Karachi, June 20, 2018 (PPI-OT): Pakistan Economy – CPI Inflation Projected at 44-month High in Jun-18
We expect CPI inflation to reach a 44-month of 5.3%YoY in Jun-18. It is expected to rise sharply during the month by 1.1ppt (between Jun-18 and May-18), led by 0.6%MoM inflation owing to higher food/clothing inflation amidst Ramadan effect and low base effect of 0.4ppt (between Jun-18 and May-18).
Owing to exclusion of food items and cigarettes in NFNE Index, NFNE inflation is expected to see a relatively modest increase reaching 7.2%YoY in Jun-18 vs. 6.9%YoY in May-18, where 0.4%MoM inflation is expected to be partially offset by high base effect of -0.1ppt (between Jun-18 and May-18).
We estimate CPI headline inflation to reach 6.9%YoY/7.6%YoY by the end of 2018/FY19 and average 5.2%/7.2% in 2018/FY19.
The recent spurt of 5% PKR/USD depreciation earlier this month led us to revise our inflation and interest rate forecasts where the latter is projected to increase by a cumulative 175bps in 2018 vs. earlier forecast of 125bps increase.
Ramadan and Low-Base Effect to Drive Inflation to 5.3%YoY: The weekly SPI data indicates that Jun-18 CPI inflation is estimated to reach 44-month high of 5.3%YoY. CPI inflation is expected to increase sharply by 1.1ppt (between Jun-18 and May-18) from 4.2%YoY in May-18, led by 0.6%MoM inflation owing to higher food/clothing inflation amidst Ramadan effect and low base effect of 0.4ppt (between Jun-18 and May-18) arising mainly due to tax adjustment related dip in prices of cigarettes in Jun-17.
Among the individual CPI components, food/beverage/clothing inflation are expected to mainly drive CPI YoY inflation. Food inflation is expected to reach 3.5%YoY in Jun-18 from 2.1%YoY in May-18 led by higher food item prices attributable to Ramadan effect and low base effect of 0.2ppt (between Jun-18 and May-18). Food inflation is expected to be driven by 1.3% / 1.7% / 0.9% / 14.7% / 13.2% / 40.8% / 1.2% / 9.7% MoM meat / milk / potatoes / onions / tomatoes / sugar / spices prices during Jun-18.
Among inflation variants, Relatively Stable Component (RSC) is expected to register similar increase as CPI inflation rising by 0.9ppt (between Jun-18 and May-18) to 6.2%YoY in Jun-18 from 5.3%YoY in May-18 owing to inclusion of food items and cigarettes in the basket. The increase in RSC inflation is projected to be led by 0.5%MoM inflation and low base effect of 0.4ppt (between Jun-18 and May-18). Non Food Non Energy (NFNE) inflation is also expected to increase but marginally by 0.3ppt (between Jun-18 and May-18) to 7.2%YoY in Jun-18 due to exclusion of food items and cigarettes from the basket. NFNE inflation is expected to stand at 0.4%MoM which will likely be partially offset by high base effect of -0.1ppt (between Jun-18 and May-18). 12-month moving average inflation is expected to inch up to 3.9% in Jun-18 from 3.8% in May-18 due to increase in recent month’s inflation.
CPI Inflation Projected to Average 7.2% in FY19: The recent surge in CPI inflation since Mar-18 has been led by phasing out of high base effect of last year. We estimate that the base effect shall normalize from next month where the rising monthly inflation owing to expected PKR/USD depreciation, resulting increase in energy prices and imported inflation shall keep rising inflation momentum intact. In this regard, we estimate 2018/FY19 CPI inflation to stand at 6.9% /7.6%YoY by the end of 2018/FY19 and average 5.2%/7.2% in 2018/FY19. NFNE inflation is expected to reach 8.4% /7.8%YoY by the end of 2018/FY19 and average 7.1%/8.1% in 2018/FY19. RSC inflation is expected to stand at 7.2% /6.8%YoY by the end of 2018/FY19 and average 5.9%/7.0% in 2018/FY19.
Surprises may Emerge post Implementation of New Calculation Methodology: While we have provided medium term projections of inflation and path dependent interest rates; Pakistan Bureau of Statistics (PBS) is in the process of introducing CPI inflation based on both urban as well as rural inflations with updated items and weights in consumer basket with base year as 2015-16 compared with earlier 2007-08. According to two separate news sources, this new inflation measure can be reported beginning from Jul-18 or when the new government assumes office.
We understand that PBS has started to compute this new data series and is awaiting approval from PBS Governing Council and based on their recommendation may also seek approval from the government for its official commencement and data dissemination. As per practice, CPI based on current working shall also be released along with new CPI for about a year, nonetheless the new inflation measure would be more pertinent for setting interest rates. There can be both positive as well as negative surprises when this data starts rolling out and we may have to revise our inflation and interest rate projections accordingly.
Hawkish Outlook: Over the recent months we have been led by surprise on account of faster than anticipated increase in inflation and quantum of exogenous shocks such as PKR/USD depreciation and rising energy prices. These led us to revise our inflation projections to cumulative increase of 175bps hike in interest rates during 2018 compared with previous expectation of 125bps increase. Based on the current CPI data projections, we expect further interest rate hike of 100bps with 50bps each in upcoming monetary policies.
However, timings and quantum of interest rate liftoff can be different as more clarity arises as the monetary policies approach. Given that our projections are dependent on expiring CPI data series, they may vary with release of new CPI data series. Nonetheless, we estimate interest rate liftoff to continue due to underlying factors such as rising inflation owing to impact of PKR/USD depreciation, high energy prices, real interest differentials with major economies (particularly US where interest rate liftoff is underway), and external account imbalances.