This is one of the largest positive CPI surprises seen in Poland in a long time. According to the flash estimate, inflation slowed to 3.1% yoy in May from 3.2% in April, instead of rising to market expectations 3.7%. On a month-on-month basis, prices fell by 0.3%.

CPI vs. core inflation (%yoy)

Source: Statistics Poland, Pekao Research

The main source of the surprise were food prices which typically increase seasonally in May. However, this year they declined by 1.0% mom. While fresh, new season vegetables often distort spring food inflation prints, this year’s May decline was the deepest recorded in at least 15 years. If this reflects a shift in the timing of domestic agricultural supply entering the market, it would increase the likelihood of a stronger-than-usual seasonal rebound in food prices in June. However, confirmation of this hypothesis will have to wait for the final inflation release published in the mid-June.

Food prices growth in May (%mom)

Source: Statistics Poland, Pekao Research

The second important element of the May reading was lower-than-expected pressure in core inflation. We estimate that core inflation in May remained close to the previous month’s level, at around 3.0% yoy, compared to expectations of an increase to 3.3% yoy. So far, there is no strong evidence of second-round effects from higher fuel prices spreading more broadly across the inflation basket, although this does not rule out their emergence in the coming months. The oil price shock may still gradually feed into broader goods and services inflation. Global oil prices remain elevated and even in the case of de-escalation in the Persian Gulf, they are unlikely to return quickly to pre-shock levels. For this reason, we expect the government's program, which included VAT and excise tax reductions, to remain in place for some time, helping to stabilize fuel price dynamics.

In the coming months, inflation in Poland is likely to remain above 3.0% yoy, before reaching a local peak of around 3.5% yoy towards the end of the year. However, the May data prompted us to revise down our previous peak estimate of 4.0% yoy.

Today’s reading effectively puts any discussion of interest rate hikes on hold. The probability of a sustained move of inflation above the NBP’s upper target range of 3.5% yoy has clearly decreased – a level often cited by the Monetary Policy Council (MPC) as a threshold for tightening considerations. In the current inflation environment, the MPC is expected to remain in a wait-and-see mode and keep interest rates unchanged at least until the end of the year. Domestic moderate activity and easing wage pressures do not currently generate meaningful inflationary pressure as well. As long as inflation expectations remain anchored, rate hikes would likely weigh more heavily on economic growth than address inflation sources which are largely exogenous.