Increase in PPI at a turning point, but another rate increase to come

The increase in the Production Price Index (PPI) for June of 10.4% suggests that a turning point was reached in May when PPI registered an increase of 11.3%, says prof. Chris Harmse, chief economist of Dynamic Wealth.

With a high base of calculation being responsible for the lower year on year increase, the focus shifts towards the monthly increase between May and June 2007, which also points toward a turning point in May.

Harmse says an analysis of the month on month increase shows that the seasonally electricity price increase of 42.4% was responsible for 62% of the month on month increase of 2.1%. This was the main reason for the monthly increase being higher than the 1.1% which was registered between April and May. Barring agricultural food, the other monthly increases were subdued.

Regarding food, agricultural prices increased by 20.5% which was the same as in May. Of concern is agricultural food prices which increased by 15.6% compared to the 14.5% in May. In addition, the increase in the other agricultural category, which includes products such as cotton and wool, were 84.6% higher than a year ago. Even though the weighting of this category is small, Harmse says it will put upward pressure on production costs in especially the clothing industry. However, it is encouraging that the increase was somewhat lower than the 108.3% year on year increase in May. Nevertheless, the stronger rand contributed to imported inflation to have decreased from 11.7% in May to 9.4% in June.

On food at manufacturing, Harmse says the increase of 15.3% compared to the 14.2% of May, points toward more upward pressure on retail food prices.

The high oil price also ensured that prices of coal and petroleum persisted with its high increases of the last couple of years. The increase was 15.1%, a bit lower than the 17.7% of May, but it seems that oil prices will remain high for the foreseeable future.

However, even though the increase in the PPI might have seen its peak in the current price cycle, the increase will remain above the level of 10% for months to come due to amongst others high food prices and higher production costs as a result of inter alia high salary increases. High future electricity price increases will also add to the price pressure.

These factors still need to work through the transmission channel into retail prices and will contribute to the CPIX remaining high. Harmse says another interest rate increase of 50 basis points in August is thus expected in order to contain inflation expectations.

The share market, just like yesterday, reacted negative on the PPI data. Especially financial shares moved downwards as the market discounted a possible hike in the repo rate.