Two downside surprises

CONSUMER AND PRODUCER inflation both surprised on the downside in July, leading immediately to heightened speculation of an interest rate cut on 9 September. Consumer inflation, especially, at 3,7% is well below the 4,5% mid-point of the SA Reserve Bank’s 3% to 6% inflation target and came in better than expected by both the market and the Bank. However, inflation is expected to move up again soon.

RELATIONSHIP BREAKS DOWN The previously close relationship between consumer and producer inflation has broken down. When producer prices were in deflationary territory there was no chance of consumer prices following. Now that producer inflation is fairly high – at 7,7% – it’s unlikely consumer prices will follow. The reason for the change is a new definition of the producer price index, which was introduced in 2008.

GOOD NEWS Producer inflation – which had shocked with a spurt up to 9,4% in June this year – fell to 7,7% in July. The moderation in the producer inflation rate was well below market expectations. The monthly rate of change benefited from low mining prices in July. The producer inflation rate is very volatile due to the inclusion of more commodity prices in the new measure.

ADMINISTERED PRICES HIGH The graph shows the extent to which administered price inflation – that is, inflation caused by prices set by Government, such as electricity and water – is fuelling the inflation rate. However, electricity prices didn’t provide as much of a shock to the inflation rate in July as expected, rising by 16,3% – which was lower than the 25% granted by the regulator.

BIG DROP Several sub-sectors of the consumer price index saw a big drop in the year-on-year inflation rate in July this year. In particular, hotels and restaurants saw a major reversal: from an inflation rate of 11% in June to 6,4% in July. It appears the Soccer World Cup-related jump in June hotel prices was reversed as early as the following month.