Croatian Inflation And Central Bank Accommodation

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Includes: EWG, EWGS, FLIY, FM
by: Interactive Brokers
Summary

Investors in the week ahead will receive an update on Croatia’s stubbornly subdued rate of inflation, amid continued accommodation by the country’s central bank.

The Croatian National Bank (CNB) said it thinks the average level of prices in 2019 may be lower than previously expected, which could boost domestic consumption.

However, Croatia’s broader economic growth is likely to be hampered by a slowing global economy, with decelerated growth rates expected in its main trading partners, including Italy and Germany.

Meanwhile, uncertainties over Croatia’s creditworthiness appear to have provided frontier market investors with some amount of ease.

Europe: The Week Ahead (May 13-17)

Investors in the week ahead will receive an update on Croatia's stubbornly subdued rate of inflation, amid continued accommodation by the country's central bank.

Market participants are set to get a fresh gauge of consumer prices for April after the pace picked up somewhat in the previous month.

Croatia's consumer price index (CPI) ticked-up by 1.0% in March from the prior month and rose 0.9% over the prior year.

Wednesday, May 15

  • CPI (Apr)

While consumers in Croatia were generally faced with increased clothing costs in March from the prior month, prices of household equipment and furnishings mainly helped to contain the headline inflation figure.

According to the Croatian National Bank (CNB, Hrvatska Narodna Banka) monthly economic activity indicators suggest that real GDP grew in early 2019, following a stagnation at the end of the previous year.

Annual consumer price inflation picked up from 0.2% in January to 0.5% in February, mostly on the back of higher energy prices.

The CNB also observed that price movements in early 2019 "show that the reduction in taxes on some products (fresh meat, fish, eggs, fruit, vegetables, over-the-counter medicines and diapers) pushed prices down more than anticipated." The central bank said it therefore thinks the average level of prices in 2019 may be lower than previously expected, which may "give a boost to domestic consumption."

Broader growth picture

Against this backdrop, the CNB said it "continued to pursue an expansionary monetary policy, maintaining very high levels of liquidity in the domestic financial market," which helped annual corporate and household lending growth to accelerate "slightly."

However, in the broader economic picture, Croatia's growth is likely to be hampered by a slowing global economy, with decelerated growth rates expected in its main trading partners, including Italy and Germany.

The International Monetary Fund (IMF) earlier in May wrapped up a seven-day, macroeconomic and policy development study in Zagreb and, among its conclusions, found that in Croatia, growth is "gradually moderating from its recent highs, inflation remains subdued, international reserves have increased, and public debt has been declining."

IMF advisor Srikant Seshadri, who led the assessment, said that Croatia's fiscal performance has been "strong," while private demand and tourism continue supporting economic activity, which is also underpinned by the CNB's continued accommodative monetary policy.

"Overall, the banking sector is liquid, profitable, and well-capitalized."

Seshadri added that "a possible slowdown in main trading partners may affect these benign conditions. If a slowdown were to emanate from Europe, the authorities are encouraged to let the social safety net work, before considering fiscal stimulus."

Checkered economic past

Croatia suffered through a six-year-long recession, which ended around 2015, when real GDP growth picked up. Since then, the rate has been running at an average of close to 3.0%, underscored by strength in domestic consumption and investment.

Moody's Investors Service, which recently upgraded its outlook on the 'Ba2'-rated country to positive from stable, said it anticipates positive economic growth to continue in the coming years, although GDP growth is likely set to decelerate somewhat against the backdrop of a "more challenging" international environment.

Moody's thinks Croatia's real GDP growth will reach 2.4% on average in 2019-2020, and "should support the country's efforts to reduce public indebtedness looking ahead."

Moody's analyst Olivier Chemla noted that the 'Ba2' sovereign, junk status, credit rating reflects the nation's relatively high per capita income, while institutions benefit from EU membership and the "strong commitment" of the CNB towards achieving kuna/euro stability.

The value of Croatia's local currency has fallen by roughly 7.12% against the U.S. dollar from May 11, 2018, to April 25, 2019, and has languished at around the 0.1510 level, according to Bloomberg. When paired with the euro, the kuna has shed less than 0.9% over about the same period and was last trading near its 52-week average of 0.1350.

Chemla continued that Croatia still faces "significant challenges that weigh" on its growth prospects, despite stronger fundamentals than prior to its recession. These challenges emanate in part from the country's small-sized economy, as well as its low potential growth relative to peers.

Credit strength

To date, uncertainties over Croatia's creditworthiness appear to have provided frontier market investors with some amount of ease.

Five-year credit default swap spreads (CDS) on Croatia, for example, have tightened by around 23 basis points over the past three months to just north of 96bps, while other frontier market countries such as Serbia and Romania, rated 'Ba3' and 'Baa3' by Moody's, respectively, have widened 3bps and narrowed 16bps over the same time frame to 110bps and 95.5bps, respectively.

Investors will likely be eyeing Croatia's inflation rate, real GDP growth, as well as economic conditions in Germany, Italy and other key trading partners, for signs of weakness in the country's overall health.

Note: This material was originally published on IBKR Traders' Insight on May 8, 2019.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. Business relationship disclosure: I am receiving compensation from my employer to produce this material.

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