THE increases in electricity tariffs for which Eskom has applied will cause a number of headaches, not least for the Reserve Bank trying to meet the 3%-6% inflation target range.
Although inflation is widely expected to be within the target range by early next year (if not sooner), Eskom’s application has raised concerns that it will not stay in the target range very long in light of the magnitude of the proposed increases, and the fact that they will be in place for a few years.
There are also concerns that electricity alone could end up forcing the Bank’s hand on interest rates, either preventing cuts or forcing a hike that might otherwise not have been necessary.
For consumers, who will already see discretionary income affected by higher electricity prices, that will be a double blow.
What to do?
There have been suggestions that a solution is to raise the upper limit of the inflation target range.
However, given that SA’s inflation target is already one of the highest globally, this is not a good idea.
Rather than changing the inflation target range, there is another option, and this is to change the inflation target measure.
There are alternative consumer price index (CPI) measures, and one big advantage is that these are already calculated and published by Statistics SA. It would simply be a matter of picking one.
One option is to use CPI excluding administered prices. This excludes a range of administered prices (such as municipal rates and petrol prices) including electricity.
A disadvantage of this would be that it excludes about 15% of the basket, and there are concerns that target measures become meaningless if they exclude too much.
There is another option: the CPI excluding energy, which in practice excludes only electricity. It is therefore an ideal measure to gauge moves in underlying inflation without electricity price rises clouding the picture.
Changing the target is not without its disadvantages.
For one, the target changed from CPIX (consumer inflation less mortgage costs) to CPI at the beginning of this year (that was due to a change in the composition of the basket, when mortgage interest rates were dropped).
Some might balk at a second change so soon.
Perhaps more important is the issue that the electricity price rises will almost certainly result in second- round effects, and too narrow a focus on a number that excludes electricity price rises might delay an appropriate Bank reaction to these.
However, that argument almost implies that the Bank should raise rates as soon as electricity price increases begin to affect CPI in an attempt to preempt second-round effects. We would not expect that anyway. Moreover, it as easy to argue that the ex-energy number will give a better idea as to what those second- round effects actually are.
Indeed, focusing on an ex-energy number may even help reduce second- round effects, as the inflation number that reaches headlines will be lower than otherwise.
Overall, using CPI ex-energy seems an elegant solution . And there are other countries that exclude energy from their chosen targets.
Of course, even if the target is not officially changed, the Bank may still choose to focus on the number as electricity becomes more of a strain, the same way it had focused on an ex- food and fuel measure a while ago.
As a last word, we should note that CPI excluding energy has already reached the target range, if only just, at 6% in August.
n Valentine is an economist at .