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CEEMEA Weekly Summary - 10 September 2014

Core Content

This report provides an overview of economic developments in the CEEMEA region, focusing on inflation trends in Poland and Hungary, trade and financial challenges in South Africa, and political uncertainties surrounding President Jacob Zuma's tenure.

Main Themes of the Week

Ukraine Ceasefire and EU Sanctions

• Tensions in eastern Ukraine have eased following a ceasefire agreement on Friday.
• Risks remain that the conflict could resume, potentially leading to more EU sanctions on Russia.
• The EU has delayed implementing new sanctions, observing the ceasefire's impact, which may include travel bans and asset freezes on Russian individuals and businesses.
• If sanctions are enforced, Russia is likely to retaliate, possibly by restricting EU carriers' access to its airspace.
• Russian CPI inflation rose to 7.6% y/y in August, suggesting the central bank may raise rates by 50bp in September.

Poland and Hungary: Different Inflation Dynamics

• Poland: Inflation remains negative at -0.2% y/y, with no immediate signs of price pressures. The National Bank of Poland is expected to cut rates in Q4, with two steps of 25bp each.
• Hungary: Inflation is near zero due to administered price cuts, but underlying inflation (core CPI and HICP) is around 2% y/y. Inflation is expected to rebound to the central bank's target by Q3 2015.

South Africa: Trade and Financial Challenges

• South Africa's current account deficit widened to 6.2% of GDP in Q2, driven by trade and income deficits.
• The country's weak terms of trade and the impact of industrial strikes have hindered export performance.
• Despite ample financing, South Africa's reliance on foreign bond flows (portfolio investment) is a concern, especially with the potential for US Fed policy normalization.
• The SARB is facing a policy dilemma due to weak growth and inflation, which remains above target.

Key Economic Indicators and Analysis

Inflation Trends

• Poland:

  • CPI inflation is expected to remain close to zero for the rest of 2014.
  • Core inflation eased to 0.4% y/y in July, indicating continued weak price pressures.
  • A strong real effective exchange rate (PLN REER) is dampening inflationary risks.
  • The DVI suggests moderate deflationary risk, but not high, and inflation is unlikely to become entrenched.

• Hungary:

  • Headline inflation is near zero due to administered price cuts, but underlying inflation is around 2% y/y.
  • The DVI indicates moderate deflationary risk, but the risk of prolonged low inflation is low.
  • Inflation is expected to rebound to the 3% target by Q3 2015.

South Africa

• Current Account Deficit: Widened to 6.2% of GDP in Q2, up from 4.5% in Q1.
• Trade Deficit: Increased to 2.8% of GDP due to industrial strikes and weak export performance.
• Income Deficit: Widened from 1.1% to 2.0% of GDP in Q2.
• Portfolio Investment: Rose to a net ZAR 16.2bn inflow in Q2, but FDI inflows remain uncertain.
• Bond Ownership: Foreign ownership of South African government bonds has increased significantly since 2008, making bond flows more vulnerable.

Political Outlook

• Jacob Zuma's Tenure: Speculation suggests Zuma may retire early due to health concerns and scandals.
• Succession: The political landscape will likely be reshaped by the end of 2014, with implications for economic stability and policy direction.

Charts and Methodology

• Deflation Vulnerability Index (DVI): A tool used to assess deflationary risks, based on 11 binary indicators.
  • DVI values between 0.3 and 0.5 indicate moderate deflation risk.
  • In both Poland and Hungary, DVI suggests moderate risk, but not high.
• Inflation Persistence: Used to evaluate underlying inflation trends.
  • In Poland, inflation is expected to remain low, with a gradual rise in late 2014.
  • In Hungary, underlying inflation is stronger, suggesting a return to target inflation by mid-2015.

Outlook for the Region

• Poland: Inflation is expected to remain low for the rest of 2014, with the possibility of a slight increase.
• Hungary: Inflation is likely to rebound to the central bank's target by mid-2015.
• South Africa: Trade and current account deficits are expected to remain elevated, with slow improvement in the outlook. The ZAR is likely to remain weak in the medium term due to continued reliance on foreign capital flows.