In July 2011, headline CPI inflation rose by 0.9%m/m, with the annual rate increasing to 5.3%y/y from 5.0%y/y in June. This was higher than market expectations, which was for an increase of 5.2%y/y and 0.8%m/m.
For 2010 as a whole SA CPI inflation averaged a very respectable 4.3%y/y, but is clearly trending higher having risen on an annual basis in each of the last seven months. The inflation rate is now the highest since February 2010, with only the high income category not experiencing inflation of 6% or higher.
During July 2011 there were a number of significant increases in CPI worth highlighting.
The first was the scheduled increase in electricity prices, which rose by 16%m/m and by 18.6%y/y. The annual adjustment in electricity tariffs at the municipal level is typically implemented in July, although some municipalities only increase tariffs in August.
The second was a 8.7%m/m increase in water cost, which pushed the annual rate of inflation for water up to 9.2%y/y. Together the higher electricity and water costs added 0.7 percentage points to the monthly change in inflation.
There was also a 0.6%m/m increase in food inflation, which pushed the annual rate of food inflation up to 7.5%y/y, adding 0.1 percentage points to the monthly change in CPI. Food inflation is expected to move a little higher in the coming months, but given the more recent moderation in global food prices, the upward pressure of food inflation is expected to ease in 2012.
Other notable increases included a 1.4%m/m rise in public transport costs, which now has an annual inflation rate of 8.7%y/y; a 0.9%m/m jump in financial services inflation (4.3%y/y); and a 0.6%m/m increase in insurance costs (5.4%y/y).
CPI excluding food and fuel is still well within the inflation target at 4.3%y/y, but recorded a relatively large monthly rise of 1.1%m/m. Services inflation rose to 5.5%y/y from 5.2%y/y in June and 4.7%y/y in May 2011.
As mentioned above, it is concerning to see that the inflation rate for lower income earners has moved even further above 6%y/y, while the inflation rate for pensioners is up at 5.9%y/y.
Looking ahead, there are still some upside risks to SA inflation. These include mainly administered prices, although the latest round of wage agreements could also reflect in a broadening of inflation. The extent to which these price pressures will impact core/underlying inflation will be heavily influenced by the strength of the domestic economy (which is currently slowing, thereby creating less opportunity for companies to pass-on cost pressures) as well as 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 a little in 2011/2012.
All of these factors clearly suggest that there is some further upside risk to inflation in 2011/2012, albeit driven mostly by cost push or external (international) factors. We expect CPI inflation to breach 6% in late 2011 or early 2012 and it could realistically move above 6.5%.
The latest international economic developments (especially the increased risk of a recession in the developed world coupled with the recent decision by the Federal Reserve to keep rates on hold until mid-2013) dictate that the Reserve Bank keep interest rates on hold for a very extended period. However, the current upward trend in inflation reduces the chances of a cut in domestic interest rates; unless the SA economy returns to recession conditions, which is not our base case forecast - although we do expect that the domestic economy will reflect slower growth over the coming quarters.
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