CPI Preview: Supply bottlenecks to drive inflation higher in May

May 31, 2021 (MLN): After the status quo decision of the central bank on policy rate at 7% in its latest MPC meeting with the confidence of strong economic recovery, all eyes are on May’s inflation data which is expected to post double-digit growth for the second time in 14 months.

The Consumer Inflation data for May 2021 is anticipated to clock in at 11.37% YoY against 11.1% recorded in the previous month and 8.2% YoY in May 2020. The increase may be mainly attributable to a contribution from the food group. This would take the 11MFY21 average inflation to 8.88% as against 10.97% in the corresponding period last year that is close to the upper end of SBP’s estimate of 7-9% YoY CPI in FY21.

Going by the projections put forth by several brokerage houses, inflation is expected to hover between 10.7%-11.9%.

On a sequential basis, the food index is likely to be the main catalyst behind the 0.56% MoM jump in inflation rate in the outgoing month due to supply constraints and Ramadan & Eid seasonality amid Covid-related restrictions. Taking cues from the weekly SPI data, wheat flour, chicken, and fresh fruits are likely to contribute most to the food segment owing to higher prices. On the other hand, the housing group will likely release inflationary pressure due to a downward revision in energy price adjustment and a drop in LPG prices. A slight fall in petroleum prices by govt may also deflate some pressure during the month.

Quite the contrary, Finance Ministry in its May 2021 Monthly Economic Outlook said that inflation is expected to remain between 9- 9.8% in May. The ministry said that the international market prices of Palm oil and Soybean oil prices, Crude Oil and Tea have increased and ultimately passed through impacts in the domestic inflation. Inflationary pressures were observed in Ramadan due to seasonally higher demand for essential commodities.

Ultimately, increased prices are passed to end consumers, reflecting a higher proportion of household income inclines towards the food segment.

However, from the beginning of the next fiscal year, assuming the absence of any new supply shocks and continued Government monitoring of smooth functioning of markets in essential products, inflation is expected to continue to decelerate in the coming months, said Outlook.

Monetary and Inflation Outlook

In its latest MPC statement, Central Bank emphasized monetary policy to remain accommodative in the near term, in the absence of unforeseen circumstances. The MPC expects any adjustments in the policy rate to be measured and gradual to achieve mildly positive real interest rates over time.

Looking forward, SBP highlighted that the inflation trajectory will be affected by the path of domestic food and energy prices, this summer’s round of wage negotiations, next year’s budget, and the strength of the ongoing economic recovery.

Given low base effects, double-digit CPI is expected to continue in June as well. Market Analysts expect that increase in crude oil prices and higher international food prices would be the major concerns for overall inflation expectation. Accordingly, average inflation for FY21 is expected to touch the upper limit of the announced range of SBP if there is no hike in electricity tariff.

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