Friday, September 26, 2014 12:21 PM / ARM Research
The National Bureau of Statistics (NBS) reports that CPI for August 2014 rose 8.5% YoY—20bps and 10bps point ahead of July reading and our forecasts, respectively. In contrast to the YoY uptrend, MoM headline inflation eased for the second consecutive month (-15bps from July’s reading to 0.5%) on account of a 20bps cutback in MoM food index to 0.6% whilst core inflation rose 20bps to 0.4%. However, on a YoY basis, core inflation declined for the second consecutive month—by 90bps to 6.2%—whilst YoY food inflation was flat from August at 9.9%, propping headline inflation.
… as farm produce ‘base effect’ accounts for latest bump
In particular, farm produce prices were elevated, rising 11.2% YoY in August (July: 9.7%) and contributing significantly to food inflation. However, that number incorporates a significant base effect as farm produce rose a modest 0.4% MoM (July: 1.3% MoM) with an uncharacteristic 0.9% contraction in August 2013 largely responsible for the observed YoY acceleration in the item.
In a way, this illustrates just how much of a non-event the lean season (May-August) was in 2013 with a number of well discussed factors (including strategic grain reserve releases) combining with the fundamental underpins to deliver very benign food (and headline) inflation trends despite potential shocks. Given further improvements in the interim, it makes sense to reexamine the just concluded 2014 lean season for similar improvements especially as average YoY inflation thus far, at 8.0%, remains well below 2013 levels despite 6-month uptick.
Insecurity impact: quashed or masked?
Let’s take a step back. At the beginning of lean season, we had adduced escalating NE insecurity as the main driver of (then emerging) food and headline pressures. Our view had been based, partly, on the deviation in May MoM food direction from the 2013 pattern which had been closely replicated in the preceding months of 2014. This was amid more visible disruption of farming activities and distortion to trade flow patterns and human displacement. Events since then should only have magnified the impact. In particular, low cumulative rainfall average in most parts of the north– in strict contrast to the situation in south–appeared set to place a cap on farm yields. Furthermore, urban market activities narrowed with ~ 50% market utilization level resulting in a pull-back in cash crop distribution in the region. Interestingly, in contrast to these signs of continued pressure, food inflation has, since our initial assessment, maintained a sequential step-down to end the lean season with lowest MoM reading in 12 months.
So does this mean the insurgency pressure is a thing of the past? Circumstantial evidence, with inflation reading after the latest grain release much higher viz-a-viz prior releases in August 2013 and November 2012 muted tempering impact of grain releases on food prices, cumulative lean season inflation numbers also indicate significantly greater pressures in 2014 than last year. To illustrate, average MoM growth in farm produce prices in the recent past lean season, at 0.9%, is 20bps and 40bps higher than in 2012 and 2013 respectively, reinforcing theme of insecurity-induced pressures.
Insecurity effects may linger but not enough to trouble economic indices
On one hand, the confluence of positive developments appears to have curtailed the risk from insurgency. Nonetheless, the latent pressures indicated by lean season readings suggests a lingering effect and we continue to expect inflation to push to a peak in September with harvests driving some moderation thereafter.
However, it is pertinent to note that a significant portion of our insurgency-driven concerns, as we highlighted in our prior report, relate to the next planting cycle. In a scenario where limited farming activities results in subpar harvests and curtails carry-over stocks, the benign conditions occasioned by improved storage and grain release may not be as strong an influence next year. Indeed, such pressures could emanate in the final months of this year in the aftermath of the main harvest.
Regardless, the critical supports for the structural downshift in inflation remain in place and we expect these to cap any potential spikes. In particular, an additional year for government production-expansion initiatives to take hold (at least in non-disrupted regions) could negate all the insurgency concerns. The recently announced reduction in food import bill to $4.3billion (vs. ~$7billion in 2013) is testament to the potential impact of these programs. Overall, we do not envisage a marked shift in average inflation levels and as long as market rates remain positive in real terms we expect inflationary concerns to remain something of an afterthought both for policy makers and investors.
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