Russian CPI below expected in 2019; key rate downside still limited
CPI dropped to 3.0% YoY in December, at the lower bound of Bank of Russia's forecast range, and is set to temporarily fall close to 2% in 1Q20 on a high base effect. This, however, does not guarantee a rate cut on 7 February as the CPI slowdown relies only on the food component, while inflationary expectations of households and corporates are deteriorating
| 3.0% |
Inflation at year-end 2019, YoYDown from 3.5% in November 2019 and 4.3% in December 2018 |
| Lower than expected | |
CPI falls below expectations and should drop further, but don't expect the central bank to react immediately
In line with the long established pattern, Russian CPI underperformed our and the market expectations, having been confirmed at 3.0% year on year for December 2019 (initial estimate was released on 31 December), down from 3.5% YoY in November and 4.3% YoY in December 2018. The headline reading for December is close to the lower bound of the Central Bank of Russia's forecast range, which may increase market expectations of another key rate cut at the upcoming monetary policy meeting to be held on 7 February. While we agree that the likelihood of that scenario has increased, we still believe that the final decision will be a close call, and see the following arguments against a cut.
- Looking at the CPI composition, we note that food products (38% of consumer basket) is the sole disinflationary component, with food CPI slowing from 3.7% YoY in November to 2.6% YoY in December on a higher statistical base, while non-food CPI growth stayed unchanged at 3.1% YoY amid accelerating gasoline price growth, and services CPI decelerating only marginally from 3.9% YoY to 3.8% YoY (see Charts 1 and 2).
- Global grain prices, which we earlier identified as one of the primary disinflationary factors in 2019, seem to be heading north again after showing a negative to flat YoY performance in the middle of 2019. Global wheat prices in US dollar terms were up 11% YoY in December 2019 and flattish in ruble terms (see Chart 3), with roughly similiar expectations for 1Q20, depending on RUB performance.
- Inflationary expectations, as reported by the Bank of Russia, deteriorated in December both for households (see Chart 4) and corporates, which may suggest some reassessment of the CPI prospects after November's Black Friday promotional discounts. In the meantime, the consumer sentiment index in December was reported at 95 points, which is 6 points higher than a year ago, while retail trade growth accelerated to 2.3% YoY in November, the highest level in 11 months, suggesting a lack of demand-driven constraints to CPI growth.
Russian CPI growth by components (% YoY)
Russian CPI growth by components (contribution to total, in pps)
Global wheat price growth and Russian food CPI, % YoY
Russian CPI, inflationary expectations and key rate
The over-reliance of the CPI slowdown on the food component, the recovery in global food prices and deterioration of local inflationary expectations suggests, that following the likely slowdown to around 2% YoY in 1Q20 (which will come from the high base of 1Q19, when the VAT hike took effect), CPI will start moving back towards the CBR's 4% target (and our forecast of 3.7%). As a result, we believe the Bank of Russia is more likely to deliver on the signal it gave at the December meeting, which hinted at a pause at least in February in order to better evaluate the CPI trend and suggested very limited scope for a cut in the key rate, at least in 1H20.
Our base case scenario assumes a 25 basis point cut on 20 March to the level of 6.0% with a subsequent long pause in order to determine whether inflation is headed back to the 3.5-4.0% it targets for the year-end. In the meantime, the risks to our forecasts on CPI and key rate are tilted south in case the government fails to return the budget expenditure pattern back on track following a surprising underspending in 2019 and if the ruble continues to strengthen.