Inflation: Power hikes to kick in

Johannesburg - Larger than expected electricity increases in July pose upside risks to inflation forecasts, and indicate that the 13% year-on-year (y/y) increase in July is probably not the peak.

The fuel and power component, of which electricity constitutes the bulk, rose by 23% month-on-month (m/m) in July to 23.9% year-on-year (y/y) from 9.6% y/y in June. As such, this component contributed a full percentage point to the 2.5% m/m increase in CPIX.

Economist from Standard Bank, Danelee van Dyk, feels that CPIX inflation could very well exceed 13.5% y/y by September.

She notes that Statistics South Africa intends to survey electricity prices until year-end and August will also include an additional survey on property taxes, refuse removals and sanitation fees.

"As municipalities are expected to increase electricity costs to consumers by at least 32.6%, barring the poorer areas, before October, we expect further increases in the fuel and power component, with September likely to be marked by high pricing risk as municipalities rush to price ahead of the legislated date," she explains.

In addition, Van Dyk says her assumptions into September remain on the upside for the fuel and power component, especially as some electricity tariff increases may be staggered between now and October.

Furthermore, the 2c/kw increase that was allotted in the National Budget this year is expected in September, which itself translates into a 10% m/m rise.

Economist from Cadiz, Adenaan Hardien, shares Van Dyk's concerns about the import of the electricity increases as he says not all municipalities have adjusted their electricity tariffs.

"So the remainder of the third quarter is likely to see further increases in electricity tariffs as captured in the CPI," he says.

Peak seen at 14%

Hardien feels the peak in CPIX will likely be in October at a rate of around 14%.

On August 14 CPIX inflation was expected by the central bank to peak in the third quarter of 2008 at an average 13%. It is, however, expected to decline in the first quarter of 2009 and then decline "gradually" to below upper end of the 3% - 6% target in the second quarter of 2010. CPIX is seen at an average 7.2% in 2009 and 5.9% in 2010.

Both economists concur there are still broad-based inflation concerns according to today's data, something which will be monitored closely by the central bank. Included here are staggered electricity flow-through, higher wage demands and future tariff increases by municipalities.

It is therefore a little premature to be prognosticating on rate cuts or changes to the inflation target.

Food and transport costs were the big drivers of the headline number this month and are still major bugbears.

Van Dyk points to some interesting research on just how difficult it is to forecast the electricity problem. She explains that the cost of purchasing electricity varies between municipalities (ranging from 59% of total expenditure to 71% of total expenditure).

Thus, the timing and magnitude of increases complicate forecasting assumptions.

Electricity increases ranging between 35% and 47% were reported in Cape Town municipalities, while Durban (eThekwini) raised tariffs by 29.5%.

Not as bad as it sounds

"Some municipalities were not ready for implementation in July, and may only raise tariffs sometime before October 1. Should this adjustment fall outside Stats SA's three week survey period, the price increase would fall in October," she says.

Added to this is the re-weighting and re-basing of CPI inflation from next year.

The talk is now that CPIX will in fact fall away from next year, with economists spoken to by I-Net Bridge conceding this is not as bad as it soundsnot as bad as it sounds.

"If this switch to targeting headline CPI were to occur, the unchanged interest rate stance in August would have already contributed directly to an improved inflation view next year, as the inflation level was spared some 0.3 percentage points from what could have been a further lift to the housing component.

CPI therefore ends the year off at a lower level relative to CPIX, with the concomitant drop in January pushing the new expected targeted measure lower than the incumbent measure," says Van Dyk.

The new measure replaces the mortgage interest rate indicator in the broader housing component with the internationally used owners' equivalent rent.

Forecasting comfort on the inflation front is not yet being reached.

Further upside risks could even bring Lehman Brothers' views into play that another rate hike could occur, but the key now is to strike a clear peak. The problem is this is becoming very difficult to forecast.

- I-Net Bridge

- I-Net Bridge (Business)