On Aug. 11, most of the Muslim world commenced a month of
fasting from sunrise to sunset each day. Food price inflation customarily
accelerates across the Arab world just before and during Ramadan. Food consumption
rises overall, typically placing pressure on the cost of meat, chicken, rice,
vegetables and fruits.
Inflation has re-entered the spotlight this year in Saudi
Arabia, which is now experiencing the highest rates of inflation in the Gulf
region, touching 5.5 percent in June, the highest level in more than a year.
Pressure on food prices could become more elevated in the short term due to
greater demand in Ramadan as well as short-term external factors, such as
higher global food costs caused by some poor harvests (Russia) and a weaker US
currency, which tends to push agricultural product prices upward. Although
annual rental inflation continues to ease as supply bottlenecks are slowly
resolved in the kingdom, this will unlikely prevent any drastic decrease in the
headline inflation rate. Keeping these factors in mind, we are raising our 2010
inflation forecast to 5.3 percent from 4.7 percent in expectation that the cost
of food, residential rents, goods and services could stimulate prices.
Accelerating inflation in 2010 is taking place against an
improving macroeconomic backdrop supported by oil prices averaging $76 a barrel
in July, higher oil production, stronger business confidence, gains in retail
appetite, higher export flows, better rates of bank credit growth and greater
tourist visits. Following a census this year, the government also revised
higher the Saudi population to 27.1 million people, including 8.4 million, or
31.1 percent, non-Saudis. There has been no notable decrease in economic activity
so far this summer — banks have concluded a number of large financing deals for
strategic projects and private investors appear to be building their presence,
albeit gradually, in the domestic market. The month of Ramadan usually
coincides with a slight slowdown in commercial activity as companies observe
shorter working days and take a week-long holiday to celebrate Eid Al-Fitr
marking the end of the month of fasting.
The 9.6 percent electricity tariff instituted on July 1, for
commercial, government and industrial users could contribute to some
inflationary pressures over the coming months for end-users in certain
products. Labor intensity, rotation, seasonality, energy intensity and firm
size would determine the real impact of the tariff on final production costs.
For non-energy intensive users electricity accounts 1 percent-3 percent of the
overall production cost. For the energy intensive industries, such as steel,
electricity can account up to 15 percent of the final production cost. We
estimate the new tariff, on average, for the non-energy intensive firms could
add an extra 2 percent in final costs whereas for energy intensive firms, it
could add an extra 5 percent-7 percent to final costs.
Housing costs, particularly rents, emerged as the key driver
of inflation in 2007 and 2008. While rent inflation remains high, its pace of
year-on-year increase declined to 9.2 percent in June compared with 12 percent
in December. Over the same period, inflation in food and beverage prices has
picked up pace quickly, rising year on year by 6.2 percent in June from 0.9
percent in December. The rise in food prices, particularly over the past three
years, has prompted citizens, especially those with fixed and low incomes, to
set aside a greater allocation of household expenditures for food products.
While rents remain the biggest driver of inflation over all,
food is narrowing in, and if this trend continues, food could become the
biggest contributor to headline inflation in the coming months for the first
time since late 2007.
Despite some short-term turmoil in crude prices in May
stemming from the euro zone debt crisis and risk aversion, oil prices have
remained resilient this year at above $75. Between January and the end of July,
crude oil prices averaged $78 per barrel.
It was two years ago in July that oil prices hit record
levels of close to $150 a barrel before plunging to almost a fifth of that
level in a matter of months as the extent of the world’s financial troubles
became clear. This July, oil prices averaged $76 a barrel — a level that, while
far from 2008 peaks, falls comfortably within a range widely cited as an ideal
price for producing and consuming nations. Several Saudi policymakers have
argued that oil at $75 or stronger is needed to encourage investment in
building capacity to prevent future supply bottlenecks once the global economy
has recovered.
(John Sfakianakis is chief economist at Banque Saudi Fransi, Riyadh.)
