The inflation juggernaut hits high gear
Turn to the daily newspapers – chat to the market commentators – grill the minister of finance – or engage the Reserve Bank governor – everyone is declaring victory over inflation. They argue the return of CPI inflation to within the Reserve Bank’s 3% to
Ours is a familiar argument. You cannot declare victory over the ravages of inflation when the evidence from the real economy says otherwise. Join us for a quick peak into Joe average’s spending habits. Every month he fills his car a couple of times, pays his medical aid and insurance policies, buys food for the family, takes care of essential home maintenance, stops off at the council to pay rates water and lights etc. And every month Joe’s rand buys less than it did the month before. If you believe Statistics SA, then the purchasing power of every rand is declining at 5.6% per annum, but if you interrogate Joe’s basket of goods and services the number you find is way in excess of that.
Inflation and retirement
Inflation impacts on long-term financial decisions too. Every retirement savings model is built around assumptions of inflation and return – and if we’re honest with ourselves – the return estimates are often based on inflation too. If you’re plugging 6% into your retirement fund calculations today, you could be in serious trouble 40-years from now. There are two reasons for this.
The first is that inflation is actually cannoning along in excess of the official rate. How can inflation be measured at less then 6% when every administered price and every wage settlement is close to (or way in excess of) double digits? Eskom is the main culprit with its 25% per annum three-year deal. Municipalities have no choice but to pass the electricity price hikes on to consumers, and have quickly bumped up rates and water by double digits too. Average wage settlements through 2009 were around 8.7%. The three major strikes early in 2010 centre on mid-teen wage increase demands. Transnet downed tools for 15% and look likely to settle on 11%. The Passenger Rail Agency of SA (Prasa) is hungry for 16%. We reckon they’ll get 10% or more, because their employer started at 8%. And Eskom employees, hungry for their slice of Nersa’s recent electricity price increases, want 18%.
The second is that individuals who plan for retirement tend to be middle and high income earners with their own ‘basket’ of goods and services, and their own CPI. Think about this statement for a moment. An affluent consumer buys more petrol, more electricity, has a higher rates and taxes bill by virtue of his property, purchases the best available medical aid etc. He is more exposed to the prices that are spiralling out of control. Clearly a slightly higher inflation expectation has to be built into this individual’s retirement model.
The next interest rate move is up
Incumbent Reserve Bank governor Gill Marcus won’t be swayed from the bank’s mandate, whether by labour or the private sector. Or will she? We’ve spoken to a number of economists who believe the bank’s mandate is already slightly altered. They say the ‘inflation targeting’ policy has been softened slightly to read ‘inflation targeting with due consideration for its impact on economic growth’. They argue this is why we saw another 50 basis point interest rate cut in March this year.
These economists might be correct; but it’s still unlikely the bank will cut rates again. The inflation juggernaut is simply too strong. We doubt, for example, the trade unions would have moderated current wage demands had interest rates been a percentage or two lower. Their benchmark is inflation. The reason they want interest rate cuts is because they know, long-term, such steps will prove inflationary. And remember – higher inflation means trade unions can demand higher wages – to the obvious gratitude of their members.
Does fixing rates help?
It’s no wonder then that Helena Wasserman writes on Fin24.com: “There are subtle hints that the interest rate cut party may be over!” Wasserman was trying to answer the difficult ‘fix or not’ debate around mortgage interest rates. South Africa’s ‘big four’ banks all offer fixed interest rates for a portion of the life of the loan, typically one to 10 years. The problem is banks have carefully balanced the equation in their favour. Even though South Africa has brushed with 20% plus interest rates in the past, we doubt too many economists would argue that 14.5% fixed over 10-years is a good deal. The prime lending rate is currently 10%.
Editor’s thoughts: Measuring inflation is tricky at best of times. The tendency among economists, financial services professionals and statisticians seems to be to legally ‘tweak’ their measurements by shifting dates, selecting time series to best illustrate a pre-determined point or, in the case of Statistics SA, occasionally ‘fixing’ the constituents in its inflation basket. Are you satisfied with the official inflation numbers provided by Statistics SA? Add your comment below, or send them to gareth@fanews.co.za
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