Karachi, October 02, 2018 (PPI-OT): CPI in Sep-18 lower than previous months; however, pressures exist
CPI during Sep-2018 clocked in at 5.12% YoY, lower than 5.83% and 5.84% in Jul-2018 and Aug-2018, respectively, which was in line with market expectations.
Core inflation jumped to 8.0% YoY compared to 7.7% YoY in the preceding month, which is a worrisome sign, indicating imminent inflationary pressures in the economy.
Lower food inflation at 1.09% YoY, compared to 3.29% YoY in Aug-2018 (and 3.50% in Sep-2017) resulted in lower overall CPI, given high weight of food in the CPI basket. Slower food inflation was on the back of (1) post Eid-ul-Azha factor, and (2) high base effect.
We expect inflation to pick up in FY19 owing to higher oil prices, rupee weakness, twin deficits and potential increase in gas prices, not to mention heightened budgetary borrowings from SBP.
We believe there should be no ambiguity that the monetary tightening cycle is far from over and further rate hikes are expected in FY19.
CPI at 5.12% YoY during Sep-2018; core inflation a concern
Consumer Price Index (CPI) during the month of Sep-2018 clocked in at 5.12% YoY, significantly lower than the preceding two months, where CPI stood at 5.83% YoY and 5.84% YoY in July and August, respectively. Core inflation (non-food non- energy) however jumped to 8.0% YoY from 7.7% YoY in the previous month, indicating inflationary pressures persistent in the economy.
On sequential basis, CPI declined by 0.06% MoM, the first monthly decline since Feb-2018. The main reason for slowdown in CPI reading on YoY basis compared to Aug-2018 was lower food inflation, the major component of the CPI basket, which posted 1.09% YoY growth in Sep-2018, compared to 3.29% YoY in Aug- 2018 (and 3.50% YoY in Sep-2017). We attribute this trend to the Eid-ul-Azha factor, where prices of certain food items normally pick up due to high demand in Eid and artificial shortages created by vendors. While typically prices increase prior to Eid (which took place in Aug-2018), the trend of price increases slows down after the holidays as demand normalizes.
Non-perishable food items registered growth of 3.95% YoY during the current month; however, perishable food items witnessed a decline of 12.39% YoY. The latter was on the back of sharp declines in certain vegetable and other food items. Average monthly CPI for 1QFY19 stood at 5.60% YoY, compared to 4.36% YoY in 1QFY18. Secondly, there was also a high base effect factor, owing to high MoM inflation in Sep-2017, which contributed to lower CPI trend in the current month compared to preceding months.
Inflationary pressure to persist in FY19
Despite a contraction in inflation during Sep-2018, we opine that macroeconomic pressure should persist during the year, given the usual suspects such as rupee weakness, twin deficits, high crude oil and other international commodity prices. Moreover, the decision to increase gas and electricity prices will also ultimately take its toll on CPI in coming months, if ratified by the upper house of parliament.
Other key factors that compel higher inflation in coming months include:
There was strangely no mention of budgetary borrowings from SBP in the latest MPS, given that they have jumped by 31% in FY19TD, only ~2.5 months into FY19, while ~7x higher compared to the same period last year. The total mentioned borrowings in the current ~2.5 month period are almost close to total FY18 budgetary borrowings from SBP.
SBP has forecasted inflation in the range of 6.5-7.5% for FY19 in its latest MPS. The Central bank has lifted its forecast on at least two previous MPS, while it is not implausible that this number could be revised upwards yet again in coming MPC meetings. Following are some recent excerpts from SBP’s Monetary Policy Statements regarding inflation expectations:
“Going forward, a sticky core inflation along with a moderate outlook of food prices amid abundant grain stocks and the recent increase in policy rate are expected to contain average inflation well below the FY18 target of 6.0 percent and close to it for FY19”. (March 30, 2018)
“Average inflation for FY18 is projected to remain within SBP’s model-based range of 3.5-4.5 percent whereas the average FY19 inflation is estimated to be marginally above the annual target of 6 percent”. (May 25, 2018)
“The average headline inflation for FY19 is expected to cross the 6.0 percent annual target”. (July 14, 2018)
“For FY19, SBP’s inflation projections show average headline inflation is expected to fall in the revised forecast range of 6.5-7.5 percent”. (September 29, 2018)
Lower oil prices created a false sense of security during the previous 5 years, which led to low inflation readings during that period. We highlight that inflation has historically remained high in the country, seen by average core inflation of 8% for the past 15 years, while it stood at 6% during the previous government, making a low of 3.4% during Sep/Oct-2015.
For inflation to fall within SBP’s target range of 6.5-7.5%, average MoM inflation for the remaining nine-months of FY19 will have to record 0.58-0.69% growth. To put things in context, 2018TD average MoM CPI stands at 0.45%, while historically it is at 0.51% since Sept-2010, however, it reached 1% MoM as recently as 4QFY18.
Judging by above observations, we believe there should be no ambiguity that the monetary tightening cycle is far from over and further rate hikes are expected in FY19.