Emerging Europe: Diverging policies

5 min
Manfred Stamer
Manfred Stamer Senior Economist for Emerging Europe and the Middle East

Inflation is set to stabilize in Russia and Central Europe, except for Romania where it is rising. In Turkey, inflation edges down but remains elevated

Gradual normalization in Central Europe

Following two years of very low inflation or deflation in Central Europe, consumer price inflation began to increase again last year and moved back to the national inflation target ranges by the end of 2017. This was mostly a result of the rebound in global commodity prices and some base effects.

In the Czech Republic, Hungary and Poland, inflation already reached a temporary peak at some point in 2017, after which it has somewhat eased until January 2018.

We forecast average annual inflation to be unproblematic in these economies in 2018, within  a range of 2.2% to 2.5%.

Meanwhile, headline inflation in Romania continued to rise to 4.3% y/y in January, markedly exceeding the 2.5% ± 1pp target range of the Romanian central bank, driven by surging wage growth and pro-cyclical fiscal stimulus.

Eventually the central bank has raised its policy interest rate by a cumulative 50bp to 2.25% since the start of 2018, and we expect several more hikes to perhaps 3.50% in order to fight inflationary pressures. Nonetheless, consumer prices should rise by an average annual 4% this year.

The Czech National Bank began the monetary policy normalization cycle in August 2017 and has since raised its policy rate in three steps from 0.05% to 0.75%.

The central banks in Poland and Hungary have refrained from interest rate hikes so far. Poland, where core inflation is still low at around 1% y/y, may continue to hold course until the end of 2018.

In Hungary, however, core inflation has been above the headline rate since mid-2017, hence we expect two modest interest rate hikes this year.

Russia in unchartered waters

Headline inflation fell to an average annual 3.7% in 2017 and an all-time low of 2.2% y/y in January 2018, mainly as a result of the strengthening RUB (+13% on average against the USD in 2017) which reduced import prices.

As a consequence, the Central Bank of Russia (CBR) has cut its key policy rate to a 44-month low of 7.5% in February 2018.

We expect rising wages, food and energy prices as well as waning base effects (the RUB/USD rate should stabilize in 2018) to result in a moderate rebound of inflation later this year and forecast an average annual rate of 3.6%.

Nonetheless, the CBR should maintain its easing stance and lower its policy rate to 7.0% by year-end.

Turkey to remain unorthodox

After surging to a 14-year high of 13% y/y in November 2017, headline inflation has eased to 10.4 % In January 2018.

We expect a further gradual decline to an average 9% this year as both the RUB depreciation and the commodity import price increase should be more moderate in 2018 than in 2017.

As a result, the Central Bank of Turkey (CBT) is likely to loosen its set of monetary policy rates somewhat.

However, the CBT is also expected to continue to fund the market mostly through its late liquidity window lending rate (currently at 12.75%) in 2018 and to neglect the official policy (1-week repo) rate (currently at 8%), as it has done throughout 2017.

Benchmark monetary policy interest rate

Sources: National statistics, IHS Markit, Euler Hermes