In January 2011, headline CPI inflation rose by 0.4%m/m, with the annual rate rising to 3.7%y/y compared with 3.5%y/y in December 2010. This was in-line with market expectations. For 2010 as a whole SA CPI inflation averaged a very respectable 4.3%y/y, after averaging 7.2% in 2009.
During January 2011 there were two key factors impacting on inflation. Firstly, there was a relatively large 2.3%m/m increase in food prices, which pushed the annual rate of food inflation up to 2.9%y/y from 1.4%y/y in December 2010 and a recent low of 0%y/y in June 2010. However, more crucially, every sub-category of food inflation rose during the month with large increases in fruit (7.1%m/m), oils and fats (4.9%m/m), and meat (4.0%m/m). The January rise in food prices added a significant 0.3% to the monthly change in CPI. SA food inflation is expected to move significantly higher over the coming 12 to 18 months. Secondly, there was a notable increase in transport costs driven by higher fuel prices. This added 0.1% to the monthly inflation rate, but is expected to rise further over the coming months, especially if the oil price remains at around $100/bl and the Rand weakens further.
As mentioned over the past number of months, international food prices have risen dramatically since the middle of 2010. According to the Economist Food Prices index, prices are up a staggering 38.8%y/y over the past year, in Dollar terms. Furthermore, the rise in international food prices has also been extremely broad-based with almost every category of food up sharply. This has already led to higher food inflation in numerous countries and is expected to impact SA more forcefully over the coming 12 to 18 months, especially if the Rand continues to weaken.
Consequently, we now expect SA food inflation to breach 10%y/y before year end, with risks to the upside (based on some recent and excellent work done by a Prof Johan Willemse from the University of the Free State). As would be expected, this will have a significant impact on SA’s overall inflation rate in 2011/2012 (food has a weight of 14.27% in the index). In fact, using some basic assumptions, we can estimate the type of impact the potentially higher food inflation will have on SA’s overall inflation rate. The key conclusion is that if SA’s food inflation rises to over 10%y/y by end 2011, the Rand weakens to around R7.70/$ by year end and the oil price hovers around $100/bl then it is extremely likely that SA’s inflation rate will breach the 6% level before year end.
CPI excluding food and fuel remained well within the inflation target at 3.5%y/y (0.0%m/m in January 2011), and services inflation has moderated to 4.7%y/y. This moderation is partly due to the fact that electricity inflation has eased from over 24%y/y a number of months ago to 18.4%y/y currently. Medical services inflation remains at 8.1%y/y, education inflation at 9.2%y/y and water inflation at 9.3%y/y.
In contrast with these relatively large annual price increases, telecommunication equipment inflation is at -30.3%y/y, recreational equipment at -7.8%y/y and appliance inflation at -1.6%y/y. All three of these categories benefit massively from the strength of the Rand in 2010.
Looking ahead to 2011, there are a number of upside risks to SA inflation. These include higher food inflation, higher energy prices, and higher industrial commodity prices. The extent to which these price pressures will impact on inflation will be heavily influenced the Rand exchange rate. There is little doubt that the relative strength of the Rand in 2010 cushioned SA from some potentially damaging price pressure, but this is likely to change in 2011. Domestically, further electricity price hikes coupled with other service costs and administered price rises (water, medical and education) as well as the concerning increase in wage demands could also push SA inflation sharply higher during 2011.
All of these factors clearly suggest that SA has moved past the low point in the current inflation cycle and that there is some meaningful upside risk to inflation in 2011/2012, driven mostly by cost push factors.
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