Romania Macro Flash

12 Ianuarie 2011

CITIBANK EUROPE PLC, DUBLIN - SUCURSALA ROMANIA

 

Food Prices Drive December Inflation Higher

At 8.0% YoY, the inflation outturn in December came in higher than the consensus (7.9%YoY) and our forecast (7.8%YoY). Our forecast error arises largely from a higher-than-expected increase in food prices. Using seasonally adjusted data, the December reading translates into a rise in CPI inflation of around 0.49% MoM, which is higher than the November print (0.42%MoM).

In our view, adverse FX, food and commodity price shocks are the key risks to the inflation outlook for 2011. With these risks in mind, we think the large economic slack is likely to contain inflationary pressures. Barring unforeseen shocks, we expect inflation to decline to around 4% by the end of 2011 — vs. the NBR's most recent projection of 3.4% — from 8.0% in 2010.

The large negative output gap and the one-off nature of the rise in inflation associated with the VAT hike lead us to believe that the NBR is likely to carry out a moderate easing this year. The NBR's forecast trajectory, which envisions inflation to re-enter the variation band around the 3% central target in 4Q 11, also supports this view. Against this backdrop, we expect the NBR to lower its policy rate to 5.50% by the end of 2011, compared with the consensus of 5.75% (Reuters, January 10, 2011). We note that the NBR's new Inflation Report (to be released in February) will shed more light on the Bank's assessment of the inflation outlook and its interest rate trajectory.

 

Forecast implications

In our view, there are two important risk factors that cloud the inflation outlook. First, a weaker-than-expected leu would complicate inflation dynamics, given the close link between inflation expectations and the exchange rate (Figure 4). Second, a reversal in food prices, which have remained favourable during most of 2010, and higher commodity prices could make the NBR's job more difficult. With these risks in mind, we think the large negative output gap is likely to contain inflationary pressures. Looking ahead, we expect inflation to decline to around 4% by the end of 2011 from an estimated 7.8% in 2010.

 

Policy implications

The large negative output gap and the one-off nature of the rise in inflation associated with the VAT hike lead us to believe that the NBR is likely to carry out a moderate easing this year. In our opinion, the NBR's forecast trajectory, which envisions inflation to re-enter the variation band around the 3% central  target in 4Q 11, also supports this view. Against this backdrop, we expect the NBR to lower its policy rate to 5.50% by the end of 2011, compared with the consensus of 5.75% (Reuters, January 10, 2011). We will monitor the abovenoted risks to the inflation prospects closely and stand ready to adjust our rate outlook if needed. In this respect, we believe that the NBR's new Inflation Report (to be released in February) will shed more light on the Bank's assessment of the inflation outlook and its interest rate trajectory.

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