PETER ATTARD MONTALTO: Where to from here as rising inflation hits poor hardest?

There is an amusing trait of many of SA’s elite in that they like to forward me messages whenever anything goes wrong offshore, whether it is Boris Johnson’s antics or drama in the US. Perhaps it is a cathartic experience.

Of course, the central conceit of this is that the UK government has a leadership vacuum at its heart yet the state and the economy still tick over just fine with low unemployment. The US economy continues to churn out innovation and technological advances. Economies with higher standards of living and lower rates of unemployment where the concern is relative, not absolute, poverty, are more able to weather inflation storms than a country with so many living so close to absolute levels of poverty.

Last week’s inflation data for May from Stats SA shocked to the upside, printing at 6.5% vs 6.1% that surveys had expected. Most of the surprise was driven by food, while core goods and services showed much lower inflation and a smaller surprise. That food price pressures are now showing up — after several months of softer-than-expected food inflation despite rising import and raw domestically produced prices for agricultural goods — shows how the petrol price shock in particular is starting to percolate into wider prices. Equally it raises the uncomfortable fact that, while helping at the margin with household budgets, the fuel levy cut cannot fundamentally shift the pressures petrol is producing on broader price setting.

The question is what to do about such price pressure. First though its important to understand the problem. Stats SA suggests there is about a two percentage point gap between the highest and lowest inflation rates experienced by different income deciles — with the poorest experiencing inflation about 1.5 percentage points higher than the headline rate, which is  dominated by the richer who spend more.

Drowned out

The Pietermaritzburg Economic Justice and Dignity group calculates baskets of food and hygiene products based on what and where the poorest actually purchase them. They calculate that inflation for such groups is about 11.4%-11.9% (for food and hygiene products) but maybe more importantly still highlight the substitution challenges that such households experience between different products when on set budgets (from grants or from low wages) — do you purchase less food to buy hygiene products or the other way around?

The compression in real incomes in lower income decile households is not seen much at all in the headline data because it is drowned out by the spending of the richer income deciles many times over. The lack of high frequency meaningful data of how all income decile households are spending and consuming is problematic.

What is odd is that while there is so much focus now on the payment or not of the social relief of distress grant — which has been flat at R350/month now for more than two years — there has been exceptionally little debate over the huge real-terms cuts that grants are facing. No doubt such calls will come at the eleventh hour into the February budget (rather than the medium-term budget policy statement in October) and the Treasury will be able to keep a cap on things because it will be so late in the day.

The simple answer is to tax more and spend more on grants. Yet the sustainable tax base is lacking. You can’t raise grants one year given inflation and then cut them the next year — the point is the price level keeps ratcheting higher. The same argument can be made about public sector wages and cost pressures such as wages on tariff regulated entities such as Eskom.

Unsustainable fixes

The tax base space is lacking to hike taxes further without causing unintended behavioural and growth consequences and gobbling up tax options that were meant to be spent on other things (such as National Health Insurance). There isn’t the ability, political or capacity wise, to cut expenditure meaningfully to make space. As global interest rates rise the space to raise debt issuance levels further is lacking.

There are some short-term fixes given the levels of cash the fiscus has and the income from short-term price effects of the terms of trade boon, but these are unsustainable.

In an ideal world the fiscus would have been running at a small primary surplus with slowly falling debt levels before an inflation shock, which would allow them to have the fiscal space to adjust spending and borrow more to smooth the shock for the poorest.

We are in a very different place instead — where to prevent risks to future spending from rising debt service costs and so on a very narrow path has to be navigated. This is the only option given the lack of alternatives, but is deeply suboptimal.

It is exactly why a faster path of priority reforms is necessary to make the fiscal space to provide this kind of insulation, and for the space to open up to make more challenging choices on expenditure. Such faster growth would also absorb more potential grant recipients.

Comparing SA to peers again — where it is vs other emerging economies or vs developed economies — SA’s current account surplus and speed of tightening in primary fiscal deficit in the past two years has stood out for investors as a key comparative positive. This is why, despite Fed hikes and global market wobble — the rand and bonds have been surprisingly well behaved.

Stepping back though, and looking below the hood, the sum of historic choices has meant that we are actually not in an optimal place to respond to shocks. This will have deep political economy impacts in the few years ahead.

• Attard Montalto is head of capital markets research at Intellidex, an SA research-led consulting company. This article first appeared in Business Day.