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INFLATION & INFLATION TARGETING
by Dr Azar Jammine
Director & Chief Economist, Econometrix (Pty) Ltd
Presented to
Parliamentary Sub-CommitteeParliamentary Sub-Committeeon Financeon Finance
0
2
4
6
8
10
12
GR
OW
TH
(%
)
98 99 00 01 02
INFLATION : OVERALL vs CORE vs CPIX
OVERALL
CORE
CPIX
50
60
70
80
90
100
110
BA
SE 1
995=
100
95 96 97 98 99 00 01 02
REAL EFFECTIVE EXCHANGE RATE
5
10
15
20
25
30
35
$/B
AR
RE
L
96 97 98 99 00 01 02
SPOT CRUDE OIL PRICE :$ PER BARREL
50
100
150
200
250
300
Ran
d/B
arr
el
99 00 01 02
SPOT CRUDE OIL PRICE :RAND PER BARREL
200
250
300
350
400
450
c/l
99 00 01 02
PETROL PRICE : 93 OCTANCE AT THE REEF
-10
0
10
20
30
40
%
99 00 01 02
GROWTH IN PUMP PRICE PETROL93 OCTANE AT THE REEF
4
5
6
7
8
9
10
11
GR
OW
TH
(%
)
98 99 00 01 02
CPIX INFLATION RATEvs UNDERLYING INFLATION RATE
CPIX
UNDERLYING (overallexcluding food, housing +running costs)
0 2 4 6 8
10 12 14 16 18 20
GR
OW
TH
(%
)
97 98 99 00 01 02
INFLATIONOVERALL VS FOOD
FOOD
OVERALL
-1.0
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
(M-O
-M %
)
98 99 00 01 02
CPI FOOD INFLATIONMONTH-ON-MONTH CHANGE
50
60
70
80
90
100
110
120
IND
EX
1995=
100
95 96 97 98 99 00 01 02
ECONOMIST COMMODITY PRICE INDEX :FOOD $ TERMS
-1.0
0.0
1.0
2.0
3.0
4.0
Mo
nth
-on
-Mo
nth
(%
)
-8.0
-6.0
-4.0
-2.0
0.0
2.0
4.0
6.0
8.0
Mo
nth
-on
-Mo
nth
(%
)
98 99 00 01 02
PPI FOOD INFLATION vs ECONOMISTCOMMODTY PRICE INDEX FOOD ($)
PPI -ManufacturingFood
Economist Commodity PriceIndex : Food
-6.0
-4.0
-2.0
0.0
2.0
4.0
6.0
Mo
nth
-on
-Mo
nth
(%
)
-8.0
-6.0
-4.0
-2.0
0.0
2.0
4.0
6.0
8.0
Mo
nth
-on
-Mo
nth
(%
)
98 99 00 01 02
PPI FOOD INFLATION vs ECONOMISTCOMMODTY PRICE INDEX FOOD ($)
PPI - AgricultureFood
Economist Commodity PriceIndex : Food
-1.0
-0.5
0.0
0.5
1.0
1.5
2.0
2.5
Mo
nth
-on
-Mo
nth
(%
)
-8.0
-6.0
-4.0
-2.0
0.0
2.0
4.0
6.0
8.0
Mo
nth
-on
-Mo
nth
(%
)
98 99 00 01 02
CPI FOOD INFLATION vs ECONOMISTCOMMODTY PRICE INDEX FOOD ($)
CPI - Food
Economist Commodity PriceIndex : Food
-5
0
5
10
15
20
25
30 G
RO
WTH
(%
)
97 98 99 00 01 02CPI : food PPI : agriculture PPI : manufacturing
FOOD INFLATION
-5
0
5
10
15
20
25
30
35 G
RO
WTH
(%
)
90 91 92 93 94 95 96 97 98 99 000102
FOOD INFLATION
PPI -MANUFACTURING
CPI - FOOD
-15
-10
-5
0
5
10
15
20
GR
OW
TH
(%
)
94 95 96 97 98 99 00 01 02
CONSUMER INFLATIONOVERALL VS HOUSING
HOUSING
OVERALL
-4.0
-2.0
0.0
2.0
4.0
6.0
8.0
10.0
(M-O
-M %
)
98 99 00 01 02
CPI HOUSING INFLATIONMONTH-ON-MONTH CHANGE
0
2
4
6
8
10
12
14
16
GR
OW
TH
(%
)
97 98 99 00 01 02
INFLATION : CONSUMER VSPRODUCER
PRODUCER
CONSUMER
2
4
6
8
10
12
14
GR
OW
TH
(%
)
98 99 00 01 02
PPI (excl other minerals & petroleum&food) vs CPI UNDERLYING INFLATION RATE
PPI excluding other mineralsand products of petroleumand coal and food)
CPI UNDERLYING (overallexcluding food, housing +running costs)
0
0.5
1
1.5
2
2.5
3
3.5
RA
TIO
%
91 92 93 94 95 96 97 98 99 00 01 02
UNDERLYING CPI / PPI RATIO
CPI - excluding food, housing & vehicle running costs
PPI - excluding other minerals, petroleum & food
2
4
6
8
10
12
GR
OW
TH
(%
)
98 99 00 01 02
INFLATION : RETAIL vs CPIX
CPIX
RETAIL
5
6
7
8
9
10
11
GR
OW
TH
(%
)
98 99 00 01 02
INFLATION : SERVICES vs CPIX
SERVICES CPIX
CONTRIBUTORS TO INCREASED INFLATION 2002
CPI Inflation:-December 2001 4.6%August 2002 11.6%
Increase 7.0%:- of which % Contribution
Food 1.7 24Housing 3.6 51
Interest 2.1 30Other 1.5 21
Petrol 0.5 7Other 1.2 18
7.0 100
95
105
115
125
IND
EX
(2001=
100)
2001 2002
Education Medical Petrol
Food Housing Communication
CPI : OVERALL vs MEDICAL CARE vsEDUCATION vs DOMESTIC vs PETROL
4
6
8
10
12
14
16
18
20
22
GR
OW
TH
%
94 95 96 97 98 99 00 01 02
M3 MONEY SUPPLY GROWTH VS GROWTHIN PRIVATE CREDIT
PRIVATECREDIT
M3 MONEY GROWTH
M3 TARGETRANGES
4
6
8
10
12
14
16
18
20
22
M3 M
ON
EY
%
0
2
4
6
8
10
12
INF
LA
TIO
N %
94 95 96 97 98 99 00010203
M3 MONEY SUPPLY GROWTH LAGGED12 MONTHS VS INFLATION
INFLATION
M3 MONEY GROWTH
4
6
8
10
12
14
16
18
20
22
M3 M
ON
EY
%
0
2
4
6
8
10
12
INF
LA
TIO
N %
94 95 96 97 98 99 00010203
M3 MONEY SUPPLY GROWTH LAGGED12 MONTHS VS INFLATION
INFLATION
M3 MONEY GROWTH
-2
0
2
4
6
8
10
12
14
16
% G
RO
WTH
94 95 96 97 98 99 00 01 02
UNIT LABOUR COST AT CURRENT PRICESVS INFLATION
UNIT LABOUR COST
INFLATION
-2
0
2
4
6
8
% G
RO
WTH
90 91 92 93 94 95 96 97 98 99 000102
GROWTH IN LABOUR PRODUCTIVITY
0
2
4
6
8
10
12
%
97 98 99 00 01 02 03 04
FORECAST: CONSUMER INFLATION OVERALLvs CPI EXCLUDING INTEREST RATE
CPI INFLATION
CPI EXCLUDINGINTEREST RATE
Inflation Targets
INFLATION RATE FORECASTS
2001 2002 2003 2004
CPI Inflation (%) 5.7 9.4 7.8 5.2
CPIX Inflation (%) 6.6 9.5 7.0 5.4
PPI Inflation (%) 8.5 14.2 8.1 5.8
EMERGING MARKETSREAL MONEY MARKETINTEREST RATES(14/09/2002)
ARGENTINA 11.3
BRAZIL 10.4
POLAND 6.9
RUSSIA 5.8
HUNGARY 5.2
HONG KONG 5.2
EGYPT 4.4
INDONESIA 4.1
PHILIPPINES 4.0
SOUTH AFRICA - Using Core 2.7
CZECH REPUBLIC 2.4
SOUTH KOREA 2.4
TAIWAN 2.4
COLOMBIA 1.9
TURKEY 1.8
INDIA 1.8
SOUTH AFRICA - Using CPIX 1.8
THAILAND 1.7
MEXICO 1.6
SINGAPORE 1.5
MALAYSIA 1.1
SOUTH AFRICA - Using CPI 1.1
CHILE 0.3
ISRAEL -0.5
VENEZUELA -4.0
-15
-10
-5
0
5
10
15
20
%
80 82 84 86 88 90 92 94 96 98 0002
REAL PRIME RATE(ADJUSTED USING CORE INFLATION)
5
10
15
20
25
30
35
40 G
RO
WTH
%
80 84 88 92 96 00
PRIVATE CREDIT GROWTH
0
5
10
15
20
25
30 %
80 82 84 86 88 90 92 94 96 98 00 02
SHORT TERM INTEREST RATES
3 MONTH NCD
PRIME OVERDRAFTRATE
-6
-4
-2
0
2
4
6
8
10 G
RO
WTH
(%
)
61 65 70 75 80 85 90 95 00
REAL GROSS DOMESTIC PRODUCT
4
6
8
10
12
14
16
GR
OW
TH
(%
)
90 91 92 93 94 95 96 97 98 99 0001
CONSUMER PRICE INFLATIONSOUTH AFRICA
OPTIONS AVAILABLE ON INFLATION TARGETING
Abandon Inflation Targeting
Raise Target
Change Inflation Measure to Target (from CPIX to
Underlying {i.e. excl. food, housing & vehicle running
costs}?)
Invoke Escape Clause
Miss the Target
ABANDON INFLATION TARGETING
Advantages No longer bound to fight inflation vigorously, thereby harming short-
term growth Critics of inflation-targeting placated
Disadvantages Government and Reserve Bank lose credibility in fight against
inflation Risk of Rand coming under pressure with even worse inflationary
consequences Interest rates might have to be raised eventually to even higher levels Return to boom/bust cycles
RAISING TARGET
Advantages
Meeting targets no longer a pipedream, thereby enhancing
credibility of process
Simultaneous retention of target maintains vision of
determination to fight inflation
Disadvantages
Perception of fairweather flexibility to meet the prevailing
situation may detract from perception of commitment to targets
Small risk of decline in currency with concomitant inflation and
interest rates consequences
CHANGE OF TARGET MEASURE FROM CPIX
Advantages
Exclusion of food & fuel would exclude volatility caused by factors
other than economic policies
Exclusion of food, fuel & housing would render CPIX target range
of 3 to 6% achievable and credible
Disadvantages
Relatively ineffective in combating inflation more generally
because of too many exclusions
Perception that government acting to please itself in fairweather
fashion
INVOKE ESCAPE CLAUSE
Advantages
Perception of this being appropriate given magnitude of currency
depreciation and commodity price increases
Disadvantages
Perception of lack of commitment to fighting inflation when the
going gets tough
Risk of Rand depreciation with concomitant inflation and interest
rate consequences
DO NOTHING
Advantages
Releases pressure to raise interest rates further because of total loss
of credibility
If inflation does fall sharply, government will have got away without
undue harm
South Africa would not be only country to miss target
Disadvantages
Inflation targeting seen to be farcical, leading to loss of confidence in
commitment to fight inflation
Risk of Rand depreciation with concomitant inflation and interest
rate increased
RECOMMENDATION
Retain inflation targets but increase ranges by 1%
Change to targeting underlying inflation rather than CPIX
Keep real interest rates positive at all times
