LIVING IN A NEW ERA OF HIGH PRICES

The SBP reports highlights the official point of view

By SHABBIR H. KAZMI
Apr 24 - May 07, 2006

According to the State Bank of Pakistan inflationary pressures continued to weaken during March 2006 as the rate of increase in all the three measures of inflation, viz. consumer price index (CPI), wholesale price index (WPI) and sensitive price indicator (SPI) declined during the month. Headline consumer price inflation dropped to 6.9 percent year-on-year (YoY) in March 2006, which was its lowest since May 2004. The WPI declined to 8.5 percent during the month from an average inflation of more than 11 percent during the first half of the current financial year. The inflation in sensitive price indicator was 6.8 percent in March 2006 which, though slightly above the nine months average of the current fiscal year, was significantly lower than 11.4 percent inflation during the corresponding month last year.

A further analysis of the recent trends in price indices reveals that decline in YoY food inflation remained in the background of the current slowdown in overall inflation. Food inflation decelerated sharply both in CPI and WPI during March 2006, due to the strong base of last year as well as YoY decline in the prices of a number of important food items. Inflation in non-food component of both CPI and WPI has also been decelerating for the last couple of months which, along with decline of food inflation, suggests that inflationary pressures are easing off in the economy.

Core inflation, measured both by excluding food and energy components from CPI basket and by trimming 20 percent of CPI items showing extreme changes, also continued to decline during the month. As held earlier, if no supply shocks occur during the subsequent months, the persistent decline in core inflation is very likely to lead the headline inflation down by the end of this fiscal year.

The long-run trends of price indices, measured as 12-month moving average, are also indicating a slowdown in inflation. However, due to the lag impact of price hike that occurred during the last couple of months of last financial year, the magnitudes are still high. The long-run trend of WPI inflation, which has been rising since the beginning of the current fiscal year, is expected to show deceleration if the current rate of decrease in YoY inflation continues.

Consumer price inflation continued to decelerate sharply during March 2006, and was recorded at 6.9 percent (YoY) as compared to 10.2 percent in the same month last year. Both food and non-food components of CPI contributed to the sharp fall in the overall CPI inflation during March 2006. However, the contribution of sizeable deceleration in food inflation was more pronounced. While the strong base of last year is playing its role in the slowdown of inflation in the recent months, YoY decline in prices of some important food items, stagnant fuel prices and persistent deceleration in HRI inflation have also added to the current weakening of inflationary pressures in the economy.

Despite increase in the prices of milk, meat, sugar and that of some pulses and vegetables, inflation in the overall food group declined sharply to 5.4 percent (YoY) in March 2006 as against 13.3 percent inflation recorded in March 2005. Food inflation during March 2006 was the lowest rate recorded since December 2003. A detailed look into the price movements of individual items in the CPI food group reflects that it was mainly the YoY decline in prices of wheat and its products, pulses masoor and gram, vegetable ghee, cooking oil, poultry, and vegetables including tomato and onion, which overshadowed the high inflation in sugar and milk prices along with the increasing price of meat and some other pulses.

Like February, in March 2006 too, milk remained the highest contributor to CPI food inflation and second highest to the overall CPI inflation, the 12-month moving average of non-food inflation to decelerate during March 2006 for the first time during the last two years. HRI inflation that is the largest contributor to both the overall CPI inflation and non-food inflation due to its high weight is decelerating continuously on the back of persistent deflation in construction raw material prices followed by the sugar price inflation.

Non-food inflation continued to decelerate, and was recorded at 8 percent YoY during March 2006. In fact it was the stability of fuel prices (domestic), and the persistent deceleration in the house rent index (HRI) inflation that made the CPI non-food inflation to drop sharply from 9.2 percent YoY in January 2006 to 8 percent in March 2006. This sharp fall in YoY non-food inflation has finally made

As the food group witnessed a sharp decline in inflation, its contribution to the overall CPI inflation further squeezed during March 2006. Food group contributed 31.6 percent to the headline inflation during March 2006 that was far less than its contribution of 52.8 percent during the same month last year. On the other hand, the contribution of non-food inflation increased over the same period with energy as a major contributor to CPI inflation.

During March 2006, inflation in the prices of ten out of the 374 items in the CPI basket, contributed to more than 75 percent of the overall inflation. Like in the last month, except HRI, all items belong to either food or energy group of CPI.

Within the food group, milk and sugar (with a combined weight of 8 percent in the CPI basket) contributed to 24.2 percent to the overall CPI inflation. This was close to the contribution of the heavy weight HRI that contributed 29.7 percent during March 2006.

The wholesale price inflation continued its decelerating trend in March 2006 and declined to 8.5 percent (YoY) - a decline of 1.4 percentage points from the previous month's rate. The decline in WPI inflation has been supported by a deflation in some major crops like wheat, rice, grams, etc., poultry products, some raw material and building material other than cement. The upward pressures on WPI has been exerted by double digit inflation in prices of sugar, meat, some pulses, milk, cement and bricks. Moreover, YoY inflation in fuel prices is also in double digits despite showing stability for the last six to seven months. As a result of the existence of such inflationary pressures, the WPI inflation both in terms of 12-month moving average and period average is rising despite YoY deceleration.