Bank highlights effect of regulated prices on inflation
The Reserve Bank has pointed to “substantial deficiencies” in the regulatory frameworks that determine the prices of electricity, water, fuel and municipal rates, and called for changes that would enhance efficiencies and encourage competition in these regulated sectors, thereby helping to lower inflation.
In its latest Monetary Policy Review, the Bank says inefficient price setting for regulated prices is costly to the economy, with higher prices driving up headline inflation, complicating its efforts to achieve price stability and putting pressure on its monetary policy committee to raise interest rates.
The review also highlights the impact of load-shedding on inflation and growth, providing detail on the Bank’s estimates that the worsening power outlook will add 0.5 percentage points to the inflation rate in 2023, and could chop as much as two percentage points off the economic growth rate.
That is much worse than the Bank had estimated as recently as October, and though it sees help coming from new renewable energy producers, it expects that to make a difference only over the medium term.
It also warns that load-shedding could lift inflation even more if supply chain disruptions prove worse than expected, especially for food.
The administered or regulated price issue has been a bugbear for the Bank for decades. It has on several occasions highlighted the extent to which public entities and the government’s own regulatory processes complicate efforts to bring down inflation and interest rates.
The latest comments come after administered prices jumped 14% in 2022, more than double the headline inflation rate. That was mainly because of sharply higher fuel inflation, which peaked at 56.2% in July and has since dropped to 8.1%. But electricity prices have persistently risen well above the inflation rate for the past 15 years, the review points out, and are expected to increase 17.5% again this year and 14.5% next.
Though global oil prices and exchange rates are a key driver of domestic fuel prices, the review notes that 40%-60% of the retail fuel price is determined by a mix of taxes, levies and margins that have increased more rapidly than the inflation rate over the past decade.
In water and municipal property taxes, too, there is a disconnect between tariffs and the cost of supply. “Apparently many municipalities do not employ any discernible frameworks to determine the appropriate level of, or increases in, the tariffs,” says the review. For water, the average price increase between July 2017 and July 2022 was 10.3% per annum, compared with consumer price inflation of 4.5% over the same period.
The review calls for the government to develop better and more market-related regulatory frameworks that take the cost of supply into account and encourage more efficient consumption. “Regulators should routinely apply the ‘competitive supplier’ test to assess whether the incurred costs are prudent or not and, where possible, introduce competition in these markets,” it says.
The review further highlights the role SA’s high public debt
levels play in weakening the rand and keeping inflation and interest rates high, and weigh on investment and growth.
“A deterioration in fiscal metrics results in a higher risk premium and higher yields on longer-dated bonds to compensate for higher fiscal risk, thereby steepening the yield curve and impacting strongly on longterm investment costs for the economy as a whole,” it says. A higher country risk premium “can in turn depreciate the exchange rate and put upward pressure on inflation”.
More sustainable public finances would lower borrowing costs for public and private sectors, supporting investment and freeing up more resources for public spending.