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South Africa Fuel Crisis: How to Curb Fuel Price Volatility & Ensure Economic Stability

On the South Africa fuel crisis: In the February 2022 budget, the Minister of Finance forecasted 4,4% economic growth (GDP) by year end 2023, revised from 4,9% given in the mid-term budget. Russia invaded Ukraine on the next day, impacting global oil production and fuel prices at home.

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Russia's Invasion of Ukraine has affected global oil prices and triggered South Africa fuel crisis

In February 2022, the Minister of Finance tabled a budget forecasting a 4,4% economic (GDP) growth expectation for the year ending 2023. This came as a downward revision from the 4,9% expectation in the mid-term budget approximately six months prior. A day after the budget speech, Russia invaded Ukraine; this sent shock waves across the globe as oil production was bound to be severely affected. Oil prices averaged $87 per barrel by the end of February, and four months later the oil price is sitting at $115. That translates to a 32% increase. Closer to the man on the street, fuel price (Octane 95, the most popular fuel for everyday consumption) has since risen by 20% (from R20,13(Feb) to R24,17(June)).  The share of basic fuel price (BFP) in the price structure of fuel has risen from 46% in Feb to 62% in Jun (see figure 1). All pricing is per litre.

South Africa Fuel Crisis: Impact of Rising Prices on Transport, Food and other Goods and Services

The higher fuel prices have put pressure on the cost of transport, food, and other goods and services. Inflation has thus, remained in the upper band of 5,9% for March and April despite SARB’s interest rate cut interventions. This leaves the SA economy in the crevasses of both stagflation and a full-blown recession. The relevance of the stability of fuel prices is thus a proven imperative in the quest to attain sustainable economic growth.

In the budget speech, the minister of finance remarked “Minister Mantashe (Minister of Energy) and I have agreed that a review of all aspects of the fuel price is needed. Our teams have already begun to engage on this critical work”. While it is good and well that the relevant ministers are aware of the eminent collaborative efforts required, to what extent has that translated to the effective management of fuel prices? Let us have a look at the evolution of the fuel price structure.

The BFP, at 62% (R15) is currently the biggest component of the fuel price. The same was sitting at 46% (R9,7) in February. This has largely been driven by an increase in oil prices (32%) in that same period. This, coupled with a weak and volatile rand has resulted in a 55% (R5) increase in the BFP. Given that South Africa is a net importer of fuel, the economy has had to suffer the fate of any price taker.  Most of the increase has been passed on to the end consumer (business and households).

The government implemented several interventions to lessen the burden of the increases on the consumers. In May 2022, the government lowered the fuel levy by R1,50/litre. This intervention is valid until 5 July 2022. Technically speaking we should therefore expect another R1,50 fuel increase in July, ceteris paribus. The Demand Side Management Levy (DSML) was also reduced from 10 cents to 0. While two other components (transport costs & slate levy) classified under levies increased by 25 cents, the net effect was a decrease of 12% (R1,35) in the tax and levies component. Further to this, the ministry of Finance has indicated exploring the possibility of removing the fuel levy and the road accident fund from the fuel price completely in hopes to recoup them in licence disc renewals. This would imply a R90 billion revenue collection loss hence the ministry may not move swiftly in that regard yet.

This begs the question, should there be a more direct, much more agile, and efficient way to address fuel price volatility and thereby ensure economic stability?  Is it time to design an optimal fuel price targeting model?

Calls for Deregulation amid South Africa fuel crisis

On the back of the recent rise in fuel prices, several stakeholders have called for the deregulation of its retail. They argue that such a move would make retailers compete for market share and result in consumers being offered discounts. While that may be one of the many scenarios to possibly playout, a price war will thin out profits in the sector. At present fuel retailers employ and estimated 83 000 people and their retail margin is curbed at R2.28. Further unemployment is not a challenge the government can afford to contend with now. Retailers are already complaining about the insufficiency of this margin as it requires high volumes for them to break-even, a tall ask in a slow growth economy.

On the other hand, it can be argued that deregulation may disadvantage the consumer should retailers collude and set predatory prices. Deregulation would thus, further bring about more volatility in the pricing of fuel. The South African economy cannot afford such and it would certainly undermine growth prospects.  Could target fuel pricing be an alternative?

Target Fuel Pricing

In the same way SARB has inflation targeting to guide MPC policy, we believe the ministries of interest (Ministry of Energy and the Ministry of Finance) should task an institution like the SARB to monitor fuel price stability by relinquishing the required power to influence fuel levies and taxes. Given their short window of reviews (MPC sits every two months) the SARB should be able to take policy decisions in line with their dynamic modeling of factors affecting fuel prices.

There should be a dedicated inter-ministerial team that drives this mandate and informs short-term policy stance on fuel levies in a manner that keeps the volatility of fuel prices at levels that do not undermine economic growth. Thus, find the optimal level for revenue collection and input cost stability. Such a model would use retail price composition ratio to derive a fuel price that delivers inflationary optimal GDP growth.  It is encouraging that both ministries are embracing the collaboration required. The political will is welcome, it simply needs to translate to action plans.

Insight by:

Prince Ken Nkiwane

Management Consultant

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