Inflation paves way for further rate cut

Here we go again! With CPI coming in at 3.7%, the market was surprised yet again by a very good inflation number. This is a surprise for the man in the street as well. Most people still believe that inflation must be at around 5-6%. The fact of the matter is that inflation is now very firmly in the bottom end of the target band, with further risks to the downside.

There are two very specific reasons why the market may have got this number wrong. The World Cup-related increases in the hospitality industry, which were reflected in the June inflation numbers, were fully reversed in July. The speed with which prices were adjusted back to more sustainable levels will have taken everyone aback, given that the tournament was still underway for the first half of July.

Secondly, the much talked about electricity increase was reflected in this July number and came in at 16.3%, which is definitely towards the lower end of anyone’s expectations. Municipalities had a degree of discretion in the size of the Eskom tariff increase that they passed on to the end consumer. The number of 16.3% suggests that municipalities erred on the conservative side.

More broadly, the July numbers yet again confirm that there is deflation in terms of tradable goods such as vehicles, furniture and personal care items. The services components of the inflation basket such as insurance, financial services and funeral costs, which tend to be surveyed intermittently, were also benign. This confirms that services inflation is following the general downward trend in inflation, albeit with a lag.

Food prices ticked up ever so slightly on the month, which suggest very tentatively that the flat food prices of the last year might be coming to an end. Going forward, we should expect rising but modest food inflation.

The outlook for inflation for the foreseeable future is very encouraging. For some time now, both the market and the Reserve Bank have been looking for signs that inflation might be rising again on the back of electricity tariff and wage pressures. Today’s number suggests that these expectations are premature. The overall disinflationary trend is clearly dominant. There is a good chance that the Monetary Policy Committee might come to the same conclusion at its next meeting, which should pave the way for another rate cut. Yesterday’s disappointing GDP number highlighted that the recovery is at best lukewarm and that there is definite need for rate relief.