Karachi, June 02, 2022 (PPI-OT): CPI remains elevated despite tepid food inflation; another rate hike ahead
Inflation, as measured by CPI clocked in at 13.8% for May-2022, slightly lower than street estimates, as food inflation gained mild respite from the decline in prices of perishable items and the housing index declined on account of lower electricity charges. The average 11MFY22 CPI reading now stands at 11.26%.
Core inflation, more indicative of long-term inflation outlook, continues to spike. Core-Urban and Core-Rural inflation rose to 9.7% and 11.5%, respectively. We believe, second-round effects on core inflation will likely be pronounced by the sharp increase in international food prices, which is also reflected in the domestic prices and cost of imported items.
We have provided separate cases for removal of fuel subsidy and recovery of PDL and GST. Under these scenarios, our FY23 estimates range from 13.87% to 15.23%, facing an upside risk from higher electricity tariff adjustments from fuel costs and the rise in food inflation in terms of secondary impact from higher retail fuel prices. With the continuous rise in inflation expectations, the recent T-bill auction and secondary yields having adjusted upwards, another round of rate hike of up 100bp is likely in our view.
Headline inflation reading at 13.8%
The broad inflation for May-2022 clocked in at 13.8%, slightly lower than street estimates, as food inflation gained mild respite from the decline in prices of perishable items and the housing index declined on account of lower electricity charges during the month. Key worsening factors during May-2022 were higher food inflation arising out of wheat, chicken, eggs, pulses, and onions. However, the decline in tomatoes, alongside other fresh vegetables and fresh fruits arrested most of the spike in food basket. Food inflation was milder than the recent months. Government’s strategy to import wheat is likely to exert more pressure on non-perishable food index.
The spike in inflation from edible oil has simmered to a great deal as Indonesia lifted the ban on exports. Even though this has not been a significant breather to Palm Oil prices, the prices stand relatively stable at the moment.
No respite in core inflation
Core inflation, more indicative of long-term outlook of inflation, continues to spike. Core-Urban and Core-Rural inflation have risen significantly to 9.7% and 11.5%, respectively.
We believe, second-round effects on core inflation will likely be propagated by the sharp increase in international food prices, which is also reflected in the domestic market in terms of food prices and cost of imported items. Such impact is always witnessed greater in developing countries than in advanced economies due to a higher share of food products in the inflation basket and a relatively reduced anchoring of monetary policy setting on to inflation expectations.
Swordplay continues with retail fuel subsidy
Even though the government increased retail fuel prices by Rs 30/litre in the second last fuel price announcement on May27’22, there is a lot of ground left to be covered. At an average oil price of c.US$110/bbl during the last 15 days for May-2022, the Jun01’22 notification would have borne a price of Rs 302.54/litre for diesel and Rs 291.54/litre for petrol. However, the differential claim component was increased on petrol to keep the prices capped, in the latest announcement.
As per our estimates, the current price levels will reflect in transport index for the CPI print of Jun-2022. However, we have provided separate cases for removal of fuel subsidy and recovery of PDL and GST. Details below:
Case I: PDC is abolished and levies/taxes reinstated in a single move, to be reflected in Jul-2022. (FY23E average of 15.23%)
Case II: Only PDC is reduced to zero with no levies and taxes in a higher-for-longer oil price scenario. (FY23E average of 13.87%)
Case III: PDC is abolished and reflects in Jul-2022 print of CPI, GST rate of 17% is implemented from next month and Rs6/litre hike in PDL is implemented in 5 months ending Nov-2022. (FY23E average of 14.67%)
All these scenarios bear an upside risk emanating from the higher electricity tariff adjustments from fuel costs and the rise in food inflation in terms of secondary impact from higher retail fuel prices.
The recent T-bill auction and secondary yields point towards another round of rate hike of up 100bp. This adjustment in monetary settings is highly likely, considering the increased inflationary expectations as Pakistan tries to make its way back into the IMF Program and reduce the heightened currency risk as well as country risk by overcoming FCY obligations.