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Export Pressures On Grain Harvests Prod CPI Higher

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Wednesday, January 18, 2017 02:18 PM / ARM Research

Inflation closes 2016 on a whimper: The National Bureau of Statistics (NBS) released the final monthly CPI reading for 2016, which showed that inflation inched 7bps higher to 18.55% in December—5bps ahead of our forecast. In contrast to the sharp jumps observed in earlier months, the December increase was the slowest over 2016. Overall, the latest reading implies that prices accelerated 897bps over 2016 to leave average inflation (15.6% YoY) largely at par with our FY 2016 forecast. Excluding the food and energy price shocks, headline inflation closed 2016 at 14.7% YoY (2016 average: 12.55%) by NBS estimate.

Food inflation prints at four year peak on higher export demand: Looking through breakdowns, price pressures emanated mainly from food inflation (+20bps from prior reading to 17.39% YoY) while core inflation (-10bps from prior month to 18.1% YoY) once again moderated in line with expectation. Focusing on food inflation, in line with trend over the 2016 harvest cycle, December’s MoM reading printed at a four-year high of 1.33% MoM (vs. 0.88% in November). The elevated reading in December was in spite of FEWSNET’s reports of improvement in cereal output (+14% YoY to 20.8million MT). As we had noted in prior reports, price pressures over harvest months reflect increased cross border demand–a fall-out of improved export competitiveness of Nigerian grains with NGN now weaker relative to CFA.

Elevated readings to persist in January 2017 on food pressures, but…Going forward, our near-term inflationary forecast is broadly hinged on sustained export demand-pull pressures on the food basket, for which numbers trickling in suggest that ongoing trade restriction has failed to address. Similarly, mild uptick in deregulated diesel prices suggest tamer moderation in core readings. Accordingly, we forecast inflation to print at 18.6% YoY in January 2017.

…2016 base effects pose high hurdles to CPI run rate:  However, beyond January, which we expect to produce peak monthly CPI in 2017, we think base effects inherent in 2016’s shocks to fuel and electricity prices pose headwinds to headline inflation tracking higher. Specifically, in the absence of fresh hikes on these two items, whose impact on the HWEGF component was evident in 2016, CPI readings would struggle to remain at current levels going into other months of the year—beginning with February. Our model suggests headline inflation should average 13.9% YoY over 2017.

Inflation closes 2016 on a whimper
At the close of last week, the National Bureau of Statistics (NBS) released the final monthly CPI reading for 2016, which showed that inflation inched 7bps higher to 18.55% in December—5bps ahead of our forecast. In contrast to the sharp jumps observed in prior months, the December increase was the slowest over 2016. In addition, a parse through breakdowns provided revealed that price pressures over December emanated mainly from food inflation (+20bps from prior reading to 17.39% YoY) while core inflation (-10bps from prior month to 18.1% YoY) once again moderated in line with expectation.

Overall, the latest reading implies that average price level accelerated 897bps over 2016 to leave average inflation (15.61%) largely at par with our FY 2016 forecast. Excluding the food and energy price shocks in 2016, headline inflation closes 2016 at 14.7% YoY (2016 average: 12.55%) using NBS’s measure which adjusts for shocks to these volatile prices in the economy over 2016 (Fuel: +68%, electricity: +45%).

Figure 1: Trends in YoY headline, food and core inflation


Food inflation prints at four year peak on higher export demand
Focusing on food inflation, in line with trend over the 2016 harvest cycle, December’s MoM reading printed at a four-year high of 1.33% MoM (vs. 0.88% in November). The elevated reading in December is in contrast with improvement in cereal output (+14% YoY to 20.8million MT) with FEWSNET noting double-digit growth across key crops: maize (+10% YoY), millet & sorghum (+18% YoY) and rice (+15% YoY). As we had noted in prior reports, price pressures over harvest months reflect increased cross border demand–a fall-out of increased export competitiveness of Nigerian grains with NGN now weaker relative to CFA.

Importantly, while December typically boast strong increases in MoM food readings over harvest seasons—owing to perennial festive-induced demand pressures, the over 33bps jump implicit in the current reading (relative to the mean of the past four years) is an outlier which re-affirms earlier fears about the impact of these rising cross border demand on domestic food prices in Nigeria.

Specifically, even after the imposition of export ban on maize, cereal prices again came in unfettered at N112.00/kg (+13% MoM, +108% YoY) by the end of November with related farm produce inflation printing at 1.6% MoM in December.

Figure 2: Trend in December MoM food and farm inflation


Elsewhere, core inflation came in at its lowest level in over a year (+0.62% MoM) with moderation reminiscent of flat to falling prices of PMS (+0.01% MoM), kerosene (-18.03% MoM), and diesel (+0.3% MoM) in the review month. Specifically, the strong decline in kerosene prices mirrored NNPC’s ramp up of kerosene supply and distribution in December—a move which neutered impact of higher prices in East and Mid-Western states of the country.

Elevated readings to persist in January 2017 on food pressures, but…
Going forward, our near-term inflationary forecast is broadly hinged on sustained export demand-pull pressures on the food basket, for which numbers trickling in suggest that ongoing trade restriction have failed to address. Similarly, mild uptick in deregulated diesel prices suggest tamer moderation in core readings. Accordingly, we forecast inflation to print at 18.6% YoY in January 2017.

However, beyond January, which we expect to produce peak monthly CPI in 2017, we think base effects inherent in 2016’s shocks to fuel and electricity prices pose headwinds to headline inflation tracking higher. Specifically, in the absence of further increases on these two items, whose impact on the HWEGF component was evident in 2016, CPI readings would struggle to remain at current levels going into February 2017. On electricity, with the current interbank rate of N305/$ well ahead of the N198/$ in the MYTO II template, there exists possibility of additional increases in electricity tariffs in the current year. Similar arguments can be made for impact of rallying crude oil prices and currency depreciation on PMS prices.

Nonetheless, given ongoing legal hurdles, existing high court ruling against the 45% hike in February 2016, and legislative opposition, we see limited prospects of a follow-on electricity price hike. Evidently, following the defeat in court, which the government subsequently appealed, the 2016 electricity price hike cannot even be considered cast in stone. In our minds, faced with the prospect of greater opposition from the populace, we think the FGN is unlikely to re-open the already heated issue with a proposition for another hike in electricity tariff – especially when the FGN might still have to contemplate the possibility of additional fuel price increase following recent rally in crude oil prices.

On PMS, though authorities are likely going to resist, we think absent a resumption of subsidy in any form (direct or indirect via FX), there is significant scope for adjustments to PMS prices in the latter months of the year in view of the currency situation. Consequently, we model a base case scenario of mean exchange rate of N400/$ and crude oil price of $55/bbl. Our assumptions translate to PMS price of N198.10/litre (+37% from current levels)1. Yet, this tilt in PMS prices (relative to the over 68% surge in the prior year) amidst near zero probability of electricity price adjustments, still suggest that base effect from 2016 are likely to leave core inflation significantly subdued in 2017 with key moderations expected to delve in from February reading. Thus, our model suggests headline inflation should average 13.9% YoY as the high 2016 base drops off the CPI index over 2017.

Figure 3: Average YoY and MoM inflation (Actual and forecast)

 

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