2 February 2018
Indonesia: Steady monetary policy despite slower January inflation

Inflation slowed In January to 3.25%, lower than consensus and December's 3.6%. We believe that slower inflation does not necessarily mean monetary policy easing.

Slower inflation does not necessarily mean monetary policy easing.

Inflation in January moderated due to a significant slowing of transport, healthcare, and housing prices. Slower inflation rates for these components offset rising food and clothing prices, which accounted for the upside surprise of December inflation. We believe that there are no compelling reasons for the central bank (BI) to alter policy rates this year. Inflation could turn higher later in the year due to rising household spending and higher global commodity prices despite favorable base effects until August. We expect inflation to average 3.7% this year, which is above BI's point inflation target of 3.5% but within its target range of 2.5% to 4.5%. Moderate inflation would also support the recovery of household spending while spending on regional elections and higher government construction activity would contribute to meeting BI's growth forecast of 5.1% to 5.5%. IDR, a BI concern also, is likely to be prone to weakness as US interest rates rise. We believe that BI will keep policy rates steady.

Philippines: Surprisingly high central bank January inflation forecast

The central bank of the Philippines (BSP) expects January inflation at between 3.5% and 4%, the highest inflation forecast since November 2014, due to higher excise taxes.

A precursor to an early tightening?

BSP surprised markets with its 3.5-4% January inflation forecast, which is higher than government's 3.3% forecast. We expect a moderate impact of higher excise taxes from the tax reform package in the first month of implementation. We forecast a 3.4% January inflation rate. With such a high January inflation forecast, the market may become worried that inflation will accelerate faster than expected in the coming months. Second round effects are still to be determined in March-June. Significant second-round effects could cause inflation to breach the target range of 2% to 4%. An inflation report this coming Tuesday that is in line with BSP's forecast could raise inflation expectations which may spur BSP to tighten as early as the March meeting. Our base case is for a rate hike at the May meeting.

Happy Chinese Yuan

We are revising our forecast on USDCNY to 6.10 from 6.30 for 2018. This is mostly because of the weak dollar and the demand from exporters before the Chinese New Year

Strong yuan, weak dollar

USDCNY passed the psychological level of 6.30 on 31st January 2018. So far, the appreciation of the yuan is mostly driven by dollar weakness.

This has become more obvious since the central bank reset the counter-cyclical factor to zero in the daily fixing mechanism. It implicitly means that the yuan would move more according to market forces.

Moreover, domestic economic data has had little impact on the exchange rate. For example, the official manufacturing PMI was lower in January compared to December even though January is not the month of Chinese New Year. That shows a bit a slackness in manufacturing. This did not stop the yuan in January achieving the fastest rate of monthly appreciation in 10 years.

Chinese exporters hurry to convert dollar into yuan

With the quick fall in the dollar, exporters might chase after the trend to convert their dollar receipts into yuan. This may look illogical but could happen if exporters believe that the yuan will continue to strengthen, meaning they could get even fewer yuan later.

This factor could give the yuan an extra push nearer the Chinese New Year when the exporters need to pay "bonuses" to their employees before they return home for the Chinese New Year.

We forecast USD/CNY of 6.10 by end 2018

Due to the dollar weakness and the reasons stated above, we revise our forecast of USD/CNY to 6.10 by the end of 2018, which is equivalent to around 6% appreciation for the year.

Any possibility of central bank intervention in the USD/CNY market?

We do not believe that the central bank has a strong view on a particular level of USD/CNY that it would come into the market to intervene.

It is more about the speed of appreciation if the central bank deems to intervene.

A yuan appreciation that is too fast would attract not only "normal" investment money into China but also "hot money" that would easily turn into "hot outflows" when the yuan depreciates.

As such, we expect that the central bank may monitor which assets the money inflows are invested in. When there are hot money inflows, the central bank may work with other financial regulators to step in to stop it.

Reading time around 4 minutes

Good MornING Asia - 2 February 2018

US labour market data can still shake markets, but current movements seem much more momentum driven

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