Statistics South Africa reported on Wednesday that producer prices declined by 1.0 percent year-on-year in September 2003. The producer price index peaked at 127.8 in November 2002 and has been on a declining trend since then and was 125.1 in September 2003.

If there is no change in the PPI in either October or November, then the respective year-on-year declines are 1.7 percent and 2.1 percent.

It is, however, more likely that the index will decline given that the monthly imported crude oil price rose by 7.1 percent month-on-month in September, whereas the dollar spot price of a basket of crude oils dropped by 8.1 percent month-on-month in September.

The reason for this odd behaviour is that it takes up to six weeks between buying the crude in the Middle East and its delivery at a South African port.

Customs and Excise takes the total amount paid for crude oil and divides it by the total physical amount landed to arrive at the monthly average rand price of imported crude oil. This is likely to have dropped by at least five percent month-on-month in October, which should result in at least a 0.2 percent month-on-month drop in overall PPI.

Producer inflation leads consumer inflation

The reason for the optimism on rate cuts is that producer inflation leads consumer inflation by between three and six months depending on the products involved.

The SARB will get the October producer and consumer inflation data before the December MPC meeting. These are likely to show a year-on-year deflation near two percent for producer prices, while consumer inflation should be a post-1945 record low near one percent year-on-year.

The median forecast for the September producer price data was a year-on-year decline of 0.5 percent with a range from -0.9 percent year-on-year to 0.9 percent year-on-year.

Deflation a threat to economic prosperity

Most central banks monitor producer prices for early signs of deflation, which is seen as a greater threat to economic prosperity than inflation.

This view was reaffirmed by a US Federal Reserve working paper last year and found a policy prescription in November, when the Federal Reserve said it would use "unconventional" means to combat deflation.

Japan has been in a deflationary environment for the past decade while China has been in a deflationary mode for the past few years.

SARB ?not worried about deflation yet?

However the Reserve Bank is not yet at the stage where it worries about deflation, as SARB governor Tito Mboweni indicated in a speech on March 6.

He said then that it was not only in Japan where prices could decline after a monthly decline in producer prices.

"But I should hasten to add that there is no comparison between Japan's long-term price deflation and South Africa's short-term decline in production prices which is so closely related to exchange rate movements," Mboweni said.

The SARB has been tasked with achieving an average annual CPIX, which is consumer inflation excluding mortgage rates, of three percent to six percent.

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