South Africa’s unique inflation battle

South Africa’s inflation is closely linked to load-shedding, which makes it hard for the Reserve Bank to contain it with interest rates.

Like most other economies, South Africa has experienced high inflation, which sparked a series of interest rate hikes.

The first interest rate increase occurred in November 2021, an early move to combat inflation compared to developed economies.

In comparison, the United States waited much longer to react to its inflationary pressures. The Federal Reserve increased its interest rate for the first time in March 2022.

Following numerous interest rate hikes, inflation in the United States declined from 9.1% in June 2022 to 3.2% in October 2023.

The South African Reserve Bank has increased interest rates aggressively by 475 basis points since November 2021.

However, despite the aggressive hiking cycle, inflation has been much less responsive than in the United States.

South Africa’s inflation rate is currently at 5.9%, not significantly lower than its peak of 7.8% a year ago.

To understand why South Africa’s inflation rate has remained so high despite interest rate increases, it is important to look at what causes this inflation.

Since November of 2021, South Africa’s inflation has been driven largely by the prices of food and non-alcoholic beverages (FNAB).

FNAB’s contribution to total inflation has increased from 18% in November 2021 to 36% in July 2023.

This number has decreased to 27% in recent months as inflation cooled down. However, this is still significantly higher than what was seen in 2021.

Listed food retailers, like Shoprite, Pick n Pay, and Spar, shed light on increased expenditure, which causes higher prices.

A recurring theme is having to deal with many additional expenditures related to increased load-shedding.

Most FNAB products are kept cool and rely heavily on electricity to keep them fresh and in a desirable selling condition.

Unsurprisingly, load-shedding increases the cost of keeping items cool and results in much higher percentages of spoiled food.

In its latest annual results, Shoprite announced R1.3 billion in additional expenditure for diesel to run its power generators.

Pick n Pay similarly announced in its latest annual results that it spent an additional R396 million on diesel.

Spar said it paid more than R700 million in additional diesel expenditures in the six-month period leading up to April 2023. 

These additional expenses increase food retailers’ operational expenses. These costs are passed on to consumers, reflected in higher food and beverage prices.

The correlation between food and non-alcoholic beverages and load-shedding over the past two years, shown in the chart below, is striking.

The data shows that the increased contribution of FNAB to inflation typically occurs at the same time load-shedding increases.

It further confirms that load-shedding is one of the biggest driving forces of inflation in South Africa.

It explains why South Africa’s inflation has been, to a large extent, unresponsive to increased interest rates.

Higher interest rates target demand in an economy and reduce consumption spending. In response, prices decline and drive inflation down.

However, if load-shedding is a big driver of higher inflation, it would be largely unaffected by higher interest rates, leaving inflation higher for longer.

Policymakers should understand that increasing interest rates would not be the best solution to tackle inflation in the current environment.

A better solution is ensuring a more reliable electricity supply. However, this is easier said than done, as all South Africans know.