Itaú BBA - Itaú Inflationary Surprise Index - Downward inflation surprises persist

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Itaú Inflationary Surprise Index - Downward inflation surprises persist

January 3, 2017

Downward inflation surprises have been common in countries where activity has also been weaker than expectations.

Our Itaú Inflationary Surprise Index marked -0.38 in December, fairly stable from the -0.37 registered in November. The index’s downward momentum was mostly explained by Brazil, though recent downside inflation surprises in Colombia and Chile were also recorded. Downward inflation surprises have been common in countries where activity has also been consistently weaker than expectations. On the opposite end, Mexico and Peru are undergoing stronger inflationary pressures recently, largely fueled by currency depreciation in the former and by one-off factors in the latter.

The inflation surprise index compares trends in inflation indicators released during the month to what analysts had been expecting for them. The inflation index is a GDP-weighted average of separate indices for Brazil, Mexico, Chile, Colombia and Peru. The inflation index, however, possesses fewer indicators for each country due to the limited number of inflation indices that are consistently forecasted by agents. As usual, an above-zero reading means inflation overshot estimates. A below zero reading means inflation came in lower than expected. The index is a presented as a three-month moving average in order to avoid excess volatility.

Brazil’s index registered -0.63 in December, down from November’s -0.55. The IPCA and IPCA-15 indices underlined the main downward surprises. November IPCA registered 0.18%, sharply below the market’s 0.27% estimate. December’s IPCA-15 inflation registered 0.19%, surprising to the downside once again (market estimate: 0.29%). Services inflation explained most of the surprise. Food prices had been pressuring inflation throughout last year, but the reversal of this phenomenon is already clear. These results add up to the series of downside inflation surprises in recent months, and the outlook for inflation remains positive. Signs that the negative output gap is leading to faster market-price disinflation are becoming more apparent.

Chile’s index stood at -0.72, up from -0.96 in November. Consumer price inflation came in line with expectations in November, gaining 0.1%. Following a sharp depreciation of the currency over the past two years, the evolution of the peso this year has led to a tradable goods-led disinflation in recent months. Moreover, disinflation of non-tradables is indicative that there are more factors behind the inflation decline in Chile besides transitory factors. The November inflation reading is in line with our yearend forecast of 3%, down from 4.4% in 2015.

Colombia’s index registered -0.54 in December, up from -1.41 in November. Consumer prices returned to growth, rising 0.11% in November, above market expectations at 0.01%. The rise was driven by housing-related prices, whereas food prices were nearly flat, as the pressures from the El Niño weather phenomenon have receded. Despite the month’s upside surprise, inflation has been recently surprising to the downside, hence the index’s still-negative reading. Weakening economic activity coupled with the unwinding of the previous currency depreciation and the El Niño effect will likely continue to contribute to the disinflationary process.


 

Mexico’s index decelerated to 0.15, in December, from 0.28 in November. CPI posted a 0.78% change in November - slightly below the consensus (0.82%). Despite the downward surprise, the recent trend has been characterized by upside inflation surprises. Inflationary pressures have been mainly driven by the effects of the MXN’s depreciation. As a result, the outlook for inflation is contingent on the behavior of the exchange rate, which will be influenced by the course of U.S. policies. The Mexican government announced increases in the new maximum regional gasoline prices, effective January, but we were already expecting a catch up with international market prices to occur over the course of 2017. Hence, we left our inflation forecast for 2017 unchanged at 3.9%.

Peru’s index registered 0.50, slightly down from 0.59 in November. CPI inflation posted a 0.29% month-over-month change in November, broadly in line with market expectations at 0.28%, with the inflationary pressure stemming from one-off effects that are normally absent in November. Annual headline inflation, however, decreased in November because of a favorable base effect. Peru’s inflation slowed down in December (data to be covered in the next report), although drought conditions and higher international oil prices prevented a more significant decline. We expect CPI inflation at 2.7% in 2017, with food inflation moderating over the course of the year.

Methodology Note

Our Itaú Inflationary Surprise Index compares trends in inflation indicators to what analysts had been expecting for them each month. The index considers the month that each indicator is released. For instance, February’s inflation reading released in March will be incorporated to March’s surprise index.

The index is a GDP-weighted average of separate indeces for Brazil, Mexico, Chile, Colombia and Peru. An above-zero reading means inflation overshot estimates. Below zero means inflation came in below expectations. The index is a three-month average in order to avoid excess volatility.

We build the inflation surprise index for each country using inflation indicators for which consensus estimates are normally provided in the Bloomberg survey. The weight of each indicator in the index depends on its importance for the economy. For example, headline consumer inflation numbers enjoy a higher weight than regional inflation indicators or wholesale price indices.

We use the deviation of the actual print from the consensus estimate (surprise), subtract the result from the historical average deviation and then divide the result by the standard deviation of the surprise. This methodology provides a better sense of how important was the surprise in each month.

The weight of each country in the aggregate inflation index depends on the size of its GDP. Brazil has the highest weight, followed by Mexico.

It’s worth noting that, due to revisions in the economic indicators and as lagged announcements, the surprise indices may be revised.

Indicators on which the index is built:

Brazil: IPCA (Headline CPI) (30%), IPCA-15 (30%), IGP-10 (10%), IGP-M (10%), IGP-DI (10%), IPC-S (5%), IPC-FIPE (5%)

Mexico: Headline CPI (50%), Bi-Weekly CPI (50%)

Chile: Headline CPI (100%)

Colombia: Headline CPI (100%)

Peru: Headline CPI (100%)


 

Laura Pitta
Lourenço Paiva


 



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