He said one of the main factors responsible for the recent and expected future low inflation was the decline in import prices, brought about by the further rise in the external value of the rand and low global inflation.

Import price inflation, measured over periods of twelve months, had been negative since April 2003, or for a period of fifteen months.

"South African import prices will be influenced, in the first instance, by global inflation. As could be expected with the significant increase that has been experienced in international commodity prices since the beginning of 2002, consumer price inflation has started to rise in most of the major industrialised economies.

"For example, year-on-year core inflation in the United States of America increased from 1.1% in January 2004 to 1.9% in June, and the corresponding rate of increase in the harmonised index of consumer prices in the euro area rose from 1.6% in February 2004 to 2.4% cent in June.

"These increases are, however, coming from low levels. A marked acceleration in global inflation to high levels is not foreseen, particularly because of the continued strong productivity growth in some of these countries combined with a tightening in the monetary policy stance," Mboweni stated.

Import price inflation was also dependent, in the second instance, on the external value of the rand. Having recovered during 2002 and 2003 from the sharp fall in the latter part of 2001, the nominal effective exchange rate of the rand had increased by a further 9% until the end of July 2004.

"This sharp rise in the average exchange rate of the rand has distorted the planning of many enterprises in the country and has had a serious negative impact on international price competitiveness with the resultant stress being witnessed in the export earnings of manufacturing and mining companies.

"At the same time, the exchange rate of the rand has also contributed to lower imported inflation and, looking forward, to a lower prospective profile of CPIX inflation within the target range," the SARB governor said.

Currency markets, he added, were unpredictable and so was the future performance of the exchange rate of the rand, which was, among other things, subject to balance of payments developments.

"South Africa's international trade balance has declined from a surplus at a seasonally adjusted annualised rate of about 30 billion rand in the second quarter of 2003 to nearly 15 billion rand in the first quarter of 2004 and a deficit of 5.5 billion rand in the second quarter.

"However, if special factors affecting the trade balance are excluded, such as purchases of commercial aircraft and military equipment, the trade balance has remained broadly unchanged over the past three quarters.

"Moreover, the turnaround to a negative overall trade balance did not affect the exchange rate of the rand because it was easily financed by an inflow of capital. The future external value of the rand might depend to a large extent on the behaviour of these financial inflows."

Concern about the influence of another exogenous factor, food prices, had dissipated somewhat, however, Moboweni said.

"At the beginning of 2004 the Monetary Policy Committee noted the severe drought in many parts of the country, combined with the rise in global food prices. Widespread rains in the summer-rainfall area led to upward revisions of crop estimates, and shortages of maize and other grains should not negatively affect agricultural prices. Despite the heavy rains in the winter-rainfall areas, evidence suggests that some parts are still in the grip of a drought.

"The recent reversal in global food prices should alleviate pressures that could arise from poor agricultural conditions."

An important positive development on the inflation front, Mboweni, had been the declining trend of inflation expectations in the country. This was clearly illustrated by the Survey of Inflation Expectations of The Bureau for Economic Research at the University of Stellenbosch undertaken on behalf of the Reserve Bank in the second quarter of 2004.

"According to this survey, CPIX inflation expectations have declined continuously. In contrast to this, the break-even inflation rate calculated as the difference between the nominal yield on government bonds and the real yield on inflation-linked bonds within the five-to-nine year maturity range, has increased in 2004. This approximation of long-term inflation rose from a low of 4.8% in December 2003 to 6.1% in May 2004, before declining to 5.6% recently in July."

A number of other factors supported a positive inflation outlook. These included the low levels of utilisation of manufacturing production capacity, continued fiscal prudence and more restraint in administered price increases.

"In addition, the twelve-month growth in total loans and advances extended by banks to the domestic private sector declined from a peak of 12.6% in February 2004 to 8.9% in June. However, part of this lower growth is due to disintermediation as the corporate sector is funding capital outlays and other expenditure to an increasing extent outside the banking sector," Mboweni said.

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