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GRI Weekly Risk Outlook - February 2, 2015
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Turkish central bank to ease monetary policy further  in wake of disinflationary pressures. Indian Reserve Bank to keep rates on hold until government reveals budget details, and Brazilian economy continues to struggle with stagflation. All this in GRI’s Weekly Outlook.

Turkey: Disinflation to trigger further easing

In the wake of the lira hitting a record low of 2.4483 against the dollar last Friday, a simmering disinflationary trend suggests that further monetary policy easing is on the cards for the Turkish Central Bank (CBRT). Following the comments made by CBRT governor Erdem Basci last Friday, an “interim” Monetary Policy Committee (MPC) meeting may take place on Wednesday 4th February, depending on the outcome of the inflation data for January 2015, to be released on Tuesday 3rd February.

Referring to the “strength of disinflation”, Mr. Basci stated that an inflation drop of more than 1 percentage point relative to the December print of 8.17 (year-on-year, y/y) would trigger the holding of the interim meeting so as to evaluate the inflation outlook ahead of the scheduled MPC meeting of February 24th.

According to the median estimate in a Bloomberg survey of 17 analysts, the y/y rate of inflation is expected to have fallen to 6.8% (largely due to favorable base effects and falling oil prices), thereby signalling the likelihood that the interim meeting will indeed be held this Wednesday.

Although the CBRT kept monetary policy tight throughout 2014 due to elevated inflation, the trend is now to be reversed on the back of falling consumer prices amid plunging oil markets. Since the start of the year, the lira has been facing some downward pressure due to the expectation of a Fed rate “lift-off” in Q3 2014, prompting a transient currency sell-off.

Considering the market reaction in the wake of the last FOMC meeting, CBRT credibility is on the line due to its apparent rush to cut rates ahead of the June 2015 general election. This has, in turn, fueled worries amid investors of the significant politicization of Turkish monetary policy.

Having already cut its policy rate by 50 basis points last month, the CBRT was heavily criticized by key government figures for not cutting more sharply as politicians rally up to ensure that borrowing costs and the investment climate become more favorable ahead of the upcoming key elections.

In the event that the February 4th meeting effectively takes place, it is likely the actual rate cut is enacted at the scheduled meeting of February 24th. If and when the downward rate adjustment takes place, consensus points to a 75 base point cut in the policy rate to 7%. With the CBRT recently lowering its 2015 inflation forecast, GRI expects the bank to embark on an easing path until at least mid-2015.

India: RBI On hold

The Reserve Bank of India (RBI) is scheduled to hold its Monetary Policy Committee meeting on Tuesday, 3rd February. In the wake of the surprise rate cut last January 15th, RBI Governor Raghuram Rajan has signaled that any further easing will depend largely on the government’s commitment to rein in on spending and implement fiscal reforms. As a result, GRI expects the RBI to leave its benchmark repo rate unchanged at the current 7.75%.

Given the bout of disinflation that has pushed all major central banks across the world to ease monetary policy, the RBI is now on a similar path after a hefty year combatting stubbornly high inflation. With price rises tempering as a result of the slump in commodity and oil prices, the cooling inflation will no doubt prompt the RBI to cut rates further.

Despite this, it seems unlikely the RBI will do so imminently, particularly as it awaits to see whether the Finance minister delivers a supportive budget at the end of February. At this time, commercial banks have not aligned their base lending rates with the RBI’s latest cut.

Arguing that the tight cash conditions are preventing them from lowering their rates, bank executives have come under criticism from RBI insiders, with the argument that the reticence to do so is simply an excuse to protect profit margins. With the blocking of this particular monetary transmission channel, the January 15 rate cut has not been transferred to businesses and consumers. This has in turn undermined the RBI’s endeavor to provide more liquidity so as to expand credit provision and spur investment for an economy that is currently witnessing its slowest growth rates since the 1980s.

Hopes are that with cooling domestic inflation, a reduced burden on the current account will create some space for investment levels to grow without exerting excessive downward pressure on the weakening rupee.

The easing trajectory of the RBI should become clearer in mid-February, as the January CPI inflation report is made public. Given the RBI’s data-dependent modus operandi, this should signal investors that a rate cut is unlikely to take place tomorrow.

However, the RBI could instead choose to implement a surprise rate cut so as to provide a “carrot” incentive to the government ahead of the February budget announcement, with a prospective 25 basis point rate cut to be followed in the April MPC meeting if the degree of fiscal consolidation is deemed supportive by the RBI.

Brazil: stagflation to endure

This week, the publication of industrial production (Tuesday) and inflation (Friday) data in Brazil will reveal thedivergent economic outlook that the Latin American giant has embarked on since the start of the year.

With inflation surpassing the upper target of the central bank in January 2015, the direction of monetary policy in Brasilia is running in the opposite direction of its regional peers (notably Chile, Peru and Colombia), all of which are reaping the benefits of lower oil prices and proceeding with their loose monetary policy stances.

On Tuesday, the expectation is that industrial production will have decreased further this past December (by about -2% month-on-month), following a -0.7% m/m move in November 2014. This reflects the reality that the supply-side of the economy is being adversely affected by higher producer prices, particularly energy prices.

On Friday, the January inflation print is expected to reflect an acceleration in price rises of about 1.25% m/m, mainly attributable to the increases in bus and energy fares but also seasonal food price rises. Adding fuel to the inflationary fire, the government’s austerity program (with tax hikes on loans and fuels) is expected to push the rate of inflation higher still.

As a result, annual inflation is likely to hover above 7% for the rest of 2015, discarding any disinflation until 2016.

All of this combines to not bode well for a Brazilian economy currently struggling with a deteriorating growth-inflation trade-off. The spectre of stagflation is set to persevere for the remainder of 2015, with year-end growth expected to have declined vis-à-vis 2014, at -0.1% (y/y).

Growing below potential will contribute to taming inflation, something GRI expects to materialize in 2016, as the impact of the austerity program is felt across the economy. With luck, fiscal contraction will bring inflation back closer to the the 4.5% target of the central bank.

The GRI Weekly Risk Outlook (WRO) provides analytical foresight on the economic consequences of upcoming political developments. Covering a number of future occurrences across the globe, the WRO presents a series of potential upside/downside risks, shedding light on how political decisions impact economic outcomes.

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