Inflation gamble hinges on unpredictable events

MEMBERS of the Reserve Bank’s monetary policy committee this week took a big bet that inflation can be tamed by year-end when they voted unanimously to keep interest rates flat. And it is a big bet. Consumer price inflation averaged 6.4% last year — its highest since the financial crisis of 2008-09.

Reserve Bank governor Lesetja Kganyago’s big hope that the effects of price rises will be ameliorated by year-end is a bet on a combination of factors, all of them out of his control. It’s a bet on the weather, which in turn is a bet on food inflation, now running at 12%. Summer rainfall has been positive for planting, but further downpours are needed for a decent maize crop, and the Western Cape needs serious soaking to improve wheat production.

It’s also a bet that US interest rates will not rise as much or as quickly as suggested by Federal Reserve chairwoman Janet Yellen, and it’s a bet that South Africa will not be subjected to another Nene-esque political shock that will drive its credit rating to sub-investment grade. That’s a lot of bets on unpredictable events.

Inflation is actually pretty tame now. In 2008, it averaged 11.5% and returned to single digits a year later as the currency, which depreciated markedly at the height of the global crisis, recovered.

By 2015, inflation seemed to be neatly inside the 3%-6% target but suffered a blowout with the Nhlanhla Nene sacking in December 2015 and the rand collapsed by January 2016 to its worst levels ever. The country lurched from confidence crisis to crisis and consumers paid the price.

By December 31 2016, R1 bought what 93.4c did in 2015 and was worth just 71c in 2011 money.

Inflation is as corrosive to household wealth as acid is to metal. For those on fixed incomes, it erodes their spending power.

But inflation is far less scary than it used to be. The destruction of household wealth was at its worst between 1973 and 1993, when inflation routinely ran to double digits. It hit 10% for the first time in the BJ Vorster era as sanctions bit and oil prices spiked. Inflation remained elevated for two decades. In the years following PW Botha’s Rubicon speech in 1985, inflation settled in the high teens and, at its worst, in January 1986, was at 20.7%.

At the time, the Reserve Bank kept rates artificially low to stimulate borrowing and spending to drive growth, but that fed the inflation monster. Tough action by governor Chris Stals brought inflation back to single digits, and, under finance minister Trevor Manuel, South Africa began an often-criticised policy of inflation targeting.

It’s been effective, but is not without its critics, many of whom would like to let the Reserve Bank loosen its grip on disposable income to stimulate growth. But inflation targeting has been positive for the country, which first achieved an annual average within the target range in 1999 and for seven to 10 years kept a lid on inflation until the financial crisis. Since then, inflation has remained in the target band about half the time.

The Reserve Bank understands inflation targeting is an art rather than a science, and thank goodness. If it simply used interest rates to bludgeon inflation, we would probably be in deep recession.

Crucially, the MPC knows that a good 1% of the inflation rate now is made up of administered prices, like rates and taxes, water and electricity, over which consumers have little say. Raising rates to combat food inflation would have little effect on the overall rate as people need to eat. Price fluctuations of imports are determined largely by the value of the currency.

The best the Reserve Bank can do is to be predictable in an unpredictable environment. It predicts inflation will be tamed. Not by high rates, but because more of us have less money, and the governor seems to be betting that the finance minister will do part of his job in the February budget with higher taxes, which will be deflationary. That’s probably the safest bet of the lot.

Whitfield is a public speaker on the political economy and an awardwinning financial journalist and broadcaster