Inflation higher but further rate increases will be irresponsible
CPIX increased sharply from 6.3% in August to 6.7% in September, the fifth month in a row above the upper target of 6.0%. This is in line with the prediction of the Reserve Bank that inflation X may reach an average of 6.8% during the first quarter of 2006. However, interest rates should not be increased further, says prof. Chris Harmse, chief economist of Dynamic Wealth.
Harmse re-emphasises his standpoint of last month by once again pointing out the following three reasons.
Firstly, the price increases which can be controlled by the South African Reserve Bank via interest rates continuous to decrease, whilst hose prices which are not directly affected by rate increases are increasing at a steep rate.
He points out that food and administered price increases are mainly beyond the control of interest rates. These two items, which comprise about 45% of the CPIX basket, are mainly driven by external factors such as droughts, capacity constraints and government decisions (administered prices). These prices increased at 10.3% (y o y) in September, much higher than the revised 9.3% in August. The main reason for this sharp increase can be attributed to the sharp increase in food prices of 2.0% during September and 11.9% from September 06 to September 07.
|
INDICATOR |
Sep 07 |
Aug07 |
Aug07 Sep07 |
Jul 07- Aug07 |
|
CPIX |
6.7% |
6.3% |
0.7% |
0.3% |
|
CPIX excluding food and administered prices |
3.4% |
3.5% |
-0.01% |
-1.0% |
|
CPIX for food and administered prices |
10.3% |
9.3% |
0.95% |
0.76% |
|
Core inflation (metropolitan areas) |
5.5% |
5.1% |
0.6% |
0.1% |
In contrast, prices that can be influenced by interest rates peaked at 5.2% in April and had been on a downward trend to 3.4 in August. These demand driven prices, which comprise about 55% of the basket, are not expected to increase at much higher rates in the future.
The second reason is that it takes 18 to 24 months for interest rates to have its maximum impact on prices. As a result time is needed for interest rates to work. The slowdown in spending especially on durable goods (shrunk 10% in Q2 from Q1) is signaling that the interest rate medicine is working and that time is needed for the patient to recover. In this regard, it is significant to note that retail inflation (calculated from retail sales) shrunk 0.6% (y-o-y) to 5.9% in September from 6.6% in August.
Harmse says whilst CPIX will peak at above 7% early next year, the Reserve Bank already did what it could to limit price increases. Any further rate increases will be an overkill on controllable prices and overcompensate for increases that cant be controlled by rate increases.
