Country Report Libya November 2009

Economic performance: Inflation continues to slow

Consumer prices have continued their downward trajectory in the third quarter of this year. The average monthly year-on-year rise in consumer prices slowed to just 0.6% during the third quarter of 2009. The rise in consumer prices has slowed each successive quarter since the first three months of 2008, when it reached a high of 11.8%.

Given the heavy weighting in the Libyan consumer price basket of food and beverages-it accounts for more than one-third of the basket-it is clear that the fall in the price of food, which is mainly imported, is the primary factor driving down overall inflation. At the beginning of 2008, when global commodity prices peaked, year-on-year growth in the price of food and beverages was running at 28%. By the third quarter of this year, this rate had plummeted to just 0.1%. Housing costs, another key item in the consumer price basket, have fallen from a quarterly average of over 6% at the end of last year to a contraction of 0.3% year on year in the quarter to September 2009.

Consumer prices
(% change, year on year)
 1 Qtr2 Qtr3 Qtr4 QtrAnnual av
Source: National Authority for Information.

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Libya suffered from deflation between 2000 and 2003, and the risk of another deflationary period is increasing. In other economies, deflation would cause a slump in demand, as consumers wait for prices to fall before making purchases, and a drop in productivity, leading ultimately to higher unemployment. However, in Libya, movements in consumer prices are generally dictated by the price of essential imported goods and commodities, for which demand is relatively inelastic and will therefore remain buoyant despite expectations of price changes. Furthermore, non-oil domestic production in Libya is generally subsidised and the government is likely to support demand. Therefore, domestic demand and output are likely to be sustained in a deflationary environment in Libya.

The exchange rate is an important factor that influences prices. The Libyan dinar is pegged to the IMF's special drawing rights (SDR), a basket of currencies which includes the US dollar and the euro. The consequence of the weakening US dollar since February 2009 has led to an appreciation of the Libyan dinar against the dollar. A major consequence of this is that the value of Libya's exports in dinar terms are lowered, so that fewer dinars are received as oil income for each barrel of oil sold abroad, which is deflationary as it slows the growth in money supply. Meanwhile, the weak dollar has also caused the dinar to depreciate against the euro. Most of Libya's imports originate in the EU, and the depreciation should have increased the cost of imports. However, falling commodity prices have more than counteracted this effect.

© 2009 The Economist lntelligence Unit Ltd. All rights reserved
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