Poland: Will inflation surprise again?

Flash inflation for October

We expect flash inflation for October to surpass the 6% margin for the first time since June 2001 and land at 6.4% y/y (0.6% m/m). Besides surging commodity and food prices, the core items remain pro-inflationary as well and we see core inflation at around 4.5% y/y in October. The flash inflation reading for October comes shortly before the MPC meeting on November 3 and might shift the balance in favor of another rate hike. While inflation development and expected upward revision of the CPI trajectory within the new central bank’s projection strongly support another move by the NBP as early as next month, the central bank might remain on hold, as communicated by the governor during the last press conference. All in all, the interest rate outlook for Poland remains highly uncertain.

Last week's highlights

• Strong industrial production growth in September, as it landed at 8.8% y/y. Retail sales somewhat disappointed in September, as it arrived at 11.1% y/y (5.1% y/y in real terms).

• Labor market statistic for September came in slightly below expectations, as wage growth arrived at 8.7% y/y and employment growth landed at 0.6% y/y. Unemployment rate dropped by 0.2pp to 5.6% in September.

• Construction output disappointed, as it arrived at meager 4.3% y/y in September.

• Following comments from Moody’s and Fitch, S&P also expressed an opinion about the ongoing dispute between Poland and the EU over the rule of law. According to S&P, further escalation of the conflict could only be credit-negative if it were to lead to a considerable delay or suspension of the disbursement of the funds. 

Forecast revision – We revise our growth and inflation forecast for 2021-23

While the performance of the Polish economy in 1H21 was better than expected and resulted in a burst of optimism about the growth outlook, recent months brought some cooling down of those expectations. Thus, we revised our FY21 growth forecast down by 0.3pp to 5.0% and FY22 GDP forecast down by 0.8pp to 4.8%. The main factor behind the revision is a more gloomy outlook for investments and rising supply-side issues. While investment growth surprised to the upside in 1Q21 as gross fixed capital formation returned to the pre-pandemic level of 4Q19, the second quarter was weaker than expected. Moreover, surging producer prices and supply-side bottlenecks will likely drag construction activity down and could weigh on the performance of the manufacturing sector in the coming months. In October, lack of raw materials was cited as a factor limiting activity by 33.4% of companies in the manufacturing sector and hit a new record high. Furthermore, the ongoing dispute with the EU and possible further delay in the disbursement of the funds from the EU Recovery Fund will result in lower investment growth next year, in our view.

As headline inflation continues to surprise to the upside and surging global commodity and electricity prices remain in the spotlight, we revised our FY21 and FY22 inflation forecast upwards. We see CPI on average at 4.8% this year and at 5.2% next year. The headline figure should peak in 1Q22 between 6.5-7.0% y/y and we expect it to gradually move toward 4.0% y/y by the end of next year. We assume a 20% increase in energy prices as of January 2022, which would imply roughly 10% higher electricity bills for households – a similar magnitude to the one introduced in January 2021. However, higher electricity prices on the wholesale market will be particularly difficult for producers. Moreover, planned increases in excise taxes for alcohol and tobacco will also be pro-inflationary, while surging costs of agricultural products on the global markets will keep food prices at an elevated level next year. On the positive side, the base effect from higher oil prices should take some pressure away from the headline CPI from April 2022 onwards.

Although inflation will remain well outside the central bank’s tolerance band, we do not expect any aggressive moves by the National Bank of Poland for the time being. We think that the NBP will remain on hold until the end of this year and the next moves will only be delivered in 1Q22. However, no scenario can be ruled out for the upcoming MPC meeting at the beginning of November.

Market developments

Bond market drivers – 10Y yield locked above 2.8%

The sell-off on the bond market continues, as the 10Y yield went up by another 20bp toward 2.85% and is the highest since May 2019. The spread against the 10Y German Bund widened further and climbed above 300bp, reflecting rising political pressure and market expectations for further tightening. At last week’s switch auction, the MinFin sold papers worth PLN 4.24bn and bought back papers worth PLN 3.95bn. Thus, around 8% of next year’s borrowing needs have already been covered. According to the minutes of the October rate-setting meeting, the MPC believes that the increase in interest rates will limit the risk of inflation anchoring at an elevated level in the medium term. Subsequent monetary policy decisions will depend on the assessment of incoming information and must support the recovery. Furthermore, a majority of the MPC members indicated that wage growth is mainly driven by productivity growth and that inflation does not generate excessive wage pressures. However, some members noted that elevated inflation could translate into increased wage pressures in subsequent quarters. This week, the MinFin, BGK and National Bank of Poland should announce the schedule for next month’s operations. It will be interesting to see whether the NBP will hold a QE auction in mid-November, given the unexpected rate hike delivered in October.

FX market drivers – EURPLN back above 4.60

Following a short-lived strengthening toward 4.56 vs. the EUR, the zloty weakened again and returned to around 4.60 vs. the EUR. Global risk-off mood, together with the ongoing conflict with the EU as well as the unclear monetary policy outlook, remain the main drag on the PLN. Should market expectations for further tightening be disappointed next week, the zloty could weaken beyond 4.65 vs. the EUR.

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