EMEA Snap:Russia (CBR preview),Expect 50bps cut and think lower terminal rates

We believe that the August inflation print has opened the door for
moreaggressive easing by the CBR in September.

    Food price inflation, which had seen a spike in June as bad weather
conditionsaffected the prices of fruits and vegetables, has declined
since then as the effect ofthe temporary supply-side shock seems to have
begun to fade. Food inflation hasnow declined to 2.0% YoY in September,
the lowest since May-12, with inflationin a number of components
including oil, beans, sugar, fruits & vegetables innegative territory.
In the non-food category, increasing household demand has notyet
affected inflation as production continues to keep pace with demand.
Inflationin almost all major non-food categories have shown a decline in
September. Alsoimportant to note that the increase in oil prices did not
have any material impacton Russian inflation in September, while the
slight strengthening of the rubleduring the month may have had a small
impact on decelerating inflation. Coreinflation continued to soften in
September with the ROSSTAT’s measure decliningby 0.2pps to a historic
low of 2.8% YoY.

Russian inflation surprised on the upside in June.

    We expect the disinflationary trend to continue with annual
inflation fallingfurther to 3.1% YoY by year-end.

    The decline in YoY inflation to an historic low was based on
declines in both foodand non-food goods inflation while inflation in
service costs increased slightly.

    Upside risks remain. Although at a historical low, sticky inflation
expectations remained constant at 10.3% in June, and continued seemingly
elevated, compared to headline YoY inflation. The CBE has noted before
that public expectations of prices are influenced by the price of
staples, and hence higher food inflation could slow down the convergence
of households’ expectations towards actual levels. A
faster-than-expected recovery in domestic demand also remains a risk to
inflation. In addition, we had flagged in earlier publications that the
general downward trajectory in consumer prices may momentarily see
upside risks from mounting exchange rate pressures. The exchange rate
began to depreciate in June, and weakened by 4.6% through the month.
Moreover, seasonal variations on the C/A, and a still dovish central
bank, will remain points of pressure for the exchange rate through the
rest of the year. We expect the exchange rate to continue depreciating
to reach 59.5 by end-2017 (currently 60.1).

    The spike in annual inflation in June due to supply-related effects
on food priceinflation has proved to be temporary with headline
inflation back on a downwardtrend. The headline figure went below 4.0%
in the previous month for the firsttime since the CBR officially became
an inflation targeting central bank and hasnow undershot on the target
considerably. According to the central bank’s Julystatement, inflation
slowdown is consistent across regions and in the consumerbasket with a
growing proportion of goods and services posting price growthrates
around 4%. Inflation expectations in August fell to a historical low of
9.5%from 10.7% in July. A faster-than-expected recovery in domestic
demand remainsa risk to inflation, though the CBR has observed that the
disinflationary effect ofincreasing domestic demand has declined.

    We expect the disinflationary trend to continue with annual
inflation now likelyto undershoot 3% YoY by year-end.

    Prices increased by 0.6% MoM in June (vs. market expectation of 0.4%
MoM), the highest monthly increase in five months. This sharp monthly
increase in prices led to a reversal in the downward trend of annual
headline inflation, increasing to 4.4% YoY (from 4.1% YoY in May). The
increase in YoY inflation was led by increases in both food and services
inflation this month. Food inflation increased for the third straight
month and reached a 7-month high of 4.8% YoY. Food inflation has
increased since April, as the effect of the bumper harvest in 2015-2016
fades and it is expected to trend higher due to (seasonal) supply
factors. Inflation in services costs also increased, by 0.2pps to 4.2%
YoY with costs of housing utilities and transportation being the two
major contributors to inflation in this category. On the other hand,
alcoholic beverages, tobacco decreased from 6.7% YoY in May, to 6.2% YoY
in Jun; clothing and footwear decreased from 5.3% YoY in May, to 5.1%
YoY in Jun; housing, water, electricity, gas and other fuels decreased
from 5.0% YoY in May, to 4.9% YoY in Jun; household furnishing,
equipment & maintenance decreased from 2.5% YoY in May, to 2.2% YoY in
Jun; the health component decreased from 4.0% YoY in May, to 3.3% YoY in
Jun (a 69.3ppt decrease). Transport decreased from 4.7% YoY in May, to
4.6% YoY in Jun; the education component decreased from 6.9% YoY in May,
to 6.7% YoY in Jun; hotels, restaurants and cafés decreased from 3.6%
YoY in May, to 3.3% YoY in Jun. Lastly, miscellaneous goods and services
also decreased from 3.7% YoY in May, to 3.5% YoY in Jun. Importantly,
ROSSTAT’s core inflation measure continued to trend lower, as we
expected, from 3.8% YoY in May, to another record low of 3.5% (3.45%)
YoY in June.

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