R&D Inflation Report 22nd June, 2010
Summary: •
The Year-on-Year (Y-o-Y) inflation rate as of Mid-April 2010, according to Nepal Rastra Bank‘s (NRB) latest macroeconomic report, is 10.8%.
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The Wholesale Price Inflation as of Mid-March 2010 10.9%.
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Price index of food and beverage group up 14.6% while price index of non-food and service group up 6% as of Mid-March 2010.
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The annual budget of the Ministry of Finance and the Monetary Policy report of the NRB has projected an inflation target of 7% for FY 2009/10
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As economic activities improve in major global economies, inflation numbers are climbing steadily globally.
Inflation in Nepal According to the latest macroeconomic report from Nepal Rastra Bank (NRB), the year-on-year (y-o-y) Consumer Price Inflation (CPI) moderated to 10.8% in mid March 2010. Though still high compared to international standards, after reaching the highs of above 14% on mid Jan 2009, inflation growth moderated gradually during the last few months (see figure 1). The annual budget of the Ministry of Finance (MOF) of Nepal for 2009/10 and the monetary policy of the NRB has projected an inflation target of 7% for Fiscal Year (FY) 2009/10. The annual average inflation in FY 2008/09 was 13.2% which was higher than the target of 7%. In its annual monetary policy report, the NRB has indentified supply side constraints as the primary cause of the high inflation. The implication of the high inflation rate for the financial sector is that it deters savings and encourages consumption. Inflation constantly erodes the value of wealth. It makes economic sense for the consumer to consume rather than to save.
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India 13.33% April 2
Figure 1: The Year-on Year Year (y-o-y) y) inflation figure (Source: NRB)
According to the NRB macroeconomic report, price of food and beverages group has moderated to 14.6%, %, whereas, there is slight rise of 6.3% in non food and services se group. Despite a recent decline in inflation in figures, the price in food and beverage group is still high for the average consumer, consumer making their consumption basket worse which is mainly tilted towards basic items.
The CPI has been consistently high over the last 3 years growing on average at more than 10%, remaining at 11.8 percent as of mid December statistics, however the real estimate is significantly biased downwards as the Basket of Goods taken into consideration while calculating the CPI is not fully compatible with today’s context. Furthermore, urthermore, the data collection collection over the economy is not as fully comprehensive.
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Product-wise break down of Inflation figure
CPI
Food and Beverage Group Index Sugar and Sugar Related Products Pulses Grains and Cereal Products Meat, Fish and Eggs Spices Non-Food and Services Group Index Tobacco and Related Products Education, reading and recreation
14.6 46.4 22.8 12.6 17.8 31.2 6.3 11.1 11.3
Geographic breakdown of Inflation figure Kathmandu Valley
10 12.5
Hills Terai
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Products-wise break down
WPI
Agricultural Commodities Domestic Manufactured Commodities Imported Commodities Spices Pulses Livestock Food Related Products
15.4 11.6 9.3 38.8 25.9 29.2 19.7
Figure 2: Breakdown of April 2010 Inflation numbers
National Urban Consumer Price Index for past five years Year 2004-2005 2005-2006 2006-2007 2007-2008 2008-2009 2009-2010*
Overall Index 161.8 174.7 185.9 200.2 226.7 250.9
Percentage Change 4.5% 8.0% 6.4% 7.7% 13.2% 10.8% * Till Mid April 2010.
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Graph of National Urban CPI for last five years
National Wholesale Price Index for past five years Year 2004-2005 2005-2006 2006-2007 2007-2008 2008-2009 2009-2010 (Mid-Jan) Jan) 2009-2010 (Mid- Feb) 2009-2010 (Mid-March) March) 2009-2010 (Mid- April)
Overall Index 123.3 134.3 146.4 159.7 180.1 203.8 198.7 197.0 197.6
Percentage Change 7.3% % 8.9% % 9.0% % 9.1% % 12.8 12.8% 15.6 15.6% 14.2 14.2% 12.2 12.2% 10.9 10.9% * Till Mid-April Mid 2010
Note: Five year’s change in Index= 0.60%
Global inflation The IMF has raised its 2010 inflation forecast for most major economies in the Americas, due to the stronger global economic recovery and the impact of a major economic stimulus package in the USA. US inflation in 2010 is now expected to be
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2.1% instead of the 1.7% according to the IMF forecast in October 2009. This is partly due to better-than-expected economic growth, as well as continuing low interest rates. 2010 inflation forecasts for France, Germany and the UK (the region's biggest economies) have all been raised between October 2009 and April 2010. The sharpest increase was in the UK, where the IMF raised its forecast to 2.7% from 1.5%, and remains higher than mainland Europe due to rising food and energy costs. In April 2010 the IMF updated its forecasts for global inflation to an average 3.7% in 2010, (from 2.4% in 2009) compared to the 2.9% projected in October 2009.
The IMF estimates that inflation in most countries will be higher than previous forecasts, reflecting growing confidence about the economic recovery. However, inflation is lower than expected in some countries, such as Ireland and in Eastern Europe, reflecting worries over the recovery and risks such as sovereign debt levels. In advanced economies, the IMF projects average inflation to be 1.5% in 2010 compared to the 1.3% that was forecast in January 2010. This reflects the stronger than expected recovery since late 2009 and the parallel rise in prices of commodities, lower than expected numbers of lay-offs (which has prevented wage inflation from falling significantly) and a potential reluctance for firms to lower prices and margins.
Developing Regions: In emerging and developing economies, average inflation is expected to be higher than in advanced economies, reflecting the quicker economic and demand growth, strong demand from developing Asia and lower excess capacity than might normally be expected at this stage in the economic cycle. The fund has left its January 2010 forecasts unchanged at an average inflation rate of 6.2% in 2010. In 2011, inflation will be 4.7%, as commodity prices are not expected to increase significantly.
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Japan: Japan is expected to experience deflation, with the forecast for 2010 estimated by the IMF at -1.4% compared to -0.8% in October 2009. Japan's economic situation is downbeat, with real GDP estimated to have shrunk by 5.2% in 2009. Low consumer spending has forced price wars in some sectors, putting downward pressure on inflation;
China The IMF projects that China will experience relatively moderate inflation. Due to a stronger than expected recovery and higher global commodity prices, average inflation in 2010 is predicted to be 3.1% compared to the 0.6% that was forecasted in October 2009. The Chinese government has set a target of keeping inflation under 3% in 2010, although this is unlikely due to ongoing money supply growth.
India India is now expected to see much higher inflation in 2010. The IMF has raised its forecast from 8.4% to 13.2%, due to a poor harvest and drought in 2009 that increased food prices, but also stronger consumer demand for household products and rising wages due to some labor shortages. The outlook for 2011 is for inflation to moderate to 5.5%.
Countries/Economic Zone United States India* Euro zone Japan China
Inflation rate 2.20% 13.33% 1.50% 1.20% 3.10%
Data April 2010 April 2010 April 2010 April 2010 May 2010 *CPI Based
Figure 3: Global Inflation numbers
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Fight to Control Inflation in Nepal: While the inflation rate is falling all over the globe, inflation in Nepal is still a conundrum, and worrisome for policymakers and the public in general. During the first half of 2008/09, global food crisis and huge increase in commodity prices were significant drivers of high inflation. However, despite the sharp fall in commodity prices, we have not seen commensurate decrease in domestic inflation level. Officials at the Nepal Rastra Bank (NRB) and the Ministry of Finance (MOF) have attributed higher inflation to supply constraints emanating from energy crisis, constant strikes, bandhs, carteling and economic uncertainty.
Nepal Rastra Bank’s Governor has claimed that the country’s economy is not in crisis as portrayed by some people. The governor said it won’t be justified to say that the economy is in crisis when economic growth is at 4 percent, industrial growth is at 3.5 percent and inflation has dropped to 10 percent. However one has to note that with economic growth at 4% and inflation at 10% we have a real growth rate after inflation adjustment of -6%. The implications for the banking system are that it makes more sense to spend money rather than to save it.
When asked about the current economic problems in one of his interviews, he said “High inflation, balance of payment deficit and huge trade deficit are major challenges the country is facing now. As far as high inflation is concerned, high expansion of the money supply seen over the last two years contributed to rapid and sustained price rises. Indeed it is not only the price increases in the general basket of goods, we have witnessed excessive liquidity creating assets bubbles in the Stock markets and the real estate markets”.
Governor Khatiwada also highlighted the need to consider supply side constraints. NRB will take actions to reduce high inflation due to expansions in the money supply and for that there will be some fine-tuning in the monetary policy that includes some restrictions on the loans that go into unproductive and luxurious sectors.
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The Governor said “when there is an excess in liquidity, there is the effect in inflation. In the last two years, a lot of money was injected in the economy. The money increased at the rate of 25 to 30 percent. Actually, that was not necessary. Due to the increase in money, the banks started to invest rampantly. This has ha affected the share market as well as real estates. Since purchasing power of the people has increased, there is the increase in the price of real estate and shares. The real eal estate bubble has increased the purchasing power in such a way that the demands of all products go up. The prices of non-food non food items are somehow stable but the price of food items is out of control due to increase of per capita incomes. Our role will be now to see how we can control the market price which has gone up due to high purchasing sing power.”
Figure 4:: Annual Remittance for last 5 years (amount in Rs. Billion)
Year 2004-05 2005-06 2006-07 2007-08 2008-09 2009-10
Remittance amount amoun in billion
Growth Rate 65.5 97.7 100 142.7 209.7
49% 2% 43% 47%
308.2* * Assuming same growth rate in 2009-10 10 as the previous year
Note: Five year’s Change in Remittance = 3.71%
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These supply-side side factors have played a major role in pushing prices up, however, if the NRB now may not need to soak up excess liquidity in the market due to the existing liquidity crisis on hand. hand However, if the cause of the crisis is mainly a function of cash hoarding by households and businesses then the inflation rate may still be pushed up.
The domestic omestic economy has been inundated with record remittance inflow inflo – Rs 210 billion in FY 2008/09 (See figure 4 for details). Though there is little research on the uses of remittance inflows in Nepal, anecdotal evidence shows that most of the remittance income has been used up for consumption purpose, purpose, therefore remittance and wage driven inflation is also present but is very difficult to calculate. calculate Even if the remittance incomes are used predominantly in consumption, they can be productive provided that it was spent on higher domestic consumption, which would lead to an expansion of domestic production. production
owever, imports have been increasing, increasing and the domestic manufacturing sector has However, not been able to pick up in Nepal and capitalize on increasing remittance flows (In FY 2008/09, the manufacturing sector witnessed a decline of 0.5%). Given the above scenario with elevating remittance inflows and a stagnant domestic production sector and increased imports, imports one can argue that remittance has also been instrumental in driving up the price levels. levels
Figure 5:: Annual average CPI based inflation for last 5 years
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In this context, the inflation target of 7% in FY 09/10 will be difficult to attain. On the monetary side, the NRB, with the view of containing inflation, has put a lower projection on the growth of M2 – broad money- of 17% in 2009/10 compared to 21% in 2008/09 which should help.
The negative real interest rate for a long period of time partly on account of a rise in inflation has also been a concern of monetary policy. Businesses were in a situation where funds were cheaper than it seemed on paper due to inflation and were also easily able to pass on the incidence of inflation to the consumers. Due to negative real interest rates, the allocation of financial resources has not been efficient. This sentiment underpins the stance of monetary policy for 2009/10.
Inflation rate at the global level has plummeted to single-digits, while Nepal still faces the inflation at double-digit level, largely due to supply disturbances. Inflation could ease to single-digit levels with an improvement in food and vegetable prices. Subject to no further adjustment in the petroleum prices and improvement in distribution channels, the annual average consumer price inflation is projected to moderate at 7.0 percent in 2009/10.
Like in the past, the international reserves sufficient to cover the merchandise and service imports for at least 6 months has been taken as the second primary objective of monetary policy of 2009/10 as well. In order to meet this target, a BOP surplus of Rs. 18.0 billion is projected for 2009/10.
Increasing wages and growing remittance volumes are fueling an already high consumption rate, which in turn drives more imports as we produce very little domestically. The impact of increasing wages and of new found remittance wealth has been translated into inflationary pressure on goods, commodities and real estate.
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Year 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09
Narrow Money (M1) Broad Money (M2) Inflation Rate 2.0 12.3 12.8 4.5 6.5 8.3 8.0 15.6 14.2 6.4 14.3 15.6 7.7 11.3 13.4 13.2 11.9 13.6 Fig 6: Percentage Change in Money Supply
Fig7: Growth Rates of Money Supply
Please contact the following for further queries and details: Shivanth Pande` Samraksha Singh
sshivanth@nibl.com.np samraksha@nibl.com.np
00977-1-4228229 4228229 (Ext-237) (Ext 00977-1-4228229 4228229 (Ext(Ext 295)
Nepal Investment Bank Limited Research arch and Development Department
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