Reflation in the CEE-4: Still gradual, still staggered – Goldman Sachs

According to Kevin Daly, Research Analyst at Goldman Sachs, in spite of low unemployment and declining spare capacity, the follow-through to stronger core inflationary pressures in the CEE-4 has been surprisingly limited to date.

Key Quotes

“Economic growth in the CEE-4 economies (Poland, Hungary, the Czech Republic and Romania) remains robust, supported by a combination of four factors: (i) an acceleration in external demand, most notably in the Euro area; (ii) a substantial easing in fiscal policy, especially in Poland, Hungary and Romania; (iii) easier domestic financial conditions; and (iv) a recovery in EU-funded investment spending. We continue to forecast above-consensus growth in all four economies.”

“Reflecting the strength of demand growth, unemployment across the CEE-4 has fallen to (and, in the majority of cases, below) pre-crisis lows.”

“In all four economies, there appears to have been a sizeable structural shift in the relationship between unemployment and inflation (i.e., the Phillips Curve).”

“One factor behind the slow pick-up in inflationary pressures is that equilibrium unemployment rates appear to have fallen across the CEE-4 in the aftermath of the Global Financial Crisis (implying a downward shift in CEE-4 Phillips Curves). Another reason is that the relative importance of domestic factors in determining inflation in the CEE-4 appears to have declined, as signalled by a marked convergence in Euro area and CEE-4 inflation rates (implying a flattening of Phillips Curves).”

“Over time, we expect inflationary pressures in the CEE-4 to rise. However,n reflecting our belief that structural unemployment in the CEE-4 has declined and our relatively dovish views on Euro area inflation, we continue to expect this transition to take place only gradually.”

“We also continue to expect the transition to reflation to take place in a staggeredn fashion, with underlying inflationary pressures building relatively quickly in Romania, followed by the Czech Republic and Hungary, and with Poland somewhat lagging.”