South Africa’s production price index for May 2006 was slightly better than forecast, but the historic nature of these statistics are not likely to fool the market. PPI for May was recorded higher at 5,9% from 5,5% before and 0,4% up from 0,1% on a monthly basis (relative to the annual increases).
Analysts and traders had already factored in a 4,1% consumer price index rise on Wednesday and were relieved to see this number come in exactly on consensus — PPI, on the other hand has come in 10 basis points below expectations at 5,9% (forecasts has expected a rise to 6%), and this number is likely to add further relief to a stretched market, which was in need of some good news.
However, the longer-term scenario may prove to be a different matter altogether (and the market will react quickly to this realisation). The rand only depreciated in subsequent months (to a worst of R7,54 to the dollar only last week Friday), and this impact has not been felt on the recent PPI numbers.
The focus therefore will need to shift to June and the impact of a weaker rand specifically on the imported component of the PPI numbers. As it is, a slowly creeping oil price is knocking international imported components and could well make matters worth when combined with the weaker rand.
When the rand depreciates, the cost of imported goods increases and this is reflected immediately in the PPI. The problem for the market is there is usually a time lag of a few months before this is fully reflected at the till for consumers, but once a rising trend is in shape, a rise in inflation can generally be assumed, which is where South Africa is likely to stand come June.
If this is tied in with the increasingly hawkish stance of the central bank at its MPC meeting on June 8 and at the release of its Q1 2006 quarterly bulletin last week, a shift to a tightening bias is more or less guaranteed until the end of the year.
Forward rate agreements are, in fact, already predicting this scenario and are factoring in a 150 basis point rise by the end of the year (which would mean rises at each of the next MPC meetings of 50 basis points before Christmas). A slightly less festive season for consumers may therefore be on the cards this year.
In April the annual increase of 5,5% in the PPI for all commodities for local consumption was due to increases of four percentage points for locally produced commodities and 1,5% points for imported commodities. In May there was a turnaround as locally produced commodities went up 4,7% points and imported just 1,2% points. It is unlikely this effect will last into June as a weaker rand is factored in.
If one looks purely at the annual component of the imported number one sees this reducing dramatically to 4,7% from 6,1% in April, reflecting the effect of a stronger rand.
The fact that the US is raising interest rates is not helping the rand, and there are widely held views that expect the rand to weaken into the remainder of the year.
Tied in with a trend away from riskier emerging markets with high current account deficits and exhausted stock markets, the writing seems to be on the wall.
There is no question that in the months ahead the rate of change in imported inflation is going to grow at a faster rate to account for the rand depreciation and this will have a decided knock-on effect on the inflation target.
The monetary authorities pre-empted this is early June by raising rates in anticipation of an increase in the inflation target to 6,2% by the end of the year.
Their decision may be proved correct if the scenario unfolds as it is now doing.
The reserve bank said last week in its quarterly bulletin that a number of factors were contributing to their concerns about the inflation outlook, including the outlook for the rand, the widening current account deficit, oil prices, food prices and consumer demand.
All of these factors in combination could well serve to ensure consumers enjoy a slightly less festive season this year with their rands not going quite as far as they did last year. – I-Net Bridge