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In today's 2nd blog post we take a look at the South African exchange rate movements as well as the movements in South Afric's import and export prices and lastly the movements in South Africa's official inflation rate.
Does the ZAR have an impact on import and export prices and the ultimate inflation rate experienced by South African consumers? We take a look below. |
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ZAR vs Export Prices vs Import Prices vs Monthly inflation rate
So the first question is whether the exchange rate has an impact on import and export prices (for this blog page we are more concerned about import prices as we want to see if a weaker or stronger exchange rate leads to higher or lower import prices and whether this has an impact on the overall levels of inflation experienced by South Africans. Below a few graphics look at the movements of the above mentioned prices.
The above line chart shows the year on year movements of South Africa's import prices, export prices, the South African Rand (where a negative percentage shows the exchange rate got stronger against the dollar (I.e it appreciated)). Readers will immediately notice that the movements of the CPI (official inflation rate) is very stable compared to the movements of the import and export prices and the exchange rate.
The image below shows the movements of the import prices and the exchange rate as we are interested in seeing whether the movements of the exchange rate corresponds to the movements in import prices we pay for goods being imported into South Africa. There is a 59% correlation between the two series shown in the image below.
The image below shows the movements of the import prices and the exchange rate as we are interested in seeing whether the movements of the exchange rate corresponds to the movements in import prices we pay for goods being imported into South Africa. There is a 59% correlation between the two series shown in the image below.
Imports vs ZAR
While some would argue there is a lag between the exchange rate movements and the import prices paid, this might be the case but when we lagged the exchanged rate by 3 and 6 months respectively the correlations declined and in fact turned negative, showing the strongest correlation was the current exchange rate and current import prices. See the images below for the 3months correlation and 6months correlation.
3 months lag |
6 months lag |
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The 2 images above show that when the exchange rate is lagged by 3 or 6 months the exchange rate graphic is not as strongly correlated to the import prices as the earlier image where no lag is applied. The lag was applied in order to test if it takes a while for the exchange rate movements to filter through into import prices.
Making it even harder to determine the pass through from exchange rate movements into the final level of inflation is the fact that there is a vast number of goods (and services in the CPI) in both the import prices and prices used in the calculation of the CPI. And exchange rate movements will affect various goods in import prices differently.
We will therefore dig deeper and look to target one commodity group for both import prices and prices in the CPI. For example food import prices compared to food prices in the CPI compared to the exchange rate. While looking at year on year data per month as we did above, perhaps it will be more apt to look at the average price movements per year, as this should remove some of the short term fluctuations which might have a n impact on one of the series but not on the others.
Making it even harder to determine the pass through from exchange rate movements into the final level of inflation is the fact that there is a vast number of goods (and services in the CPI) in both the import prices and prices used in the calculation of the CPI. And exchange rate movements will affect various goods in import prices differently.
We will therefore dig deeper and look to target one commodity group for both import prices and prices in the CPI. For example food import prices compared to food prices in the CPI compared to the exchange rate. While looking at year on year data per month as we did above, perhaps it will be more apt to look at the average price movements per year, as this should remove some of the short term fluctuations which might have a n impact on one of the series but not on the others.
As per the graphics earlier, even when focussing on a particular product, the price movements of the product in the CPI is far more stable than that of the exchange rate or the import prices for food. However there seems to be a relatively strong relationship between the exchange rate and the import prices of food as measured by Statistics South Africa.
So what does it look like when the average prices for a year for a couple of years are used? Does it smooth out some of the volatility experienced in the exchange rate or food imports? The bar chart below shows the average year on year movements for ZAR, imports:food and CPI: Food.
So what does it look like when the average prices for a year for a couple of years are used? Does it smooth out some of the volatility experienced in the exchange rate or food imports? The bar chart below shows the average year on year movements for ZAR, imports:food and CPI: Food.
As the above shows the movements are a lot more stable when looking at the average year on year movements per year compared to the monthly year on year movements as shown in the line graphs above. But even when looking at these graphs the correlation and relationship between the exchange rate, food import prices and local food prices as measured in the inflation basket is hard to see or quantify without proper econometric models and statistical tests.
One should therefore be wary of those market commentators who throw around numbers freely when saying an x amount of cents move in the exchange rate will lead to y % increase in overall inflation or food inflation unless they have the econometric models in place to back it up.
We wanted to show readers while one would expect a stronger exchange to lead to lower food inflation rates and therefore lower food inflation levels as measured in the CPI the numbers above shows the transmission mechanism between the exchange rate, food imports and food inflation is far more complex and there is no a clear ratio or formula to assess the impact the exchange rate movements on import prices (be it overall or food imports) and inflation levels. There are way to many factors that influence the exchange rate (politics, currency trades, FDI etc) or price setting policies of local companies, or discounts received by bulk importers etc.
One should therefore be wary of those market commentators who throw around numbers freely when saying an x amount of cents move in the exchange rate will lead to y % increase in overall inflation or food inflation unless they have the econometric models in place to back it up.
We wanted to show readers while one would expect a stronger exchange to lead to lower food inflation rates and therefore lower food inflation levels as measured in the CPI the numbers above shows the transmission mechanism between the exchange rate, food imports and food inflation is far more complex and there is no a clear ratio or formula to assess the impact the exchange rate movements on import prices (be it overall or food imports) and inflation levels. There are way to many factors that influence the exchange rate (politics, currency trades, FDI etc) or price setting policies of local companies, or discounts received by bulk importers etc.
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