Wednesday, August 30, 2017 8:55 AM / BMI Research
BMI View: The introduction of a new policy rate by Mozambique's central bank in Q217 is unlikely to have a significant impact on the country's inflation dynamics over the coming months, which will instead be dictated primarily by the more stable outlook for food and fuel prices. However, the new rate is a reflection of Mozambique's efforts to conform to IMF guidelines in the hope it will expedite re-engagement with the Fund.
The introduction of a new policy rate in April 2017 has not fundamentally changed the trajectory we forecast for inflation and broader monetary policy in Mozambique over the coming quarters. Stronger harvests across Southern Africa as the region moves away from a recent drought and the diminishing impact of base effects on fuel prices will see inflation slowly cool over H217 and into 2018, facilitating more dovish monetary policy from the Bank of Mozambique (BoM).
However, the change to a corridor system, similar to that used by the European Central Bank, can be viewed as part of a broader effort among Mozambique's institutions to conform to IMF guidelines in order to expedite re-engagement with the Fund.
We believe introducing the new policy rate will yield some improvement in the transmission of monetary policy into Mozambique's commercial banking sector. The upper and lower bounds of the corridor have traditionally been far wider than those used in other emerging markets and the concentration of the commercial banking sector has left interbank rates largely determined by few price setters with greater liquidity on their balance sheets.
While the new policy rate will likely offer the central bank greater influence over interbank lending rates, controlling inflation will remain difficult while the consumer basket remains largely determined by external factors beyond the central bank's control.
Cooling Inflation Will Sustain Dovish Monetary Policy
Year-on-year consumer price inflation peaked at 26.4% in November 2016 as a result of higher food prices following poor harvests in Southern Africa, rising fuel prices on the back of the recovery in crude oil and rising import costs after a rapid sell-off of the local currency in the wake of the government's hidden-debt scandal.
With harvests in the region beginning to show signs of improvement and the recovery in oil prices having seemingly stalled in Q217, we believe these inflationary pressures will begin to subside over the coming months, reaching 16.9% by the end of 2017 before averaging 13.9% in 2018.
Core inflation, stripping out the impact of food and fuel, will not decline as quickly as headline inflation, as the steady depreciation of the metical increases import costs for other goods and services, but we believe any sell-off will be less substantial than what we saw in 2016.
In this environment, we believe the central bank will persevere with its shift towards more dovish monetary policy. The pass through rate from interest rates to economic growth is relatively low in a country with such low banking sector penetration, but we believe the BoM will nonetheless be eager to stimulate credit growth, which has contracted sharply since the central bank raised the marginal lending rate (the previous policy rate) to 23.25% in October 2016.
In addition to targeting inflation of 5.6%, the central bank looks set to comply with a monetary base of MZN96.5bn. The decline in y-o-y credit growth from 23.5% in September 2016 to 7.6% in March 2017 suggests an increase in downside pressure on the supply of M2 money, requiring more dovish policy moving forwards.
We forecast 150 basis points (bps) of cuts to the new policy rate in H217, from 21.75% to 20.25% by year-end. This trend will continue into 2018, when we anticipate further cuts of 325bps.
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