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Inflation falls to a 15-year low, but might not herald further interest rate cuts

15 July 2020 Novare Investments

As expected, inflation as measured by the consumer price index (CPI) fell again in May, reflecting the decline in fuel prices as well as the impact on the economy of lockdown measures introduced to curb the spread of Covid-19.

According to Stats SA, CPI in May slowed to 2.1% year-on-year, from 3.0% in April and 4.1% in March. The fuel index was 25.9% lower than it was in May 2019. On a month-on-month basis, inflation fell 0.6%. The annual reading for May 2020 is the lowest since September 2004 and means inflation has fallen to below the lower end of the Reserve’s Bank 3% to 6% target band that guides interest rate policy. The figure has been at or below 4.5%, the middle of the range, for 18 months.

Benedict Mongalo, chief investment officer at independent fund manager, Novare Investments, commented: “The biggest contributor to the decline in inflation in May was the fall in fuel prices. While subdued economic demand is likely to continue placing downward pressure on the consumer price index in the short-term, this may not herald further interest rate cuts to help lift economic activity by reducing borrowing costs.

“There is an expectation that inflation could pick up over the months ahead. This, combined with the SA Reserve Bank’s view that rates have already been cut quite aggressively, means that today’s inflation data may not to lead to additional rate cuts - unless GDP growth expectations are adjusted downwards again.”

The Monetary Policy Committee of the SA Reserve Bank is scheduled to meet again from 21 to 23 July 2020 to review interest rates.

Mongalo noted that, while additional rate cuts would be welcomed by business and cash-strapped consumers whose debt would cost less, pensioners dependent on interest earned from savings will appreciate a reprieve in the rate cutting cycle. Cuts announced so far this year have erased about one-third of their interest earnings.

The lockdown had placed pressure on supply chains - the systems and processes involved in bringing products and services to consumers, Mongalo said. This meant that Stats SA was unable to collect all price data used to calculate the CPI basket and, in April and May, had to impute prices for certain items to calculate CPI. These items make up 23.7% of the basket.

In this regard, Stats SA commented that the comparison of prices of a fixed set of consumer goods and services in two periods is at the heart of measuring inflation. “The Covid-19 lockdown restrictions and gradual normalisation have posed particular challenges for the calculation of the CPI. Special imputation methods were used to account for the absence of consumer expenditure on certain CPI basket items.”

Producer inflation, which measures prices at the farm and factory gate, is also expected to have moderated to around 1% year-on-year, from 1.2% previously. PPI figures are due to be published tomorrow.

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