Bahana Macrosight: Inflation returns with a whimper

Inflation returns – not with a bang but a whimper

December inflation was reported at 0.45% m-m/1.68% y-y, slightly higher than consensus expectations of 0.37% m-m/1.67% y-y. Still the figure marked the lowest inflation print since at least 20 years, with the weak purchasing power still reflected by the low core inflation that stood at 0.05% m-m/1.60% y-y. In December, most of the price pressures were driven largely by seasonalities in food inflation that stood at 2.02% m-m/3.48% y-y (vs. 1.18% m-m/2.34% y-y in November), which eventually pushed up volatile goods prices to 2.17% m-m/3.62% y-y. Administered price inflation was benign at 0.35% m-m/0.25% y-y, mostly due to higher air freight and cigarette prices. Based on its commodity share, the FY20 inflationary pressures mainly came from gold jewellery with 0.26% contribution, followed by red chilis and cooking oil with 0.16% and 0.10% shares, respectively. Going forward, the low headline inflation trend is likely to continue in 1H21 assuming no significant spike in food prices. That should give room for BI to deliver another 25 bps rate cut in 1Q21 to sustain an economic recovery.

Will food inflation risks come back to haunt Indonesia?

While it is still too early to assume the high M2 money supply growth (12.2% y-y in November) will cause a demand-pull inflation, it may be worth watching the cost-push inflation from spiking food prices, in our view. We think the latest price rally of food commodities, from soybeans to palm oil, may translate into higher prices of food components, driving up food inflation in 2021. This has been the regional trend, with countries like India already reporting double-digit jumps in food prices while the Indonesia statistics agency already reported scarcity of tofu and tempeh in local markets. Last year, food inflation contributed 0.62%, or around one-third of headline inflation of 1.68%. In detail, the main contributors came from red chilis (0.12%), eggs (0.06%) and chili pepper (0.05%). The inflation outlook this year may also come from bad weather, harvest underperformance, and local stockpiling due to supply disruption. Our estimate here is the 12.5% cigarette excise tax increase (blended) may add approximately 0.13-16% of the headline CPI this year (see our report: Cigarette excise tax impact).

Weak purchasing power, but slight rebound in manufacturing PMI

By the end of 2020, Indonesia’s purchasing power was still a long way from fully recovered. First, December’s core inflation recorded 1.60% y-y, lower than economists’ estimate of +1.67% and the lowest since at least 2003 (excluding gold prices, which contributed 0.26% to headline CPI, core inflation could even go lower). Second, deeper contraction in November’s credit disbursement by -1.70% y-y (-0.90% in October) means the medium-term outlook for the economy remains grim: Almost all credit segments contracted, such as working capital (-3.8% y-y) and consumption (-0.2%), while credit for investment was relatively flat (0.2%). The bright side here is Indonesia’s manufacturing PMI recovered slightly at 51.3, higher than the 50.6 reading in the previous month – it was better than other Asian peers such as Malaysia (49.1), the Philippines (49.2) and Thailand (50.8).