.5 percent, officials have said.

"Investment which has been waiting for several years now may be slower than the government wants," Jason Tuvey, an economist at Capital Economics, said. "Investment will still recover, but the high cost of financing means it might not recover as quickly as we had previously hoped." (Reporting by Stephen Kalin, editing by Jeremy Gaunt/Ruth Pitchford)

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