The May inflation report was a surprising 4.6 percent, way below expectations of close to 4.9 percent. Although the rate is still elevated as compared to the past months, the rate of increase seemed to have slowed down faster than expected. On a month-on-month basis, the rate was 0.8 percent, which is the lowest in a year. Does this mean that our fears of rising inflation have already been contained? Let us consider the components of inflation, i.e., food, alcoholic beverages and tobacco, clothing, housing and utilities, household furnishings, transport, health, education, communication, recreation, restaurant and other services.
Based on the May report of the Philippine Statistics Authority (PSA), the slowing down of inflation came from the decline of inflation from food. Since food comprises 38.33 percent of total inflation, its decline can significantly affect total inflation. The last time food inflation was at its highest of 7.5 percent in August 2014 was the last time we had inflation of more than 4 percent. Currently, food inflation slowed from the peak of 5.9 percent in April to 5.7 percent in May and, consequently, it pulled inflation down. Rice inflation, which is about 10 percent of total food inflation, was unchanged from April at 4.3 percent. In the National Capital Region (NCR), rice inflation went down to 1.3 percent, from 5.9 percent in April. Clearly, there was significant effort by the government to ensure that supply of rice is available particularly in NCR. This was not the case for Areas Outside NCR where rice inflation increased to 4.7 percent, from 4.1 percent in April. However, other components of inflation still exhibited a rising trend. Notable increases were observed in household furnishings increasing to 2.9 percent from 2.7 percent, transport increasing to 6.2 percent from 4.9 percent, restaurant and other services increasing to 3.7 percent from 3.4 percent.
These data show that inflation may still be increasing and has not yet turned corner. Using these trends and applying them to our estimates for the rest of the year show that inflation will still increase up to August, where it will most likely be close to 5 percent. This is due to base effect where we are coming from a low base last year. After that, we expect it to slow down a bit but remain at above 4 percent for the rest of the year. It will most likely still average about 4.5 percent. It is possible that in 2019, inflation will average lower and that the economy will have absorbed most of the expected impact of the Tax Reform for Acceleration and Inclusion (TRAIN) law and hoping that oil prices would have stabilized by then.
Inflation at these levels will remain close to the higher end of Bangko Sentral ng Pilipinas inflation target. Nonetheless, we do not see any immediate increase in interest rates as long as the rates do not go beyond 5 percent. At these levels, we think that people are already adjusting to higher prices and expectations have started to taper off. This is critical because it lessens the pressure for people to purchase more and for business to take advantage by increasing prices unnecessarily. What is important at this point is to ensure that people are assured that products and services are available and affordable. Thus, the call to suspend the TRAIN law or portions of it is not necessary because it has more bearing on the overall financial health of the economy.
The TRAIN law is supposed to affect only a portion of the total inflation basket and its pass-through effects are not expected to raise prices by more than 1 percent. The challenge was that the TRAIN law requires a significant policy and supply coordination among government agencies outside of the Department of Finance. For instance, within package one of the TRAIN law, subsidized NFA rice should have been made available and that beneficiaries of the cash transfers have been identified. Yet, as TRAIN was implemented, these mechanisms were not in place and thus created undue pressures for the poor. Likewise, an overall communication plan for ordinary people was not made available, which led to the departments of Trade and Industrty, Agriculture and Social Welfare and Development explaining the effects of TRAIN. Also, the TRAIN law coincided with higher oil prices than what was estimated and anticipated further pushing the general price levels higher. These factors necessitate that government come up with a concerted effort toward ensuring supply availability of staples and basic commodities throughout the country, not only in Metro Manila. It is also critical for government to have a communication strategy on what the following TRAIN packages will do. For instance, TRAIN 2 is mostly focused on revising corporate income taxes and incentives. In general, they should not lead to inflationary pressures.
It is important for people to be aware of changes in the global environment that will continue to put pressures on prices. For instance, the peso has weakened to a 12-year low. With a significant portion of consumer and related items, oil in particular, there will definitely a pass through effect that cannot be attributed to the TRAIN law. It will be crucial to observe how government will make the case of the rest of the TRAIN under these changing global scenarios.