Inflation declines in January

Budget 2018 places pressure on short-term outlook

Statistics South Africa (StatsSA) reported on February 22nd that consumer price inflation declined from 4.7% year-on-year (y-o-y) in December 2017 to 4.4% y-o-y in January 2018. The latest headline inflation reading is the lowest since November 2015 and was the tenth consecutive monthly reading falling within the South African Reserve Bank (SARB) target range of 3%-6%. The StatsSA report can be view here.

The decline in y-o-y inflation was largely associated with a slower y-o-y rise in the cost of transport. The overall cost of transport declined by 0.4% month-on-month (m-o-m) in January due to a 1.3% m-o-m decline in fuel prices. This, in turn, was associated with a significant appreciation in the rand during the second half of December. Financial markets reacted favourably to the election of Cyril Ramaphosa as the new president of the African National Congress (ANC). Fuel, a key driver of transport inflation, cost 9.1% y-o-y more in January compared to a figure of 14.2% y-o-y in the preceding month.

The benchmark food basket cost 4.6% y-o-y more in January – the smallest increase in more than two years. According to StatsSA, the average prices of bread & cereals, oils & fats, fruit and ‘other food’ is now lower than a year ago. In contrast, meat is on average 13.4% y-o-y more expensive, following a 2.3% m-o-m price increase in January. The producer (farm gate) price of livestock increased by more than 30% y-o-y in December compared to a near 33% y-o-y drop in the producer price of cereals and other crops.

Figure 1: Headline and food inflation continue to decline

Sources: StatsSA, SARB

The SARB Monetary Policy Committee (MPC) met on 17-18 January to consider interest rates, and policymakers decided with a 5:1 vote in favour of keeping the repo rate unchanged at 6.75% - only one MPC member favoured a 25 basis points reduction. While the central bank lowered its inflation projections for 2018 and 2019 to 5.2% and 5.5%, respectively, it identified upside risks to these projections. The largest risk factor is the prospect of further sovereign ratings downgrades, which will result in a significant outflow of money from the domestic bond market and an accompanied weakening in the rand. This concern will likely be tempered following the outcomes of the Budget Speech 2018.

SARB Governor Lesetja Kganyago indicated in January that internal modelling suggested that the repo rate must be lifted by at least 50 basis points by the end of 2019. This implied path “remains a broad policy guide and could change in either direction by the next meeting in response to new developments and changing risks.” Nonetheless, the split in voting at last month’s MPC meeting, upside risks to inflation, and internal modelling guidance at the SARB suggests that a reduction in interest rates is not on the cards at present.

The MPC meets again on 26-28 March and policymakers will need to consider the upside pressures on inflation emanating from the Budget Speech 2018. Finance Minister Malusi Gigaba announced this week that value-added tax (VAT) will rise by one percentage point to 15% in April; this will have an impact on the majority of goods measured by the consumer price index (CPI). Fuel, tobacco and alcoholic beverages – combined accounting for more than 10% of the consumer basket – will also see notable upward adjustments in taxes. Furthermore, the health promotion levy (“sugar tax”) could from April add an average of around 10% to the price of sugar-sweetened beverages. 

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