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Inflation not just fuel and food problem anymore

26 June 2008 Prof. Chris Harmse, Dynamic Wealth

The Numbers

CPIX May: 10.9% (year on year) vs. Reuters consensus of 10.8% and 10.4% in April
CPIX May: 1.1% (month on month) vs. 1.6% in April
CPI: May: 11.7% (year on year) vs. Reuters consensus of 11.4% and 11.1% in April
CPI: May: 1.1% (month on month) vs. 1.8% in April

Retailers are passing cost increases on to consumers

Interest rate sensitive inflation accelerating
The most worrying aspect of May’s inflation numbers is the continued acceleration in interest rate sensitive inflation, says prof. Chris Harmse, chief economist of Dynamic Wealth. This inflation category increased further to 6.6% from 6.3% in April and 5.7% in March.

This will worry the Monetary Policy Committee (MPC) as it points to retailers (in an increasing rate) off loading their cost increases on to consumers. Harmse says this is precisely what the MPC wanted to prevent. Therefore more interest rate increases are unavoidable - to reduce consumer demand even further thereby limiting retailers’ pricing power.

Harmse says inflation is now broad based. Some eleven of the 17 inflation categories are increasing at a rate of 6% and more.

And non-interest rate sensitive inflation is still steaming forward
Non-interest rate sensitive inflation, consisting of administered prices, food prices and running costs, in May increased by 16.2%. Petrol prices increased 35%, food prices 16.9% (15.9% in April) and administered prices 16.1% (15.3%).

Harmse says this category is responsible for 67.3% of the 10.9% increase in CPIX.

Though interest rates does not directly impact these prices, Harmse says interest rate increases are needed to reduce demand on other products in order to create room for necessary non-interest rate sensitive product and service purchases - such as oil, grain and municipal services. Higher interest rates also need to reduce inefficiencies in the administered price setting process.

Future inflation risks
Should the effective increase of 35.8% in electricity tariffs be fully implemented this year (July), the CPIX will reach a peak above 13%. In addition, the petrol price will in July be 50% higher compared to July last year. This might push the CPIX for July to 13.5%.

Another risk stems from the pressure on the rand exchange rate to depreciate further – and this will rapidly find its way into consumer prices. Furthermore wage increases above 9% will add to production costs

Outlook
Though the short term inflation picture is bleak, Harmse makes the point that interest rates are forward looking. Therefore, though the MPC will keep an eye on past numbers, the focus will be to contain increases in the CPIX 12 to 18 months ahead. Should price increases on interest rate sensitive inflation subside, the rand not weaken substantially and oil and food prices increase at a slower rate (or even drop), the CPIX outlook brightens substantially.

Under these circumstances the increase in the repo rate may be contained to maximum two increases of 50 basis points each, Harmse says.

Month

CPIX

(% Change)

Food

(% Change)

CPIX Excluding Food and Running Costs

(% Change)

Interest Rate

Sensitive

(% Change)

Non Interest Rate

Sensitive

(% Change)

Jan' 07

5.30

8.3

3.71

3.49

7.46

Feb' 07

4.93

7.9

3.83

3.63

6.47

Mar' 07

5.48

7.8

4.21

4.08

7.16

Apr' 07

6.32

8.6

4.53

4.51

8.48

May' 7

6.36

9.0

4.50

4.52

8.54

Jun' 07

6.40

9.4

4.58

4.67

8.45

Jul' 07

6.47

10.2

4.92

4.71

8.56

Aug' 07

6.30

11.3

4.84

4.51

8.43

Sep' 07

6.70

12.0

4.77

4.55

9.26

Oct' 07

7.32

12.4

4.69

4.47

10.70

Nov' 07

7.88

13.3

4.82

4.66

11.71

Dec' 07

8.57

13.9

4.93

4.80

13.06

Jan' 08

8.76

13.6

5.48

5.43

12.72

Feb' 08

9.39

14.3

5.50

5.54

13.98

Mar '08

10.05

15.6

5.59

5.68

15.26

Apr '08

10.41

15.9

6.06

6.29

15.31

May '08

10.95

16.9

6.18

6.58

16.14


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