Lower dynamics of food prices have restrained inflation

In accordance with the GUS data, CPI inflation dropped to 1.4% YoY in February vs. 1.9% in January, running clearly below the market consensus (1.7%) and our forecast (1.6%). Simultaneously, for the first time since December 2016, it stood below the lower bound of the inflation target tolerance band (2.5% +/- 1 pp.).

The decrease in inflation (by 0.3 pp) resulted mainly from lower dynamics of food and non-alcoholic beverages prices (3.4% YoY in February vs. 4.8% in January). In our view, this was largely due to lower dynamics of vegetables prices (-4.9% YoY in February vs. 2.7% in January), which, according to our estimates, reduced the growth rate of food and non-alcoholic beverages prices by ca. 0.8 pp. The sharp decline in prices of vegetables resulted from the high base effects from the year before relating to frost losses in the south of Europe (see MACROpulse of 14/3/2017). Conducive to lower dynamics of food and non-alcoholic beverages prices was also lower growth rate of prices in the categories "milk, cheese, eggs” (mainly due to lower dynamics of prices of eggs as the EU market was gradually stabilizing after fipronil had been detected in eggs in Western Europe in August 2017), "meat” (largely due to the fact that pork market entered the downward phase of the cycle in Q3 2017), "oil and fats”(lower dynamics of butter prices after the global milk market entered the downward phase of the cycle), and sugar (due to the abolition of sugar quotas in the EU in October 2017). Conducive to decrease in inflation (by 0.1 pp) were also lower dynamics of fuel prices (-2.8% YoY in February vs. -1.0% in January). Based on incomplete data on the structure of households' expenditures in 2017, we estimate that core inflation dropped to 0.8% YoY in February vs. 1.0% in January. Its decrease resulted from slower price growth in the categories "communication” (0.6% YoY in February vs. 2.0% in January) and "recreation and culture” (1.5% vs. 2.5%). Lower core inflation points to continuing lack of inflationary pressure in the Polish economy.

Poles spend more and more on restaurants and hotels

GUS has also published revised weights in CPI inflation basket reflecting the structure of households' expenditures in 2017. Noteworthy in the new structure of weights in inflation basket is further increase in the share of expenditure in the category "restaurants and hotels” (5.71% in 2017 vs. 5.23% in 2016 and 5.04% in 2015), namely in a category showing a relatively high income elasticity of demand. This results from further improvement in the labour market as well as very good, against historical backdrop, households' sentiment which boosts consumption of luxury goods. On the other hand, somewhat surprising is further increase in the share of expenditures in the category "food and non-alcoholic beverages” (24.36% in 2017 vs. 24.28% in 2016 and 24.04% in 2015). Higher share of this category in households' expenditure can be linked to a sharper, in comparison to other consumer goods, increase in food prices in 2017. However, it should be pointed out that, according to Engel's law, as the consumer's income rises the percentage of total income allocated for food purchases decreases. In Poland the percentage of expenditure in this category in recent years has been stable and amounted to ca. 24%.

Downside risk to our inflation scenario

Today's data pose a downside risk to our scenario, in which inflation will decrease to 1.7% vs. 2.0% in 2017 (see MACROmap of 11/12/2017). We expect that lower dynamics of food and non-alcoholic beverages prices, which will stand slightly below zero in Q4, will be conducive to a decrease in inflation in subsequent months. An increase in core inflation will have an opposite impact. In addition, until July 2018, increase in inflation will be supported by low base effects from the year before in the category "fuels”. Slower-from-our-expectations increase in core inflation poses a downside risk to our forecast of interest rates, in which the MPC will leave interest rates at an unchanged level until the middle of 2019.

Today's clearly lower-than-expected data on inflation are negative for PLN and yields on Polish bonds.