Why wage increases will pip inflation

The numbers never lie. Until recently, the consensus was that South Africa's price inflation was higher than average wage increase. What this meant was that increases in take home pay were not able to keep pace with the higher cost of consumer goods. Sout

In each of the last three budget speeches, Trevor Manuel has given welcome tax relief to individual taxpayers. This relief came in the form of adjusting the income thresholds for various rates of taxation. It resulted in the average consumer having more disposable income for cash purchases. And it delayed the phenomenon known as 'bracket creep'.

Understanding the 'bracket creep' concept

Bracket creep occurs when wage increases outpace inflation and push you into a higher tax bracket. Your wage increase is diluted by the higher tax payments, rather than making its way to your pocket. To use a simple example, consider a tax regime which levies tax at 35% on the first R400, 000 of income, and then 40% on income above that level.

If you were earning R390, 000 your tax would be R136, 500 per annum and your take home would be R253, 500. If you receive a 10% increase in each of the next three years you find yourself in the next tax bracket, where your R519, 090 in annual remuneration attracts the top tax rate of 40%. You are now taxed R187, 639 and take home R331, 454. So your 10% annual increase translates into a 9% per annum increase in your net take home pay. The situation worsens if the tax bracket remains unchanged for a number of years.

We believe Manuel will be less lenient when he presents the next budget. Consumers can expect the sinister threat posed by bracket creep to reappear. Combine higher than inflation wage increases with rising consumer prices and the resurgence of bracket creep we can expect our 2008 Christmas stockings to be a great deal lighter than this year's.

Seeing strikers' demands in a different light

So, while higher than inflation wage increase might hamper those at the higher earnings brackets, they should help the poorest sector of the economy.

Increases in the price of basic foods and transportation are relentless at present. This is probably the main contributing factor to the higher than inflation wage demands made by the majority of South Africa's public sector worker unions. Starting at 12% was probably the only way to secure an increase capable of preventing their members from becoming poorer. The truth is that a six or seven percent increase will not even cover the price increases of the basic basket of goods purchased by lower income earners.

Giving in to the wage demands could increase inflationary pressure in the short term but should be viewed in light of the huge cost of protracted strike action. In fact, it is quite possible that the strike has already cost government more than giving in to the few percentage points over which they and the unions are fighting.

Is the CPI measure accurate?

We have based this article on numbers released for the fourth quarter of 2006. These statistics show that South Africa's unit labour costs rose by 5.9% for that quarter compared to a year ago. In 2005, the growth in unit labour costs was a much more manageable 3%. It appears that wage inflation will soon pass consumer inflation, and both will be well above the top end of the Reserve Bank's 3% to 6% target.

Part of the problem in South Africa at the moment appears to be the relevance of the basket of goods used to measure CPI as it applies to the average citizen. Consumers are buying goods in different proportions to the goods used to establish the rate of inflation prevalent in our country at a given time.

Since the poorest consumers are probably buying goods to satisfy their basic need, they might not be as excited as wealthier South Africans to hear that the prices of double door fridges and twin tub washing machines are tending to zero on the inflation scale. They are more concerned with fuel reaching R7 per litre and milk, bread and other staples rising at rates well in excess of the 6% upper limit.

Editor's thoughts:
While fuel and basic food costs continue to soar we can expect wage demands to follow suit. Consumers will not be able to survive if their wage increases do not provide some form of nominal return. Is it time for the Reserve Bank to consider creating a new measure of price inflation? Send your comments to gareth@fanews.co.za.